Capitalism and Entrepreneurship

Perception, Opportunity, and Profit, by Israel Kirzner. University of Chicago, 274 pp., $15.00.

New York University’s Professor Israel Kirzner has, in recent years, broken new ground in the theory of entrepreneurship.

To celebrate its fifteenth anniversary last summer the widely read quarterly, The Public Interest, published a special issue devoted entirely to “The Crisis in Economic Theory.” That step was an unusual one, if only because that journal has always been concerned primarily with public policy, rather than theory. Why, then, did it do it? The editors made their answer plain: “It is clear that, today, all discussions of economic policy do end up in controversies over economic theory, for it is theory which—explicitly or implicitly—shaped policy over the longer term.”

For the next two hundred pages, twelve authors proceeded to wrestle with such topics as the dissolution of the Keynesian consensus, post-Keynesian economics, rational expectations, monetarism, general equilibrium theory, and Marxism.

In his essay “Rationalism in Economics,” Irving Kristol concluded the volume with a sort of summing up. The neoclassical economic theory of the current day is inadequate, he asserted, and this has been most glaringly revealed in the policies which those theories have helped to produce over the past decade and a half. And leading the revolt against the dominant orthodoxy, Kristol noted, were three major dissenting movements: the “post-Keynesian” school, “radical humanistic” economics, and the “neo-Austrian” school.

It is fitting, therefore, that the special issue of The Public Interest also contained an essay by a leader of that Austrian “revolt”: Israel Kirzner’s “The Austrian’ Perspective on the Crisis.” There Kirzner covered, in broad strokes, some of the reasons for the Austrian discontent with the neoclassical orthodoxy.

As the Austrians see it, neoclassical economics has lost sight of the fact that economics deals with purposeful, acting individual beings with imperfect knowledge and changing desires, divergent expectations, and mutually incompatible plans. Above all, neoclassical economics loses sight of the ever-changing nature of the “data” which is determined and discovered by individuals participating in the market process. These missed insights lead neoclassical economists, according to Kirzner, to construct a theoretical apparatus increasingly removed from economic reality.

Thus it is that Kirzner and the Austrians, following in the footsteps of earlier theorists like Carl Menger, Ludwig von Mises, and Friedrich Hayek, find so much to argue with in neoclassical economics: the arid “formalism” of much of the theorizing, the excessive preoccupation with equilibrium (with its assumptions of perfect knowledge, unchanging data, and “perfect competition”), the near-total math-ematization of economics, and the disappearance of the entrepreneur from the theory of the market economy.

For Kirzner, the entrepreneur— the person who perceives and seizes an opportunity—is the driving force of the market economy.

Perception, Opportunity, and Profit is a collection of thirteen of Kirzner’s essays on these themes, a fitting sequel to his Competition and Entrepreneurship which broke new ground in 1973. Nine of these essays have been published before, but none in a widely circulated publication; the University of Chicago Press has performed a valuable service in making them all available in a single volume.

Kirzner groups his essays into four broad categories: ‘Entrepreneurship and Dis-equilibrium,’ ‘Entrepreneurship and Capital in the History of Economic Thought,’ ‘The Entrepreneurial Role,’ and ‘Entrepreneurship, Justice, and Freedom.’

His dominant theme is that, in order to explain the changes in market prices or in production techniques, or in the kinds of goods produced—changes which occur daily in a market economy—economists need the idea of entrepreneurship. Entrepreneurship is alert-

Kirzner shows that the reasons people have disparate plans—their fragmented knowledge and partial ignorance—are also the reasons that entrepreneurship is profitable. By perceiving that buyers are planning to buy more than sellers are planning to sell at current prices, or by seeing that producers are currently using an inefficient production process, a businessman can reformulate his plans so that he earns profits. Again and again, Kirzner emphasizes the importance of alertness: “The entrepreneurial alertness with which the individual is endowed does not refer to a passive vulnerability to the impressions impinging on his consciousness during experience in the manner of a piece of film exposed to the light: it refers to the human propensity to sniff out opportunities lurking around the corner.”

In Section two, Kirzner addresses the view of the role of the entrepreneur in classical economic theory, and the ramifications of this view for the classical conception of the market economy. Two other essays trace the role of the entrepreneur in the works of Carl Menger, as well as Mises’s views on capital and interest.

Section three presents five pivotal essays on Kirzner’s own view of the entrepreneurial role, trying to address some common misconceptions about capitalism along the way. ‘Capital, Competition, and Capitalism’ addresses the oft-heard charge that concentration of capital in large corporations diminishes competition.

Kirzner disagrees, arguing instead that entrepreneurship does not depend on ownership of capital, and that the corporation actually enhances competition by enabling owners of capital (stockholders) to easily hire and fire entrepreneurs (corporate managers) through purchases and sales of stock. Kirzner claims that:

where the corporate form of business organization permits a measure of independence and discretion to corporate managers, this is an ingenious, unplanned device that eases the access of entrepreneurial talent to sources of large-scale financing. Instead of the entrepreneur having to borrow capital... the corporate form of organization permits would-be entrepreneurs to hire themselves out to owners of capital as corporate executives.... The capitalists retain formal ownership, permitting them, if they choose, to divest themselves easily of their shares in badly managed firms or, in the last resort, to oust incompetent management.

ness to previously unnoticed opportunities to earn profits, and noticing these opportunities is what leads the businessman to innovate or to raise or lower prices.

This is a familiar theme of Kirzner’s, but in the book’s second essay, “Hayek, Knowledge, and Market Processes,” we see a subtle blending of the works of Mises and Hayek. Ludwig von Mises, under whom Kirzner studied for nearly twenty years, spoke of the market as a process set in motion by the entrepreneurial drive. Friedrich Hayek spoke of the market as a process whereby thousands of disparate plans are re-brought into consistency.

Kirzner answers those who favor “market socialism”—a system in which the state owns the means of production but attempts to give a measure of discretion to individual managers to seek out the best forms of production—by arguing in favor of private ownership.

He shows how “entrepreneurial competition among capitalists plays a vital role” in the selection of which would - be - entrepreneurs shall be entrusted with scarce capital. “Were the state to be the sole source of capital, this level of entrepreneurial competition would be eliminated”—and that would seriously harm an economy, by limiting its ability to select the most able people to be entrusted with capital.

Entrepreneurship is equally important, says Kirzner, in economic development, a fact sadly ignored by all-too-many development economists. In “Entrepreneurship and the Market Approach to Development,”

Kirzner focuses on the problems this presents. To use resources effectively, and to meet human needs, an economy must be organized so that the best uses for resources are noticed and exploited. It is the market economy which spurs economic growth, because profit-seeking entrepreneurs are allowed to seek out more efficient uses for resources and then to employ resources in those areas. In Kirzner’s view, profits are not merely the incentive to lure entrepreneurs into taking advantage of the opportunities they see, they are the incentive which the market relies upon ‘to ensure that these opportunities will be seen in the first place.’ (emphasis added)

In the three essays which follow, ‘Economics and Error,’ ‘Knowing about Knowledge,’ and ‘Alertness, Luck, and Entrepreneurial Profit,’ Kirzner tackles some more technical issues underlying economic controversies. But throughout the essays, Kirzner is really arguing against a passive and mechanical conception of the human mind. Rather, he depicts the individual mind which takes in information, interprets it, selects from it, organizes it, and finally decides and acts on a plan. He continually stresses the dynamic (rather than static) nature of human intelligence and decision-making, a view essential to the Austrian approach to economics. This is what helps members of the Austrian school to steer away from excessive preoccupation with equilibrium states and to focus instead on how the market economy operates as a process.

The final trilogy of essays are devoted to a broadening and deepening of our appreciation of the free market. In ‘Producer, Entrepreneur, and the Right to Property,’ Kirzner relates his conception of entrepreneurship to a theory of property rights, and discusses Locke’s views at some length.

Kirzner then takes a step, in ‘Entrepreneurship, Entitlement, and Economic Justice,’ toward criticizing and supplementing Robert Nozick’s entitlement theory of property, developed in his book Anarchy, State and Utopia. In both essays, Kirzner focuses on the fact that a producer has to perceive and grasp an opportunity, in a very real sense creating something which didn’t exist in any objective fashion before. He modifies Locke and Nozick by showing that if we accept Locke’s view that a person has a right to that which he ‘produces’ or ‘creates,’ and if opportunities are in fact ‘produced’ by a process of alertness and insight, then entrepreneurial profits are justified by the very fact that the entrepreneur has in fact perceived and grasped an opportunity.

In his final essay, ‘Entrepreneurship, Choice, and Freedom,’ Kirzner applies his notion of entrepreneurship to the nature and importance of freedom. Economists have generally equated freedom with the power to achieve a known result by known means. However, if ends and means are not really known and immutable, this definition isn’t adequate. Freedom consists not only of pursuing already chosen ends and means, but also of the very ranking of the ends to be pursued and the means to be used.

Freedom, in short, takes on increased significance in a world where ends and means are not given. Once we have chosen our ends and means, if we are then forbidden to take an action that we have already rejected, we feel no loss. But if an action is forbidden before we make up our minds, we do feel the loss, because our range of alternatives has been restricted. As Kirzner points out, before we judge between uncertain alternatives, we must first notice the existence of the alternatives. Freedom encourages us to be alert to opportunities and alternatives, by insuring us the opportunity to act on what we discover. Kirzner calls this ‘the fertility of freedom.’

Kirzner thus endorses Hayek’s statement that ‘Liberty is essential in order to leave room for the unforeseeable and unpredictable. . . It is . . . because we rarely know which of us knows best that we trust the independence and competitive efforts of the many. . . .’

Kirzner also draws our attention to the obverse side of the free and spontaneous order. If we rely on freedom to bring about effects which no one can specify in advance, then the restriction of freedom will harm us in ways of which we will never be aware. Who knows what kinds of lives we would now be living if freedom had been achieved a thousand years earlier, or if it had been fully achieved and consistently practiced in the Western world during the twentieth century?

In concluding with an eloquent discussion of freedom, Kirzner is in a sense bringing home the importance of all the essays in this book. He is in effect saying to economists: stop looking at the economic world as a world where information or ‘data’ are ‘given.’ Look beyond static states, general equilibrium, and perfect competition. Stop seeing the job of economists as that of discovering and fine-tuning macroeconomic states of a textbook model of something called ‘an economy.’ Kirzner focuses on entrepreneurship and freedom because he realizes that an ‘economy’ is in a sense a metaphor for the interactions of millions and billions of individual human beings with different knowledge, different ends, and different perceptions of means and opportunities. Opportunities are not something “given”; people create them, discover them, and seize them. Opportunities spring forth as people are alert to the changes going on around them.

In this little volume, as well as the great number of other works in the Austrian tradition so recently published, there is an economic revolution brewing. There is a discarding of the myths, from Marxist to Neoclassical, which have for too long blinded us to the true nature of the market process. There is a searching out of a new framework for understanding fundamental issues, for reorienting how we look at the economic world. In essays sometimes seemingly esoteric, Kirzner’s vision of entrepreneurship shines forth with a good deal of brilliance and power.

So too does Kirzner’s view of freedom:

A free society is fertile and creative in the sense that its freedom generates alertness to possibilities that may be of use to society; a restriction on the freedom of a society numbs such alertness and blinds society to possibilities of social improvement. By the very nature of the damage such restriction wreaks, its harmful effects on social welfare may not be able to be noticed, measured or specified. For the understanding of these profoundly important social consequences of economic freedom, I have argued, economists must in turn deepen their understanding of the nature of freedom itself.

And defenders of freedom must, in turn, deepen their understanding of the nature of economics itself. Perception, Opportunity, and Profit is a work of considerable intellectual power and, as such, ought to be recommended to economists as well as to libertarians everywhere.

Jack High is Assistant Professor of Economics at California State University, Fullerton.