Entrepreneurship and Innovation: An Economic Approach

An Economic Approach

Bruce A. McDaniel

• Publisher: Routledge
• Year: 2014
• ISBN:
  9781317471370
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

This is a groundbreaking economic analysis of entrepreneurship and the development process for innovation. The author strives to distinguish the role of the capitalist from that of an entrepreneur, and to show how the actions of the entrepreneur impact new employment, economic growth, and advancements in the overall standard of living. The book provides in-depth discussion of several critical concepts: the economic development of a product; Schumpeter's "temporary monopoly control;" the economic bounds of product and process innovations; and changing production functions. It also develops and integrates an analysis of how innovation-induced modifications in either products or processes affect both short-run and long-run average costs in production. As a special feature, each chapter includes an interview with a successful entrepreneur. Suggested readings are also provided.

1

Introduction and Overview

The Transformation of Human Activity

One of the great transformations of humankind in the past several hundred years has been a change in human nature as the result of the Industrial Revolution. Somewhere in the early to mid-1700s, the transformation, which began in England, changed human activity from agrarians to assemblers; from working by the sun to working by the clock; from tasks according to the season to tasks according to production processes. This great transformation cannot be overstated, for it affected virtually every aspect of human activity. In the process of this transformation, three major changes in human activity occurred. The first, as mentioned above, was the very definition of work transformed from a natural to a non-natural setting. Artificial light, exclusions from weather and seasons, as well as mechanical operations replaced activities revolving around flora and fauna.

The second major change was an almost immediate and severe decline in the standard of living for all day laborers. This included virtually all citizens except for a very privileged but small number of the elite. This decline covered several decades where it was possible for husbands and wives to toil eighteen to twenty hours per day yet not earn enough income to provide even the barest essentials of food, clothing, and shelter. Much literature exists, painting a very bleak picture of the helplessness and hopelessness of these workers. Most children were forced into day labor by the age of five, and a common practice was to chain them to the machine where they were to work, lest they forget their assigned task. Sleeping quarters for the four to six hours daily spent not working often accommodated as many as twenty people in a small room with workers queued in rows on the floor attempting to sleep. With no sanitary facilities and the closeness of human flesh, one can only imagine the stench in such places. This incredible decline in the common lifestyle was followed by an ever-so-slow reversal in this trend, and today’s industrial capitalist economies in no way resemble that bleak beginning. The average citizen in today’s western industrial economies lives with a drastically higher standard of living than the kings and queens of royalty just a meager 100 years ago.

The average U.S. citizen in today’s capitalist market industrial economy awakens in a heated and air-conditioned house, takes a hot shower, and eats a warm breakfast. He rushes to work in several minutes using a climate-controlled transportation system, works in a climate-controlled environment (within a few degrees of ideal), and performs operations that not so long ago would not even qualify as “work.” All of these comforts were not remotely available to royalty in the not so distant past.

The third part of this transformation, and the major focus of this book, was the development and refinement of a sociologically distinct group of individuals known as “entrepreneurs.” The concept of the entrepreneur will be defined succinctly and developed in chapters 2 and 3, but here a brief description is needed to begin the explanation of entrepreneurship.

It is important to note that there is not a specific beginning for entrepreneurs. Prior to the Industrial Revolution, it is generally thought that the serfs who left the manors in medieval Europe were entrepreneurs of a type. These individuals who escaped the manor and were away for one year and one day were termed “freed-men.” These individuals generally joined the traveling carnivals that moved from manor to manor and began selling and trading various wares. The desire to “change the way things are done,” which is a characteristic of entrepreneurs, has long existed in history. Very simply, today’s entrepreneur is a person who makes a change in the type of good or service available for sale or in the way goods and/or services are provided in order to make the production process work more smoothly. The result of the efforts of the entrepreneur is some form of innovation. In other words, if an innovation has occurred, an entrepreneur was at work and succeeded in making some form of change. The workings of the entrepreneur as well as the resulting innovation will become much clearer in chapters 2 and 3. The entrepreneur in the early stages of the Industrial Revolution made the early production process work more smoothly.

Adam Smith’s classic pin factory example in The Wealth of Nations¹ is an example of the entrepreneur speeding and smoothing the production process. As the example of the pin factory suggests, a craftsman making pins one at a time could complete, for example, fifty pins with one day’s labor. However, if tasks were divided and repetition could be used to speed the process, production could be increased. By using one worker to cut the pin shaft, one worker to sharpen one end, one worker to form the pin head, and another to attach the shaft to the head, an assembly-line process could be formed. Using this innovative process instead of four craftsman accounting for 200 pins (50 x 4) in one day’s time, possibly 1,000 pins could be made by the four workers joining their activities together. This was part of the process that started the Industrial Revolution. Once the Industrial Revolution began in England and was soon transplanted to the United States, entrepreneurs began a never-ending process of a smoother, faster production line with ever-increasing amounts and different kinds of material goods.

A Brief Economic History of Entrepreneurship in America

The most often-cited example of entrepreneurship in the early industrialization of the United States is Henry Ford’s production of the Model T. Fordism, as it is often referred to, is no more than Henry Ford using Adam Smith’s pin factory example and applying it to the assembly-line production of automobiles.² In fact, in the early stages of the assembly line, men with leather harnesses pulled auto frames from station to station. This concept of continuous-process assembly lines will be more fully developed in chapter 6. The fact that what Henry Ford did was not at its basis overly complicated does not detract from the enormous consequences of Fordism on the U.S. economy.

There were several factors leading the way to the assembly-line production of automobiles. The innovation of interchangeable parts was a very significant factor allowing the concept of assembly-line production to occur. Eli Whitney made the development of interchangeable parts. Although Whitney is given little credit and is not usually remembered for this development, it remains one of the most significant innovations in the American history of entrepreneurs. The labor transition from skilled workers to much less skilled assembly workers allowed immigrants with little or no specific skill to begin assembly production work with ten or fifteen minutes of minor explanation of job requirements. Also, the innovation of a management-level operation was required to orchestrate the assembly of the parts into a complete unit. Finally, there were ongoing innovations creating the machinery and tooling to make the various and sundry parts of the automobile. Fordism remains the most classic example of all entrepreneurship in U.S. economic history leading to successive innovations.

Although Fordism was a remarkable feat of entrepreneurship with its resulting innovations, it was neither an isolated nor an independent development in United States economic history. Parallel innovations in oil cracking and processing were occurring simultaneously. Oil refining was being transformed from a batch process to a flow process, a concept that will be fully developed in chapter 6. Likewise, innovations in the steel industry greatly enhanced the automobile industry. Refinements in the quality of steel, the scale of production for ever increasing demands for larger quantities, the technology for both quantities of steel as well as increases in the high quality of steel were made at a parallel time to great expansions in the auto industry. Andrew Carnegie was one of the major innovators in the steel industry, and he actually enhanced the success of Henry Ford.

Innovations were limited not only to the ancillary industries of the automobile. Innovations in road building and bridge construction, as well as advancing technology regarding highway mapping, traffic flows, and connecting highway systems, aided both the automobile industry as well as the western expansion of the U.S. economy. These roads were built by the U.S. government and were offered to the public free of any use charge; in the process, they pushed the U.S. economy to new heights in terms of economic growth, encouraged westward expansion, and opened vast new areas of productive resources.

It seems important here to at least briefly identify the result of entrepreneurial behavior, that is, innovation. Innovation will be more clearly explained in chapter 3, but innovation is most simply the application of an idea or concept to the production of goods and services. To partially distinguish an innovation from an invention, an invention is the development of an idea or concept, and an innovation is the use of that idea or concept. From the standpoint of economics, we can reasonably assume that innovations rather than inventions are the central point of interest. Chapter 4 more fully differentiates the concepts of innovation and invention and further explains why innovations are the focus of economic inquiry.

These innovations in the automobile industry, steel industry, and petroleum industry led to great economic expansions in the early 1900s. This major economic expansion and its corresponding development of entrepreneurial innovations were followed by a major collapse in the U.S. economy (as well as economics worldwide). There appears to be a strong connection between economic growth and expansion and continuing development of innovations. Likewise, there seems to be a strong connection between a decline in entrepreneurship and innovative activities and the resulting decline in economic growth and expansion. Although the entrepreneur and innovations remain largely outside mainstream micro-and macroeconomic theory, there is a very strong historical connection to validate the need for economic theory to incorporate both entrepreneurial behavior and its resulting innovative activity into the mainstream body of economic analysis.

After the Great Depression and World War II there was another major movement of entrepreneurship and innovation. Innovations led to more efficient production, advancements in almost every aspect of technology, and a host of new and improved products that were not even in the imagination only a decade earlier. The source of these innovations is the focus of chapter 10 and how they affect production is the focus of chapters 5 through 9. However, it should be clear from casual observation that these post-World War II innovations catapulted the U.S. economy into a position of international world trading dominance. This world trading dominance continued unchallenged for almost four decades. Again, a decline in innovations (the use of inventions by entrepreneurs) to change and expand the production of goods and services led to a toppling of the United States as the dominant international trading country. The result was a major U.S. economic recession with a compounded dilemma of double-digit figures for both inflation and unemployment, as well as increasing importation of foreign goods and a very large and growing deficit in the international balance of trade. As other countries began using the inventions of the United States and turning them into marketable innovations, the United States continued to see a declining status as a world trader of marketable goods. Our inventions were taken abroad, turned into marketable goods, and then shipped to the United States and sold to waiting consumers, which further increased the trade deficit in the United States.

The following story will help to illustrate the lack of entrepre-neurship and innovation in a capitalist market economy leading to a decline in international balance of trade. Apparently, several decades ago the Japanese government wanted General Motors Corporation to build automobiles for their growing domestic market, so the Japanese government invited a large entourage of General Motors executives to Japan. These executives were wined and dined on saki and sushi, given a first-class tour of Tokyo, and then invited to a closed meeting between the General Motors Corporation and diplomats of the Japanese government. The Japanese spokesmen told the group from General Motors that Japan wanted General Motors to produce their domestic automobiles. The Japanese diplomats reasoned that since General Motors was the world’s largest automobile producer, they were best suited to produce automobiles for Japan.

The story progresses: The Japanese officials explained that there were two problems that General Motors would need to accommodate in order for Japan to purchase automobiles. First, because the Japanese drove on the left side of the road, General Motors would need to produce automobiles with a steering wheel on the right side of the car. Secondly, because the streets in Japan (and especially Tokyo as observed from the guided tour) were quite narrow, General Motors would need to build a much smaller automobile than their current production in order to accommodate the narrower streets and roads. The story concludes with a short caucus by General Motors followed by an official General Motors statement informing the diplomats that when Japan started building wider streets and roads, and the country learned the correct side of the street on which to drive, then General Motors would gladly start selling automobiles to Japan.

The rest, of course, is history, with General Motors, the largest single corporation in the United States, almost declaring bankruptcy. The attitude that if we are good capitalists, we need not concern ourselves with entrepreneurship and innovation was prevalent in much of corporate America during the time period from the late 1960s through most of the next two decades. Research and development of many of the inventions sponsored by both the U.S. government and many larger U.S. corporations were never turned into products, as the role of the entrepreneur and the resulting innovations went unexplored. When foreign entrepreneurs took these U.S. inventions and developed products that were sold back to markets in the United States, many citizens complained that the products should be U.S. products because that was the origin of the invention. There was an outcry claiming unfair competition. In fact, the products were foreign because that was the source of the entrepreneurial effort and the home of the innovation. As this fact was fully recognized in the U.S., the entrepreneurial effort and skill was rekindled and product innovations began to dominate U.S. production as well as world trade.

Entrepreneurship and the resulting rapid development of innovations became a worldwide phenomenon in the 1980s as market capitalism became the ideology espoused by Margaret Thatcher, prime minister of England, and Ronald Reagan, president of the United States. This movement was enhanced by the declining acceptance of socialist-based economies worldwide. Exact reasons for the timing and fervor of this movement remain unclear, but in the United States the drive to regain recognition as a world trading power, the downsizing of inefficient plants, opportunities for small start-up firms, and the need for innovations leading to better efficiencies have certainly helped propel this movement. Innovation has become a necessity as well as the hallmark of any quality busi...

Table of contents

• Cover
• Half Title
• Title Page
• Copyright Page
• Dedication
• Table of Contents
• List of Tables and Figures
• Acknowledgments
• 1. Introduction and Overview
• 2. Capitalism and Entrepreneurship: Economic Differences
• 3. Entrepreneurship and Innovation
• 4. Economic Development of a Product
• 5. Innovations in Products
• 6. Innovations in Process
• 7. Integration of Product and Process Innovations
• 8. Technology and Economics: A Multidisciplinary Approach to Innovations
• 9. Microeconomics and Innovations
• 10. Economic Sources of Innovations
• 11. The Entrepreneur in the American conomy
• Suggested Readings
• Index
• About the Author