Occupy Denver protesters rally in front of the U.S. Federal Reserve bank in downtown Denver
Occupy Denver protesters rally in front of the U.S. Federal Reserve bank in downtown Denver November 5, 2011. REUTERS

Whenever economists discuss the big picture -- where we've come from, where we're going -- someone is bound to bring up Joseph Schumpeter. Schumpeter (1883-1950) was, in fact, a master of thinking about the big picture, most famously in his writings on economic development, entrepreneurship, and the past and future of capitalist societies.

While he was by no means the perfect economist, he remains one of the most challenging and thought-provoking minds of the 20th century. Schumpeter has been called the prophet of innovation because of his emphasis on the importance of the entrepreneur in driving the economy. Sometimes, however, he played the role of a sort of end-of-the-world prophet, predicting the decline of capitalist economies into socialism.

Schumpeter argued the economic systems that encourage entrepreneurship and development will eventually produce enough wealth to support large classes of individuals who have no involvement in the wealth-creation process. This generates apathy or even disgust for market institutions, which leads to the gradual takeover of business by bureaucracy, and eventually to full-blown socialism.

Readers may catch a glimpse of the Occupy movement in Schumpeter's devastating critique of these intellectuals who oppose capitalism: individuals often pampered by privilege and uncomprehending of the system that produces the wealth they thrive upon. Cynicism aside, it seems beyond question that around the globe economic literacy is largely fighting a losing battle.

It is easy to see how Schumpeter could have reasoned as he did, writing as he was in the depths of the Great Depression. But his message is just as relevant today as it was 70 years ago. Bear in mind that Schumpeter was speaking of historical capitalism, complete with the cozy relationships between business and government as exist today, as opposed to genuinely free markets and unfettered entrepreneurial spirit. Furthermore, the Unites States in which Schumpeter wrote was undergoing the most significant in a long series of modifications, this time under the New Deal, and Schumpeter's arguments about capitalism should be understood in this context.

A comparison with the Depression is important for understanding more than a few current events. Schumpeter's point is ultimately about entrepreneurs: one cannot explain markets without also talking about the people who drive them, or about what happens when the driving force comes to halt, which was exactly what happened throughout the 1930s. As economist Robert Higgs has beautifully demonstrated, the large-scale government intervention characteristic of the New Deal created a great deal of uncertainty for businessmen seeking to launch new ventures and accumulate capital.

These entrepreneurs, uncertain of the policies of the administration, would not invest valuable resources to projects and industries when income and capital might simply be forcibly redistributed. Facing the increasing replacement of private with public initiatives and a drive toward nationalization in some industries, private investment collapsed, not regaining real strength until after the end of World War II. This regime uncertainty formed a massive obstacle to entrepreneurial efforts, a fact that distressed Schumpeter greatly, and significantly prolonged the depression (the causes of the initial crisis though are another issue). Private investment was stymied throughout the 30s because entrepreneurs couldn't be sure if the rewards for which they worked would be permitted to exist in a month or a year.

If the fallout of the Great Depression was bad, it is very likely that events in the present-day economy would have worried Schumpeter even more. The 7.7 trillion dollars used to support the banks during the crisis, the bailouts of key financial firms, and the de facto nationalization of General Motors are all factors adding to uncertainty about the future of economic policy and whether it will promote (or more likely, stifle) entrepreneurial efforts.

Add to this the struggles over monetary policy, health care, government debt, and taxation, and you have a recipe for an unprecedented amount of uncertainty about the viability of private investment. The problems go beyond those of moral hazard which have been emphasized by economists, although those problems are real and important. The problem is not merely that current economic policy encourages misbehavior; it also actively discourages good behavior, entrepreneurship in the sense of competition to produce in order to meet the needs of society.

As in the case of the Great Depression, economic recovery will not truly occur until the regime uncertainty imposed on entrepreneurs is removed.

Entrepreneurship is only one piece of the recovery puzzle, but it is a vital one. And genuine entrepreneurial efforts will not return until policymakers recognize the importance of genuine market competition, as opposed to the heavily subsidized and cartelized pantomime of competition which currently prevails throughout the U.S. and the world.

Schumpeter called market competition creative destruction, by which he meant the constant tendency of the market to eliminate unproductive entrepreneurs and to replace them with more productive ones. And it is this progressive process of improving economic conditions that is prevented by economic policy regimes, which aggressively discourage new private investment.

The entrepreneurial spirit is a part of America's historical and cultural heritage, but it is not immune to changes in its environment. As Schumpeter recognized, political conditions can have a disastrous impact on entrepreneurs, private investment, and innovation, and without these the economic system ceases to function. The policy regime must therefore allow for entrepreneurial behavior, lest we leave the Road to Progress for the Road to Serfdom.

Matt McCaffrey holds a master's degree in economics from Auburn University and is currently a PhD candidate in economics at the University of Angers. He is also the assistant editor of Libertarian Papers.