By Bertin H. Martens
The mainstream economics paradigm of competitive general equilibrium has been challenged recently by endogenous economic growth theories and their emphasis on ideas or innovation as the driving force behind economic activity. Innovation is basically incompatible with competitive equilibrium because it introduces non-convexities into economic systems. On the other hand, innovation prevents an economy from collapsing into general equilibrium and entropy death and should thus be seen as an essential ingredient to ensure sustainability of economic systems. The paper further explores the trajectory of embodiment of ideas and their role as separators or constraints throughout hierarchical levels in the economic system.
Present-day mainstream economics is based on the neo-classical paradigm of perfect competition among economic agents (consumers and producers) that would lead to a competitive general equilibrium which is the highest reachable state of welfare. From this neo-classical point of view, an economy is basically an entropy-maximising system: economic activity, voluntary transactions among agents, gradually pushes the system towards a situation where no further improvement in the agent's economic position is possible. From a system theory point of view, such a model is not viable and must inevitably lead to an end to all economic activity and entropy death because it has no built-in mechanism to maintain or increase differentiation.
Recent developments in macro-economic growth theory have challenged this neo-classical view. It has been shown that economic activity can not only be explained in terms of purely reproductive processes, fed by external material inputs. Endogenous economic growth models that generate new ideas or innovation within the economic system itself, provide a more powerful theoretical and empirical framework to explain economic growth. However, innovations or ideas have two properties that make them incompatible with the neo-classical assumption on diminishing returns or convexity, which is essential to reach competitive general equilibrium. First, ideas are non-rival: many people can use the same idea at the same time without any loss of utility to any of them. Second, ideas may be, under certain conditions, excludable: inventors have intellectual property rights, can take a patent or simply keep their formulas secret so that nobody else can use them. An effectively enforceable property right to an idea constitutes a monopoly, the very opposite of perfect competition.
In the light of these recent developments, economic theory may have to revise its paradigmatic basis. The one-sided entropy-maximising competition paradigm may have to be replaced by a more balanced two-sided paradigm whereby an economic system is driven by two opposing forces: the complexity-increasing force of innovation that provides economic agents with advantages or monopolies and the complexity-decreasing force of competition that tries to undo them and pushes towards an entropy equilibrium.
The emphasis on ideas - innovation - as a driving force in economic systems has also revealed the cutting-edge trajectory of ideas throughout hierarchical levels in these systems and their essential role as separators (constraints) that permit their embodiment into rules, institutions and goods and services. Innovation is the separator that prevents an economic system from collapsing into entropy death when competitive general equilibrium would be reached. Innovation should thereby be interpreted in a wider sense than purely entrepreneurial behaviour. Consumers also display innovative behaviour to constantly improve their social position in society and institutions (groups of individuals) should constantly adapt their behavioural rules to new internal and external challenges.