The Nobel Prize-winning economist explains his view on the values which have helped modern economies thrive
In 2006, when the American economist Edmund Phelps was awarded the Nobel Prize in Economics, the Nobel committee declared that he had helped to “deepen our understanding of the relation between short-run and long-run effects of economic policy”. Not long after that award, Phelps’s fellow Nobel laureate Amartya Sen paid tribute to his interest, rarer among academic macroeconomists than one might think, in the question of why economics is “such an important subject for the lives of human beings”. Phelps, Sen said, had always kept in view the “human interests” that lie behind “macro investigations”.
That concern with fundamental human interests is very much to the fore in Phelps’s latest book, Mass Flourishing: How Grassroots Innovation Created Jobs, Challenge, and Change (Princeton University Press, £19.95). In it he examines the birth of modern capitalist economies in Britain, the United States and elsewhere in the early 19th century and asks: “What happened … that caused people in some countries to have—for the first time in human history—unboundead growth of their wages, expansion of employment in the market economy, and widespread with their work?”
Phelps sketched out his answer to that question in a roundtable discussion hosted by Prospect, together with our partner BNY Mellon, on 15th October. Responding to Phelps’s presentation, BNY Mellon Executive Vice-Chairman Michael Cole-Fontayn said that he and his colleagues were trying to absorb some of the lessons of his work on the role that innovation plays in fostering economic growth and prosperity. “So much of what you’ve talked about its what we struggle with daily as a large global financial corporation—a bank and investments company. And as our regulators and societies want us to be more controlled, we want to create a culture that is more collaborative, is more creative and more competitive. We need our staff to be active, enquiring, imaginative, and full of ideas and curiosity in order to create innovation.”
Another of the guests, the economic historian Robert Skidelsky, who has himself written about the economics of the good life, wondered what role leisure plays in Phelps’s account. “To you, mass flourishing depends on continuous grassroots innovation,” Skidelsky said. “An important measure that you mention is job satisfaction. In my conception, there is a contrary view, in which mass flourishing depends on the continuous enlargement of leisure, which productivity growth makes possible of course.
You mentioned Aristotle—Aristotle’s idea of a good life was really one he called eudaimonia, which is a kind of active leisure.” Phelps admitted that leisure played next to no role in his thinking about mass flourishing, noting that “Aristotle joked somewhere in his Ethics that we need some time to kick back in order to recharge the battery so that we can go on working effectively the next day.”
Andre Spicer, professor of Organisational Behaviour at the Cass Business School, detected an echo of Deirdre McCloskey’s work on bourgeois ethics in Phelps’s argument that “values drive innovation”. In a one-to-one interview with Prospect’s managing editor Jonathan Derbyshire, Phelps discussed that argument in more detail.
JD: Robert Shiller, one of the winners of the 2013 Nobel Prize in Economics, has written that Mass Flourishing is “what Adam Smith’s Wealth of Nations should have been about”. What do you think he meant by that?
EP: I guess he thought that my book was a much more comprehensive analysis and appraisal of capitalism than is found in Adam Smith. Though that’s a little unfair to Adam Smith because innovation hadn’t really happened on a mass scale until it broke in Britain in 1815, after the end of the Napoleonic War.
But there is in the book a critique of the model of market “equilibrium” which Smith bequeathed to economists and which you argue leaves no room for “indigenous innovation, or home-grown advances in economic knowledge”.
That’s not Smith’s fault—it’s the economists’ fault for not noticing that things changed between the pre-modern era, up to 1815, and the modern era. One point about the modern economy is that it creates its own future in ways in which the actors involved can themselves hardly begin to predict. I think that the modern economy sprang up once modern values had reached a critical mass. In the 1760s and 1770s, when Smith was around, that hadn’t happened yet. There’s a footnote in the book in which I note that in Smith’s lectures on jurisprudence he complains that the “commercial society” around him, which is his term for the mercantile capitalism of the period, lacked the “heroic spirit”. Smith was right about that. Had he hung around, he’d have seen the heroic spirit come into play after 1815.
The first part of the book tries to explain that transition from the mercantile to the distinctively “modern” economy. And you reject attempts to explain that transformation offered by, among others, the Austrian-American economist Joseph Schumpeter. Is the problem for you that Schumpeter fails to recognise that the emergence of the modern economy has a great deal to do with institutions and values?
Yes. A lot of policies and institutions are functions of values. So there’s a sense in which the values are primary. A lot of the institutions of the modern economy were institutions that had been carried over from mercantile capitalism—banks, joint-stock companies, not to mention markets and the concept of competition.
So it’s distinctively “modern” values that reshape those institutions?
Absolutely. I’ve seen some writers, including Schumpeter, refer to a “capitalist culture”, but I’m pretty sure he means a culture created by the existence and functioning over many years of capitalism, that the practice of capitalism, its operation, gave rise to a kind of ethic concerning what you do and don’t do in this system. But that’s different from values, which have to do with what one aspires to, the things that are precious to us, like beliefs.
Do you think your colleagues in the economics professions take values and beliefs seriously enough?
Well, there’s certainly little sign of it. In fact, I myself didn’t dream of this stuff ten or 15 years ago. But I always thought that values were important motivations for people. And I always thought that what people want isn’t just more consumption. I ritually quote the economist Alfred Marshall, who said: “[The] business by which a person earns his livelihood generally fills his thoughts during by far the greater part of those hours in which his mind is at its best. During them his character is being formed by … his work … and his relations to his associates at work.” Then Gunnar Myrdal comes along in the 1930s and says that although it’s often claimed that consumption is the sole end of production and that man works in order to live, “there are many who live in order to work”.
You chastise Schumpeter for an excess of determinism in his attempts to explain the extraordinary “take-off” in producitivity after 1815, don’t you?
Schumpeter stripped away more or less everything I care about and described an economy in which there’s zero creativity. It’s a sort of punctuated equilibrium in which occasionally a navigator discovers some new sea route or some new fruit somewhere in the world, and then there might be a commercial application for it. He takes this from the German Historical School of economists. Arthur Spiethoff said that innovations come from the discoveries of scientists and navigators. Schumpeter accepted all that and added that you’ve got to have entrepreneurs in order to undertake the commercial application of scientific discoveries. He says explicitly somewhere that business people almost never have imagination or creativity. Schumpeter didn’t see that business life could be creative.
So in your view Schumpeter fails to account for what you call the “dynamism” of the modern economy. Now, dynamism, as you understand it, is not the same as growth is it? From which it follows that an economy can achieve consistently high levels of growth without being dynamic in your sense.
Absolutely. For example, Sweden in the 1880s and 1890s had a very fast rate of growth, right up to the early 1920s. But I don’t think the Swedes were deeply innovative. It was simply that modernity, or a degree of modernity at least, had come to Sweden and they were busy bringing their technologies up to the standards of the day—as China in recent years has displayed an enormous growth rate, but no one thinks that’s the result of indigenous innovation on the part of Chinese companies.
The second part of the book is devoted to the various forms which resistance to the modern economy has taken, notably socialism and corporatism. What’s the difference between those two economic approaches? Socialism, at least in its milder, social democratic forms, looks a lot like corporatism to me.
I’m still trying to hone more sharply the differences between corporatism and socialism. In my latest thinking, I see the socialists as railing against fluctuations and against disparities, both in outcomes and prospects. Marx saw correctly that unemployment was a permanent and natural feature of capitalism, or indeed any system that has free markets. Meanwhile the corporatists were unhappy with the rudderlessness of this wild thing called modern capitalism. And they hated the social disruptiveness of it—they hated new enterprises that invaded towns, they hated new money with a special vehemence.
In the final part of the book, you argue that in the US, in particular, there has been a long-term decline in job satisfaction, employment and productivity growth. Do you attribute that to waning innovation or dynamism?
Yes. But there are some qualifications. For example, the growth rate in productivity does not depend just on the rate of innovation. It also depends on the rate at which technologies, methods and new products are travelling from cutting-edge frontier companies to laggards and sluggards. The faster that diffusion process is going on in the economy, the faster growth will be until there’s nothing more to be diffused.
How would you respond to someone in an office in Silicon Valley who might say, “From where I’m sitting, this still looks like a highly innovative, dynamic economy.”
I’m talking about the aggregate rate of innovation. And I’d point out that there’s been a virtual disappearance of innovation in the heartland. You still have that cutting-edge strip of innovation by people who’ve built companies on the edge of the Pacific Ocean. They’re doing fine, they’re innovating away. Although even there there aren’t the major ideas that were happening ten or 20 years ago. So maybe we’re going to see a complete wipeout of innovation. We’ll see what happens.