Commentary on Political Economy

Saturday 15 April 2017

Capitalism and Innovation: The Role of the Entrepreneur in Economic Theory

The question that we are posing in this series on Joseph Schumpeter's theory of economic development concerns first the notion of "development" (Entwicklung) itself; and second it seeks to elucidate the role of the entrepreneur, that is to say, of th capitalist in this process of capitalist development. Our aim is to show that for capitalism there is no sense at all in "development as progress" of any description. Rather, what capitalism presents as "progress" or "innovation" or indeed "disruption" or even "artificial intelligence" is simply the perpetuation of capitalist command over living labour by means of "techniques" (not "Technology") whose power to decompose the control of workers over the process of production is measured ultimately through the monetary medium as money-wage inflation, which can often metamorphose, as it is at this late stage of capitalist secular stagnation, into the phenomenon of asset-price inflation.

The first fundamental issue that Schumpeter addresses for his entire monumental theoretical effort in economic and social theory is contained in this question:

[H]ow does an economy make the transition from one level - which itself was viewed as the final point and point of equilibrium - to another level? This question takes us to the very essence of economic development [Entwicklung].[468]
To this fundamental question, Schumpeter gives the following answer – an answer consistent with and borne out in all of his subsequent work:

[469] This [present work, the Theorie] is an attempt to present a theoretical analysis of development, of its mechanism, in the form of a scheme to which the facts of development would generally conform. We look first at a general cause for the changes in the fundamental structure, i.e. in the level of the circular flow. We locate this cause in the fact that - as we expressed it - new combinations get driven through. We saw that when new combinations are carried through this can be attributed to the actions of a particular type of economic agent whom we called an "entrepreneur". 

Now, let us sift carefully through this statement and state exactly how and where Schumpeter has gone wrong in seeking to tie the two “distinct processes” in economic analysis. First, Schumpeter clearly assumes that there is such a thing as “a state or level of equilibrium”. His question then is how to account for changes in the “level” of equilibrium. And Schumpeter claims to have found the cause for this change in “levels” of equilibrium in

the actions of a particular type of economic agent whom we called an ‘entrepreneur’ [who is responsible for]... the new combinations [that] cause...the the level of [equilibrium or] circular flow.

But the difficulty with this reasoning is that the notion of equilibrium applies to a theory of the economic system in which any “changes” in “combinations”, any “new combinations”, are instantly “semaphored” or communicated to all other economic agents because these “changes” are not changes occurring in time but are rather changes in the logical structure or “utility schedules” of the equilibrium level! In equilibrium theory the “economic agents” do not make any “changes” at all because all market participants are absolutely axiomatically, formally and logico-mathematically “equal” due to the axiomatic conditions of “pure competition” in which “equilibrium prices” are fixed and determined by the theory. What Schumpeter is proposing here, instead, is a theory (one of economic change) in which prices are no longer determined by the formal, axiomatic, logico-mathematical “equality” of market participants, but rather by one specific market participant capable of causing or “carrying out new combinations” or “innovations” – Schumpeter’s entrepreneur

But in this case the fundamental condition of equilibrium theory – the condition of “pure competition” – no longer obtains! Schumpeter has introduced into the analysis, entirely illicitly, a new condition that allows the entrepreneur to change autonomously and independently “the rules of exchange”. But if this is the case, the “prices” that now obtain in “the market” as a result of the entrepreneur’s actions can no longer be “equilibrium prices” and indeed can never be “equilibrium prices” because the economic system can never be said to be in “equilibrium” for the simple reason that “market prices” are now determined not through “pure exchange” or “pure competition” but rather by the political conditions that allow entrepreneurs to change “the rules of competition” independently of other market participants!

Please note that here we speak of “political conditions” and not, as the critics of equilibrium theory from Sraffa to Joan Robinson and beyond do, of “imperfect competition” because (a) such an expression suggests that “perfect or pure competition” is possible and indeed conceivable (!), and (b) because the “imperfection” is not due to “transaction costs or frictions” but rather to the ability of 
market participants to combine politically to determine and affect prices. As we are about to show, not only is pure competition not possible – it is indeed also inconceivable because it is an aporetic or antinomic notion that contains in itself the seeds of its own destruction.

That Schumpeter was aware of these conceptual difficulties afflicting his theory of Entwicklung in its relation to Neoclassical equilibrium theory is made utterly transparent by the following revealing discussion in the Theorie in which Schumpeter comes very close (“almost”!) to identifying the incomparability of the two “distinct processes”:

Pure economic laws describe a particular behavior of economic agents, whose goal is to reach a static equilibrium and to re-establish such a state after each disturbance. Pure economic laws are similar to the laws of mechanics which tell us how bodies with mass behave under the influence of any external "forces", but which do not describe the nature of those "forces". In mechanics it is assumed that bodies [that is, objects without a “self” or” will” or “freedom”] when no force [that is, unless a force] affects them from the outside, do nothing of themselves and do not produce even a single new phenomenon of a mechanical nature. In the same way pure economics provides us with formal laws as to how the economy is [that is, economic agents are] shaped under the influence of conditions coming from the outside. It shows [471] how the economy [that is, economic agents, now only “bodies”] responds to changes in those conditions coming from the outside. Therefore, in such a conception, pure economics almost by definition [axiomatically] excludes the phenomenon of a "development of the economy from within".

No! It is not “almost by definition” that “pure economic laws” exclude “a development of the economy from within”: it is indeed “by definition” (!) that they do so! And this is because the market participants of equilibrium theory, its “self-interested in-dividuals”, are not allowed axiomatically to act as “economic agents”! Schumpeter’s confusion is shown quite clearly when he states above that 

[p]ure economic laws describe a particular behavior of economic agents, whose goal is to reach a static equilibrium...

Not at all! The “self-interested in-dividuals” of economic theory do not and can never have any “economic goals” of their own and most certainly not the goal of reaching equilibrium (!) because their “economic goals” are fixed axiomatically “from outside” (Schumpeter’s own expression above!) in their “utility schedules” and cannot be changed autonomously if “equilibrium prices” are to have any meaning at all! In equilibrium theory “economic agents” are not “agents” at all because the “goal” of equilibrium is not “theirs” but is rather set “from outside” as an axiomatic condition of the analysis. It is not that economic equilibrium exists because its market participants desire it: it is rather that the desires of market participants, their utility schedules, adjust to the axiomatic condition that there be such an equilibrium! (Again, this is a point that Tony Lawson highlights genially in his work and that Frank Hahn acknowledged.) In reality, the “self-interested” nature of economic agents, hence their self-hood, contradicts their “atomicity” in the sense that an “atom” like a “body” in mechanics cannot have a “self” capable of acting but can only be acted upon because its “free-dom” (its “room to manoeuvre” or Ellenbongsraum, as Max Weber called it) is limited and defined by the equal and opposing “free-doms” of all other participants – which is why we have chosen to describe these “freedoms” as “free-doms”, that is, as formal “dom-ains”.

Schumpeter comes very close to perceiving that what makes these self-interested economic agents passive “atoms” or “mechanical bodies” in equilibrium theory - rather than (self-conscious, active) “agents” -, is the fact that their self-interests, their individual “free-doms”, are limited by the equal and opposing “free- doms” of all other agents - so that they are reduced indeed to the unconscious mechanical role of “bodies” as in mechanical physics. Thus, the “economic agents” of equilibrium theory are not “agents” at all because they are restrained from inter-acting with one another as a result of the axiomatic definition of “pure competition”!

Equilibrium is the state most consistent with the formal pure “equality” of these economic agents: their “free-dom” is in reality only “inertia”, that is, the power to remain in the same state unless acted upon by an external force. In “pure competition” the only state possible is one of equilibrium because the purity of competition means that no advantage can be gained by individual agents through the “exchange” of goods or through “innovation” either singly or in concert. In other words, in equilibrium “exchange” there is no “change” in the ex-change. And therefore there cannot be any profit in the theory of equilibrium. (These points will be elaborated presently.) Equilibrium is a “frozen or stationary state” because by axiom, by definition, no single agent is allowed to act upon or co-operate with other “agents” or the economic system so as to gain an advantage over others. This makes profit and interest impossible. And yet this is exactly what Schumpeter allows his “entrepreneur” to do! But to do this is to move from the theoretical logico-mathematical framework ofequilibrium theory to a new political framework of analysis in which “equilibrium prices” are no longer fixed axiomatically as in equilibrium theory but rather “politically”, that is, through the political power possessed by capitalist entrepreneurs to impose their “innovations” or “new combinations” on the rest of society or, if you like, on “the market”.
In summary, Schumpeter’s attempt to derive “a purely economic theory of economic change” has led him to refute the theoretical legitimacy of equilibrium theory, because of its axiomatic inability to change, and also of his own “pure theory of economic change”, because it shows that economic change cannot be explained by a “purely economic theory”. The Law of Value has finally been exposed for what it is – one of the biggest intellectual frauds in the history of humanity!

Both in the Statik and in the Dynamik economic agents are motivated by self-interest bounded only by the self-interests of all other economic agents. But only in the Dynamik does this profit-seeking intention become the reality of profit-making. The Statik therefore resembles a schema entirely analogous to the laws of mechanics in the sense that its atomistic “self-interested individuals” are restrained from acting upon “the laws of economics” by the equally self-interested actions of other market participants. Consequently, the economic agents of the Statik resemble entirely the “bodies” of mechanical physics in that they are “acted upon” by the axiomatic laws of economics but do not themselves act or initiate anything of their own free will (Wille) or volition (Willkur). Least of all are they allowed to act in concert or to do anything that may gain them an “advantage” over other competitors because this would infringe against the axiom of pure competition.

In other words, the economic agents of the Statik are not “agents” at all because they merely react to the “external forces” exerted by the equal self-interests of all other economic agents which must, by definition and axiomatically, result in “economic equilibrium”! Because of its “in-dividuality” or “a-tomicity”, the “self-hood” of the Statik economic agent is reduced to sheer mechanical automaticity by the equal and opposing self-interests of all other individuals. The “freedom” (of will and of choice) of the individual in the Statik is curtailed and determined or confined or limited by the equal and opposing “freedoms” of other economic agents. Thus, the individual freedom of the “self” becomes a mere mechanical “free-dom”, a mechanical inertia, that is to say, the power to move subject to the dom-ains (free-doms) of all other economic individuals. The mechanical interaction of the self-interests of economic agents in the Statik reduces each selfish individual to the status of a mere “body”, that is, to the opposite of an “agent”! 

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