Schumpeter 1942 Capitalism, Socialism, and Democracy

1
Schumpeter (1942) Capitalism, Socialism, and
Democracy

• Schumpeter stands out among early contributors to
  the economics of innovation
• His ideas are foundational, and much of the
  literature that follows builds on his work, uses
  his concepts, and attempts to test his
  conjectures and assertions
• Schumpeter identified and discussed the
  importance of innovation at a time when most
  economics emphasized static price theory
• The emphasis on static price theory persists in
  microeconomic theory courses to this day despite
  our growing knowledge of dynamics
• I will review some of Schumpeters most important
  ideas

2
Entrepreneurship and the Origins of Competitive
Advantage

• Simple neoclassical microeconomic theory allows
  for little or no role for entrepreneurs
• A firm is a production function it transforms
  inputs into outputs
• The way the firm transforms inputs into outputs
  is assumed to be technically and economically
  efficient
• Where do techniques come from? How are they
  improved, and why?
• Schumpeter emphasizes the role and importance of
  entrepreneurs

3
Entrepreneurship

• In reality, some firms exploit opportunities for
  creating profitable competitive positions that
  other firms either ignore or cannot exploit
• Seizing such opportunities is the essence of
  entrepreneurship
• Entrepreneurship involves discovery, innovation,
  and acting on the opportunities that discovery
  and innovation create (page 132)
• To undertake such things is difficult and
  constitutes a distinct economic function, first,
  because they lie outside the routine tasks which
  everybody understands and secondly because the
  environment resists in many ways that vary,
  according to social conditions, from simple
  refusal either to finance or to buy a new thing,
  to physical attack on the man who tries to
  product it.

4
Creative Destruction

• Schumpeter believed that innovation causes most
  markets to evolve in a characteristic pattern
• There are periods of relative stability, when
  firms that possess superior products,
  technologies, or organizational capabilities earn
  positive economic profits
• These periods are punctuated by fundamental
  shocks or discontinuities that destroy old
  sources of competitive advantage (profits above
  the norm) and replace them with new ones
• The entrepreneurs who exploit the opportunities
  these shocks create achieve positive economic
  profits during the next period of stability

5
The Long-Run Performance of the Economy

• According to Schumpeter, the process of creative
  destruction implies that static efficiency the
  optimal allocation of societys resources at a
  given point in time is less important than
  dynamic efficiency the achievement of long-term
  growth and technological improvement
• What really counts is competition between new
  products, technologies, and organizational
  techniques, not price competition (pages 84-5)
• This kind of competition is as much more
  effective than the other as a bombardment is in
  comparison with forcing a door, and so much more
  important that it becomes a matter of comparative
  indifference whether price competition in the
  ordinary sense functions more or less properly
  the powerful lever that in the long run expands
  output and brings down prices is in any case made
  of other stuff

6
Policy and Managerial Implications

• Schumpeters ideas have been used to defend
  monopoly, on the grounds that high economic
  profits are a necessary reward to encourage
  innovation, which results in higher long-run
  growth
• Policy analysis should focus more on the impacts
  of policies on innovation and less on the impacts
  on prices and current welfare
• A key managerial implication is that even
  competitive advantages based on inimitable
  resources or capabilities or early-mover
  advantages are vulnerable in the long run as new
  technologies arise, tastes change, or government
  policy evolves
• Firms must manage to bridge the discontinuities
  that characterize creative destruction if they
  are to succeed over the very long run