Schumpeter, J. A. (1934). The Theory of Economic Development. Harvard University Press.

Citations: 18, 758 (Google Scholars)

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Note on Schumpeter Schumpeter was four when his father died. An exile, he moved his household 23 times in his lifetime, living in five different countries. His first marriage failed. Though brilliant and widely accomplished, Schumpeter had to reinvent himself many times. He failed as a lawyer, was dismissed as president of a private Vienna bank, and, as the new Austrian republic’s finance minister, lasted a mere seven months. Most damaging of all, in 1926 Schumpeter’s second wife Annie died in childbirth, and the child died as well. Schumpeter’s beloved mother died in the same year, a three-fold emotional wounding from which Schumpeter, then 42, never fully recovered. Ahead still lay the Great Depression and another murderous war

- McCraw, T. K. Prophet of Innovation: Joseph Schumpeter and Creative Destruction

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About the work• Some of the ideas go back to 1907• Book first published in German in 1911 (Theorie der wirtschaftlichen

Entwicklung)• Theoretical approach (as at any point in time, some theoretical knowledge is

important to deal with new facts) • Key contributions

• Cyclic nature of economics• Equilibrium • Types of innovations• Role of credit, and capitalistic society in entrepreneurship • Theory of business cycles

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The circular flow of economic life (1/3)

• The social process is really one invisible whole. Social facts are, at least immediately, results of human conduct, economic facts results of economic conduct

• Concerned with describing the general forms of causal links that connect economics with non- economic data, for economic events have their logic

• Unit of analysis: Commercially organized state (private property, division of labor and free competition prevails)

• The concatenation and mutual dependence of the quantities of which the economic cosmos consists are always visible, in whichever of the possible directions one may chose to move• Somewhere in the economic system a demand is ready awaiting every supply, and

nowhere in the system are there commodities without complements … all goods find a market and circular flow of economic life is closed. (p.8)

• Thus the economic system will not change capriciously on its own initiative but will be at all times connected with the preceding state of affairs (p.9)

• Social product is the outcome of economy in a given period. Everyone throws a contribution into the ‘social reservoir’ and gets something in return

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The circular flow of economic life (2/3)

• Economic activity may have any motive, even a spiritual one, but its meaning is always the satisfaction of wants (p. 10)

• Technologically as well as economically considered, to produce means to combine the things and forces within our reach… economic logic prevails over the technological (p.14)

• The economic best and technologically perfect diverge… because methods which are technologically inferior may still best fit the given economic condition (p.15)

• The ultimate elements in production (defined as combination of things and forces) are: labor and land (gifts of nature)

• All goods are bundles of services of labor and land (p. 17)• Fundamental difference between labor: directed (wage labor, worker) and

directing (independent labor, director). • Directing labor has something creative in that is sets itself its own ends (p.20)• The means of production and the productive process has in general no real

leader, or rather the real leader is the customer (p. 21)

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The circular flow of economic life (3/3)

• The process of exchange between labor and land on the one side and consumption goods on the other side not only supplies the chief direction of the stream of economic activities… but would be the only one (p. 44)

• We see a stream of goods being continually renewed. Only for a certain moment is there anything like a stock of certain individual goods (p. 46)

• For every part of existing purchasing power there lies already somewhere in the economic system a demand for it, a supply of goods for it, and that the bulk of the money, just as the bulk of that means of production and consumption goods, goes the same way year in and year out (p.52)

• For an exchange economy as a whole there is continuity, and under the same assumption, the same changelessness as for a non- exchange economy (socialist)- continuity and consistency not only of the processes but also of value. (p.55)

• The sediment of the social value system is the price mechanism (p.56)• Economic systems tend towards an equilibrium position, which gives

the means of determining the prices and quantities of goods

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The fundamental phenomenon of economic development (1/4)• Development are changes in economic life as not forced upon it from without

but arise by its own imitative, from within. Economic changes make the economy move from one state of equilibrium to another

• (Development) is spontaneous and discontinuous change in the channels of flow, disturbance of equilibrium, which forever alters and displaces the equilibrium state previously existing (p. 64)

• Such disturbances ‘appear in the sphere of industrial and commercial life, not in the sphere of the wants of the consumers of final products ‘(p.65)

• It is the producer as rule that initiates economic change, and consumers are education by him if necessary; there are taught to want new things or things which differ in some respect or other from those which they have been in the habit of using (p. 65)

• Development is defined as carrying out of new combinations of materials and forces

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The fundamental phenomenon of economic development (2/4)• Five cases of new combination

• Introduction of new goods• Introduction of new methods of production• The opening of a new market• Conquest of new sources of supply of raw materials or half- manufactured goods• Carrying out of new organization of any industry (e.g. creating monopoly)

• As a rule new combinations must draw the necessary means of production from some old combinations… development consists primarily in employing existing resources in a different way, is doing new things with them, irrespective of whether those resources increase or not (p. 68)

• Command over means of production is necessary to the carry out of new combinations (p. 68)

• Creation of returns from credit calls for capitalists, and hence ‘this is the characteristic method of capitalist type of society- for forcing the economic system into new channels…’ (p. 69)

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The fundamental phenomenon of economic development (3/4)• In carrying out new combinations, ‘financing’ as a special act is fundamentally

necessary, in practice as in theory (p. 69)

• In a circular flow there would be on the one hand no such rich source, out of which to save, and on the other hand essentially less incentive to save (p. 72) .. And hence the need for credit

• (Banker) is essentially a phenomenon of development, through only when no central authority directs the social process (of credit) (p.74)

• The new combination of means of production and credit is the fundamental phenomenon of economic development. The carrying out of new combination is called ‘enterprise’ and the individual who carries it out is called ‘entrepreneur’

• Entrepreneur simple doesn’t exist in the circular flow of economics (equilibrium state)

• The essential characteristic of an entrepreneur is that ‘he carrier out new combinations’ (p. 78)

• The function of entrepreneurship can’t itself be inherited

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The fundamental phenomenon of economic development (4/4)• Difficulties entrepreneur faces

• Outside of the circular flow, the individual has no rules of conduct or data to guide, and hence has to rely on his intuition

• He had to have mental freedom to break away from fixed ways of thinking or habits• Has to wither the negative social reaction

• Leadership exists for these reasons. The function is not so much as discovering the thing, but is doing the thing. More by will than by intellect that the leader fulfills these functions

• Economic leadership is different from ‘invention’. As long as they are not carrier out in practiced, inventions are irrelevant

• Although entrepreneurs of course may be inventors just as they may be capitalists, they are inventors not by nature of their function but by coincidence and vice versa (p. 88)

• Leaders ‘leads’ the means of production into new channels, and does that in his self- interest

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The nature and function of credit (1/)• Not possible to carry out of new combinations takes place through

withdrawing of services of labor and land from their previous employments• No one other than entrepreneur needs credit … in the sense of a temporary

transfer to him of purchasing power…he can only be an entrepreneur by previously becoming a borrower. (p. 102)

• Credit is essentially the creation of purchasing power for the purpose of transferring it to the entrepreneur, but not simply the transfer of existing purchasing power… needs a system with private property and division of labor… entrepreneurs are given access to social system of goods before they have acquired the normal claim of them (p. 107)

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Business cycles (1/)• Every boom is followed by a depression, every depression by a boom …the

boom ends and depression begins after the passage of time which must elapse before the products of the new enterprise can appear in the market, and a new boom succeeds the depression when the process is resorption of innovations is ended (p. 213)

• Swarm- like appearance of entrepreneurs• Boom arises because more capital is invested, but capital distribution is not

evenly done in time, but happens intervals• Rule is that new doesn’t grow out of the old, but appears alongside of it and

eliminates it competitively (p. 216)