Where Schumpeter Went Astray

By George P. Brockway, originally published April 6, 1992

1992-4-6 Where Schumpeter Went Astray Title












I N PREPARATION for my previous column I reread the passages I had underlined long ago in Joseph A. Schumpeter‘s Capitalism, Socialism and Democracy, a book whose first edition was published in 1942. The second edition appeared five years later, and the third in 1950. My copy is from the 22nd printing of the paperback edition. All that adds up to sales in six figures.

It is a curious book. Its display of scholarshiplis casual and impressive. It contains less economics than history and what the Europeans call sociology (a more humane discipline than ours). Its style is informal, worldly-wise, and generally good natured, though a bitterness lurks behind several references to John Maynard Keynes and comes forward harshly in criticism of Schumpeter’s Harvard colleague, Alvin H. Hansen, who is often meant but never named. (Hansen was a leading expositor of Keynes in America, and many now say he got it all wrong, but his possible mistakes about Keynes are not what bother Schumpeter.)

I don’t propose to review either the work or the author’s academic in-fighting. The book does, however, advance three propositions on which I would like to hang a tale or two. Number one comes at the opening of Part II: “Can capitalism survive? No, I do not think it can.” Number two is at the opening of Part III: “Can socialism work? Of course it can.” These propositions don’t look particularly plausible today, and they are not helped by Schumpeter’s reiterated disclaimer that he is not talking about the then-immediate future, but about a 50-year trend that has now run. The third Schumpeter proposition is never explicitly stated but is a two-part assumption, or definition, that underlies his whole argument. The first part of the assumption is that economics, and capitalism in particular, is about the production of physical things. The second part is that physical things are produced most abundantly when entrepreneurs are allowed or encouraged to compensate themselves at the rates roughly prevailing before the First World War. Taking account also of Schumpeter’s notions about the family, it might not be too extreme to say that the world he celebrates, and whose passing he foresees, is the world of Thomas Mann‘s Buddenbrooks.

That world has indeed passed; yet capitalism is today the survivor in its struggle with socialism. It has not, to be sure, survived unchanged. It used to be said that America’s Norman Thomas brand of socialism never came close to succeeding at the polls because the Democrats, and sometimes the Republicans, stole its best ideas. (Thomas himself once told me he thought many thousands of his votes simply weren’t counted.) But that’s not what I have in mind.

I refer instead to a change in the meaning of private property, surely a central concept in capitalism and in economics generally. In the United States the change as a matter of law was accomplished when the minority in an 1872 Supreme Court case became the majority in another case some 18 years later, or just over a century ago.

The first instance was the Slaughter House Cases, in which the minority argued that the State of Louisiana had deprived New Orleans butchers of their property without due process of law by requiring them to use a subsidized slaughter house at high fixed fees. The majority upheld the state, relying on the common-law definition of property as physical things held exclusively for one’s own use. Since the butchers still had their shops and hooks and cleavers, they were not deprived of their property, even though the high fees made pursuit of their calling impracticable. The minority contended that property necessarily included its exchange-value, or the right to use it for economic gain. Their definition of property began to appear in other state and Federal courts, and finally prevailed in the first Minnesota Rate Case of 1890.

The story is elegantly told in John R. CommonsThe Legal Foundations of Capitalism, a truly great book I’ve had occasion to mention several times in the past. As Commons points out, there is nothing in the common law or in the Constitution to support the new view. But Adam Smith could be cited on the primacy of labor and on the distinction between use-value and exchange-value; and The Wealth of Nations already had an odor of sanctity about it. More important, business practice was coming to depend almost exclusively on exchange-value. Property was no longer a datum – merely a thing. It became an idea – what you could do with it to make money.

This fundamental shift in the meaning of property was a historical turning in the development of modern capitalism – and Schumpeter missed it, or missed most of it. For when property became an idea production, too, became an idea. What distinguishes an idea is criticism. In fact, an idea demands criticism, for one idea thus leads to another. A mere thing, in contrast, is like Popeye: It is what it is. The point here is that a hundred years ago the meaning of property in the United States changed to embrace exchange-value, and that correspondingly not only the economic meaning of production changed but the function of entrepreneurship as well.

Schumpeter’s entrepreneur became obsolete, as he himself saw to some extent. “The entrepreneurial function,” he wrote, “does not essentially consist in inventing anything or otherwise creating the conditions which the enterprise exploits. It consists in getting things done.” Increasingly, Schumpeter continued, “Technological progress is … becoming the business of trained specialists who turn out what is needed and make it work in predictable ways …. Bureau and committee work tends to replace individual action.”

That is true enough. What Schumpeter does not see, however, is that a collegial enterprise can be a far more fulfilling place to work and a far more responsible producer for the common weal than anything built around his quasi-military entrepreneur. It ain’t necessarily so, but it can be so.

The second Schumpeter assumption concerns the distribution of wealth and income, or who gets what and why. The last chapter of his book is an address he delivered to the American Economic Association 10 days before his death on January 8, 1950. In it he said, “Capitalism does not merely mean that the housewife may influence production by her choice between peas and beans; or that the youngster may choose whether he wants to work in a factory or on a farm; or that plant managers have some voice in deciding what and how to produce: It means a scheme of values, an attitude toward life, a civilization – the civilization of inequality and of the family fortune.” Well, he doesn’t mince words, does he?

Three years earlier, in the second edition of his book, Schumpeter made a forecast of the likely state of the economy in 1950. As was only prudent, he protected his forecast with many provisos, the chief of which were that 1950 would be a peak year in the business cycle, and that New Deal (by then, Fair Deal) interference with business (especially price controls and labor legislation) could be curtailed. As it turned out, the second proviso was satisfied, but not the first; and he was right on the mark with one of his predictions, but far off the mark with two others.

The accurate forecast was more demographics than economics: He expected the 1950 labor force to be “something like 61 million,” and the currently accepted figure is 60.8 million. But concerning that force (and now we’re back in economics), he wrote, “I do not see that the number of statistically unemployed men and women can possibly be, in that year, below five or six million ….” Relying on similar statistics, we find the actual unemployment total to have been 3.3 million. Schumpeter went on to say, “On an average of good and bad years (statistical) unemployment should be higher than 5 or 6 million- 7 to 8 perhaps.” In fact, we didn’t hit 8 million until 30 years later, in 1981, when the labor force was over 110 million, though we grazed it in 1975, when the labor force was 95 million.

Schumpeter’s forecast of the GNP was way off in the other direction: $200 billion in 1928 dollars, as opposed to the actual $153 billion. One would, of course, expect lower unemployment to result in higher GNP, but we have a contrary picture. Can we account for the contrariness?

THE KEY IS the distribution of income. Schumpeter points out that, after a disgraceful period ending around the middle of the 19th century, the condition of the masses steadily improved. After all, capitalism is a mass-production system, while elite families’ consumption goods are custom made. “The capitalist achievement,” he writes, “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 problem, though, is that the proportionate shares of the national income remained essentially the same – as Schumpeter insisted they ought to.

Capitalist industry is far more productive and efficient than Schumpeter gave it credit for. Whether run by swashbuckling entrepreneurs or by committees of colorless technicians, industry can turn out the stuff. The question is, Who will buy?

Certainly his 7 or 8 million unemployed (then about a fifth of all wage earners) on the dole wouldn’t be much of a market. Nor would the next three quintiles, whose income would be low because (according to the theory) their contribution would be low. The contribution of the entrepreneurs would be very great, but their numbers would be very small and, besides, they would not be substantial consumers of mass-produced goods. That leaves those just below the elite-say about a fifth of the population-as the only full-scale market for all of industry.

When you take Schumpeter’s figures apart and scrutinize them, you can see why his projected GNP was so far off. The stuff wasn’t turned out because there weren’t enough buyers with enough money. The actual unemployment figures were much better than his estimates, but the distribution of income was not much better, and it is not much better today.

In the world of economic models, it doesn’t matter whether the supply side or the demand side stimulates the economy. But in the real world of existing industry capable of high production, effectual demand (Adam Smith’s phrase) is primary. Schumpeter’s vision of a prosperous world led by entrepreneurial families never came to pass, because too many had little or no share in the prosperity. There was no justice in the shares, and no good economics, either.

 The New Leader


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