Contribution of Post-Second World War Economist: Joseph Schumpeter
Joseph Schumpeter is among the most renowned and brilliant economists of the 20th century who significantly contributed to the development of economics and political economy and whose theories and views remain topical and relevant nowadays. Hence, his theory of an individual, entrepreneurship, credit lending, and creative destruction are still widely-spread and useful. The current paper is aimed at providing a brief overview of the economist’s biography, his major contributions to the development of economics, and an evaluation of the relevance of this contribution under modern conditions. Critical analysis of primary and secondary sources allows concluding that Joseph Schumpeter was an outstanding economist who provided novel ideas and views on existing concepts and phenomena as well as developed his own innovative theories aimed at aligning economics as a theoretical discipline with the available sociological and historical evidence.
When talking about prominent economists and the most significant contributions of individual economic theories to the field of economics in general and to its certain ideas in particular, such personalities as Karl Marx, Adam Smith, John Keynes, and some others are mentioned. Although Joseph Schumpeter definitely belongs to this range of outstanding economists with brilliant ideas, his contributions are frequently overlooked despite their importance and relevance. For example, Schumpeter invented such terms as creative destruction and entrepreneurship and developed respective theoretical overviews and analyses. In fact, the way the economist defined and described entrepreneurship is highly accurate and provides key guidelines for distinguishing between managers and entrepreneurs as well as lays foundations for the contemporary theory of entrepreneurship. Besides, he challenged the mainstream economic theory with respect to its view on capitalism and provided a novel insightful view on the relation between credit and savings. Schumpeter’s contributions to the political economy and economic analysis are undeniable as well. Even though not all his ideas and theories withstood the test of time and empirical analysis, most of them remain valid and significant. Therefore, all of them should be studied in more depth with a view to better understand economic processes and relations between key economic actors. Overall, Joseph Schumpeter made a significant contribution to the field of economics both theoretically and empirically, and some of his ideas are still relevant and valid.
Brief Biographical Sketch
Prior to focusing on the economist’s methodological position and contributions to the development of economics, it is necessary to provide a brief biographical sketch. Joseph Alois Schumpeter was born on February 8, 1883, in Triesh, Moravia, and lived for 67 years until he died on January 8, 1950, in Taconic, Connecticut, in the USA (McCraw, 2007). His life was full of events, remarkable feats, and tragedies as well as intellectual pursuit and vigorous scientific activity. Once, a critic told that the economist was a bravura character whose life story could have been specifically scripted for a T.V. mini-series (McCraw, 2007, p. 3). The matter is that his life little resembled lives of many other prominent economists or scholars as it was full not only of academic and scientific endeavors but also of passion and adventures. Hence, since childhood Schumpeter was considered to be a boy wonder and managed to impress senior economists with the books he produced in his early 20ies (McCraw, 2007). He studied in Vienna and then lectured in universities in Bonn, Graz, and Czernowitz (The Editors of Encyclopedia Britannica, 2016). In 1919, he served as the minister of finance in the Austrian government and then witnessed how the Nazis gradually seized power in the country.
Interest in Schumpeter’s life was evoked by his extraordinary character and brilliant intellect. Hence, being born in the middle class family, he pretended to be a part of aristocracy, which was proved by his manners, behavior, and clothes. All his suits were hand-made and of highest quality, and it took him more than an hour to dress in the morning (McCraw, 2007). Schumpeter was also extravagant in terms of his womanizing tendencies and liked to regale his colleagues with stories of orgies and advanced sexual techniques (The Economist, 2007). After his brief tenure as the minister of finance, he became a banker and invested all his savings and earnings into stocks, which he subsequently lost during a stock market crash (McCraw, 2007). Afterward, Schumpeter decided to immigrate to the USA and became one of the first well-known migrants to this country, yet he did not even have enough money to purchase a transatlantic ticket. Therefore, despite being world-known, he had to give paid speeches to earn money for immigration. At the same time, he was extremely meticulous about his work and never allowed any negligence in this respect. In fact, work became a sort of obsession for Schumpeter, who developed a numerical system for noting down his accomplishments (McCraw, 2007). Schumpeter used a scale from 0 to 1 and scored most of his days as 0 even though he might have worked days and nights, while days marked 1 for good intellectual performance were exceptionally rare.
During his lifetime, Schumpeter published several books, the best known of which currently is Capitalism, Socialism and Democracy. His other works, such as The Theory of Economic Development, Business Cycles: A Theoretical, Historical and Statistical Analysis of the Capitalist Process, and History of Economic Analysis are no less ground-breaking and significant for understanding his contribution to economics. When Schumpeter died in 1950, many of his friends believed that he had worked himself to death (McCraw, 2007, p. 495). The matter is that for almost five decades, he was relentlessly working on his papers relating to capitalism, business cycles, economic development, innovation, entrepreneurship, the new theory of capitalism, and other issues that he considered to be worthy of his attention. Currently, Schumpeter is called a man who believed that uproar was the music of capitalism, an economic prophet, a better guide to the tumultuous world economy than John Maynard Keynes, and the most sophisticated conservative of this century (The Economist, 2007). The following discussion of Schumpeter’s contribution is aimed at finding out whether the man really deserved such a high status.
Overview of the Economist’s Methodological and Philosophical Position
With respect to the methodological and philosophical position, Schumpeter considered himself a conservative, but as he claimed, I am pretty sure that no conservative I have ever met would recognize himself in the picture I am going to draw (McCraw, 2007, p. 6). Although there is no doubt that Joseph Alois Schumpeter was one of the greatest economists of all time, the question of his methodological and philosophical position and belonging to a particular school of economists remains largely open (Michaelides & Milios, 2005, p. 1). However, Michaelides and Milios (2005) suppose that Schumpeter could be identified within the German Historic School despite some differences between the representatives of this school and the economist under consideration. This view of the theoretical foundation of the economist’s work is a recent finding that many scholars do not agree with. Hence, Michaelides and Milios (2005) suppose that key principles of the German Historic School comply with key theoretical foundations of Schumpeter. The underlying similarity between them is the emphasis on the need to merge between economics and all other social sciences. This necessity of a merger is evident from Schumpeter’s book Capitalism, Socialism and Democracy. Another principle of the German Historic School consisted in the focus on the methods of historical analyses, which also became the focus of the economist’s work in later years. However, the main reasons why Schumpeter is now identified with the German Historic School by Michaelides and Milios (2005) lie in the similarities between his views and those of the School’s representative Schmoller. In fact, there is evidence in Schumpeter’s work (1954) that the economist studied and re-conceptualized key ideas of Schmoller, which he referred as the Schmollerprogram. Schumpeter (1954) valued this program and emphasizes its importance for his own work, for instance, by mentioning that
the school professed to study all the facets of an economic phenomenon; hence all the facets of economic behavior and not merely the economic logic of it; hence the whole of human motivations as historically displayed, the specifically economic ones not more than the rest for which the term ethical was made to serve. (Schumpeter, 1954, p. 812)
Another similarity relates to the economist’s and the School’s views of theory since they did not completely reject it and undermine its importance but rather emphasized the need to conduct empirical research that would then guide the process of formulating theories of some complicated economic phenomena. Respectively, Schumpeter (1939, p. 220) claimed the following in this respect: It is obvious that only detailed historic knowledge can definitely answer most of the questions of individual causation and mechanism and that without it the study of time series must remain inconclusive and theoretical analysis empty. Therefore, the economist strived to fill the bloodless theoretical schemata and statistical contour lines with live fact (Schumpeter, 1939, p. 222). This striving made him similar to representatives of the German Historic School. Overall, even though it is impossible to claim that Schumpeter belonged to this economic school, there are definitely many similarities in their views, which allows hypothesizing about close relationship between them.
Another extensive topic that shaped the economist’s philosophical position was capitalism and the study of its many aspects and mechanisms both theoretically and empirically. The study of capitalism allowed Schumpeter developing his key ideas relating, for instance, to the view on the creation of credit, entrepreneurship, and innovation. Schumpeter’s philosophical view and assessment of capitalism can be summarized as the worst possible system except for all the others (McCraw, 2007, p. 8). Overall, Schumpeter’s analytical sophistication applied to the study of capitalism surpassed that of his contemporaries and predecessors. He did not have any single definite view of capitalism and claimed that it was an extremely complex system that could take different forms and serve different goals, both good and bad, moral and immoral ones. However, most frequently capitalism was amoral by nature and adaptable in terms of being applicable in a variety of contexts. However, Schumpeter believed that benefits offered by capitalism far exceed its negative impacts. According to the philosophical conception of the economist, capitalism served to benefit not only the rich but also the poor since
The capitalist achievement does not typically consist in providing more silk stockings for queens but in bringing them within the reach of factory girls in return for steadily decreasing amounts of effort the capitalist process, not by coincidence but by virtue of its mechanism, progressively raises the standard of life of the masses. (Schumpeter, 1975, pp. 6768)
His view of capitalism envisioned a combination of human drama, innovation, and havoc, which were all happening at once; yet he did not consider the system to be sustainable in its current form for a long time and thought that it would be superseded with socialism as the ruling ideology.
With respect to the methodological position, Schumpeter wanted to develop exact economics that would be a hard science like physics, with determinate predictive power (McCraw, 2007, p. 5). Development of such economics envisioned reconciling abstract theory and mathematical models with the available sociological and historical evidence, which is a monumental and nearly impossible task, to which the economist dedicated his entire life. Furthermore, this striving to achieve technical exactitude and determinism was in contrast with his view of real-life impacts of capitalism and an emphasis on the contextual application of the methodology and analysis. Therefore, it may be noted that there is some discrepancy between Schumpeter’s philosophical and methodological positions and beliefs.
The theoretical position of Schumpeter was extensively described in his book titled The Theory of Economic Development, which served as the basis for his further studies of business cycles (Shute, 2010). This book contains many significant theoretical concepts and their explanations, thereby making a substantial contribution to the development of economics and being a valuable source of information about the theoretical position of the economist. Although many scholars consider Schumpeter’s ideas and views unique and innovative, there are some other views as well. For instance, Shionoya (2010, p. 189) claims that Schumpeter’s philosophical position was based on Austrian subjectivism and Heidegger’s formal framework of fundamental ontology. In addition, Michaelidios and Milios (2015) have further developed their hypothesis of Schumpeter’s belonging to the German Historic School and claimed that many economist’s philosophical and methodological principles derived from the works of Rudolf Hilferding. Overall, irrespective of what impacts the economist was subjected to during his lifetime, his contribution to the development of economics is undeniable and remains valid.
Major Contributions of the Economist to the Development of Economics
As mentioned above, during his lifetime Schumpeter published several extensive and highly important books on different economic phenomena, including capitalism and related issues, the theory of economic development, and the theory of democratic leadership that applied major ideas of economics to political studies. It is virtually impossible to cover all major contributions of the economist to the development of economics, which is why the current paper will focus only on some of them.
Firstly, Schumpeter has significantly contributed to the understanding of economic development, which was the focus of his earliest book first published in 1912. The main idea of this book concerns the importance of innovation, which is the key driver of economic development under capitalism. From Schumpeter’s viewpoint (1949, p. 66), innovation takes place in the following cases: 1. The introduction of a new or a new quality of a good. 2. The introduction of a new method of production 3. The opening of a new market 4. The conquest of a new source of supply 5. The carrying out of the new organization of any industry. These changes could be classified as manifestations of technological progress and be regarded prerequisites of economic development. This view contributed to the comprehension of the concept of innovation and its role in the economic development within the framework of capitalism. Further, while discussing innovation, Schumpeter (1949) voiced an opinion that large companies enjoying large market shares and thus having powerful impact on other market players played a key role in driving innovation and respectively technological progress. Contrary to other researchers of capitalism, Schumpeter (1975) did not consider perfect competition to be conducive for economic development since it would hinder technological progress by preventing large companies, which can be called corporations from the modern perspective, from obtaining huge profits, which means that they would lack incentives for promoting and engaging in innovation. This is only a brief overview of an excerpt from Schumpeter’s theory of economic development. All in all, the theory in general can be considered as a major contribution to the development of economics.
Another major contribution of Schumpeter concerns his concept of the individual, which is drastically different from the one accepted by the mainstream economic theory. Thus, according to the economist, the individual functions in a world where habits predetermine his/ her behavior, while some unusual events create circumstances that make it impossible for this individual to take a decision (Wunder, 2007). It means that the individual of the economist is not rational in the process of decision-making and, on the contrary, acts irrationally most of the time. This irrationality resulted in the development of Schumpeter’s well-known concept of an entrepreneur, which will be discussed below as the selected major contribution of the economist to the development of economics. The economist’s vision of an individual is different from the mainstream economic theory’s view of the economic consumer (Wunder, 2007). Schumpeter based his view of the consumer on the observation of the real world and claimed that the mainstream theory of the consumer was incorrect in claiming that consumer wants could be definite and rational by nature. On the contrary, he stated that consumers wants are so amenable to influence of advertising and other methods of persuasion that producers often seem to dictate to them instead of being directed by them (Schumpeter, 1975, p. 257). In turn, consumers wants were vague and irrational, thereby resembling close impulses impacted by advertising and appeals used by producers and retailers. Moreover, according to the economist, an average individual relied significantly on the habits in his/her life, which is why previous experience with some goods and services had such a profound impact on the present decisions of the consumer (Wunder, 2007). Respectively, the economic system could be viewed as based on the habitual frame of reference (Wunder, 2007, p. 836). Overall, Schumpeter (1949, p. 80) emphasized that The assumption that conduct is prompt and rational is in all cases a fiction. Rationality in actions is then attained through trial and error rather than is readily available from some theory or guideline. This understanding of the individual had a significant impact on the development of economics that does not comply with the mainstream economic theory. However, it also has some ideas that should be studied in more detail as they seem to be rational and reasonable.
One more major Schumpeter’s contribution concerns reconceptualization of the relation between credit and savings. The economist did not agree with the mainstream economic theory in this respect. Hence, Schumpeter (1954, p. 1113) believed that credits could exist independently of banks and that banks are, in fact, not necessary for the issuance of credit since. The public is the true lender, while Bankers are nothing but its agents, middlemen who do the actual lending on behalf of the public and add nothing to the existing mass of liquid means. Furthermore, Schumpeter did not support the mainstream view that deposits were needed for the issuance of credit, which is why saving should not be viewed as a prerequisite of credit issuance (Bertocco, 2009). The relations between savings and credit changed with the invention and spread of banks since the latter obtained the authority to issue legal and credible substitutes of money given to individuals bringing their savings for deposits. According to Bertocco (2009), the Schumpeter’s theory of credit allows concluding that credit supply and investment decisions are independent of saving decisions in the capitalist economy.
Schumpeter has also made a major contribution to the political economics on the basis of his novel approach to the study of democracy that combined political and economic analysis and drew an analogy between democracy and the market. In fact, the economist is considered to be the father of competitive theory of democracy (Korosenyi, 2012, p. 58). Despite such a claim, his theory of competitive democracy did not receive massive support among political scientists, macro-economists, and democratic theorists who supported the approach based on neoclassical economics and politics. This approach is usually called the Downs model after the name of the scholar who developed it and is completely different from the Schumpeter’s approach (Pakulski & Korosenyi, 2012). The neoclassical approach places an emphasis on perfect competition and market equilibrium, which are necessary for ensuring social welfare, while Schumpeter challenged the concept of equilibrium. Furthermore, as mentioned above, Schumpeter was strongly opposed to the striving to ensure perfect competition as he considered it to be harmful for innovation, technological progress, and economic development in general.
A closely related theoretical conception to the one redefined by Schumpeter is that of representative democracy. In fact, his definition of the concept became extremely wide-spread in political science in the post-Second World War period. This concept was redefined in his book Capitalism, Socialism and Democracy, in which Schumpeter expressed his negative view of popular democracy and a belief that socialism was inevitable under the given capitalistic circumstances (Mackie, 2009). What is more, Schumpeter criticized the classical doctrine of democracy as he did not believe that the people could have a common will through which they could elect representatives to the government with a view to ensuring common good (Mackie, 2009). Furthermore, he claimed that there was no such phenomenon as common good under the capitalist system. Within the political domain, there was no such phenomenon as an independent and definite individual will about political issues but the individual will of consumers. The main justification of the distinction between the two was that consumers could see and feel consequences of their choices and actions, while individuals could not experience consequences of their decisions and could take back their choice. Therefore, Schumpeter supported a view that democracy is only about the competition of leaders for votes, thereby turning democracy into merely a method that cannot promote common good (Mackie, 2009, p. 129). Under this doctrine, the democratic leader becomes a manipulator of individuals wills and choices. This vision of democracy may not be a perfect representation of reality, yet it does manage to accurately reflect some aspects of the democratic system and can be applied nowadays in some countries.
Discussion of the Major Contribution of the Economist
Although Schumpeter made a number of important contributions to the development of economics, one of the most significant and currently relevant ones refers to entrepreneurship. Schumpeter believed that entrepreneurs differed from common individuals and managers and represent the pivot on which everything turns (McCraw, 2007, p. 7). The above-mentioned theory of an individual laid the foundation for the development of the concept of entrepreneurship, which was the result of the general condition of people’s behavior (Wunder, 2007, p. 836). This concept was closely related to the wide-spread theory of creative destruction that was necessary for promotion of innovation. The key characteristic feature of an entrepreneur is the ability to break out the habitual activity and initiate some change. This ability to break the habit calls for significant mental energy and creativity as well as courage to initiate creative destruction, which are not available to common individuals. Thus, entrepreneurs become leaders who can break the drag-chains restricting individuals relying on habitual daily operations (Schumpeter, 1949, p. 86). Consequently, entrepreneurs contribute to reorganization of the society and instill profound changes both in social groups and in economic entities.
Having analyzed Schumpeter’s theory of entrepreneurship, Wunder (2007) concludes that the overwhelming majority of individuals in the society lack qualities, mental capacity, creativity, and skills that would allow them becoming entrepreneurs. Besides, only this particular group of the population meets all the requirements for individuation set forth by Schumpeter in his explanation of differences between individuals and entrepreneurs (Wunder, 2007, p. 837). The economist’s vision of entrepreneurship is driven by relations embedded into the network of socio-economic connections of an individual self-sufficient enough to be called an entrepreneur.
It is also important to note that Schumpeter (1949) distinguished between entrepreneurs and managers and emphasized that being one did not implicitly and automatically mean being the other even though sometimes these two roles could coincide. Such coincidence of the two roles would significantly benefit the organization in which the entrepreneur works. However, the two roles rarely coincide. Thus, an entrepreneur is not some economic man, balancing probable results against disutility of effort and reaching due course a point of equilibrium (Schumpeter, 1949, p. 92). This description fits the profile of a typical manager who is locked within the habitual course of functioning out of which he/she cannot break out because of the lack of the required qualities and capacities. In turn, an entrepreneur is driven by one of the three possible goals, including establishment of own dynasty and being recognized for distinct social achievements, possession of the will and desire to conquer and experience of joy (Schumpeter, 1949). All these goals are highly subjective and first and foremost egoistic as the entrepreneur is primarily oriented at achieving social recognition and appraisal. Nonetheless, the entrepreneur initiates change in the organization and the society at large, which impacts all domains of life, including economic, social, political, and other spheres. The striving for prestige is the intrinsic motivation for entrepreneurs, but the specific form of this prestige depends on the situation and the context and can change over time.
The concept of entrepreneurship is an essential element of Schumpeter’s theory of economic development since it helps distinguish between two major types of economic agents, including the entrepreneur and the mere producer who can be called a contemporary manager. The main differences between the two types concern their motives and characterization of their behavior within the framework of economic activity (Kesting, 2007). Hence, motives of entrepreneurs have been mentioned above, while motives of the mere producer include performance of duties and accomplishment of responsibilities delegated by the community (Kesting, 2007). It is surprising that profit and utility maximization are not included in the list of motives driving the producer.
With respect to the characterization of the two types, Schumpeter believes that the mere producer behaves in the same way as the producer described by neoclassical economics, i.e. he/she is oriented at a constant maximization of profit by means of addressing existing problems and optimizing all processes within the organization (Kesting, 2007). These problems and optimization needs are revealed on the basis of various analyses conducted to study preferences and wants of consumers, production processes, and other functioning issues. This way, the producer’s main task is to ensure that the existing production is continued with an ultimate goal of reaching equilibrium. In turn, the entrepreneur does not consider external factors guiding the producers decisions to be a non-flexible given and strives to change these factors rather than adapt to them. Consequently, the main task of the entrepreneur is to achieve and implement some innovation that would respectively change external factors for all producers in the industry who would consider it to be an inconvenience and a challenge (Kesting, 2007). The abundance of such innovations initiated by entrepreneurs in different industries drives the development of the economy in general and specific industries in particular. Schumpeter emphasizes that innovation is s crucial element of technological progress. However, it is necessary to take into consideration that technological progress alone is meaningless and unnecessary for economic activity by itself without enhancement of profitability of production carried out with the implementation of innovation.
Evaluation of the Relevance of the Economist’s Contribution
The above-discussed contribution of Schumpeter to economics is still relevant and applicable nowadays. In fact, entrepreneurship has become a widely studied issue that is incorporated into the study of leadership theories and is prioritized in many industries. Besides, Schumpeter’s description of mere producers and entrepreneurs remains topical and essential for comprehension. Hence, entrepreneurs have become the driving engines of progress both in developed and developing countries of the world since they devise and implement innovative projects that significantly contribute to the economic development of industries and economies and initiate fundamental social and political changes in society. Entrepreneurs have become visionaries of modern times; however, not all of them are aimed at promoting social change since some of them strive to enhance technological progress along with maximizing profits of their respective companies even though the latter goal is not the most important for them.
Graham (2010, p. 48) claims that the most vivid examples of entrepreneurs in the tech industry from Schumpeter’s perspective are Steve Jobs and Bill Gates, who have become lionized as popular heroes and corporate leaders. Both of them have implemented the principle of creative destruction and implemented innovations that revolutionized not only the tech industry but also social life. Thus, Bill Gates has changed the way people use PCs and made the latter compact, convenient, and affordable for individual consumers. In turn, Steve Jobs brought about a revolution in the communication, computer, and media industries as the contemporary world would not be the same without Apple’s Mac, iPhone, iPod, and iPad. While innovating, the two men expanded their businesses, increased their profits, and gained social recognition, thereby complying with Schumpeter’s description of entrepreneurs. It is possible to find examples of such entrepreneurs in all industries, and analysis of their actions and initiatives makes it obvious that they essentially differ from common managers and mere producers by being innovative and change-driving leaders.
All in all, Joseph Schumpeter is a renowned post-Second World War economist who made a number of significant contributions to the development of economics and political economy. Although he did not officially belong to any particular school of economics, some of his ideas were similar to those of the German Historic School, which allows affiliating him with it to some extent. However, most of Schumpeter’s ideas were novel and differed from the mainstream economic theory. Although not all of these ideas have been proved by other scholars and empirical tests, some of them, such as the theory of entrepreneurship, remain relevant and useful nowadays. Overall, Schumpeter is a brilliant economist whose contributions need to be studied and discussed in detail and whose impact on economics will be felt for decades to come.