Creative Destruction or Creative Accumulation?

by Reihan Salam

Speaking of Tim Lee, I very much enjoyed his recent discussion of “Two Views of Innovation,” a subject that Ashwin Parameswaran has also addressed in creative and provocative ways.

Tim posits a Schumpeterian view of innovation, predicated on the notion that the bigger the incentives for innovation, the more firms will invest in innovation and the more innovation we’re likely to get, and a Hayekian view of innovation, which holds that centralization is a threat to innovation because innovation depends on a steady stream of new entrants that will try new approaches.

Copyright and patent law are an important area of disagreement between the two camps. Schumpeterians tend to be concerned with the “free rider problem”—the risk that firms will fail to innovate because they can’t capture a large enough share of the positive externalities from their innovations. Schumpeterians like Richard Epstein advocate strong patent and copyright laws to help firms capture the surplus created by their innovations.

On the other hand, Hayekians worry that strong patent and copyright protections produce excessive centralization, discouraging innovation in the process. They emphasize that it’s more important to leave the market open for new entrants than to maximize the profits of the first firm to develop a particular technology.

Tim explains why he is in the Hayekian camp:

I’m in the Hayekian camp because I see overwhelming evidence that firms are much less versatile and rational than the Schumpeterian worldview assumes. Take, for example, the many companies that have tried and failed to produce commercially viable alternatives to the iPad. Microsoft is a particularly poignant example. A decade ago, Steve Ballmer clearly understood that there would be a huge market for tablet PCs. The company has thousands of engineers on staff and spent millions of dollars to create a tablet computing platform. It was a total failure, and I think it’s likely the firm would have failed even if it had spent 2, 3, or 10 times as much on the product.

Building an iPad didn’t just require millions of dollars, it required that those millions be spent by the right company. And the only way to figure out which company is the right one is to let a bunch of them try and fail.

I asked Jim Manzi and Gabriel Rossman for thoughts on Tim’s post, and they were kind enough to reply. I’ve edited their responses for length. Jim, who writes about a related set of issues in Uncontrolled, noted that Schumpeter’s view had evolved over time:

It’s always tricky to characterize Schumpeter in these discussions, as he held two very different views on innovation during his career. His early idea, or Schumpeter Mark I, is what we all know as “creative destruction,” and famously emphasizes the role of the so-called entrepreneur-of-legend in upsetting the applecart. His later idea, or Schumpeter Mark II, is often called “creative accumulation,” and emphasizes the role of large-scale corporations in driving innovation. So, a very confusing aspect of trying to summarize each side of this debate with a personality idealization, is that almost everybody thinks of Schumpeter as the creative destruction guy, when in fact the Schumpeter of this debate is the Schumpeter of creative accumulation.

Later scholars have tried to describe different technological regimes (e.g., how cumulative is knowledge, how universal is it, etc.) that unify the “two Schumpeters,” and argue that Mark I or Mark II is more appropriate in different circumstances. They will sometimes argue that if you plot some index of market concentration on the X-axis and some measure of innovation on the Y-axis, then you will see a curve that looks like an inverted U — there is some Goldilocks region of competition that maximizes innovation.

Gabriel shares Tim’s broad take, adding that economic sociologists tend to take an unromantic view of firms:

If we had a creedal confession of faith it would probably start off with our belief that firms satisfice rather than maximize with a strong preference for inertia, that we have bounded rationality rather than perfect information, that new market opportunities are not self-evident, and that transaction costs to Coasean bargaining are non-trivial.

He also suggests that Clayton Christensen offers one strategy for reconciling Schumpeters I and II:

That is, well capitalized incumbents are good at gradually optimizing an existing product line to be 5% more efficient every year whereas entrepreneurs are better at creating entirely new product lines. If you view the telecom/content ecosystem as something ripe for disruptive change with the continued decoupling of pipe from content then Christensen’s model suggests that we should pay attention to Schumpeter Mark I (a.k.a. Hayek/Arrow).

What this means for the regulatory landscape is somewhat unclear. But I certainly share Tim’s view that the status quo isn’t best understood as the outcome of market competition. We’re living in a second-best world.

The Agenda

NRO’s domestic-policy blog, by Reihan Salam.