An Entrepreneurship Essay

The root of economists' interest in entrepreneurial theory stems from a desire to define the entrepreneur in the context of the wider economy. The Classical and Neo-classical theorists were among the first to tackle this issue, followed more recently by Process theorists, all of which will be examined in this essay. Each of these schools of thought has proved valuable in the identification of terms which have become synonymous with the role the entrepreneur in the economy and have thus shaped the understanding of entrepreneurial behaviour. However, the work of economists on the subject of entrepreneurial behaviour has received more criticism than praise. This essay will examine the key entrepreneurial theories posited by economic thinkers and the critical response to them. It will argue that, while there are some benefits to economic analyses of entrepreneurial behaviour, the theories' substantial limitations greatly hinders their relevance when applied to the modern entrepreneur. The first economic theory to examine is from Adam Smith's 'An Inquiry into the Nature and Causes of the Wealth of Nations' (1776). Here, Smith made predictions about the future economy (which was being shaped by forces of Enlightenment, Mercantilism and the Industrial Revolution) and theorised how nations would accumulate riches through pursuit of self-interest, which would facilitate the creation of a supply equal to the nation's demand, and at an optimum price. The concept that people will do this of their own accord is known as the theory of the 'invisible hand', and a state where demand and supply are equal, as 'market equilibrium'. Smith's equilibrium offers benefits in understanding entrepreneurial behaviour as his theory is canonical, and all economists who have since studied entrepreneurial behaviour have a grounding in this work (Down, 2010). Despite this, Smith's contribution to the economic analysis of entrepreneurial behaviour is limited. There have been factors which he failed to foresee in 1776 which have prevented market equilibrium becoming a reality, such as the presence of market failure enabling monopolies to be created. A monopolistic organisation can restrict output below the ideal level and drive prices above the equilibrium rate. This has meant that while Smith's theory is useful in creating theoretical models, it lacks practical validation in the real world, and so is an unreliable theory when analysing entrepreneurial behaviour. Smith's ideas have also been criticized amongst those who study entrepreneurship for having no role for the innovative entrepreneur in his equilibrating economy. The fact that Smith fails to recognise an entrepreneur inhibits the usefulness of his theory, as one cannot examine entrepreneurial characteristics if the theory does not encompass the economic role of entrepreneurs. While these are valid criticisms, it should be noted that the 'Wealth of Nations' aimed to predict outcomes of a new economic world. It did not set out to define the entrepreneur, nor to say with certainty that the model of market equilibrium would take hold. Consequently, while there are criticisms of Smith's theory, they misinterpret the meaning of his work, which has given economists studying entrepreneurial theory a model for their studies. Although Smith's theory has little to offer in understanding entrepreneurial behaviour, the Classical school itself has more to give. French economist Jean Baptiste Say (who worked after Smith but within the same economic context) concocted a theory whereby supply would create its own demand. In theorising this, Say identified a role of the entrepreneur; that of combining their innovative talent to the established factors of production (land, labour and capital) to produce goods, pay wages and make profit (Ibrahim and Vyakarnam, 2003). While this is a limited view of the modern entrepreneur, it is the first meaningful economic identification of such a being and the activities one would undertake and cannot, therefore, be overlooked when examining entrepreneurial behaviour. Similarly to Smith, Say was too unsure about the economy that was developing around him to make more specific predictions about the habits of entrepreneurs, such as their alertness or risk taking qualities, which neo-classical economists highlighted. While it is evident that Classical economists laid the foundations for economic analyses of entrepreneurial behaviour, their lack of certainty over the world economy at the time and the role (if any) the entrepreneur would play are major limitations to their analyses, as it makes their studies of this area extremely vague. Joseph Schumpeter, a neo-classical economist working a century and a half later than Smith, set up his theory of 'creative destruction' on opposing lines of thought to Smith's equilibrium. In Schumpeter's work, established firms are destroyed by new ones possessing improved technology. This shifts the market out of equilibrium, and in doing so creates a role for the entrepreneur- that of creating the ingoing firms. This re-building of economies has seen Schumpeter's entrepreneur made out to be a 'hero'. There can be little doubt that Schumpeter's 'creative destruction' is a more thorough economic analyses of entrepreneurial behaviour than Smith's work, as unlike Smith, Schumpeter identifies an entrepreneur. Furthermore, Schumpeter gives a useful economic analysis of entrepreneurial behaviour as he identifies a key characteristic - an ability to create new industries. However, this 'hero' only thrives in creating new economies meaning very few business ventures can be considered entrepreneurial. This led William Baumol to argue "it is necessary to expand Schumpeter's list" and make it less exclusive in order to better understand entrepreneurial behaviour, a strong argument given the evidence (Baumol, 1996: 897). Thus, while the theory of 'creative destruction' is useful in analysing the behaviour of the entrepreneur, it is too exclusive, which limits its practical application. It should be noted, however, that all neo-classicists studying entrepreneurship have been accused of "disregarding vision and strategy over time", meaning Schumpeter does not stand alone in this shortcoming (Ibrahim and Vyakarnam, 2003: 5). In addition to the theoretical failings discussed in the previous paragraph, Schumpeter's theory has also proven incorrect when put into practice. Mary Tripsons researched the process of 'creative destruction' within the 1980s typesetter industry (while it was undergoing significant technological changes). She found that "specialised complimentary assets [including strong brand names possessed by older companies] played a crucial role in buffering incumbents from the effects of competence destruction" (Tripsons, 1997: 119). She argued a lack of knowledge from new firms as to how best market their technology, combined with a willingness of incumbent firms to invest in technology, meant the typesetter industry avoided 'creative destruction' (Tripsons, 1997). Furthermore, the application of Schumpeter's theory during 'Great Depression America' led to the voluntary collapse of thousands of banks in order to rid the "rottenness" from the economy (Conway, 2009: 149). Unfortunately, no 'hero entrepreneur' emerged and it took the American economy decades to recover. It could be argued that these failings greatly affect the validity of Schumpeter's work when examining entrepreneurial behaviour, as if the theory does not prove itself in practice, there is little to be gained from utilising it in this analysis. However, as these are only two practical cases that conclusion is debatable, as the process of 'creative destruction' may occur in numerous other industries outside these examples. Indeed, as this essay will later explore, there is room for Schumpeter's work when analysing this topic. Opportunity recognition has become inextricably linked with the study of entrepreneurial behaviour, a fact stressed by neo-classical and process theorists alike, with Schumpeter arguing that the entrepreneur creates opportunities out of nothing (Down, 1997). However, there has been debate amongst neo-classicists over whether opportunities are created or discovered and which theory is more useful in understanding entrepreneurial theory today. Israel Kirzner believes that an entrepreneurial characteristic lies in the ability to discover opportunities using "knowledge and information that is all around us" (Kirzner, 2008: 146). While Schumpeter's entrepreneur will create an entirely new world to operate in, Kirzner's "does not need to be creative at all" (Kirzner, 2008, 148). Rather, it relies on sub-conscious hunches which allow entrepreneurs to be alert to price differentials (Cunning, 2004). Scott Shane's process theory similarly centres around the idea of opportunity recognition as being key to entrepreneurial identity and seeks to expand neo-classical thought and to "reform some of the unsustainable tenets of neo-classical theory" (Down, 2010: 50). Shane proposes that the entrepreneur is distinguished from others by their reliance on opportunities that are there to be exploited. While this is a valid theory, it does not progress Kirzner's line of thinking enough to be considered as a useful resource in explaining entrepreneurial behaviour. The question which must be considered when studying opportunity recognition in relation to the entrepreneur is whether opportunities are created or discovered. When one examines Kirzner's theory of alertness closely it seems markedly similar to Schumpeter's creation theory. If opportunities are discovered through individual perception (meaning entrepreneurs are alert to the opportunities around them) how do non-entrepreneurial beings know these opportunities exist objectively in the economy? When described in this manner, it sounds as though the entrepreneurs are in fact creating these ideas in their minds, a process very similar to that described by Schumpeter. Indeed, genuine economic scholars feel that opportunities are made through the Creative Process Paradigm, whereby "relations between people, institutions, material objects, physical entities and language" forge opportunities. (Down, 2010: 54). Although the matter is more complex than this, as the Creative Process Paradigm does not explicitly agree with Schumpeter in precisely how opportunities are created, the fact that specialised entrepreneurial theories agree with his concepts per se means that Schumpeter's opportunity theory is very useful in analysing entrepreneurial behaviour. Although Schumpeter's descri ption of the opportunistic entrepreneur aligns closer with the thinking of genuine entrepreneurial scholars, that is not to say the thoughts of Kirzner and Shane are worthless when analysing entrepreneurial behaviour. The term 'entrepreneur' is widely used, encompassing much of the population. There is nothing to say there cannot be any number of variants when describing entrepreneurs, and within this 'catch-all' term there is surely space for those who find opportunities in the world around them, who have different attributes to Schumpeter's characters but attributes which are equally entrepreneurial. Another crucial characteristic of entrepreneurial behaviour that has been identified and analysed by the neo-classical school and process theorists alike, is the entrepreneurs ability to make good decisions in the face of risk and uncertainty, as posited by Frank Knight (Down, 2010). These actions highlight the audacity associated with the modern entrepreneur (Ibrahim and Vyakarnam, 2003) and Down views this ability as crucial to today's definition of the entrepreneur, arguing it is still applicable because of the "continued relevance of uncertainty and deficits of information about the future" (Down, 2010: 45). The identification of such attributes means that Kirzner's thinking provides a useful theory from the neo-classical school in examining entrepreneurial behaviour. There have, however, been arguments made that this theory is unreliable in explaining the role of the entrepreneur as it is too broad (Ibrahim and Vyakarnam, 2003). If making decisions in the face of uncertainty is entrepreneurial, then surely, it has been argued, capital investors of any sort are entrepreneurs. Such critics consider Mark Casson's process theory, which defines entrepreneurs only by their decision making as to whether or not the market is in the right state for an entrepreneur to enter, as a more well-rounded theory which overcomes the issue of being too broad. Indeed, William Baumol falls into this category, agreeing with Casson and arguing "the rules of the game that determine relative payoffs to different entrepreneurial activities do change dramatically between time and place" (Baumol, 1996: 899). The criticisms of Knight's work are, however, hypocritical from genuine entrepreneurial academics. This essay has already highlighted that Schumpeter's work was criticised as too narrow when defining the entrepreneur's role. Yet Knight's has subsequently been criticised as too broad. It is apparent that those who study entrepreneurship are pre-disposed to condemn neo-classical thought in their area. While Knight does have a broad definition of the entrepreneur, it is those who make the best decisions in the face of the greatest uncertainty who are his true entrepreneurs. Furthermore, while Casson's theory has been seen as an improvement on Knight's by some, it is a model which does not explain the manner in which entrepreneurs will be able to recognise the right moment to enter the market. It therefore falls victim to the same short-comings of neo-classical thought, in that it is "disregarding of vision and strategy over time" (Ibrahim and Vyakarnam, 2003: 5). In conclusion, despite the identification of key entrepreneurial attributes by economists, they have some way to go before they make genuine contributions to the analyses of entrepreneurial behaviour. While neo-classical and process theorists give a good grounding in key attributes of entrepreneurial behaviour they need to go further in their studies. Ibrahim and Vyakarnam argued that there is a need to take "opportunity recognition and exploitation" and "integrate it with human ingenuity and creativity within a dynamic model" (Ibrahim and Vyakarnam, 2003). It is this lack of complexity in economic entrepreneurship models that makes entrepreneurship "the phenomenon which is most emphasised yet least understood by economists" (Vera Catarina Rocha, 2012: 26).