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Academy of Management Learning and Education, 2004, Vol. 3, No. 3, 316 326.


Entrepreneurial Cultures and Countercultures

WILLIAM J. BAUMOL New York University and Princeton University It is arguable that history has usually been driven by active entrepreneurs. Here, I do not use the term, entrepreneur, in the ordinary sense that denotes the founder of just any new firm among many similar existing firms. Rather, I employ a connotation that is in some ways narrower and in other ways broader than this, taking entrepreneurs to be the promoters of innovation, just as the prime chronicler of entrepreneurship, Joseph Schumpeter, so usefully did. Defined in this way, entrepreneurs can even be found in the focal economic activity of most of recorded history: aggressive warfare. After all, in many early societies, innovation in military techniques and technology was the most effective route to personal success and with it, power and wealth. But those early innovative warriors were not entrepreneurs as we tend to think of them today, as creators or promoters of new enterprises, new products, and new processes. This more familiar sort of entrepreneur attained a significant role only with the growth of capitalism, and so is historically a rather late arrival. And not only were these entrepreneurs late-comers but, it has also been suggested that they will be early departersthat their era is drawing to a close. Schumpeter, in his later book on the subject (1947), conjectured that growth and innovation were becoming so routine that the entrepreneur would thereby be threatened with obsolescence. Since well over half of spending on research and development in the United States now appears to be carried out bureaucratically within the larger enterprises, what is left for the independent entrepreneur to do? I argue, on the contrary, that the role of entrepreneurs and their new small enterprises, far from being on the verge of extinction, are more important than ever, and that their significance seems unlikely to evaporate in the foreseeable future. I will, however, indicate that the elevated valuation of the entrepreneurs role that is common today is, indeed, largely an attribute of the capitalist society, with other forms of economic organization, particularly those of the past, either denigrating the productive entrepreneur or characterized by institutions that impede effective exercise of entrepreneurship. Both conclusions, those about the past and those related to the future, are important for policy. The former, in which we look backward, will suggest how a developing economy can help to start off or enhance the growth process. The latter, where we look forward, will show what role, indeed a role arguably of growing importance, already remains to the entrepreneur and can be expected to continue in the future.

PRELIMINARY: ENTREPRENEURSHIP AND THE CAPITALIST GROWTH MIRACLE Despite all its limitations and imperfections, the capitalist economy, as Marx and Engels pointed out with emphasis as early as 1848 in the Manifesto of the Communist Party, has at least one outstanding, indeed, incredible, achievement to its credit: its spectacular record of abundant production, innovation and economic growth. They wrote:

The Bourgeoisie [i.e., capitalism] cannot exist without constantly revolutionizing the instruments of production. . . . Conservation of the old modes of production in unaltered form was, on the contrary, the first condition of existence for all earlier industrial classes. . . . The bourgeoisie, during its rule of scarce one hundred years has created more massive and more colossal productive forces than have all preceding generations together.

No other type of economy, ancient or modern, has been able to come anywhere near this accomplish-




ment. There is literally no way in which this achievement can be described adequately, but a few observations can suggest its magnitude. Average growth rates for about one and a half millennia before the Industrial Revolution are estimated to have been approximately zero, and while there was undoubtedly some growth starting around the tenth century, it proceeded at a snails pace by modern standards. But in the 18th century, with the advent of capitalism in England, GDP per capita is estimated to have grown some 20 30%. In the 19th century, this figure rose, perhaps tenfold, to some 200%. In the 20th century, growth in the United States has conservatively been estimated at about 700%, with some qualified observers arguing, with the aid of striking data, that this is a substantial underestimate. The record is described in Figure 1, which displays Angus Maddisons (2001) estimates of per capita income since the 16th century. The negligible rate of increase during the first three centuries reported in the graph is evident. The explosive growth path since that time must also be striking. It is also worth noting how early in the rising trajectory it was that Marx and Engels made their cogent observationsthe arrow labeled 1848 marks that date. Even the most well-off consumers before the Industrial Revolution had virtually no goods that were unavailable in ancient Rome. Clocks, hunting guns, window glass and paper virtually exhaust the list. Moreover, many choices available to affluent Romanslike hot baths had long disappeared by the time of the Industrial Revolution.

Since then, the pace of innovation has evidently grown into a flood. It has been said that the 18th century was the period when the process first took off, that only in the 19th century did the change achieve widespread recognition and did the belief in continuing technical progress take hold; while in the 20th century, the arrival of new products and processes became so frequent and commonplace that it began to be taken for granted and hardly worth noticing. It is surely arguable that during the collapse of many of the communist regimes in the late 1980s and early 1990s, when even China turned toward capitalist enterprise, what the public wanted was to participate in the capitalist growth miracle just described. Outlays on research and invention, like GDP per capita, have also been exploding. Figure 2 shows real private (business) expenditures on research and development activity in the United States for nearly half a century after World War II. Here again, the near-exponential growth path is immediately observable. It is also worth noting how small was the effect of the recessions of the postwar period in holding back the growth in real expenditures on the invention process. The intervals of decline in R&D outlays are merely small deviations from what appears to be an inexorable rising path. INNOVATION VERSUS MERE INVENTION IN CAPITALIST GROWTH It is to innovation, and not to invention alone, that we must look for answers to the great puzzlethe

FIGURE 1 Real Per-Capita GDP in the United Kingdom, 1500 1998. Source: Adapted from data in Maddison, 2001.


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FIGURE 2 Real U.S. Private R&D Expenditures, 19531998. Source: Adapted from data in National Science Board, 2002; and Economic Report of the President, 2002; expenditures are deflated using GDP implicit price deflator. explanation of the free markets unmatched and unprecedented growth performance. Here again, I use the term innovation in Schumpeters sense, as the entire process, from the birth of the new idea to the bringing to market of the new product or process. Earlier societies have had a spectacular invention recordthe Chinese are the outstanding example. Centuries before Columbus they had invented printing, the compass, complex (water) clockworks, gunpowder, spinning machinery, a cotton gin, porcelain, matches, toothbrushes, playing cards, and much more. And there have been other countries in history with a considerable record of new products and new technology. Yet these inventions never produced economic growth anything like that in the modern market economies. As in the Soviet Union, the record of invention was often impressive or even spectacular. But what is striking is how limited were the uses to which those inventions were putand in many cases, how little notice was even given to them. PRODUCTIVE ENTREPRENEURSHIPS INFERIOR ROLE IN NON-CAPITALIST SOCIETIES Observation and consideration of the matter suggest that one of the key elements missing in all economies other than those like our own is the productive entrepreneur, working under the incentives to innovate that derive from the powerful mechanism of the competitive market. It is true, of course, that markets of substantial importance exist in virtually every economy of the world and have existed throughout recorded history. What, then, is the difference in modern markets that gives them their ubiquitous and active entrepreneurial role? There can be no simple answer; indeed, any proposed answer is bound to leave out key features, ranging from political changes, institutional developments, evolution of religious beliefs, and even historical accident. One change that emerged in the free-market economies is that, for the first time, the occupation of entrepreneur has not only become respectable, but has also assumed the attributes of a hero, although, as in all subtle tales about heroes, with a mixed and not altogether unsullied character. In the classic fictionalized tale of Dick Whittington,1 who went on to become the very wealthy Mayor of London, there is rather less emphasis on the char1

The Whittington of reality was a contemporary of Henry IV and Henry V, and in addition to becoming Lord Mayor, was appointed by the latter to be superintendent of expenses for completion of Westminster Abbey, early in the 15th century. The legend about his success after investing the proceeds from the sale of his cat, his only possession, on a commercial ship voyage that turned out to be enormously profitable, apparently first appeared nearly two centuries later in a play (now lost), The History of Richard Whittington, of His Low Byrth, His Great Fortune (licensed in 1605).




acters shortcomings. But the great entrepreneurial successes of reality, of whom Henry Ford and Bill Gates are prototypes, are regarded with a mixture of admiration, awe and suspiciona view clearly enhanced by periodic recurrence of spectacular scandals. Yet, with all their limitations, the entrepreneurs serve as role models in the industrial societies and as worthy authorities on things as far afield as governmental matters, university operation, and even cultural activities. That was not always so. Quite the contrary: Anyone who sullied his hands with the establishment of a business firm or promotion of a productive innovation was likely to have been disgraced thereby. As I have written elsewhere: Despite the evident continuation on a substantial scale . . . of wasteful entrepreneurship under capitalism, never before has productive activity been so effective and prestigious as a method for the attainment of wealth, power, and prestige. These three goals are clearly the primary objectives of most entrepreneurs, and history indicates that many entrepreneurs are not particularly choosy about the means they utilize to achieve these ends. They, like those engaged in any other occupation, span the range of morality and dedication to virtue. So one can expect that there will be many entrepreneurs who will choose whatever activities offer the greatest promise of attaining those objectives, whatever the social consequences. More than that, moral standards surely . . . tend to adapt themselves to current opportunities and practices, so that activities that today would be considered beyond the pale in terms of their ethics may in an earlier time have been accepted as normal and even commendable (and vice versa). . . . [I]n ancient Rome and medieval China, with their abundance of military and nonmilitary inventions, the pursuit of wealth and power was considered as acceptable, and even as desirable, as it is in the most greed-driven of capitalist societies. But the ideas about the means that were proper for attainment of these goals were very different from todays. Methods of wealth accumulation that were considered laudable in one or both of these societies included military aggression, ransom, bribery, and usury. Some of the great figures of Roman history, for example, were respected for having acquired vast riches by these means. The Chinese mandarins, having been appointed

to powerful positions, were expected to recoup in the form of bribes the heavy expenses they incurred in preparing for the difficult imperial examinations that were requisites for such positions. No hint of scandal or disapproval attached to these means of accumulation. But in both Roman and Chinese societies there were two types of activity that incurred unambiguous disgrace: participation in commerce or in productive activity (with the possible exception of some gentlemanly agricultural undertakings). In Rome, for example, such disgraceful endeavors were left to freedmento manumitted slaves and their sons. And these individuals, too, strove to accumulate sufficient means so that they could afford to leave their degrading occupations, or at least make it possible for later generations in their families to achieve respectability. It is little wonder, then, that there was not much productive entrepreneurship in these societies. Even though the Chinese, in particular, produced an astonishing abundance of inventions, there was little innovation, in the sense of the application and distribution of the inventions. Most such inventions were put to little productive use and often soon disappeared and were completely forgotten (Baumol, 2002: 63). Such attitudes persisted in France, and were backed up by substantial penalty for deviation until the revolution. [I]n the eighteenth century, a nobleman still lost his noblesse and that of all of his progeny not yet conceived (the medieval concept of tainted blood being recognized by law in favor of earlier children) if he adopted any manual craft save the famous [and apparently unexplained by historians] exception of glassmaking or if he entered for sordid gain into . . . retail commerce. . . . (Ford, 1953, 2526). And today, in many developing societies, as in the medieval economies of Europe, landholding rather than industry is considered the most respectable and desirable form of wealth investment. This, surely, is no way to stimulate or facilitate productive entrepreneurship, although it may invite innovative approaches to the acquisition and retention of landed property. WHAT CHANGED ATTITUDES TOWARD ENTREPRENEURSHIP? Attitudes began to change, first in England, then in France, as financial pressures increased through a


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number of basically unrelated historical developments. The primary source was the rising cost of military preparation and equipment that followed inevitably as each prospective aggressor nation sought to exceed its rivals in their power to conduct warfare. For as each monarch or unruly baron took a step in that direction, his rivals were forced at least to match it and could be expected to go a step further. But these successive inflations in the cost of warfare were by no means the only cause of growth in financial pressures. The heavy expenses that were an obligatory prerequisite for status of members of the nobility under the Sun King, Louis XIV, and the construction of Versailles were just particularly notorious manifestations of the game of conspicuous consumption and conspicuous waste that preoccupied the leisure class. Such growing financial burdens had somehow to be dealt with, and this finally forced the hands of noblemen and even kings. They began to invest in commerce and ultimately in directly productive processes. Of course, as more of them did so, it began to be respectable. This occurred earlier in England, where the nobility by tradition had little immunity from taxation, and more slowly in France, where the nobles were exempt from many of the most burdensome taxes that went into financing of the monarchs extravagances (see, e.g., Ford, 1953). In England, Edward IV, after his victories in the Wars of the Roses, found it desirable, toward the end of the 14th century, to invest substantially in the export of wool, cloth, and tin, and then to add investments in mercantile imports. Many of his nobles were quick to follow his example (Ross, 1974: 351). There was obviously no more effective way to provide the beginnings of respectability to commerce and, with it, to commercial entrepreneurship. Aside from the strong propensity to denigrate the productive entrepreneurs, in non-capitalist economies there have often been more direct disincentives and handicaps imposed on their activities. In earlier economies, the most immediate of these was legality of expropriation, which immediately discouraged investment in assets that were easily observed and readily taken away. Since in many societies everything ultimately belonged to the monarch, the latter was often induced to put theory into practice, taking away whatever property was most readily accessible, especially whenever the financial needs of the king became very pressing (as they very frequently were) or when an asset was especially and attractively lucrative. Of course, with the rewards earned from productive and innovative activity so imperiled, the incentive for undertaking of the risks and hardships of pro-

ductive entrepreneurship were effectively dulled. This was evidently no way to elicit an abundance of productive entrepreneurial effort. This was to change only as the rule of law and the rights of contract were accepted and carried out. The change occurred gradually, notably in England, where the impoverished kings were repeatedly forced to accede to ever greater demands from the nobility and then the ranks just beneath them for protection against various forms of arbitrary expropriation. Thereby, the economic, political, and social position of the entrepreneur gradually improved, and because this activity brought with it attractive opportunities for the accumulation of wealth, it constituted an irresistible incentive for the emergence of the modern entrepreneur. But this process attained a substantial scale only in the nascent capitalist economies. Even in very modern economies that do not operate on a free-market basis, the institutions are generally not such as to elicit vigor and expansion of productive entrepreneurship. The prime example, of course, is the late Soviet Union where, despite a profusion of capable scientists and engineers and a commendable record of invention, the process of innovation (defined to include widespread dissemination and utilization) has been shown recently by researchers to have lagged far behind the performance in Western Europe (see Iacopetta, 2002). The reason here, apparently, was not so much a matter of governmental attitudes toward entrepreneurs and their status in society, but rather was to be found in the system of compensation of entrepreneurial activities that effectively dissuaded candidate entrepreneurs from any vigorous activities which would have promoted use of improved technology and supply of better products or increased product outputs. The central problem was simply the absence of any systematic and reliable rewards for success in productive entrepreneurial endeavors. There just was generally nothing to be gained for success in undertaking the labor and risks the process entails. But that is not the end of the story. In the Soviet Union, the managers performance was evaluated with the aid of an output norm, a production target set for the factory or the firm by the planning agencies. If the enterprise for which a manager was responsible met its norm in any given year, all was well for that manager. But failure to attain that quota spelled unpleasantness and worse. This was hardly an incentive for management to close down the plant for retooling when better productive techniques became available, or to run the risk that the labor force, unfamiliar with the new processes and equipment, were more likely to




come up short, temporarily, in the amounts they produced. Worse still, if production were to exceed the norm in some period, rather than a reward, the manager was likely to find himself faced with a more daunting hurdlean increase in the norm for the following year on the ground that the feasibility of a larger output had been demonstrated. Improved plant and equipment, too, was apt to lead to increased norms, and this evidently could only serve to make life harder and riskier for management. With such institutions, the poor Soviet record of entrepreneurial adoption of improved technology is not surprising. We see then that the rules and institutions that characterize the capitalist economies, whatever their shortcomings and questionable consequences, are clearly well suited to stimulation of effective and productive entrepreneurship. It is the resulting entrepreneurial activity that can be credited with much of the unparalleled record of growth and innovation that the free-market economies have been able to achieve. The arrangements that elicited such activity clearly merit study both in the industrialized and the developed economies, by the former to help them to ensure that their growth performance does not peter out, and by the latter to help them in the catch-up process that so many of them avidly hope to join. THE IMPULSE TOWARD AN ENHANCED LARGEFIRM ROLE IN TECHNICAL PROGRESS The entrepreneur is naturally associated with the small, start-up firm; indeed, as we know, widespread and long-employed usage simply defines entrepreneurs as the creators of new enterprises. This is relevant to investigation of their role in the economys innovation process, because for a very considerable period of time the apportionment of the task of supplying the resources invested in innovation has been changing materially. Increasingly, at least in the United States, the funding for innovation has been supplied by large oligopolistic enterprises hardly the sort of firms that one associates with the entrepreneur. This naturally leads to the conjecture, voiced by Schumpeter, that the work responsibilities the economy assigns to the entrepreneur are narrowing and are destined to shrink even further. Today some 70% of R&D expenditure in the United States is carried out by private business, and one may well believe that most of this is provided by the larger firms. In these enterprises, innovative activities are carefully designed to prevent unwelcome surprises and to keep risks to a minimum. As a result, there is little of the free-

wheeling, imaginative, and risk-taking approach that characterizes the entrepreneur. Instead, the large firms top management often keeps a tight rein on the activities of the companys laboratories. Its budget is decided by the upper strata of control within the firm, whose members also may determine how many persons and what sort of specialists at what levels will be employed on R&D endeavors. It is even not unusual for persons not trained or experienced in research to determine what new products and processes the laboratories should next seek to discover. Sometimes, large firms try to unleash their employees engaged in innovative activity by organizing a subsidiary operation that is more inviting to the free exercise of entrepreneurship, but often without much success. The natural incentive system for a bureaucratically governed enterprise is to run research and development in accord with bureaucratic rules and procedures. One can easily surmise what prompted Schumpeter to foresee a limited future for the entrepreneur where industry and its innovation processes are widely characterized in the manner just described. Yet, I will argue next that this is fundamentally a mischaracterization. Rather than being condemned to obsolescence, a vital role continues to be played by the independent entrepreneur. REVOLUTIONARY BREAKTHROUGHS: A SMALL-FIRM SPECIALTY It is convenient here to divide up inventions with the aid of two polar categories: revolutionary breakthroughs and cumulative incremental improvements. Of course, many new products and processes fall into neither extreme category, but are somewhere in-between. Still, the distinction is useful. Moreover, there are many examples that clearly fit into one or the other of these categories quite easily. For example, the electric light, alternating electric current, the internal combustion engine, and a host of other advances must surely be deemed revolutionary, while successive models of washing machines and refrigerators each new model a bit longer lasting, a bit less susceptible to breakdown, and a bit easier to usearguably constitute a sequence of incremental improvements. The relevance of the distinction should be evident, given what has been said about the working and organization of R&D in the large business enterprise. The inherent conservatism of the process naturally leads to the expectation that these firms will tend to specialize in the incremental improvements and to avoid the risks of the unknown that the revolutionary breakthrough entails. The latter,


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TABLE 1 Some Important Innovations by U.S. Small Firms in the 20th Century
Air Conditioning Air Passenger Service Airplane Articulated Tractor Chassis Artificial Skin (Cellophane) Assembly Line Audio Tape Recorder Bakelite Biomagnetic Imaging Biosynthetic Insulin Catalytic Petroleum Cracking Computerized Blood Pressure Controller Continuous Casting Cotton Picker Defibrillator DNA Fingerprinting Double-Knit Fabric Electronic Spreadsheet Freewing Aircraft FM Radio Front-End Loader Geodesic Dome Gyrocompass Heart Valve Heat Sensor Helicopter High-Resolution CAT Scanner High-Resolution Digital X-Ray High-Resolution X-Ray Microscope Human Growth Hormone Hydraulic Brake Integrated Circuit Kidney Stone Laser Large Computer Link Trainer Microprocessor Nuclear Magnetic Resonance Scanner Optical Scanner Oral Contraceptives Outboard Engine Overnight National Delivery Pacemaker Personal Computer Photo Typesetting Polaroid Camera Portable Computer Prestressed Concrete Prefabricated Housing Pressure Sensitive Tape Programmable Computer Quick-Frozen Food Reading Machine Rotary Oil Drilling Bit Safety Razor Six-Axis Robot Arm Soft Contact Lens Solid Fuel Rocket Engine Stereoscopic Map Scanner Strain Gauge Strobe Lights Supercomputer Two-Armed Mobile Robot Vacuum Tube Variable Output Transformer Vascular Lesion Laser Xerography X-Ray Telescope Zipper

Source: U.S. Small Business Administration (1995: 114).

rather, is left most often to the small or newly founded enterprise, guided by its enterprising entrepreneur. Although that is to be expected, the degree of asymmetry in the apportionment of this specialized activity between large and small firms in reality is striking. The U.S. Small Business Administration has prepared a chart listing breakthrough innovations of the 20th century for which small firms are responsible (reproduced here in Table 1), and as will be seen, its menu of inventions literally spans the range from A to Z, from the airplane to the zipper. This remarkable list includes a strikingly substantial share of the technical breakthroughs of the 20th century. In addition to the airplane, it lists FM radio, the helicopter, the personal computer, and the pacemaker, among a host of others, many of enormous significance for our economy. A very recent study, also sponsored by the U.S. Small Business Administration (2003), provides more-systematic and powerful evidence to similar effect.2 This report examines technical change through patenting and defines small firms as

businesses with fewer than 500 employees. Perhaps most notably, the study finds that a small firm patent is more likely than a large firm patent to be among the top 1 percent of most frequently cited patents. Among other conclusions, in the words of its authors, this study reports that

Small firms represent one-third of the most prolific patenting companies that have 15 or more U.S. patents. Small firm innovation is twice as closely linked to scientific research as large firm innovation on average, and so is substantially more high-tech or leading edge. Small firms are more effective in producing high-value innovationsthe citation index for small firm patents averaged 1.53 compared to 1.19 for large firms. Small patenting firms are roughly 13 times more innovative per employee than large patenting firms. A small firm patent is at least twice as likely to be found among the top 1 percent of highest-impact patents as a patent from a large firm (p. 2).

2 Quoting the release describing the study, A total of 1,071 firms with 15 or more patents issued between 1996 and 2000 were examined. A total of 193,976 patents were analyzed. CHI [the firm that carried out the study] created a database of these firms and their patents. This list excluded foreign-owned firms, universities, government laboratories, and nonprofit institutions (p. 2).




One is, then, led to the plausible conjecture that most of the revolutionary new ideas of the past 2 centuries have beenand are likely to continue to beprovided more heavily by independent innovators who, essentially, operate small business enterprises. Evidently, the small entrepreneurial firms have come close to monopolizing the portion of R&D activity that is engaged in the search for revolutionary breakthroughs. But now we seem to have leapt to the opposite conclusion, that rather than likely disappearance of the innovative role of the entrepreneur and the small firm, little would appear to be left for the large enterprise to do. That, as we will see next, is also a very misleading conclusion. REVOLUTIONARY CONSEQUENCES OF AGGREGATED INCREMENTAL IMPROVEMENTS As we have seen, the type of innovation in which the giant enterprises tend to specialize is primarily devoted to product improvement, increased reliability and enhanced user-friendliness of products and the finding of new uses for those products. The approach tends to be conservativeits proponents seek results with clear applicability and markets that are not highly speculative. The bureaucratic control typical of innovative activity in the large firm serves to ensure that the resulting changes will be modest, predictable, and incremental. These firms are not predisposed to welcome the romantic flights of the imagination, the entrepreneurial leaps of faith and plunges into the unknown that often lead only to disaster, but which alone are likely to open up new worlds. However, having recognized the critical role of the smaller enterprises, one should not go to the other extreme and undervalue the incremental contribution of the routine activity that at least sometimes arguably adds even more to growth than do the more revolutionary prototype innovations. Though each such small improvement may be relatively unspectacular, added together, they can become very significant indeed. Thus, consider how little computing power the first clumsy and enormously expensive computers provided, and what huge multiples of such power have been added by the many subsequent incremental improvements. Table 1 displays a set of extreme examples of the contributions of the small, entrepreneurial firms. But one can easily obtain equally startling examples of the impact of the innovative contributions by large companies, whose incremental contributions can add up and compound to results of enormous magnitude. Data recently provided in the

New York Times (April 9, 2003: 1, Business Section) yield the following illustration. The article describes progress in computer chip manufacture by Intel Corporation, which is the leading manufacturer of this device and has brought to market successive generations of chips and transistors on which the performance of computers is so heavily dependent. According to this report, over the period 19712003, the clock speed of Intels microprocessor chipsthat is, the number of instructions each chip can carry out per second has increased by some 3 million percent, reaching about 3 billion computations per second today. During the period 1968 2003, the number of transistors embedded in a single chip has expanded by more than 10 million percent, and the number of transistors that can be purchased for a dollar has grown by 5 billion percent. These are evidently no minor contributions. Added up, they surely contribute far more computing capacity than was provided by the original revolutionary breakthrough of the invention of the electronic computer. Of course, that initial invention was an indispensable necessity for all of the later improvements. But it is only the combined work of the two that made possible the powerful and inexpensive apparatus that serves us so effectively today. ROLE OF GOVERNMENT AND THE UNIVERSITY IN INNOVATION Although they are not central to my story, I must acknowledge that I have so far omitted two key players, and must pause to say a few words to rectify the omission. After all, these two institutionsthe universities and the pertinent government agencies have also made major contributions to technological progress. Here, one need only again mention the electronic computer, as well as the Internet. But the contributions of these institutions have also tended to be rather specialized and different from those discussed above. It is to them that we must look primarily for the results provided by basic research as distinguished from applied research. The reasons for this division of labor with private industry are well understood, and only a few words need be said on the subject here. But first, it is well to observe that some noteworthy basic research also has been contributed by private industry. Most noted is the work of what used to be Bell Laboratories, from which emerged not only the transistor, but also many contributions to pure economic analysis, including work on the Averch-Johnson theorem and the theory of contestability. I mention the two latter items not because


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of their connection with my own work, but to illustrate how far from immediate application to pursuit of revenue the research financed by large private firms can sometimes be. This can be expected, however, only under special circumstances. At the time this sort of research was underway at Bell Labs, that institution was exclusively the property of the American Telephone and Telegraph Corporation (AT&T), then the worlds largest firm. Moreover, AT&T was a regulated firm that held a monopoly granted to it by the public sector. This meant that it was constrained by a regulatory agency but not by market forces to refrain from pricing that would yield profits that were deemed excessive. Thus, the firm was not prevented by market forces from adjusting its prices and revenues to cover any increase in costs, so long as the regulator allowed it to do so. Such a firm was therefore in a position to incur expenditures of doubtful profitability without incurring any penalty in the form of reduced profits. It had merely to convince the regulatory agency that the costs were justified and thereby obtain permission to raise its prices correspondingly. But from the point of view of the unthinking market mechanism, expenditure on basic research is a wasteful expenditure, because the outlay promises no addition to the profits of the firm. By its very nature, it is nearly impossible to predict whether basic research will yield any financial benefit at all and, if so, whom it will ultimately benefit. Certainly, it need not be the enterprise that carried it out. For that reason, while an unregulated firm cannot expect, with any degree of confidence, to recoup any funds spent on basic research, AT&T was in a position to do so. And predictably, when the courts deprived AT&T of its monopoly, Bell Laboratories lost its role as supplier of basic research. That is why governments and universities have had to step in, if basic research of any magnitude is to be carried out. And as we know, it is important for growth in the long run that this be done, for so much of applied innovation is made possible or is at least stimulated by its results. The importance for technological progress of this conjunction of academia, business, and public sector was dramatically confirmed in an American Philosophical Society symposium (2003) on recent and projected biomedical advances (see also, Yale Medicine, 2003). There, it was strikingly demonstrated that the contributions of universities, government (notably the military) and (apparently small) private firms have produced a truly mindboggling array of medical breakthroughs, aptly summed up by one speaker in a quotation from Hollywoods Steven Spielberg: There is no more

science fiction. The outlook is, indeed, that there will be no break in the acceleration of innovation, and that the innovations in prospect will be as difficult for us to comprehend as those now thoroughly familiar to us would have been for our ancestors. Just a small sample indicates the nature of what was described at the symposium:
Surgery carried out by computer-guided robots, with immediate and automatic restocking (without reordering or human intervention) of surgical equipment and medication (this is partly already in use), and remote surgery in which the operating surgeon (who guides the computer) may be thousands of miles from the patient during the procedure (this is already done successfully); Growth of replacement bodily organs in specially maintained groups of animals (pigs apparently favored currently) for use in human transplantation, which promises to make shortages of transplanted organs a thing of the past (predicted to become available within 13 years); Artificially induced hibernation and what can only be described as reversible pseudodeath of patients as a substitute for anesthesia, eliminating the latters undesirable side effects and other perils; Inducement of growth of new organs within patients as a substitute for transplants, eliminating the difficult and dangerous problem of transplant rejection and the need for postprocedure anti-rejection medications, with their undesirable side effects, perhaps for the remainder of the patients lifetime; Use of certain insects (notably butterflies, cockroaches, and sphinx moths with their very specialized and powerful senses) to transmit information about the presence of dangers, such as buried land mines or anthrax spores (or to locate earthquake victims), without human presence, making it possible to take countermeasures remotely.

This list, surely, must suffice to stir the imagination to overload, to indicate that the end of innovation is nowhere in sight, and to confirm that the large corporations cannot do it alone.

DISSEMINATION OF INVENTION AND RAPID TERMINATION OF THE OBSOLETE As is to be expected, many business firms guard their proprietary technology and strive with the aid of patents, secrecy, and other means to prevent other firms, notably rivals, from using the new products and processes. This is unfortunate for economic progress because it means that consumers who purchase from other firms are forced to




accept obsolete features in the items they buy.3 Moreover, two firms that deny one another access to their proprietary improvements in the firms common product can evidently both survive, marketing their somewhat differentiated outputs, each of which is rendered inferior in terms of what is currently possible technologically by the obsolete features that it is forced to provide. Happily, however, that is hardly the norm. On the contrary, voluntary licensing of access to proprietary technology is widespread in the economy. Many firms derive substantial incomes from the sale of such licenses and benefit from the improvement in their own products when, as often happens, two rivals agree to exchange licenses to one anothers intellectual property. This occurs in large firms and small, and the result is a growing speed-up in the pace at which the use of obsolete technology is eliminated.

The innovative process is indeed implicitly a partnership between the small entity and the large, between David and Goliath, and, in this case, both emerge victorious, and the economy gains a victory as well.
In this process, there is no reason to expect independent inventors or innovators to become obsolete in the foreseeable future, or for the small firms to become minor contributors to innovation. It is more plausible that this division of the work of technical progress will continue, with the independent entrepreneur providing many if not most of the more revolutionary and heterodox contributions, while the routine innovation activities of the oligopoly corporations take those contributions and improve and extend them, often well beyond what we could have imagined their capabilities to be. REFERENCES
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CONCLUSION: PARTNERS IN THE INNOVATION PROCESS Finally, I return to the central matters with which I am concerned here: the innovative contributions of independent entrepreneurs and established large firms. We have seen that both the independents and the routinized large-firms innovation activities undoubtedly contribute significantly to economic growth, as Nathan Rosenberg has emphasized (see, e.g., 1976: 66). The two types of activity are complementary, in that together they contribute more to growth than either could by itself. The one dreams up and inaugurates the breakthroughs, while the other contributes crucial improvements to performance. And the record shows that both the independent entrepreneurs and the routinized large firms have provided astonishingly substantial additions to the economys cornucopia of outputs. The innovative process is indeed implicitly a partnership between the small entity and the large, between David and Goliath, and, in this case, both emerge victorious, and the economy gains a victory as well.

It is, however, not always recognized that patents are not designed to prevent the spread of information about novel technology. On the contrary, patent holders are required to make full information on their inventions public so that others can profit from the ideas even if they cannot replicate the patented products themselves without the patent holders permission.

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September William J. Baumol is professor of economics at New York University, and senior research economist and professor emeritus at Princeton University. He received his education at the College of the City of New York and the University of London. His research interests include economic growth, entrepreneurship and innovation, industrial organization, antitrust economics and regulation, and economics of the arts.

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