State of Innovation

Patents and Innovation Economics

Conflating Inventions (Technological Progress) with Capital in Economics

Will Thomas and I gave a talk on Austrian Economics at Atlas Summit 2016, where I pointed out that Austrian Business Cycle Theory (ABCT) does not fit the empirical facts.  ABCT claims that increasing savings/capital are the cause of economic growth, which is very similar to what classical and neo-classical economics states.  I pointed out that in fact it is increasing levels of technology (inventions) that are the cause of economic growth not increases in capital.  One of the questioners after the talk stated that inventions (technology) are part of capital.

Many people want to conflate increasing levels of technology with capital, however they are not the same.  Capital as used in economics means those durable goods used in production.

In economics, capital goods, real capital, or capital assets are already-produced durable goods or any non-financial asset that is used in production of goods or services.

Adam Smith defines capital as “That part of a man’s stock which he expects to afford him revenue”.  https://en.wikipedia.org/wiki/Capital_(economics)

The article goes on to explain how to determine if something as capital.

Classical and neoclassical economics regard capital as one of the factors of production (alongside the other factors: land and labour).

This is what makes it a factor of production:

  • The good is not used up immediately in the process of production unlike raw materials or intermediate goods. (The significant exception to this is depreciation allowance, which like intermediate goods, is treated as a business expense.)

  • The good can be produced or increased (in contrast to land and non-renewable resources). https://en.wikipedia.org/wiki/Capital_(economics)

Technological change is not a good, it is the process of inventing.  It is true that when these new inventions are reproduced (manufacturing) then AtlasSocietywhen purchased they become capital, but that is several steps removed.  If we treat technological change as just part of capital then going out and purchasing capital goods is the same thing as inventing.  However, the results are not the same.  Purchasing (acquiring) capital without invention results in no real per capita increases in wealth over the long run.  As a simple example assume that every farmer in the U.S. has the latest most up to date tractor their land can use.  Adding more tractors (capital) does not increase the output of these farms.  The same is true for capital in general.

A number of economists have pointed out that increasing levels of capital are not responsible for the tremendous economic growth experienced in the West since the Industrial Revolution.  Among these economists are Robert Solow, Paul Romer, and Deirdre McCloskey.  They all point to increasing levels of technology as the cause for our increased wealth.  Our standard of living is defined by our level of technology.

On the other hand inventing at a faster rate does produce real per capita increases in wealth.  Inventions can produce returns that are staggering.  For instance, Eli Whitney’s invention of the cotton gin allowed a forty times increase in the output of cotton in the U.S. in one decade.

In science it is important to isolate the factors effecting an experiment.  For instance, if you conflate wind resistance and gravity then you end up with the nonsense that heavier objects fall faster than lighter objects.  This means you will never be able to create a parachute or an airplane.

In economics if we conflate inventions with capital, we make the mistake that third world countries will become wealthy if we provide them capital.  In fact, this is exactly what Development Economics has said for years despite overwhelming evidence to the contrary.  Conflating these two concepts will cause us to ignore the role of property rights for invention as being the biggest long term driver of wealth and instead focus on capital gains taxes or increasing the savings rate or increasing comsumption.

Inventions are the cause of real per capita increases in wealth, not capital.  Conflating the two is illogical and results in nonsensical economic policies.

 

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July 22, 2016 - Posted by | Innovation, News, Patents | , , , , ,

2 Comments »

  1. ” As a simple example assume that every farmer in the U.S. has the latest most up to date tractor their land can use. Adding more tractors (capital) does not increase the output of these farms. The same is true for capital in general.”

    Why on earth would one want to add another tractor, when what one needs is another form of capital that will increase production – a combine harvester?

    In addition, it is not ‘invention’ of itself that creates added value – there are a zillion inventions that are worthless – what are useful are new products (some of which will make existing or new products, better or cheaper). A product being an invention that has economic value.

    Useful ideas are a form of capital – they are economic values that do not get consumed in the process of production.

    Yes, one needs new, useful ideas for growth, so do we need capital (without which the new ideas are worthless).

    Comment by Ray Cathode | July 22, 2016 | Reply

    • You combine example is showing that you are evading the point. All capital is represented by the tractors. Only by adding new technologies can you increase wealth.

      Yes, I see you want to conflate the two. This is the sort of thinking that causes economics to dissolve into meaningless chaos. You would never have separated out friction from gravity from wind resistance, they are all forms that affect motion.

      Comment by dbhalling | July 24, 2016 | Reply


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