Schumpeter: Profit, Innovation and Class Antagonism

 

 

Surely, nothing can be more plain than the proposition that innovation, as conceived by us, is at the center of practically all the phenomena, difficulties, and problems of economic life in capitalist society and that they, as well as the extreme sensitiveness of capitalism to disturbance, would be absent if productive resources flowed every year through substantially the same channels toward substantially the same goals, or were prevented from doing so only by external influences, [Business Cycles, p.83]

 

 

The non sequitur in Schumpeter’s proposition above could indeed not be “more plain”: for, as he himself contends in this same work, the primary motivation for innovation is “profit”, not innovation:

 

Motivation [for innovation] is supplied by the prospect of profit in our sense which does not, be it remembered, presuppose either an actual or an expected rise in prices and expenditure,” [BC 133].)

 

Furthermore, Schumpeter neglects the obvious fact that profit as a monetary entity, or even as a given rate of profit, is not the central objective of capitalist enterprise. Rather, the central objective of capitalist enterprise is the accumulation of capital, which is the limitless pursuit of profit. It ought to follow therefore that profit is the reason for innovation and is also thereby “at the center of practically all the phenomena, difficulties, and problems of economic life in capitalist society”.

 

Schumpeter’s attempt to theorise the Innovationsprozess by isolating the role of entrepreneurial innovation - whose motivation is to realize profit from active enterprise - from that of capitalist finance, whose aim is to collect interest and rent, appears at first to be entirely artificial because the functions of capital in seeking either profit or interest and rent are really moments of the one process, which is that of profitable investment, for the simple reason that interest and rent are paid out of profits (!) and cannot therefore be distinguished except as different tactical moments of the overall capitalist goal of accumulation.

 

Yet, it is precisely this tactical distinction between what appear to be relatively insignificant moments of the operation of the capitalist economy that is absolutely crucial to understanding and appreciating the overriding importance of Schumpeter’s contribution not just to economic theory but indeed to social theory – something that his critics have strenuously denied, preferring to concentrate instead on his apparent “failure to integrate theory and history, economics and sociology” (Moira). That this crucial juncture of the moments of capitalist investment, innovation as distinct from profit, profit as distinct from interest and rent, and enterprise as distinct from finance – that this essential chasm at the heart of capitalism was absolutely paramount to Schumpeter can be gleaned from his elaboration of his thesis:

 

But in the sphere of business, innovation is the pillar of interest, both because the profit it yields to the successful entrepreneur is the typical reason for a readiness to pay interest—for looking upon present dollars as a means of getting more dollars in the future—and because, as we have seen, borrowing is, in the situation of an entrepreneur, the typical means of getting those present dollars, (BC 125).

 

Even a child would know that what Schumpeter surely ought to have said is that it is profit, not innovation (!), that is “the pillar of interest”, - because profit is what must be realized by a capitalist borrower before interest can be paid to the lender! From the standpoint of either Classical or Neo-classical economic theory, it would seem that, had Schumpeter written instead that “innovation is the pillar of profit”, he would quickly have noticed his error – because the purpose of the innovator is to pursue profit even before an innovation comes into existence. In the economic sphere (rather than, say, in the artistic one), innovation is only a means to an end – profit; it is not an end in itself! Most important, innovation is essential to capitalist enterprise for the related though distinct reasons that capitalists need innovation to counter workers’ antagonism in the process of production (valourization), and they need it to defeat other capitalists in the process of market competition (realization). As such, innovation can only play an instrumental role in a capitalist economy that cannot yield it the aetiological, causational and motivational role that Schumpeter seeks to assign to it. Therefore, the functions of the entrepreneur and of the capitalist cannot be as distinct as Schumpeter contends or would wish.

 

This critical point was perspicuously articulated by one of Schumpeter’s most genial pupils, Paul Sweezy, in his The Present As History. Sweezy correctly focuses on the problem of profit and accumulation as motivations for the innovation process which we will examine in greater detail toward the end of this essay. If there is one thing that must be said about Marx’s critique of capitalism with complete certainty is that capitalists must innovate methods of production to reduce wage costs because of workers’ antagonism over the wage relation. It is therefore quite ludicrous for Schumpeter to insist as he did on this point to differentiate his theory from - and indeed even to claim to surpass - that of Marx! But Sweezy’s failure to challenge Schumpeter’s antinomies between entrepreneurial subjectivity in the innovative pursuit of profit and the “scientific” status of this pursuit – and therefore of capitalist accumulation - only serves to expose the limitations of his own “underconsumptionist” approach based on the spurious scientistic foundations of the Marxian labour theory of value which ultimately relies on a quantifiable notion of “surplus value”.

 

Innovation is the subjective aspect of capitalist command or “entrepreneurial Act” over living labour that causes the economic system objectively to be jolted out of its equilibrium position and thereby makes profit economically possible. Sweezy does not capture this “disturbing act” (Storungen) because he understands “competition” in a “formal” sense but not in its “subjective” implications. Formally, competition between capitalists need not result in innovation – it could be just expanded reproduction (the mechanical reinvestment of profits) or price and other forms of competition that lead to the evaporation of profits. But innovation, as Schumpeter validly emphasizes, is a separate action requiring “leadership”. Here is once more in the economic sphere that Weberian leitender Geist that Schumpeter transmutes into the Unternehmer-geist. Sweezy does not capture this political aspect of Schumpeter’s theory and relies instead on Marx’s “utilitarian automatism” in that “surplus value is automatically reinvested” in Marx’s schema of expanded reproduction as a result of its being a quantity, that is, the amount of “socially necessary labour” over and above what is needed to reproduce the labour force! In the Marxian analysis, surplus value is “theft of labour time” – which is why there is no need for innovation!

 

It is clear here that the essence of Schumpeter’s hypothesis is what all bourgeois economic analysis before him and ever since has failed to grasp. What Schumpeter is concentrating on here is not the quantum of “wealth” or “profit” that may well be the “ultimate” aim of capitalist enterprise: No! What Schumpeter is doing is shift the focus of his theorization of capitalism from the “utilitarian/hedonistic” ultimate ends, from the “gain” or “profit”, to the very essence of profit and competition, to their “procedural” or “operational” implementation that overflows unavoidably into the political sphere, turning therefore from mere “profit” or “ownership” or “welfare” into social power! In other words, it is impossible to account for innovation without introducing politics or imperfect competition in the concept of pure competition itself as a necessary or logical aspect of its ec-sistence!

 

True it is, Schumpeter is saying, that everyone in society, capitalist or worker, aims at increasing wealth in the form of greater “ownership” of material possessions, be this in the form of profit or interest or rent. And true it is that throughout history this would involve some form of competition between economic agents. But the cardinal point about the capitalist economy and society is that market competition has replaced or subsumed to itself all other forms of social power without, for that fact, subtracting itself from social power. In other words, competition as an operational or procedural reality in capitalism must go beyond the confines of its hedonistic or utilitarian content – the acquisition of wealth - and pro-duce (literally, bring forth) and invest the political institutions that can keep it alive, to the point where this pursuit becomes an un-eudaemonic sacrifice (cf. Weber in the Bemerkungen to the Protestant Ethic) – a veritable Schopenhauerian Entsagung (ascetic renunciation)! And this also runs contrary to the Classical and Neoclassical approaches to economic theory founded respectively on capitalist accumulation and on equilibrium welfare maximization, both of which treat economic activity as pure market exchange. (In Classical Political Economy, living labour is seen as a commodity like any other, available for exchange with the wage being its market price.)

 

There are two aspects to the notion of profit that need examination, then. The first aspect of profit is that it leads to greater utility or welfare and this can arise from pure exchange in conditions of pure competition albeit only temporarily or provisionally. An economic theory that focuses merely on this utilitarian/hedonistic aspect of profit will not include innovation in its account of profitable economic activity, first because profit-seeking is more consistent with the goal of consumption than with investment as an end in itself; and second because profit can be defined as the gain derived from exchange independently of production or else as arising from a given production function, as in Marx’s schema of expanded reproduction where surplus value is re-invested “automatically”. The other aspect of profit is that the implementation of means to it, the profit-making side of profit, requires the breach of conditions of perfect competition, because where competition is perfect it will be impossible to make a profit except through exchange, therefore only in provisional and temporary form as part of the adjustment necessary for equilibrium prices to be determined, as in Walrasian tatonnement, but not indefinitely as required by the notion and reality of “capitalist accumulation”.

 

 

Let us visualize an entrepreneur who, in a perfect competitive society, carries out an innovation which consists in producing a commodity already in common use at a total cost per unit lower than that of any existing firm because his new method uses a smaller amount of some or all factors per unit of product. In this case, he will buy the producers' goods he needs at the prevailing prices which are adjusted to the conditions under which "old" firms work, and he will sell his product at the prevailing price adjusted to the costs of those "old" firms. It follows that his receipts will exceed his costs. The difference we shall call Entrepreneurs' Profit, or simply Profit. It is the premium put upon successful innovation in capitalist society and is temporary by nature: it will vanish in the subsequent process of competition and adaptation. There is no tendency toward equalization of these temporary premia. Although we have thus deduced profit only for one particular case of innovation and only for conditions of perfect competition, the argument can readily be extended to cover all other cases and conditions. (Business Cycles, [1939] p.104)

 

 

 

The entrepreneur is the subjective factor that can switch on the mechanism of pure equilibrium theory – he is the “impure” external force (Bobbio, Da Hobbes, circa p.65) that gives “content” or “soul” to the “pure” internal form (Kant, Simmel). The Schumpeterian entrepreneur is like a sculptor that works the brute inert matter of a stone and by so doing brings it to life.

 

 

Marx never pursued this logico-theoretical line of inquiry, preferring instead to pursue the purely historical path of political antagonism. Indeed, the reason why Schumpeter stressed (with the intellectual decency that characterized him) the unique “unity” of economic and sociological analysis in Marx’s critique of economic theory was precisely the fact that Marx’s definition of political antagonism contained already or pre-supposed the convergence of human interests that would lead to its supersession! No such “utilitarian/hedonistic” convergence (recall Marx’s doctoral thesis on Epicurus) is possible in the negatives Denken to which Schumpeter belonged and that runs from Hobbes to Hayek going through Schopenhauer, Nietzsche, Weber, Heidegger and the Austrian School!

 

 

The point to stress is that although Schumpeter’s thesis is certainly encompassed by Marx’s theory of political antagonism of the wage relation, Schumpeter’s originality lies in deriving or inferring this conclusion from the very axiomatic conditions of “pure competition” in both Classical and Neoclassical economic theory – something that even Marx failed to do given that (a) he did not question or examine internally the concept of competition itself, (b) he probably entertained the thought of both competition and equilibrium as internally consistent and valid concepts, and (c) he always strenuously upheld the notion of “objective science” if not technology as separate from or exogenous to capitalist social relations of production, at least epistemologically. Schumpeter - difficile dictu! - actually challenges all these points from within the bourgeois standpoint by making explicit both the “instrumentality” of his “science” and of its apories.

 

 

Schumpeter’s distinction between innovation and profit as distinct from mere interest and rent, between entrepreneur and capitalist, between leadership and ownership, is valid only for economic theories that do not allow for political antagonism and also for theories like the Marxian that, although they allow for antagonism, do not address it explicitly as a necessary requirement of the ec-sistence of the concept of pure competition. Schumpeter’s advance on Marx is to show the logical necessity of innovation out of the profit-seeking assumptions of pure competition! Marx certainly failed to notice and to enucleate this essential theoretical point.

 

It is leadership rather than ownership that matters. The failure to see this and, as a consequence, to visualize clearly entrepreneurial activity as a distinct function sui generis is the common fault of both the economic and the sociological analysis of both the classics and of Karl Marx, (BC, pp.102.)

 

Schumpeter writes [in History of Economic Analysis] also that “[for Marx,] accumulated capital invests itself in a wholly automatic manner”. As we saw in the note above, Schumpeter is quite simply as wrong on Marx on this point as is humanly possible to be. Hollander and Sweezy rightly dispute Schumpeter’s view too, but on totally spurious grounds. Of course, if we define capital as a “quantity”, a “surplus”, as does Sweezy [cf. his The Theory of Capitalist Development], then the generation and reinvestment of this surplus and profit becomes “wholly automatic” for capital even though the ultimate motivation for seeking this “surplus” may be social power, as Sweezy allows. What we are showing here is that capital, and therefore value, as Marx amply demonstrated, is not a quantity but a social relation, which requires innovation, and therefore entrepreneurial capitalists, for capitalist social relations of production to be kept antagonistically alive. To the extent that Marx believed that [a] surplus value is a quantity and therefore innovation is about the relative share of production going to capitalists and workers and [b] that science and technology are exogenous to capitalist relations of production, and insofar as Marx did not derive the necessity of innovation and leadership from a conceptual critique of the notion of pure market competition, then Schumpeter’s charge is quite founded.

 

Blaug echoes Schumpeter on this criticism of Marx. Both are quoted in N. Hollander, The Economics of Karl Marx at p.410. Hollander concentrates instead on Marx’s allowance for “uncertainty” for the necessity of leadership in deciding the direction of investment at least in the early stages of capitalism [pp.410ff]. Both Hollander and Blaug, however, completely miss the point that we are making here: It is not “uncertainty” that engenders “leadership”; it is conflict as political antagonism – among capitalists, for Schumpeter, and between capitalists and workers for Marx. But antagonism here does not mean, as it does even for Sweezy, conflict over “the surplus” or “surplus value”; it is not a struggle over quantum because value in capitalism is not a quantity and only its monetary form, profit, is quantifiable! Blaug upbraids Marx for overlooking Schumpeter’s pioneering distinction which, for him, explains the “technical dynamism of capitalism”. Here Blaug has truly put the cart before the horse and then got himself into the most vicious of vicious circles: the entrepreneur is defined as “the agent of technically dynamic economic change”; ergo, capitalist technical dynamism cannot be explained unless there is an entrepreneur! But if the entrepreneur is an agent sui generis, in what historically and conceptually specific way must he be connected with capitalism? Why not have “feudal entrepreneurs” instead?

 

Of course, because leadership and ownership are different moments of capitalist industry, we should speak not of “entrepreneurs” and “capitalists” as does Schumpeter, but rather of “capitalist entrepreneurs” and “capitalist financiers”. The fact remains that capitalist financiers only entrust capital with capitalist entrepreneurs if the latter have “skin in the game”. In some ways, capitalist entrepreneurs bear far greater personal risks than do capitalist financiers who are able “to socialize” their losses. Consequently, “risk” or uncertainty cannot be the true source and rationale of Schumpeter’s distinction, regardless of what he claims [at pp.103-4 of BC, just after the passage quoted above].

 

Schumpeter’s entire oeuvre is punctuated and bedeviled with many contradictions and non sequiturs. At times, reading his works, one is reminded of the zany concoctions in Vilfredo Pareto’s Trattato di Sociologia. (Schumpeter’s manifest elitarian views – by which I mean not necessarily politically elitist but sociologically highlighting the prominent role of elites in society – are quite cognate to the views of Mosca and Pareto, a close collaborator of Walras, and then Michels and Weber in the first postwar period. Schumpeter dedicated a study to Pareto in his Ten Great Economists.) Yet, as Bobbio has shown (On Mosca and Pareto), the geniality, breadth and sheer intrepidity with which these great thinkers explore their themes can bear copious fruit if we resist the temptation to dismiss them as nonsense.