Personal Gain and Societal Loss ? The Responsibility of the Entrepreneur

This piece appeared in the Irish Times on 21st May 2012.

In it,  I revisit Joseph Schumpeter’s endorsements of the Entrepreneur and ponder whether personal gain should ever be at the expense of societal loss…

“Economic progress, in capitalistic society, means turmoil” stated the Austrian-Hungarian economist Joseph Schumpeter in his “Capitalism, Socialism and Democracy”, first published in 1942.  While Karl Marx had identified economic depressions as the fatal flaws in a capitalistic system, Schumpeter instead viewed depressions as vital for the health of capitalism. He explained that economic prosperity results from economic growth, as new products and technology are introduced. However ultimately exuberance emerges as some firms over-reach, and credit is overly generous. The cycle then reverses, growth diminishes, and poorly managed firms fail. Schumpeter believed that depressions cleanse an economy, laying the foundation for subsequent further growth via healthy and well-managed firms.

Schumpeter identified a further form of economic turmoil: the damage caused to some firms by the creativity of others. “Creative destruction” results from a continuous process of competition and improvement in turn destroying weaker firms.

Schumpeter believed that the core engines of economic growth are not in fact economic, but social and institutional. In particular he asserted that the heart of capitalism is innovation. Few people are capable of identifying the commercial opportunities for new inventions, but entrepreneurs find and exploit them for private gain. Unlike classical economics in which investments can only come from past savings, Schumpeter observed that entrepreneurs (frequently) do not save or accumulate goods before they produce, but rather borrow other peoples’ money to build their firms. He thus classified entrepreneurial endeavors as personally risk-free, since the direct economic risk is carried by the investors rather than the entrepreneur who only carries a reputational risk. Successful entrepreneurs personally gain, but Schumpeter observed that society at large also subsequently wins. He observed that almost all increases in society’s standards of living are due to innovation by entrepreneurs.

As we battle with our own economic depression and as we debate austere strategies to manage Europe back to growth, one wonders whether Schumpeter’s economic cycles and his assertion of the necessity of creative destruction are both inexorable. He would doubtless have tried to encourage us today by anticipating a new surge of entrepreneurship and innovation to reverse the current cycle and generate a fresh wave of growth. Some of us are indeed experiencing a renaissance in the Irish economy via a vibrant revival in the ICT, the agri-food and the biosciences sectors. But in rebuilding our economy, we should consider what are the appropriate policies and mechanisms to nurture sustainable growth, private reward and societal benefit.

The Celtic Tiger era arguably was one in which most (but certainly not all) of society benefitted concurrently with certain risk-takers. A few property financiers bought a competitive advantage for themselves by the trivial tactic of borrowing money from other people: they obtained cheap European debt and re-lent it to Irish property speculators, and kept on borrowing more and more so as to maintain their leadership position in lending to the Irish market. Meanwhile, the established banks struggled to catch up by mimicry: their conservative executive teams came under shareholder and board pressure to compete, or step out of the way and resign. The economy surged, the risk-takers personally benefitted but so also did much of society, at least in the short term. An acquiescent, compliant and complicit political leadership cheered on from the sidelines, supremely grateful for the adulation of a largely content populace.

Schumpeter noted that entrepreneurship was economically risk-free, since entrepreneurs borrow other peoples’ money. The tragedy of the demise of the Celtic Tiger is that the few key entrepreneurs involved borrowed other peoples’ money to such an extent that the political leadership of the day ultimately and very belatedly were coerced to intervene, under pressure to defend the global perception of the European banking system, and thus placed the entire Irish nation at extreme risk. When Lehman and other US financial institutions failed and global credit reduced, this end of the economic cycle almost destroyed the Irish banking system. The Irish economy was similarly almost destroyed, and has sought rescue from those who had been more attentive and creative during the cycle.

Schumpeter’s assertion that the heart of capitalism is innovation and entrepreneurship is correct. His assertion that societal gain always follows personal entrepreneurial gain is however suspect. Is it ever appropriate for personal entrepreneurial gain to subsequently place society at risk ? The capacity for an entrepreneur to repay not just in full but also at profit, should always be the yardstick by which yet even further investment in that same entrepreneur is assessed: under what conditions can an entrepreneur ever be permitted to borrow yet even more money, when past loans are still outstanding ? Is it ever appropriate for lenders and investors to be inattentive, trusting that other lenders and investors have already done adequate diligence? Now the Irish nation is being permitted to borrow yet even more money, despite our outstanding national debt, and our lenders are apparently being continuously and deeply diligent.

Schumpeter observed: “Nothing is so retentive as a Nation’s memory.” Future Irish generations will remember us and the Celtic Tiger.

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One Response to Personal Gain and Societal Loss ? The Responsibility of the Entrepreneur

  1. anthonybehan says:

    There are entrepreneurs, and then there are innovators; then there are speculators, and gamblers. They are not all the same! Most entrepreneurs I know (and I know quite a few) are actually less motivated by personal financial gain, though none denies that it’s nice! On the other hand, those that drove the Celtic Tiger were driven by nothing else. If the core engine of economic growth is not economic, perhaps the engines of genuine entrepreneurs are also alternately fueled!

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