Joseph A. Schumpeter: Innovation and Creative Destruction
The starting point of Schumpeter’s analysis of the causes and effects of technical change is the “circular flow”, where the economy is in a stationary state and technical change is absent.
In studying the dynamic behaviour of economies, Joseph A. Schumpeter (1912 [1934]) drew a distinction between three stages: invention, innovation and diffusion (that is, the Schumpeterian trilogy). He thereby emphasized that there is no automatism that links these three stages and that changes at any stage have different sources and implications: (1) An invention means the availability of new technical knowledge and thus new production possibilities, but in itself it has no significant economic effects. (2) An innovation means the actual use of an invention in economic life by some firm that becomes a “pioneer” or technological leader. The innovation exploits the economic potential of the invention. Schumpeter’s hero is the “entrepreneur”, who introduces “new combinations”. (3) The successful introduction of novelties is the basis for a change in the economy, but it is the process of diffusion by which innovations gain economic weight and are absorbed into the system. Through this process of “adaptation” overall productivity improves. The diffusion of different types of innovations, according to Schumpeter, changes the economic system from within and is the engine of economic development. These dynamics involve a process of “creative destruction”:The opening up of new markets, foreign or domestic, and the organizational development from the craft shop and factory to such concerns as U.S. Steel illustrate the same process of industrial mutation - if I may use that biological term - that incessantly revolutionizes the economic structure from within, incessantly destroying the old one, incessantly creating a new one. This process of Creative Destruction is the essential fact about capitalism. (Schumpeter 1942 [2010]: 73)
Innovations are responsible for the cyclicity of economic development, the leaps and bounds of economic expansion - business cycles on the one hand and long waves or growth cycles, so-called “Kondratieffs”, on the other. Depending on the size, scope and clustering of innovations, the process of absorbing the new gives rise to cycles of different length and amplitude.
Schumpeter’s ideas fell on fertile ground in studies of long waves of economic development, in evolutionary economics and in parts of new growth theory. However, for a long time the discussion was surprisingly dominated by a theory that treated technical change as exogenous.