Prophet of Innovation
Joseph Schumpeter and Creative Destruction
By Thomas K. McCraw
Belknap Press / 736 pages / $35
Wade into almost any important debate about the 21st-century global economy and Joseph Schumpeter has already been there, defining the terms, coining the catchwords, predicting the outcomes. Funny, he died 57 years ago.
Many know that Schumpeter originated the poetically paradoxical term that describes today's U.S. economy: "creative destruction."
The native-Austrian economist also foresaw the fatal divide between skilled and unskilled workers in technological societies. He described the importance of entrepreneurs and venture capital when Hewlett-Packard was still operating from a garage. He mused about what would become known as "the Laffer curve," the idea that tax cuts might increase government revenue over time by stoking growth.
He talked about business "strategy" before it became a consultant's cliche. And he knew, as only someone who lived through two world wars can know, that too often the alternative to international commerce is fire, sword and blood.
"In a capitalistic world," Schumpeter wrote, "free trade is the idea which holds together the idea of peace."
In short, he saw that the world was flat and eternally innovating decades before it became fashionable to say so.
"Schumpeter was to capitalism what Freud was to the mind: someone whose ideas have become so ubiquitous and ingrained that we cannot separate his foundational thoughts from our own," writes Thomas K. McCraw in this persuasive and eloquent biography.
Schumpeter was an unlikely free-market swami. A former finance minister of Austria, he was skeptical of government regulation. A former failed businessman, he passionately believed that the road to macroeconomic prosperity is paved with bankrupt companies.
A spectator of the capitalistic havoc of the Great Depression, he failed to conclude (with contemporaries such as John Maynard Keynes) that markets must be moderated by huge social programs and fiscal engineering.
Such consideration of positions at odds with his apparent natural biases made Schumpeter a brilliant, generous thinker. But it also deprived him of laurels in his lifetime.
Born in Austria a couple of decades before Peter Drucker (who would develop ideas about business strategy to a high art), the young Schumpeter taught at European universities and made a name for himself writing about an underappreciated economic agent: the entrepreneur.
"The typical entrepreneur is more self-centered than other types," Schumpeter wrote, "because he relies less than they do on tradition and connection and because his characteristic task - theoretically as well as historically - consists precisely in breaking up old, and creating new, tradition."
A better description of Thomas Edison, Henry Ford and the Wright brothers could hardly be found. Not surprisingly, Schumpeter, a dandy who affected aristocratic airs, got invited to teach in the United States. He began at Harvard in the 1920s and signed on full time in 1932, staying until his death in 1950.
Schumpeter, of course, was an intellectual entrepreneur. Drawing from diaries and letters, McCraw interweaves Schumpeter the economist with Schumpeter the man - moody, attractive to women, unnaturally preoccupied with death. "This is no longer my world; I am a stranger to the mortals and their doings," he wrote in 1942.
Unlike, say, Karl Marx, Keynes or Milton Friedman, Schumpeter refused to start a "movement." The economist's role was to describe the economy in all its complexity and contradictions, he believed, not tendentiously influence politicians. He refused to mark down students who didn't agree with him, and he never even cited his own research.
In his most important work, Capitalism, Socialism and Democracy, Schumpeter argued so eloquently for some aspects of socialism that some readers have come away believing him conflicted, or inconsistent. McCraw prefers to call the passages "ironic."
But the fact is that, while no socialist or Keynesian, Schumpeter recognized that government intervention and cooperation between labor and capital are sometimes appropriate. His worry was that regulation would endanger entrepreneurship, "the golden goose" that benefits capitalists but also workers - though higher productivity and living standards - and consumers, through cheaper and better goods.
Economists from Adam Smith on have recognized the importance of business competition. Schumpeter's contribution was to look closer, to see an ecological system in which some companies must die for others to thrive.
Entrepreneurs are the system's predators, the force behind creative destruction. Henry Ford killed the carriage industry. Seiko put the Swiss watch business on its heels. Craig's List and Monster.com are swiping newspapers' bread and butter, classified ads.
Nations that stifle these forces stagnate and lag, Schumpeter argued. He underplayed the effects of creative destruction on labor, incorrectly believing that capitalists absorb most of the pain. But, more clearly than anybody, he saw that the fattest economic omelets require broken eggs.
At its heart, economics is the study of tradeoffs. The value of the Schumpeterian tradeoff - stability sacrificed for growth - will be debated for centuries. But it will be hard to argue either side without invoking his name.