Joseph Schumpeter has explained the expansion and contraction through industrial innovation. Innovation is an actual application invention; whereas invention is discovery of something new.
Invention converts into innovation. In this theory, the innovation can be introduction of new product, market source of raw material, opening of new market in business. An entrepreneur is an innovator, he has the knowledge to do something new, daring and foresight to go ahead of others and in this process he demands funds from banking system. Now, we will examine how innovation causes business fluctuations. In this theory, Schumpeter says, any innovation causes business fluctuations. In this theory, Schumpeter says, any innovation can move the economy to disequilibrium from equilibrium and this will continue till the new equilibrium position is reached. Let us say the innovation is the introduction of a new product in a full employment economy.
The new industry has to reward heavily the existing factors of production to attract them. The new industry is financed by bank credit. As the factors of new industry get higher rewards, their purchasing power increases and the demand of old industry product increases, as the new product is yet to come in the market.
Therefore the demand and production of old products increases. The old industry will now take credit from bank for expansion. In the mean while, the new product comes to the market. Due to novelty, there is decrease in the demand for old products. The old industry starts cutting down on production, therefore the income to factors of production decreases. As a result, the demand for old and new product decreases. Due to more and more joblessness the vicious circle of deflation starts and the economy gets into down swing. So, this theory says that the economic fluctuations are due to innovation in the industry.
This theory was challenged and limitations are –
The full employment assumption is unrealistic.
Bank is not the only source of finance for every innovation in business.
Many times the profits are ploughed back to finance innovations.
Innovation cannot be the sole cause of business cycle.
The chapter has been introduced in the continuation of phase of business cycle.
Invention converts into innovation. In this theory, the innovation can be introduction of new product, market source of raw material, opening of new market in business. An entrepreneur is an innovator, he has the knowledge to do something new, daring and foresight to go ahead of others and in this process he demands funds from banking system. Now, we will examine how innovation causes business fluctuations. In this theory, Schumpeter says, any innovation causes business fluctuations. In this theory, Schumpeter says, any innovation can move the economy to disequilibrium from equilibrium and this will continue till the new equilibrium position is reached. Let us say the innovation is the introduction of a new product in a full employment economy.
The new industry has to reward heavily the existing factors of production to attract them. The new industry is financed by bank credit. As the factors of new industry get higher rewards, their purchasing power increases and the demand of old industry product increases, as the new product is yet to come in the market.
Therefore the demand and production of old products increases. The old industry will now take credit from bank for expansion. In the mean while, the new product comes to the market. Due to novelty, there is decrease in the demand for old products. The old industry starts cutting down on production, therefore the income to factors of production decreases. As a result, the demand for old and new product decreases. Due to more and more joblessness the vicious circle of deflation starts and the economy gets into down swing. So, this theory says that the economic fluctuations are due to innovation in the industry.
This theory was challenged and limitations are –
The full employment assumption is unrealistic.
Bank is not the only source of finance for every innovation in business.
Many times the profits are ploughed back to finance innovations.
Innovation cannot be the sole cause of business cycle.
The chapter has been introduced in the continuation of phase of business cycle.
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