Man, Economy, and State with Power and Market

At any given time, then, there will be a shelf of available and more productive techniques that remain unused by many firms continuing with older methods. What determines the extent to which these firms adopt new and more productive techniques?

The reason that firms do not scrap their old methods immediately and begin afresh is that they and their ancestors have invested in a certain structure of capital goods. As times and tastes, resources, and techniques change, much of this capital investment becomes an ex post entrepreneurial error. If, in other words, investors had been able to foresee the changed pattern of values and methods, they would have invested in a far different manner. Now, however, the investment has been made, and the resulting capital structure is a given residue from the past that supplies the resources they have to work with. Since costs in the present are only present and future opportunities forgone, and bygones are bygones, existing equipment must be used in the most profitable way. Thus, there undoubtedly would have been far less investment in railroads in late nineteenth-century America if investors had foreseen the rise of truck and plane competition.33 Now that the existing railroad equipment remains, however, decisions concerning how much of it is to be used must be based on current and expected future costs, not on past expenses or losses.

An old machine will be scrapped for a new and better substitute if the superiority of the new machine or method is great enough to compensate for the additional expenditure necessary to purchase the machine. The same applies to the shifting of a plant from an old location to a superior new location (superior because of greater access to factors or consumers). At any rate, the adoption of new techniques or locations is limited by the usefulness of the already given (and specific) capital-goods structure. This means that those processes and methods will be adopted at any time which will best satisfy the desires of the consumers. The fact that investment in a new technique or location is unprofitable means that the use of capital in the new process at the cost of scrapping the old equipment is a waste from the point of view of satisfying consumer wants. How fast equipment or location is scrapped as obsolescent, then, is not decided arbitrarily by businessmen; it is determined by the values and desires of consumers, who decide on the price and profitability of the various goods and on the values of the necessary nonspecific factors used to produce these goods.34

As is often true, critics of the free market have attacked it from two contradictory points of view: one, that it unduly slows down the rate of technological improvement from what it could and should be; and, two, that it unduly accelerates the rate of technological improvement, thereby unsettling the peaceful course of society. We have seen that a free market will, as far as the knowledge and foresight of entrepreneurs permit, produce so that factors are best allocated to satisfy the wishes of consumers. Improvement in productivity through new techniques and locations will be balanced against the opportunity costs forgone in value product from using the existing old plant.35 And ability in entrepreneurial foresight will be assured as much as possible by the market’s process of “selection” in “rewarding” good forecasters and “penalizing” poor ones proportionately.

THE ENTREPRENEUR AND INNOVATION

Under the stimulus of the late Professor Schumpeter, it has been thought that the essence of entrepreneurship is innovation—the disturbance of peaceful, unchanging business routine by bold innovators who institute new methods and develop new products. There is, of course, no denying the importance of the discovery and institution of more productive methods of obtaining a product or of the development of valuable new products. Analytically, however, there is danger of overrating the importance of this process. For innovation is only one of the activities performed by the entrepreneur. As we have seen above, most entrepreneurs are not innovators, but are in the process of investing capital within a large framework of available technological opportunities. Supply of product is limited by supply of capital goods rather than by available technological know-how.

Entrepreneurial activities are derived from the presence of uncertainty. The entrepreneur is an adjuster of the discrepancies of the market toward greater satisfaction of the desires of the consumers. When he innovates he is also an adjuster, since he is adjusting the discrepancies of the market as they present themselves in the potential of a new method or product. In other words, if the ruling rate of (natural) interest return is 5 percent, and a business man estimates that he could earn 10 percent by instituting a new process or product, then he has, as in other cases, discovered a discrepancy in the market and sets about correcting it. By launching and producing more of the new process, he is pursuing the entrepreneurial function of adjustment to consumer desires, i.e., what he estimates consumer desires will be. If he succeeds in his estimate and reaps a profit, then he and others will continue in this line of activity until the income discrepancy is eliminated and there is no “pure” profit or loss in this area.

• 33And if there had been fewer land grants and other governmental subsidies to railroads! Thus, see E. Renshaw, “Utility Regulation: A Re-examination,” Journal of Business, October, 1958, pp. 339–40.
• 34See Mises, Human Action:
  The fact that not every technological improvement is instantly applied in the whole field is not more conspicuous than the fact that not everyone throws away his old car or his old clothes as soon as a better car is on the market or new patterns become fashionable. (p. 504) Also see ibid., pp. 502–10. Specifically, the old equipment will continue in use as long as its operating costs are lower than the total costs of installing the new equipment. If, in addition, total costs (including replacement costs for wear and tear on capital goods) are greater for the old equipment, then the firm will gradually abandon old equipment as it wears out and will invest in the new technique. For an extensive discussion, see Hayek, Pure Theory of Capital, pp. 310–20.
• 35“Technocrats” condemn the market for rewarding investments according to their (marginal) value-productivity instead of their (marginal) physical productivity. But we see here an excellent example of a technique more physically productive but less value-productive, and for a very good reason: that the given specific capital goods already produced lend an advantage to the old technique, so that “out-of-pocket” operating costs of the old technique are lower, until the equipment wears out, than total costs for the new project. Consumers are benefited by continuing the old techniques while they remain profitable, for then factors are spared for more valuable production elsewhere.