Entrepreneurship.

• Author: Montanye, James A.

The theory of entrepreneurship is one of the weakest links in modern economics. Despite an extensive and diverse literature (see Hebert and Link 1988; Casson 2003), entrepreneurship remains "the phenomenon which is most emphasized yet least understood by economists" (S. M. Kanbur, quoted in Hebert and Link 1988, xvii). The entrepreneur "is at once one of the most intriguing and one of the most elusive in the cast of characters that constitutes the subject of economic analysis" (Baumol 1993, 2). Many microeconomic theory and industrial organization texts omit mention of entrepreneurship altogether because neoclassical economics posits no need for it (Hebert and Link 1988, 156-57; Baumol 1993, 14). A few define entrepreneurship perfunctorily as the confluence of business decision making and ownership, and they attribute the "law" of diminishing returns to the fixity of entrepreneurial capital within the firm (see, for example, Hirshleifer 1976, 228,259). Survey texts expand this narrative by describing entrepreneurship as a factor of production, linking it to risk taking and innovation and tying entrepreneurial compensation to uncertainty and profits.

The economic literature on entrepreneurship per se typically defines the entrepreneur descriptively (that is, atheoretically). The term entrepreneur originally denoted anyone who undertook a project, and it subsequently grew to mean a merchant, employer, or manager (Hebert and Link 1988, 45-46). It has become synonymous in its loosest usage with self-employment and occasionally with self-unemployment. Several social science disciplines, including economics, sociology, psychology, history, and political science, have produced descriptive definitions (Casson 2003, 9); there are at least a dozen "distinct themes within the economic literature" alone (Hebert and Link 1988, 152). Virtually all of the economic themes are geared toward business enterprise, many are complementary, some are contradictory, and most lack empirical content. Nearly everything that might be said about entrepreneurship has been said at one time or another, in one way or another. Developing a "new" theory at this juncture consists largely of combining existing ideas in new ways--an entrepreneurial exercise in itself. The upshot is "a lack of any singular notion of just who the entrepreneur is and what he does that makes him vital to the economic process.... The concept of the entrepreneur admits no single, accepted definition in the literature of economics or its related disciplines. As a consequence, economic theory and policy dealing with entrepreneurship are bound to be ambiguous" (Hebert and Link 1988, xvii, xiii). For many economists, as for others, a

 realistic description of an entrepreneur would be one who is "at once a product and an agent of the historical process, at once the representative and the creator of social forces which change the shape of the world and the thoughts of man." In short, an entrepreneur is an innovator: someone who changes the factors of production to create something new. During the last couple of

decades, the weight of evidence seems to be that such individuals

are very few in number and that they reflect "general forces acting

in the economy" more than they mold them. (Folsom 2003, 3, quoting

Robert Thomas in part, footnotes omitted)

The entrepreneur is viewed nowadays as a mildly heroic figure, despite having been reviled (along with commercial pursuits generally) from classical antiquity until fairly recent times (he continues to be reviled whenever a "labor theory of value" binds analytical thinking). The entrepreneur serves the consumer's interest by looking at things as they are and seeing profitable ways to change them for the better (Mises [1949] 1996, 336-38). He is recognized as the individual who creates society's wealth and fosters economic growth (Schumpeter 1934; Leibenstein 1978; Baumol 1993). For all of this effort, he usually is assumed to be compensated out of the economic value that his efforts create.

Conventional entrepreneurship theory, in all of its variations, almost universally constrains the entrepreneur's role to activities within the firm, although economists occasionally admit that entrepreneurial behavior occurs in other venues as well, especially in the public sector. Few alternative concepts, other than generalized notions of "politics" and "self interest," have emerged to fill the lacuna. This situation is unfortunate for two reasons. First, economic thinking about entrepreneurship is divided across arbitrary descriptive boundaries, giving rise to insular theories of industrial organization, institutional change, economic evolution, politics, and human action, creating a situation where "[t]he ongoing fragmentation of knowledge and resulting chaos in philosophy are not reflections of the real world but artifacts of scholarship" (Wilson 1998, 8). Second, an overarching theory of entrepreneurship lies within the ambit of economic thinking.

The working definition of entrepreneurship that underlies this article is straightforward, though unconventional. Entrepreneurship is the process by which individuals acquire ownership (property rights) in economic rents of their creation. The creation and capture of economic rent in all its sundry forms (pecuniary and nonpecuniary, tangible and intangible) are the entrepreneurial individual's sole objectives not only in business enterprise, but in all aspects of life. The performance of entrepreneurial functions is the means to self-interested ends. Accordingly, actions that either generate no economic rent (or generate losses) or that produce rent in which the individual acquires no ownership interest (as under salaried employment, for example) fail the test of entrepreneurship. Individuals who earn only normal returns on their human capital are not entrepreneurs.

In this article, I summarize the scope of existing entrepreneurship theory, then expand three of its tenets: (1) entrepreneurship as a phenomenon of business enterprise; (2) economic rent as the source of entrepreneurial reward; and (3) uncertainty as the source of economic rent. The conclusion is not so much a new theory of entrepreneurship as a clarification and extension of existing theory based on classical principles of human action.

Entrepreneurship in Economic Theory

Entrepreneurship theory for the most part comprises descriptive statements about "indicative" characteristics (what the entrepreneur is)--delineating the entrepreneur "in terms of his legal status, his contractual relations with other parties, his position in society, and so on"--and about "entrepreneurial function" (what the entrepreneur does), depicting the entrepreneur in terms of "someone who specializes in taking judgmental decisions about the coordination of scarce resources" (Casson 2003, 19-20). The theory's failure to explain entrepreneurship empirically is a consequence of the extreme simplifying assumptions in neoclassical economics, in particular perfect competition and static market equilibrium, which assume, in turn, free and perfect information about markets, production processes, and so forth. These assumptions, which reduce the economic process to clocklike mechanics, overlook the need for specialized individuals to perform the discovery, coordination, promotion, and risk-bearing functions that neoclassical economics takes for granted. "The history of economic theory clearly demonstrates that the entrepreneur was squeezed from economics when the discipline attempted to emulate the physical sciences by incorporating the mathematical method.... Since there was not then, and is not now, a satisfactory mathematics to deal with the dynamics of economic life, economic analysis gradually receded into the shadows of comparative statics, and the entrepreneur took on a purely passive, even useless, role.... We may sacrifice realism on the one hand to gain precision, or we may give up precision on the other hand to gain realism. The choice we make determines the place of the entrepreneur in economic theory" (Hebert and Link 1988, 158-59). The "subjectivist" Austrian school of economics, which alone posits an entrepreneurial role within the economic process, supplies the realism in this context, whereas the "positivist" school, which derives "generalizations about economic phenomenon that can be used to predict the consequences of changes in circumstances" (Friedman 1953, 39), contributes the precision. The economist William Baumol starkly concludes that "the body of economic theory, as it has developed, offers no promise of being able to deal effectively with the description and analysis of the entrepreneurial function. For maximization and minimization have constituted the foundation of the theory, and as a result of this very fact the theory cannot provide an analysis of entrepreneurship" (1993, 14).

Economic theory intrinsically paints entrepreneurial individuals as self-interested economic actors, issuing from the same mold as Adam Smith's butcher, brewer, and baker. The alternative would be to assume that entrepreneurs are motivated by benevolence or altruism, and neither economics (see Becker 1976) nor sociobiology (see Wilson 1978) offers a theory of motivations that does not relate in some way to self-interest. Accordingly, economics posits implicitly that entrepreneurs maximize some subjective utility function in which pecuniary wealth and income (the objectives most commonly associated with entrepreneurship) are but two among many disparate variables. Other utility variables include such intangibles as status and ideological preferences. The economist Ronald Coase voiced the profession's dissatisfaction with the use of utility per se as an underlying motivational concept, arguing that "ultimately the work of sociobiologists (and their critics) will enable us to construct a picture of human nature in such detail that we can derive...