Largest-scale plans could in many cases not materialize at all if it were not known from the outset that competition will be discouraged by heavy capital requirements or lack of experience, or that means are available to discourage or checkmate it so as to gain the time and space for further developments.
It is not difficult to reconcile this seeming contradiction between Schumpeter as champion of creative destruction and as supporter of monopoly big business. Schumpeter’s great intuition was that businesses do not compete against one another, they compete against the future. It is the unforeseen, unexpected enterprise of the future that destroys monoliths, not today’s competition or antitrust enforcement. Schumpeter, writing in 1942, anticipated Uber’s disruption of taxi monopolies and Matt Drudge’s demolition of daily newspapers. No business, however large, is safe. What keeps a monopolist up at night is not the competition; it’s the future.
Schumpeter’s legacy became captive to his devotees—a common fate of iconoclasts. The creative destruction meme is now commonplace (although it may be more urgent than those who recite the cliché realize). What strikes one about Schumpeter is that his creative destruction sketch is a vignette. It takes up five pages in a standard 430-page edition of Capitalism, Socialism and Democracy—barely 1 percent of the book. The remainder, on historical processes, and the inevitability of socialism, is more important for comprehending the economic path we traverse today.
Joseph A. Schumpeter was born in 1883 in Moravia, then in the Austro-Hungarian Empire, today the Czech Republic. He earned a Ph.D. from the University of Vienna in 1906 under the direction of Eugen von Böhm-Bawerk, a devoted follower of Carl Menger and early exponent of the Austrian school of economics.
Schumpeter was professor of economics at Harvard University from 1932 until his death in 1950. He led a colorful private life, and may be the only twentieth-century economist who was also a duelist. In the words of his biographer, Thomas McCraw, “He often said that he aspired to be the world’s greatest economist, lover and horseman. Then came the punch line: things were not working out with the horses.”
Despite study in Vienna and guidance by Böhm-Bawerk, Schumpeter did not adhere to the Austrian school. He followed an earlier Historical school of economics developed in Germany in the nineteenth century. This school blends history, politics, and social science to achieve a more veracious view of economics. It rejects mathematical models for the most part because models are specific to time and place, temporary reflections of economic conditions. In contrast, history provides a broader perspective and more accurately reveals the impetus for human action. Above all, the Historical school emphasizes reality over abstraction.
What unites Historical school members are not their conclusions, which vary widely (to the point of contradiction), but rather their inductive method, which relies on close consideration of long-term processes and impressions drawn from that consideration. Earlier adherents to the Historical school include Walter Bagehot, Max Weber, and Karl Marx. Schumpeter is the last pure representative of this school, although Hyman Minsky, Alan Greenspan, and Nobelist Robert Solow were all strongly influenced by him. The Historical school’s inductive method and use of history have today been brushed aside by neo-Keynesian equations and an Austrian insistence on money agency.
Yet Schumpeter’s insights into capital formation through entrepreneurship, and its disruptive impact on prevalent business models—creative destruction—seem in sync with the age of Amazon and Netflix. This revival comes at a time when Austrian money theories are stymied by velocity’s volatility, and neo-Keynesian models prove unprepared for a new liquidity trap. It is past time to take Schumpeter off the shelf and give historical method its due.
Consideration of Schumpeter today comes mostly from those interested in microeconomics—the theory of the firm, and the individual. A Schumpeterian renascence needs to consider his macroeconomic perspective, including his illumination of global growth dynamics. Schumpeter’s long-wave historical perspective seems the right antidote to Karl Popper’s slow, steady piecemeal social engineering. Schumpeter’s method serves as an antagonist to the sixty-year slog of the SDR from ad hoc remedy to world money. Schumpeter lets us see these processes in historical settings and prophesy their paths.
Schumpeter’s reputational eclipse in the late twentieth century was partly due to his prediction that socialism would supplant capitalism. In this, Schumpeter agreed with Karl Marx, although he was relentless at finding flaws in Marxian theory. Specifically, Schumpeter said Marx’s theory of revolution was nonsense; he quipped that revolutions benefit no one but revolutionaries.
What Schumpeter admired about Marx was not his exact predictions, but Marx’s method, which considered the rise and fall of social classes over centuries. Using Marx’s method Schumpeter saw the slow, steady rise of socialism, existing—for a time—side by side with capitalism, and operating comfortably within a democratic framework.
Seeing capitalist success first in the 1960s in Europe and Japan, then in the 1980s Thatcher-Reagan revolution, then China’s ascendance in the 1990s under Deng Xiaoping’s mantra, “To be rich is glorious,” it seems hard to credit Schumpeter’s socialist thesis. The triumph of free market capitalism is so deeply entrenched from Seattle to Shanghai that Schumpeter’s glimpse of socialism’s irresistibility seems misguided.
Still, Schumpeter was right.
For Schumpeter, socialism was not a dictatorship of the proletariat, but an economic system directed by the state, operated by elites he called “Planners,” for the presumed benefit of workers. The winners in this vision were the Planners and workers. The losers were the bourgeoisie—what we call the middle class.
Schumpeter was prophetic. Today’s U.S. middle class has been hollowed out, and income inequality has reached extreme levels not seen since the 1920s, and before that, the 1890s. Society devolved largely into elites and workers as Schumpeter expected.
In the United States, median household income measured in constant 2014 dollars peaked at $57,843 in 1999. By 2014, the comparable figure was $53,657, a stunning decline of over 7 percent in fifteen years. The American household is growing poorer by the day. However, the decline was not evenly distributed. Median household income in Washington, D.C. increased almost 25 percent in the same fifteen-year period. While the nation stagnates, residents of the capital city grow richer. This contrast shows the elites’ success at siphoning wealth from everyday Americans through taxes, regulations, and parasitic agencies.
A McKinsey Global Institute study released in July 2016 titled “Poorer than Their Parents?” documented that trends in income inequality are not confined to the United States. These trends are found globally in developed economies from Western Europe to Australia. The report says:
The debate over rising inequality in advanced economies has focused on income and wealth gains going disproportionately to top earners. In this research, we look at an aspect that has received less attention: households in developed economies whose incomes have not advanced when compared to their peers in the past. Examining this issue in three separate ways, we found a very substantial increase in the number of such households.
Between 65 and 70 percent of households in 25 advanced economies, the equivalent of 540 million to 580 million people, were in segments of the income distribution whose real market incomes—their wages and income from capital—were flat or had fallen in 2014 compared with 2005. This compared with less than 2 percent, or fewer than ten million people, who experienced this phenomenon between 1993 and 2005. Government transfers and lower tax rates reduced the effect on disposable incomes: 20 to 25 percent of households were in segments of the income distribution whose disposable income was flat or down between 2005 and 2014, compared with less than 2 percent in 1993–2005.
In other words, middle-class incomes are stagnant even as the rich get richer. Socialism in the form of government transfer payments mitigated some, but n
ot all, of the impact. This is exactly what Schumpeter predicted—socialism’s rise, not by revolution, but rather by stealth, using capitalist wealth to buy off the working class while crushing the bourgeoisie.
The McKinsey study highlights this point about socialist income transfers,
Today’s younger generation is at risk of ending up poorer than their parents. Most population segments experienced flat or falling incomes in the 2002–12 decade but young, less-educated workers were hardest hit. . . .
Government policy and labor-market practices helped determine the extent of flat or falling incomes. In Sweden, for example, where the government intervened to preserve jobs, market incomes fell or were flat for only 20 percent, while disposable income advanced for almost everyone. In the United States, government taxes and transfers turned a decline in market incomes for 81 percent of income segments into an increase in disposable income for nearly all households.
Flat or falling incomes for the majority of the population could reduce demand growth and increase the need for social spending. Social consequences are also possible. . . .
Longer-run demographic and labor trends will continue to weigh on income advancement. Even if economies resume their historical high-growth trajectory, we project that 30 to 40 percent of income segments may not experience market income gains in the next decade if labor-market shifts such as workplace automation accelerate. If the slow-growth conditions of 2005–12 persist, as much as 70 to 80 percent of income segments in advanced economies may experience flat or falling market incomes to 2025.
Schumpeter saw that it was nonsense to pay workers $40,000 per year and then have the state collect $10,000 in taxes. It is more efficient for the state to pay the worker $30,000. The net to the worker is the same, and an inefficient pretense of private salaries and public taxation is eliminated. Schumpeter’s suggestion has found new life in policy proposals for a Basic Guaranteed Income championed in various forms by Bernie Sanders on the left and Charles Murray on the right. The expansion of food stamps, disability payments, Obamacare, Medicare, and the earned income credit are all forms of government income maintenance, evidence of a movement toward true socialism.
Schumpeter said democracy was not an ideology in which the will of the people was fulfilled. Instead it was a process by which elites competed for leadership roles. Once an election is over, voters are ignored and winning elites carry out preconceived plans. The United States and other democracies hold elections, yet benefits and bureaucracies balloon, regardless of electoral outcomes.
Then there is China, the world’s second largest economy, officially Communist, yet using a state capitalist model that Schumpeter called socialist. Schumpeter made it clear that socialism works perfectly well with or without democratic institutions. In consonance with Schumpeter’s understanding of democracy as a channel by which planners take turns, what matters economically is not voting, but planning. All the world’s major economies today are planned either by central committees or by central banks.
Capitalist heroes of Silicon Valley are entrepreneurial in the way Schumpeter understood entrepreneurship before computers were invented. Yet Schumpeter did not equate entrepreneurship with capitalism. He expected that entrepreneurs would always play a role except in the most repressive conditions. He saw no contradiction between entrepreneurship and socialism because a successful entrepreneur slides easily into the elite class alongside the politician and planner.
The modern entrepreneur’s drive to outsource or automate production has decimated the middle class, provided workers with inexpensive amusements, and allocated vast riches to elites. It is the middle class, what Schumpeter and Marx called the bourgeoisie, that disappears, not entrepreneurs.
Schumpeter diagnosed capitalism’s decline with uncanny accuracy. He saw decline not as an event that occurs overnight, but rather as a process that unfolds in stages leading to inadequate aggregate demand, what he called “stagnationism.” In 1946, Schumpeter wrote, “Success in conducting a business enterprise depends . . . much more on the ability to deal with labor leaders, politicians and public officials than it does on business ability in the proper sense of the term. . . . The businessman who is incessantly thrown out of his stride . . . by having to be ‘up before’ this or that board has no steam left for dealing with his technological and commercial problems.” And Schumpeter perfectly anticipated the modern Federal Reserve when he wrote that “the business organism cannot function according to design when its most important ‘parameters of action’—wages, prices, interest—are transferred to the political sphere and there dealt with . . . according to the ideas of some planners.”
Schumpeter summarized the endgame for capitalism in his prognosis for the late twentieth century:
Labor unrest, price regulation, vexatious administration and irrational taxation are quite adequate to produce results for income and employment that will look exactly like a verification of the stagnationist theory and may indeed produce situations in which public deficit spending imposes itself. We may even witness . . . conditions in which people will be reluctant to carry out their investment decisions. . . . Whatever it is, it will be a dominant factor in the social situation not only in the United States but also in the world. But only for the next half century or so. The long-run diagnosis . . . [viz. the decline of capitalism and rise of socialism] will not be affected.
Schumpeter was not an ideologue, much less an apologist for socialism. He was a clear-eyed analyst of economics as a historical process. He had no preference for socialism; he simply said it would inevitably replace capitalism. It has to a great extent, although most have not noticed. In Schumpeter’s view, the final step in capitalism’s displacement by socialism is government control of capital. Ice-nine implementation in the next financial crisis will achieve that.
Schumpeter left a chilling coda to his work on socialism. He identified the slippery slope by which socialism blends into fascism once planning is entrenched, business and government are intertwined, and political parties are homogenous. He saw that fascism is more the left’s creature than the right’s. His description of Russia, ruled by Stalin when he wrote, applies squarely seventy years later: “The trouble with Russia is not that she is socialist but that she is Russia . . . essentially a militarist autocracy which, because it rules by means of a single and strictly disciplined party and does not admit freedom of the press, partakes of one of the defining characteristics of Fascism and exploits the masses in the Marxist sense.”
Finally, Schumpeter foresaw a war weariness prevalent in America today: “When violently excited by propaganda the country may enter upon or accept an activist course of interference beyond the seas. But it soon tires of it, and tired it is now. . . . Let Russia swallow one or two more countries, what of it?”
It is too much to call Schumpeter a complexity theorist—he died ten years before complexity was discovered as a branch of physics. Yet his view of historical processes fits well with the extended time frames for which complexity theory holds the most explanatory power. Complexity provides models for comprehension of the slow, steady buildup of dense networks that suddenly, catastrophically collapse. Seismic faults, forests, and financial markets are all dynamic arrays in which systems may appear stable until a sudden earthquake, conflagration, or crash destroys everything. Complexity theorists know that apparent stability is a mask for rising tension.
The rise and fall of civilizations is the grandest example of complexity theory applied to human affairs. Schumpeter’s consideration of capitalism’s rise and fall, while not specific to one civilization, is the kind of study to which complexity theory lends valuable tools. Schumpeter eschewed Keynesian models because of the artifice in holding most variables constant while monotonically isolating one as the “cause” of the phenomena under study. Today a twenty-first-century mélange of a Schumpeterian long view and massive computing power—unavailable to Schumpeter—allows for a rap
id expansion of recursive functions and simulation of human action via cellular automata. Schumpeter would surely look benignly on such efforts as a reasonable simulacrum of his deep historical processes.
Society stands on Schumpeter’s shoulders with new tools of complexity theory to look over a ridgeline at the rise of socialism and fascism, one and the same.
The New Praetorians
In ancient Rome, the Praetorian Guard were an elite military unit that provided personal protection to emperors. Their evolution is a cautionary tale.
Praetorians originally guarded the commander’s dwelling while on campaign. The name “praetorian” is derived from praetor, a Roman general; his tent was called the praetorium. In the late Roman Republic, Julius Caesar used such a guard. Over time, the Praetorian Guard grew larger. It included the best-equipped, most elite troops, handpicked by the commander.
The presence of a personal guard in the field was not problematic. Conflicts arose when the commander returned to Rome after a victorious military campaign. The Roman Republic prohibited a troop presence inside Rome itself. Julius Caesar intentionally disregarded this taboo. Caesar brought his guard with him as he crossed the Rubicon on his way to Rome in 49 BC. Caesar remarked, “alea iacta est”—the die is cast.
Caesar entered Rome with his personal guard in January 49 BC. This act of insurrection led swiftly to civil war, Caesar’s assassination, the fall of the Roman Republic, and the emergence of the Roman Empire under Augustus. It was Augustus who formally established the Praetorian Guard based on the earlier tradition of personal bodyguards. Its size was set at nine thousand men, about division strength in a modern army. Augustus stationed most of the guard just outside Rome in deference to tradition, but kept some forces on active duty inside the city—in effect, history’s first police force.
The Road to Ruin Page 26
