The inherent “driver” of the capitalist economy is innovations. When basic innovation reach their saturation phase, the economy goes into a crisis, until new innovations are realized, transforming the economy. This transition process is painful and usually takes the form of recession. That much for the real economy. Things get really nasty when on top of this, pent up financial speculation implodes. Unwinding the financial mess is essentially a matter of political will. Overcoming the crisis in the real economy, however, necessitates the realization of basic innovations creating new production methods, products and employment. The world’s largest manufacturing fair in Hanover, is a good opportunity to think about innovations as being the key for the way out of the crisis.
By Michael Liebig
The very same mainstream economists and economic experts, who until September 2008 had told us that Anglo-American model of capitalism would guarantee never-ending prosperity, are now seeing no bottom in the financial-economic crisis, which was caused by the very economic paradigm they had earlier on promoted so passionately. Prompted by the latest doom scenarios, on April 22, 2009, the “German Chambers of Industry and Commerce” (DIHT) warned against “fearmongering” and flatly rejected a new “stimulus package” for the German economy.
Needless to say, while wallowing in ubiquitous gloom and doom, the economic “experts” remain tight-lipped when it comes to the ultimately decisive question: What will stimulate the real economy in terms of technological and other innovations, generating new production methods, products and employment opportunities? In trying to find answers to this question, there are better ways than consulting “economic institutes” – for example, taking a look at the Hanover Fair. During the week of April 20-24, 2009, more than 6000 manufacturing firms from 60 countries came to Hanover to participate at the world largest industrial fair.
The mood at the Hanover Fair was one of soberness and concern. German exports in 2009 will likely decline by 9% instead of the 1% forecasted by the DIHT in January; and the German GDP will probably shrink by 5%. But the mood in Hanover was neither depressive nor panicky. Technology-vectored industries and particularly small and medium-sized enterprises (SMEs) can’t afford the luxury of indulging in pessimism. They do know that the only way to stay in business is innovation. Reviewing this year’s Hanover Fair, the Frankfurter Allgemeine Zeitung titled an article “Innovation Fire Works amidst Dark Clouds”, noting that exhibitors presented more than 4000 innovations in the areas of machine tools, electrical engineering, energy technology and automation.
The “Invest to Save” Paradox
Let’s begin on the microeconomic level. When, as it is presently the case, manufacturing firms are confronted with shrinking orders and sales revenues, they have to cut costs. But where to cut?
According to the neoliberal paradigm, the first thing a company should do in a recession is firing employees, slashing investments and do outsourcing. But most technology-vectored companies have – so far – not done so. One reason is that most of them have accumulated a solid capital base, due to good revenues during past years. The other, more important reason, is longer-term thinking: If costs have to be cut, it should not be done in manner that would permanently damage the firm’s productive capacity – i.e. competitiveness – and its ability to gear up output under better circumstances.
What would be alternatives to auto-cannibalistic disinvestment and firing experienced skilled workers and engineers? At the Hanover Fair, such alternatives were offered: The lasting reduction of costs for materials and energy as well as transaction costs in the production process. Of course, that should not mean cheaper, lower quality primary products, degrading the quality of the end product. The key here is an improved technical efficiency of production machinery, along with the optimization of their utilization, the minimisation of defective output, and the reduction of logistical and other transaction costs. Doing this, translates into increased productivity, profitability and competitiveness on a sustainable basis.
A good illustration of this approach was provided Prof. Engelbert Westkaemper of the “Fraunhofer-Gesellschaft for Applied Research,” a public institution with some 15,000 scientists and engineers working in 57 “Fraunhofer-Institutes” across Germany. Speaking to the FAZ at the Hanover Fair, Westkaemper elaborated on the emerging technology of “multi-functional production machines”: He said: “The key factor is knowledge. We must find ways to transfer systematically our knowledge into the machine. A completely new generation of production facilities is emerging, in which machines will memorize functions and thus gain a kind of ‘memory’. The machine itself will know how to operate optimally [in executing varying functions], and with this capacity it can be linked to other such machines.” Thus, not only the utilization of machines and their “consumption” of primary products and energy, but the efficiency of the total, integrated production process can be optimized.
With the emerging technology of multi-functional production machines, Westkaemper also foresees a reversal of the outsourcing trend in manufacturing. That point was also made in the study “Modernizing Production” of the “Fraunhofer-Institute for Systems and Innovation Research” (ISI), which was presented at the Hanover Fair. The survey of 1.600 German manufacturing firms showed seemingly surprising results: First, there is a positive correlation between in-house production depth and productivity: “Opposite to fashionable management recommendations, especially those firms have a superior productivity performance which possess a great in-house production depth – because they have remained cautious on outsourcing or have re-adopted insourcing”. For a long time the real transaction costs – not just logistical costs – of outsourcing have been underestimated, notes the ISI study. The second factor for superior productivity performance is the qualification of employees. The higher the average qualification of –“costly” – employees, the more productive – i.e. profitable – is the firm, states the ISI study. Thirdly, the ISI survey shows: The greater the in-house production depth, and the higher the employees’ qualification, the better is the export performance – the key indicator for competitiveness. Under economic crisis conditions, focussing on these productivity reserves is of critical importance, concludes the Fraunhofer study.
Obviously, we have a paradox here: In order to cut production costs on a sustainable basis, investments in new technologies have to be made. In simple terms: “Saving by investing.” And, in order to improve productivity/profitability and competitiveness, innovative structures and methods of production with highly qualified (and costly) staff have to be introduced. Again, investment as the way to stay in business.
Such productivity-raising investment to cut costs occurs on the microeconomic level. And, most of this cost-cutting investment would have to be categorized as “incremental” innovations, as opposed to “basic” innovations generating qualitatively new technologies and products with “spin-offs” throughout the economy. But the microeconomic necessity for “saving by investing” can generate a macroeconomic dynamic. Incremental, productivity-raising technological innovations can become a “wave” in the broader manufacturing sector. Therefore, incremental technological innovations are an important part in an effective anti-crisis-strategy.
The “Creative Destruction” Paradox
Of course, incremental technological innovations alone will not suffice for a turn-around of the current economic crisis. More important are basic innovations generating qualitatively new technologies and social structures. Basic innovations are the fundamental “driver” of economic development. Basic innovations are the conditio sine qua non of “prosperity cycles” in capitalist economies, and the fading out of basic innovation dynamics is the prime cause for the cycles of economic decline in capitalism.
We owe this insight to two great economists in the first half of the 20th century: Joseph. A. Schumpeter and Nikolai Kondratiev. The “liberal” Schumpeter was a scientist great enough to acknowledge Karl Marx’ crucial contribution in identifying this inner dynamic of self-transformation within the capitalist economy; in that, Schumpeter referred to the economist Marx, not the sociologist and political ideologue. Schumpeter also established that the innovation dynamic, inherent in capitalism, eventually leads to saturation and stagnation and then to painful and difficult dislocations and reorganisations, as new emerging innovations arrive and transform the economy. Thus, instability and crises are fundamental features of capitalism – as far as the real economy is concerned. But at the same time, crises in the sense of “creative destruction” are also the key to the success of capitalism. In the socialist command economy, cyclical crises, recessions were averted, but at the price of technological stagnation. The socialist command economy broke down, because it could not match the innovation dynamics of the capitalist economy, even though the Soviet Bloc produced world-class results in many fields of science.
Schumpeter’s economic theory of innovation – “creative destruction” – applies to the real economy only. The financial sector in the capitalist economy knows no “physical” boundaries, if decoupled from the real economy. Thus, endemic speculation and “irrational exuberance” turn into “panic liquidation” of financial assets because, opposite to the real economy, the financial sphere has no “built-in checks”. If left to itself, the capitalist financial realm will go from euphoric excesses into an “auto-aggressive” depression – pulling the real economy down with it. Therefore, the “liberal” Schumpeter becomes a radical “regulator” as far as the financial sphere is concerned, uncompromisingly insisting on the strict linkage between financial activities and the real economy. To enforce or re-enforce this linkage is a matter of financial-technical competence and political will – not an intrinsic economic problem.
It’s worthwhile to think over what Schumpeter wrote in 1939 about the “Great Depression”:
„The dimension of indebtedness in America and the American ‘bank pandemics’ – there were three of them – are a class of their own. The way in which both companies and households had piled on debt during the 20s, clearly demonstrates that the accumulated debt burden was the central cause for the sudden and deep fall into the depression… But the rate of growth of debt, as it occurred in the USA, is neither a normal element of the recession phase of the Kondratiev cycle [in the real economy]… nor is it a comprehensible secondary phenomenon [of the Kondratiev cycle] with speculative excesses and corresponding debt.”
However, concerning the 1930s crisis in the real economy, Schumpeter noted soberly, the world economic crisis “was – in essence – not a totally new event, no unprecedented catastrophe as the manifestation of totally new factors, but the recurrence of what had happened, under similar circumstances, in earlier times”.
“Innovations Overcome the Depression”
Under crisis condition, the “physical” and logical primacy of the real economy necessitates clearing the way for the innovative self-transformation of the economy. This means creating a benign and supportive environment for the rapid realization of innovations – basic innovations in particular, because they impact and transform the economy as a whole.
The great problem of John Maynard Keynes’ economic theory – just as in “classic” and “neo-classic” theory – is the disregard for technological innovation. This conceptual gap is of great practical relevance in today’s crisis. The currently fashionable neo-Keynesian fiscal “stimulus” programs – ranging from bank bailouts, tax cuts, subsidizing car sales to infrastructure repair – are holding actions – at best. Fiscal “stimulus” programs “across the board” do not transform the technological base of the economy and will not lead to lasting, large-scale investment – the precondition for overcoming the crisis.
In 1975, the German economist Gerhard Mensch published his book “Stalemate in Technology – Innovations Overcome the Depression”. During his studies in the United States, Mensch had made the acquaintance of close disciples of Schumpeter. Drawing on Kondratiev’s “long wave” theory, Mensch refined Schumpeter’s general innovation theory, by differentiating between “basic” and “incremental” innovations. Basic innovations trigger not a “wave,” but a “shock wave” or a “pulse” – transforming the overall economy.
In terms of Mensch’ theory, the world economy is currently stuck in a technological “stalemate” phase. The past decades’ basic innovation – information technology – is ebbing out. The potential for a new cluster of basic innovations is there, but it remains – to varying degrees – below the threshold of operational availability which would attract large-scale investments. The nature of scientific-technological progress means that, in most cases, technological breakthroughs necessitate a growing input of brainpower and material resources in basic and applied research and in development. Therefore, a concerted effort of the state (or states) and private actors is required.
There is a broad array of emerging technologies, meeting the criteria of “basic” innovations, which are in various stages of approaching the threshold of operational and commercial application. Just to mention a few: nanotechnology, hydrogen drive, advanced environmental technologies or fusion power, or – outside the technological sphere, but probably even more important – social-organizational innovations like the extension of productive working life. These emerging technologies need generous public and private funding to make them commercially applicable. In the past, the necessities of war let to “crash programs” transforming emerging technologies rapidly into operational ones – albeit for military use. If the current economic crisis, triggered by the US-centred financial crisis, is indeed as serious as it seems to be, there is no excuse not to initiate and adequately fund public-private “crash programs” for basic innovations.