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    Bba - Unit-5

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    Priya Nandhakumar
    Joseph Schumpeter developed the innovation theory of business cycles. He argued that cycles are caused by innovations introduced by entrepreneurs seeking to gain profits. When an entrepreneur innovates, it creates a gap between the existing and new price that generates profits. However, as other entrepreneurs imitate the innovation, profits disappear. This leads to recurring periods of boom and bust as entrepreneurs continuously innovate and imitate one another. Schumpeter's model has two stages: 1) innovation spurs increased production and economic expansion, and 2) demand declines for old products as the innovation is adopted, leading to falling prices, reduced output, and eventual depression until new innovations spark another boom.

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    Bba - Unit-5

    Uploaded by

    Priya Nandhakumar
    54 views3 pages
    Joseph Schumpeter developed the innovation theory of business cycles. He argued that cycles are caused by innovations introduced by entrepreneurs seeking to gain profits. When an entrepreneur innovates, it creates a gap between the existing and new price that generates profits. However, as other entrepreneurs imitate the innovation, profits disappear. This leads to recurring periods of boom and bust as entrepreneurs continuously innovate and imitate one another. Schumpeter's model has two stages: 1) innovation spurs increased production and economic expansion, and 2) demand declines for old products as the innovation is adopted, leading to falling prices, reduced output, and eventual depression until new innovations spark another boom.

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    BBA -UNIT-5

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    Joseph Schumpeter developed the innovation theory of business cycles. He argued that cycles are caused by innovations introduced by entrepreneurs seeking to gain profits. When an entrepreneur innovates, it creates a gap between the existing and new price that generates profits. However, as other entrepreneurs imitate the innovation, profits disappear. This leads to recurring periods of boom and bust as entrepreneurs continuously innovate and imitate one another. Schumpeter's model has two stages: 1) innovation spurs increased production and economic expansion, and 2) demand declines for old products as the innovation is adopted, leading to falling prices, reduced output, and eventual depression until new innovations spark another boom.

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    © All Rights Reserved
    Download as DOCX, PDF, TXT or read online from Scribd
    Download as docx, pdf, or txt
    54 views3 pages

    Bba - Unit-5

    Uploaded by

    Priya Nandhakumar
    Joseph Schumpeter developed the innovation theory of business cycles. He argued that cycles are caused by innovations introduced by entrepreneurs seeking to gain profits. When an entrepreneur innovates, it creates a gap between the existing and new price that generates profits. However, as other entrepreneurs imitate the innovation, profits disappear. This leads to recurring periods of boom and bust as entrepreneurs continuously innovate and imitate one another. Schumpeter's model has two stages: 1) innovation spurs increased production and economic expansion, and 2) demand declines for old products as the innovation is adopted, leading to falling prices, reduced output, and eventual depression until new innovations spark another boom.

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    UNIT-5 Schumpeter’s innovation theory of Trade cycle or Business cycle

    Innovation Theory of Trade cycle was given by Joseph Schumpeter .He considered trade
    cycles to be the result of innovation activity of the entrepreneurs in a competitive economy.
    In his view trade cycles are an inherent part of the process of economic growth of a capitalist
    society. According to Schumpeter innovations in the productive process was done with
    an objective of reducing the cost of production of the commodity. This creates the gap
    between the existing price and the new price of the commodity.

    According to Schumpeter the following are the ways of innovation.

     Introduction of a new plant.


     Introduction of new technique.
     Change in internal structure of the organization.
     Change in the quality of raw materials.
     A new form of energy.
     Better method of salesmanship.

    Innovations are not possible by all entrepreneurs, only exceptional entrepreneur, with
    extra ordinary ability can innovate and take bold action .These entrepreneurs are
    capable of tapping new resources, technical knowledge and reduce the cost of
    production. According to Schumpeter , the the entrepreneur innovates and so profit is for the
    entrepreneur and not for the capitalist.

    Profit are of temporary nature, the entrepreneur who innovates first get normal profit for
    a short period soon other entrepreneurs, compete for profits in the same manner. So, the
    entrepreneurs make another innovation. This profit will appear and disappear and again
    appear. So, According to Schumpeter profits are caused by innovation and disappear by
    imitation.

    Schumpeter develops his model of the trade cycle as consisting of two stages.

    1. The first stage deals with the innovation which entrepreneurs introduce in their production
    process. As the innovation steps up production, the circular flow in the economy increases.
    Supply exceeds demand, Money incomes and prices rise. There is a expansion of economic
    activity in the whole economy which leads to Boom condition.

    2. In the second stage the period of prosperity ends. The demand for the already innovated
    products (old products) goes down, their prices fall and consequently their producer-firms are
    forced to reduce their output. In this atmosphere, uncertainty and risks increase. Depression
    sets in. The economy is on its way downward into depression. The economy cannot continue
    in depression for long. Innovation-minded entrepreneurs continue their search for profitable
    innovations. As fresh investments take place, some of the more adventurous entrepreneurs
    will start innovating and another boom is on the way. This completes the phases of a full
    trade cycle.
    1
    Sun-Spot Theory:
    Sun-Spot Theory is the oldest theory of business cycles. Sun-spot theory was
    developed in 1875 by Stanley Jevons. Sun-spots are storms on the surface of the sun
    caused by violent nuclear explosions there. Jevons argued that sun-spots affected
    weather on the earth.

    Since economies in the olden world were heavily dependent on


    agriculture, changes in climatic conditions due to sun-spots produced
    fluctuations in agricultural output. Changes in agricultural output
    through its demand and input- output relations affect industry. Thus,
    swings in agricultural output spread throughout the economy.

    Other earlier economists also focused on changes in climatic or weather


    conditions in addition to those caused by sun-spots. According to them,
    weather cycles cause fluctuations in agricultural output which in turn
    cause instability in the whole economy. Even today weather is considered
    important in a country like India where agriculture is still important.

    In the years when due to lack of monsoon there are drought in the Indian
    agriculture, it affects the income of farmers and therefore reduces
    demand for the products of industries. This causes industrial recession.
    Even in USA in the year 1988 a severe drought in the farm belt drove up
    the food prices around the world. It may be further noted that higher
    food prices reduce income available to be spent on industrial goods.

    Critical Appraisal:
    Though the theories of business cycles which emphasize climatic
    conditions for business cycles contain an element of truth about
    fluctuations in economic activity, especially in the developing counties
    like India where agriculture still remains important, they do not offer an
    adequate explanation of business cycles.

    Therefore, much reliance is not placed on these theories by modern


    economists. Nobody can say with certainty about the nature of these sun-
    spots and the degree to which they affect rain. There is no doubt that
    climate affects agricultural production. But the climate theory does not
    adequately explain periodicity of the trade cycle.

    2
    If there was truth in the climatic theories, the trade cycles may be
    pronounced in agricultural countries and almost disappear when the
    country becomes completely industrialised. But this is not the case.
    Highly industrialised countries are much more subject to business
    cycles than agricultural countries which are affected more by famines
    rather than business cycles. Hence variations in climate do not offer
    complete explanation of business cycles.

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