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

Capital in Disequilibrium: The Austrians’ Answer to New Growth Theory

This book, Capital in Disequilibrium: The Role of Capital in a Changing World by Peter Lewen, is supposed to be Austrian Economics’ answer to “new growth theory”, which recognizes that new human knowledge is the most important component to economic growth.  As opposed to the “old” ideas on growth which claimed economic growth was the result of increases in land, labor, or capital.  Old school growth theories focus primarily on increases in capital.  Perhaps the two biggest figures in new growth theory are Robert Solow and Paul Romer.  Robert Solow won the Nobel Prize in economics for his econometric study showing that technological change was the key driver in the US economy.  Sadly he then said technological change was not part of the study of economics, it was like background radiation and beyond our control.  Paul Romer takes over from Solow by making technological change part of the study and policy recommendation of economics.

humeThis book suffers from many of the same problems other economists who have explored new growth theory have had.  They attempt to graft the findings of new growth theory onto their preconceived ideas about economics.  For example, Robert Solow is a Keynesian so he has attempted to just tweak Keynesian ideas to fit this new information, instead of understanding that this new information required a whole new look at and approach to economics.  Paul Romer is what I would call a “mathematical Keynesian” and is also trying to fit a square peg into a round hole.

This book attempts to take the finding s of new growth theory and meld them into Austrian Business Cycle Theory (ABCT).[1]  ABCT claims that economic growth is the result of increases in capital/savings.  There is no evidence that increases in savings or capital in anyway result in economic growth and plenty of evidence to the contrary.[2]  Pasting some of the ideas of new growth theory onto ABCT neither solves the problems with ABCT nor adds anything to new growth theory.

The author’s ideas on scientific and technical knowledge come from Karl Popper, who has argued that knowledge is impossible.  This is not surprising as it is consistent with Hayek’s ideas of cultural evolution, which argues that reason is limited and it is conceit to suggest that anyone can use reason to determine a correct societal structure.  Both Hayek and the author are fans of David Hume (See Lewin’s youtube “Peter Lewin on Austrian Capital Theory – Part 1”).  David Hume you will remember said causality was an illusion and brought us the “is ought” problem in ethics.  In other words, Hume attacked the very basis of reason, logic, and ethics.  Hume is part of the Scottish Enlightenment, which elevated emotions above reason.  The Scottish Enlightenment underpins all of Austrian Economics.  The other philosophical tradition behind the Austrians is philosopher Franz Brentano who raised the psychology of the person to a primary.

It is not surprising then that the author concludes “The superior performance of capitalist economies cannot be logically ‘proved.’”  Under the author’s ‘implications for policy’ section we get this,

“It involves not only, or primarily, the addition of existing capital equipment but rather the introduction of progressively more technically advance equipment, the production of which is made possible by an institutional environment in which the discovery of such technical advances is encouraged.”

Interestingly enough the author never explains what encourages technological advances and he never even mentions property rights for inventions, i.e., patents.  Even Solow and Romer realize that they cannot ignore patents, however contrived their arguments are for dismissing them.

One of the reasons the author ignores patents is that he emphasizes what he calls “tacit knowledge.”  Tacit knowledge is something we know but cannot prove or of which we are not conscious.  This is perfectly consistent with the Austrian ideas that reason is limited or ineffectual.  As a result, he talks a lot about innovation and never mentions inventors.  He talks about organizations, but never individuals.  He talks a lot about production and ignores invention.  Austrians like to scream they are capitalist or free market, but they are certainly not pro-individualistic.  This is not surprising as this would require a commitment to the power of the individual mind to understand the world.  The author further reveals his collectivist ideas when emphasizes that the knowledge that is important to the economy is “social knowledge.”  The Austrians are collectivists.  They believe central planning interrupts the functioning of the process of gaining “social knowledge.”

This book does not contribute anything to new growth theory.  The only reason to read this book is to better understand the underlying principles of Austrian Economics, which are not pro-reason, pro-individual, or pro-capitalism (The economic system that occurs when the government protects individual rights.)

[1] A Graphical Introduction to the Austrian Business Cycle Theory, Gaurav Mehra, https://mises.ca/posts/articles/a-graphical-introduction-to-the-austrian-business-cycle-theory/, accessed 9/8/15

[2] [This] technique has been applied to virtually every economy in the world and a common finding is that observed levels of economic growth cannot be explained simply by changes in the stock of capital in the economy or population and labor force growth rates. Hence, technological progress plays a key role in the economic growth of nations, or the lack of it.  http://en.wikipedia.org/wiki/Growth_accounting.

 

September 9, 2015 Posted by | -Economics, Innovation, philosophy | , , , , , , , | 3 Comments