Why Markets Fail
Markets fail for many reasons. With all the attention to the current financial crisis, the time has come to look at another part of market failure — the reluctance to invest in long-lived plant and equipment. I’m not merely thinking about the deindustrialization of the US economy, but a more general reluctance.
The commitment of funds for fixed capital entails taking a risk. In the words of John Hicks, one of the earliest economists to win a so-called Nobel Prize, pointed to the obvious problem: “an entrepreneur by investing in fixed capital gives hostages to the future” (Hicks 1932, p. 183). Unfortunately, neither Hicks nor virtually any other economist has explored this fear of investment.
The most popular response to this reluctance to invest came from a very conservative Austrian economist, who once served as a socialist minister of finance, before landing at Harvard. Joseph Schumpeter was indeed one of the giants of 20th century economics. Here his reputation to his personal brilliance, as well as a willingness to learn from Karl Marx.
I have attached the rest of the piece as a pdf. It was written to help me focus my thoughts for my talk in San Francisco tomorrow. Any comments will be appreciated.