Joseph Schumpeter (1883-1950)

Early life

Born in Trest (then part of Austria-Hungary, now in the Czech Republic). He was always a brilliant student and praised by his teachers. He began his career studying Law at the University of Vienna under the great Austrian capital theorist Eugen von Böhm-Bawerk, taking his PhD in 1906. In 1909, after some study trips, he became a professor of economics and government at the University of Czernowitz (a German-language university in Austria, now in Ukraine), in 1911, at the University of Graz, where he remained until World War I. In 1919-1920, he served as the Austrian Minister of Finance, with some success, and in 1920-1924, as President of the private Biederman Bank. That bank collapsed in 1924 and left Schumpeter in bankruptcy. From 1925-1932, he held a chair at the University of Bonn, Germany. Having to leave central Europe because of the rise of the Nazis, he moved to Harvard (where he had already lectured in 1927-1928 and 1930), where he taught from 1932 to 1950. During his Harvard times, he wasn't generally considered to be a very good classroom teacher, but he acquired a school of loyal followers. His prestige among colleagues was likewise not very high, because his views seemed outdated and not in touch with then-fashionable Keynesianism.

Although Schumpeter encouraged some young mathematical economists and was even the founding president of the Econometric Society (1933), Schumpeter was not a mathematician but rather an economist and tried instead to integrate sociological understanding into his economic theories. From current thought it has been argued that Schumpeter's ideas on business cycles and economic development could not be captured in the mathematics of his day - they need the language of non-linear dynamical systems to be partially formalized.

Schumpeter's vast erudition is apparent in his posthumous History of Economic Analysis, although some of his judgments seem quite idiosyncratic and sometimes cavalier. For instance, Schumpeter thought that the greatest 18th century economist was Turgot, not Adam Smith, as many consider. Some of these judgments are partly explained by his opinion that there is one general system of economic analysis, and Léon Walras found it. Other economists are rated by how much of Walras' theory could be read into them. Schumpeter criticized John Maynard Keynes and David Ricardo for the "Ricardian vice". According to Schumpeter, Ricardo and Keynes reasoned in terms of abstract models, where they would freeze all but a few variables. Then they could argue that one caused the other in a simple monotonic fashion. This led to the belief that one could easily deduce policy conclusions directly from a highly abstract theoretical model.

Business cycles

Schumpeter's relationships with the ideas of other economists were quite complex in his most important contributions to economic analysis - the theory of business cycles and development. Following neither Walras nor Keynes, Schumpeter starts in The Theory of Economic Development with a treatise of circular flow which, excluding any innovations and innovative activities, leads to a stationary state. The stationary state is, according to Schumpeter, described by Walrasian equilibrium. The hero of his story, though, is, in fine Austrian fashion, the entrepreneur.

The entrepreneur disturbs this equilibrium and is the cause of economic development, which proceeds in cyclic fashion along several time scales. In fashioning this theory connecting innovations, cycles, and development, Schumpeter kept alive the Russian communist Nikolai Kondratiev's ideas on 50-year cycles, Kondratieff Waves.

Schumpeter and Keynesianism

So in Schumpeter's theory Walrasian equilibrium is not adequate to capture the key mechanisms of economic development. Schumpeter also thought that the institution enabling the entrepreneur to purchase the resources needed to realize his or her vision was a well-developed capitalist financial system, including a whole range of institutions for granting credit. One could divide economists among (1) those who emphasized "real" analysis and regarded money as merely a "veil" and (2) those who thought monetary institutions are important and money could be a separate driving force. Both Schumpeter and Keynes were among the latter. Nevertheless, Schumpeter, who was a liberal, at least in the classical European sense, rejected Keynesianism.

Schumpeter and capitalism's demise

Schumpeter's most popular book in English is probably Capitalism, Socialism, and Democracy. This book opens with a treatment of Karl Marx. On the surface level, this piece seems to support socialism. Schumpeter's reasoning was that an overt defense of capitalism would prompt the book to only be read by those who already supported capitalism. Therefore, he believed that he must masquerade as a seeming supporter of socialism to entice the young socialist to read his work. In the end, he hoped to awaken self-recognition in the reader to the flaws of socialism. Schumpeter is sympathetic to Marx's conclusion that capitalism will collapse, although Schumpeter concludes capitalism will be replaced by socialism for non-Marxist reasons. It is in this book that Schumpeter characterizes capitalism with the famous phrase "creative destruction" in which old ways of doing things are endogenously destroyed and replaced by the new. Schumpeter thinks that the success of capitalism will lead to a form of corporation and a fostering of values, especially among intellectuals, of hostility to capitalism. The intellectual and social climate needed to allow entrepreneurship to thrive will not exist in advanced capitalism and it will be succeeded by socialism of some form or another. There will not be a revolution, but merely a trend in parliaments to elect social democratic parties of one stripe or another. He argued that capitalism will collapse from within as democratic majorities will vote themselves the creation of a welfare state and place restrictions upon entrepreneurship that will burden and destroy the capitalist structure. Schumpeter emphasizes that he is analyzing trends, not engaging in political advocacy. Some have thought John Kenneth Galbraith was influenced in his The New Industrial State by Schumpeter's views on corporations. This view however did not negate the fact that Schumpeter still believed that free market capitalism was the best economic system.

His legacy

For some time after his death, Schumpeter's views were most influential among heterodox economists, especially European, who were interested in industrial organization, evolutionary theory, and economic development, and who tended to be on the other end of the political spectrum of Schumpeter and were often also influenced by Keynes, Karl Marx, and Thorstein Veblen. Robert Heilbroner was one of Schumpeter's most renowned pupils, who wrote extensively about him in "The Worldly Philosophers". Today, Schumpeter is a protagonist of the mainstream, not in academic economics ("standard textbook economics"), but in economic policy, management studies, industrial policy, and the entire area of innovation. The concept of entrepreneurship can not be fully undestood without his contributions, being probably the first scholar to develop its theories. The European Union's innovation program, and its main development plan, the Lisbon Strategy, are based on Schumpeter.