Creative destruction

From Academic Kids

Creative destruction is the colourful expression introduced by the economist Joseph Schumpeter to describe his view of the process of industrial transformation that accompanies radical innovation. In Schumpeter's vision of capitalism, innovative entry by entrepreneurs was the force that sustained long-term economic growth, even as it destroyed the value of established companies that enjoyed some degree of monopoly power.

Companies that once revolutionized and dominated new industries, think of Xerox in copiers or Polaroid in instant photography, have seen their profits fall and their dominance fail as rivals launched improved designs or cut manufacturing costs. Creative destruction may also go the other way, pushing an industry to a monopoly situation. An example of this is Wal-Mart, a corporation that increasingly dominates retail markets at the expense of older or smaller companies using new inventory-management, marketing, and personnel-management techniques.

In fact, successful innovation is normally a source of temporary market power, eroding the profits and position of old firms, yet ultimately succumbing to the pressure of new inventions commercialised by competing entrants. Creative destruction is a powerful economic concept because it can explain many of the dynamics of industrial change: the transition from a competitive to a monopolistic market, and back again. It has been the inspiration of endogenous growth theory and also of evolutionary economics.

There are numerous types of innovation generating creative destruction in an industry:

  • New ways to organize production, often using new equipment
  • New methods of inventory management
  • New products
  • New methods of advertising and marketing
  • New ways to transport products
  • New methods of communication (e.g., the Internet)
  • New management techniques
  • New markets
  • New sources of labor and raw materials
  • New ways to lobby politicians or new legal strategies
  • New financial instruments and/or scams

History

The expression "creative destruction" was brought into the mainstream economic discourse via Schumpeter's book, Capitalism, Socialism and Democracy, first published in 1942. The idea as such derives from the philosophy of Friedrich Nietzsche, but scholars today agree that Schumpeter, although he did read Nietzsche himself, took the concept and phrase from the work of fellow economist Werner Sombart. Though a conservative, Schumpeter gained much of his understanding of competition and the essence of creative destruction from Karl Marx.

Given the relevance of creative destruction for the business world, it is surprising that Schumpeter's contributions are not included in most elementary economic textbooks, which focus on perfect competition and static supply and demand analysis. Schumpeter's revolutionary ideas are complementary to this type of analysis, because they add a deeper understanding of the dynamic elements of modern economies. Let us hope that a new generation of textbooks emerges soon: it is bound to creatively destroy the old.

Bibliography

  • Philippe Aghion and Peter Howitt. Endogenous Growth Theory. MIT Press. 1997.
  • Clayton M. Christensen. The Innovator's Dilemma. HarperBusiness. 2001.
  • Richard Foster and Sarah Kaplan. Creative Destruction: Why Companies that are Built to Last Underperform the Market - And how to Successfully Transform Them. Currency publisher. 2001.
  • J. Stanley Metcalfe and J. S. Metcalfe, Evolutionary Economics and Creative Destruction (Graz Schumpeter Lectures, 1). Routledge. 1998.
  • Hugo Reinert and Erik S. Reinert. "Creative Destruction in Economics: Nietzsche, Sombart, Schumpeter." (http://www.othercanon.org/papers/more.asp?id=30) Forthcoming 2005 in J.G. Backhaus and W. Drechsler, eds. Nietzsche, Economy, and Society. Kluwer. 2005.
  • James M. Utterback. Mastering the Dynamics of Innovation. Harvard Business School Press. 1996.de:Schöpferische Zerstörung
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