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Flawed idea

Innovation and economic retrogression

Prabhat Patnaik Published 11.01.23, 03:52 AM
Joseph Schumpeter: Falling short

Joseph Schumpeter: Falling short

Technological change in the form of the introduction of new processes and products is believed to underlie economic progress under capitalism. The economist, Joseph Schumpeter, an admirer of the capitalist system who is sometimes called the ‘bourgeois Marx’, was an arch-exponent of this view. He believed that innovations of new processes and products occurred in waves, which were what caused business cycles. Since they improved labour productivity and since capitalism, he thought, had a tendency to settle at full employment, even with a constant work-force, output at the end of each wave would be higher than at the beginning; and that is how capitalist economies grew. Most economists, whether or not they accept the details of Schumpeter’s argument, would agree with his conclusion that economic growth under capitalism occurred through innovations.

The flaw in this argument is that there is no spontaneous tendency towards full employment under capitalism, as the Keynesian Revolution demonstrated. If there is a wave of innovation that increases labour productivity, then it would certainly increase unemployment at some point. Such an increase in unemployment would necessarily mean a shift in the relative distribution of income from wages to profits, since real wages would not rise in tandem with labour productivity owing to the reduction in the bargaining strength of the workers caused by higher unemployment. A regressive shift in income distribution, in turn, would lower aggregate demand, as a larger proportion of wage income is consumed than of profit income.


At the end of the wave, therefore, there would be a lower level of employment and output than at the beginning. Technological progress then, instead of causing economic growth, would have caused economic retrogression. Successive waves of innovation, while improving labour productivity over time and leaving the economy with more and more modern methods of production, would have caused a shrinking of employment even out of a given work-force and a shrinking of output as well.

This is not just hyperbole. Richard Goodwin, the well-known American economist who taught at Harvard before migrating to Cambridge, England, because of the McCarthyite witch-hunt of the 1950s, and who, although a Marxist, had been a close friend of Schumpeter, did some simulations on a model of a capitalist economy. The economy in the model experienced a wave of innovations while output was determined by aggregate demand; and the simulation results showed that unless wages increased significantly because of the introduction of innovations, output and employment at the end of the wave would be lower than at the beginning. There is no reason, however, for such a rise in wages despite the rise in labour productivity because the rise in unemployment through which alone such a rise in labour productivity manifests itself would weaken workers’ bargaining strength for enforcing higher wages. The conclusion about technological change causing economic retrogression in such a capitalist economy therefore remains unaffected.

Capitalist economies, however, have not actually seen economic retrogression as a consequence of technological change. The question arises: why not? If as technological change is introduced and there is a simultaneous increase in aggregate demand for some independent reason, then there need not be either a decline in employment or output in the economy introducing such a change. But there is no reason why such an increase should occur within the capitalist sector. It will have to come from outside, and not just as a coincidence; the capitalist sector must cause such an independent expansion in aggregate demand to happen. In short, it will need to have a ‘market on tap’ existing outside of it that it can turn to for preventing a decline in output and employment. This idea, originally advanced by Rosa Luxemburg, has been borne out in practice. Capitalism has generally had such a ‘market on tap’ (a phrase of the economic historian, S.B. Saul), which is why technological change under it has been accompanied not by economic retrogression but by economic progress.

Colonial markets played this role for long. Metropolitan capitalism could avoid any decrease in its domestic employment and output following technological change by exporting goods to the colonies where they caused deindustrialisation and reduced local production, as the eminent patriots, Dadabhai Naoroji and R.C. Dutt, had pointed out long ago for India. By about the First World War, colonial markets had got more or less exhausted, which was one reason for the Great Depression of the 1930s. Capitalism’s new boom occurred only in the post-Second World War period, when State spending began playing a similar role of providing a market on tap that could be turned on when necessary. This is what kept employment high in the new situation and ensured that growth, rather than retrogression, occurred through technological change. Such a role of State spending had also been anticipated by Rosa Luxemburg.

What is striking about contemporary capitalism is that it lacks any such exogenous stimulus: markets of the Global South have lost their importance and State spending to stimulate the economy is now thwarted by the predilections of globalised finance capital. For State spending to play this role, it must be financed either by a fiscal deficit or by taxes on the rich: taxing working people who spend most of their incomes anyway and using these tax proceeds to enlarge State expenditure does not add to aggregate demand; it only substitutes one kind of demand by another. But both these ways of financing larger State spending are opposed by globalised finance, which does much to explain the current predicament of world capitalism.

Prabhat Patnaik is Professor Emeritus, Centre for Economic Studies, Jawaharlal Nehru University, New Delhi

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