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The Political Economy
of Innovation Development

Iurii Bazhal

The Political
of Innovation
Breaking the Vicious Cycle of Economic Theory

Iurii Bazhal
National University of Kyiv-Mohyla Academy
Kiev, Ukraine

ISBN 978-3-319-54851-7
DOI 10.1007/978-3-319-54852-4

ISBN 978-3-319-54852-4 (eBook)

Library of Congress Control Number: 2017939600
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1 Introduction
2 Innovations: A known Unknown Phenomenon of Economy
2.1 Apparent Phenomenon of Innovations
2.2 Mainstream of Macroeconomics: Without “Innovations”
2.3 Innovations: The Known Unknown Factor of Economic
2.4 Innovations in the Main Neoclassical Models of Growth
2.5 “Total Factor Productivity” and “Creative Destruction”
Versus Innovations
3 Key Features of Schumpeter’s Theory of Economic
3.1 Missed Pillar of Schumpeter’s Theory: Tugan-Baranovsky

3.2 Schumpeter’s Invention: Innovation as Main Factor
of Development
3.3 Neo-Schumpeterian Heterodox Theory of Economic
4 “Vicious Cycle” of Political Economy Without “Innovations”
4.1 Political Economy as Theory of the Wealth of Nations





4.2 Key Factors of Economic Development as Sources of Added
4.3 The Necrophilia Syndrome of Political Economy:
5 Innovation Development Versus Re-industrialization
5.1 Terminology Influences Economic Policy
5.2 Innovations in “Post-industrial Society” Conception
5.3 Innovations in Evolutionary Economics


6 Evaluating Innovations Impact on Economy
6.1 Quantitative Assessment of Innovations Efficiency
6.2 Sample of Estimating Structural Technological Dynamics



7 Human Capital and Innovation Development
7.1 Innovation Development and Increasing Wages
7.2 Productivity and Wages: Neoclassical Canon
7.3 Exogenous Increase of Wages: Evidences from Analogies
7.4 Why Wages Are So Different in Transition Economies?





Fig. 4.1
Fig. 4.2

Fig. 6.1



Key factors of economic development according to different
basic economic theories
Historical chronology of interrelations the technological
paradigms, dates of the worldwide economic crises, and
creating main economic conceptions regarding the decline
and revival capitalism
Comparison of indicators of GDP per capita and the number
of the US PTO utility patents granted per million populations
in 2010 for 75 countries






Table 4.1

Table 6.1

Table 6.2
Table 6.3
Table 6.4

Table 7.1
Table 7.2



The dynamics of the GDP per capita of selected countries
in Eastern Europe 1990–2008 compared to the average
of 12 countries in Western Europe
Number of invention patents granted by the US PTO
to the citizens of the states which demonstrated dynamic
development for 1995–2010
Structural dynamics of the industry of Ukraine by levels
of technologies in 2001–2008
Structural dynamics of Ukrainian industry by technological
paradigms in 2001–2008
Structure of Ukrainian industrial export in 2008 by type
of branches on the basis of the different technological
Dynamics of real GDP, GDP per capita, and average wages
in the years of market transformation in selected countries
Annual absolute increasing of the average monthly wages in
selected countries








Abstract The chapter presents the key conceptual contents of the book
that reveals the category of Schumpeterian innovations as an isolated
factor of economic development which creates a new added value and
may become like “stem cell” of the new mainstream theory of economic
development. The neoclassical approach does not distinguish innovation
in this role and it leads to formation gap between the fundamental economic theory and the real innovation processes in modern economy. The
analysis of the threats and negative consequences of the existence of this
gap for economic theory and practice as well as positive impacts of its
elimination is contained. The readers can have a fresh look on some known
problems and recognize new approaches.
Keywords Schumpeter’s theory of economic development Á Schumpeter
innovations as fundamental category Á The gap between neoclassic theory
and innovation activities Á Political Economy of innovation development Á
Structure of the book

The subject of this book can be attributed to one of the fundamental
phenomena of our existence, true nature of which is not always immediately understandable to science, and it takes a long time to elucidate this

matter. A classic example is discussions about structure of our Solar
System. Approximately it took 150 years for scientists to abandon

© The Author(s) 2017
I. Bazhal, The Political Economy of Innovation Development,
DOI 10.1007/978-3-319-54852-4_1




Claudius Ptolemy’s geocentric planetary system, which was the canonical
position for more than 1,300 years, in favour of the heliocentric system of
Nicolaus Copernicus. In our view, today a similar situation exists regarding The Theory of Economic Development elaborated by Joseph
Schumpeter, in which Schumpeter propounds the idea that the primary
driver of economic growth is the phenomenon known as innovations.
This phenomenon we all can observe every day. Information on this
subject is constantly provided by companies, universities, government
bodies, the media, books, etc., whereas in fact it remains ignored by
fundamental economic science. Using the above-mentioned historical
example, an allegory may be offered: everybody sees and feels the Sun
(innovations), but the dominant fundamental economic theory (mainstream) does not present it properly in structure of its scientific categories.
It may well be that the reader’s first reaction to this statement is quite
critical: “That’s not true!”, “That’s impossible!”. However, the book was
written precisely to prove the soundness of our conclusion and draw the
attention of theoreticians and practitioners to the actual existence of the
mentioned paradox, and what is more, to demonstrate the risks and

negative consequences of this controversy for economic theory and economic policy.
It has been over 100 years since Joseph Schumpeter put forward a new
theory of economic development. However, as noted earlier, the mainstream of economic theory still does not view innovations as the isolated
decisive factor of growth. These phenomena are recognized as separate
ingredients of the traditional aggregate production factors (in production
function): capital (K), labour (L), total factor productivity (TFP). But
Schumpeter proved scientifically that innovations are emerging as key
determinants of economic development that are isolated from the existing
factors of K, L, and TFP.
In this book we would like to draw the reader’s attention to the existing
conceptually state of things when the modern mainstream of economic
theory in fact does not consider Schumpeter’s theory of economic development as a systematic science doctrine. That is why a separate chapter of
our book is dedicated to laying out the specifics of this doctrine.
The present book represents the proofs showing that the main modern
University textbooks in Political Economy, Macroeconomics, and
Economics contain virtually no detailed systematic exposition of
Schumpeter’s theory of economic development in which the category of
innovations is put as a separate key factor of economic growth. On the



other hand, we point at the obvious fact that innovation policy today is the
main component of economic strategy of all successful business structures,
on the microlevel, and of advanced and dynamic countries, on the macrolevel. Thousands of scientific and popular books on innovative management and marketing have been published, in addition to dozens of
thousands of research papers on practical problems of innovative activity,
which present a multifaceted empirical analysis of innovation processes in
different countries. But in Universities the students do not see this modern

demand practice on innovations while they are studying the basic fundamental textbooks in economic theory.
Hence, several research questions are emerging. Why has this huge
conceptual gap between the fundamental economic theory and actual
practice regarding the Schumpeter innovations phenomenon has been
formed and why does it still exist? What are the threats and negative
consequences of the existence of this gap for economic theory and
practice? What the positive impact on economic theory and practice
could be from the perception that the category of Schumpeter innovations constitutes a key factor of economic development? This book tries
to answer these questions in the conceptual framework of fundamental
theory of Political Economy. This is its specificity and originality.
As far as we know (partly this is demonstrated in the text), the approach
presented on theoretical analysis in the book has a high degree of novelty
and therefore is natural that it is open to criticism and further development. Moreover, the format of “Palgrave pivot” series presumes a brief
presentation of major new ideas that will be further disclosed in the
following publications.
The main findings of this book are related to the consideration of the
paradigmatic assumptions of Schumpeter’s theory of economic development, which give to this theory the status of a separate economic doctrine
that is conceptually different from the neoclassics mainstream. These
assumptions of Schumpeter’s theory can claim to be the fundamental conceptual blocks of the new Political Economy of Innovation Development.
Given the format of the book, we focus mainly on those conceptual
blocks of Schumpeter’s theory that are little or not fully disclosed in the
literature. Due to this we paid less attention to certain achievements of
Schumpeter’s theory, which are thoroughly developed and presented in
scientific publications. First of all, we mean advanced heterodox theories,
especially Evolutionary Political Economy concerning the analysis of the
role of innovations for unbalanced economic development as well as



Complexity Economics and Information Economy concerning the policy
under uncertainty and taking into account the current economic features
of the innovation high-tech achievements.
So what are these lesser known, but vitally important for economic
theory and practice, conceptual blocks of Schumpeter’s theory that we
explore in this book to justify the appropriateness of talking about a new
doctrine of Political Economy of Innovation Development?
First of all, this is a heuristic invention by Schumpeter that innovations
are the new isolated production factor that by itself can create new added
value. It is because innovations create “a new purchasing power,” which is
then transformed into the innovator’s earnings by crediting. This profit is
not the result of the redistribution of the total income of the country of
the previous period, but that arises as the new added value. That is why
Schumpeter innovations can ensure by itself the actual economic growth
that is the increase in the country’s GDP. Therefore, in the “Pareto
efficiency” state the Schumpeter innovations can extensively increase the
country’s GDP without increasing the given resources by creation of new
innovation resources.
We consider this to be a paradigmatic discovery in economic science,
because it helps explain many modern phenomena of economic reality
which are mysterious for the traditional neoclassical mainstream and
provide theoretical justification for the innovative model of economic
These mysterious phenomena include the following: the existence of a
“life cycle” of mainstream economic theories, when they have declined
inevitably after temporary dominance (present neoclassical mainstream is
also in crisis); the unexplained nature of such specific income as growth of
shares value (equity), which now rapidly generates earnings of billions of

dollars and creates thousands of new millionaires; the generation of new
added value by knowledge capital; non-inflationary growth of wages without an increase in productivity of the existing (before the emergence of
innovation) capital and labour resources, but in the conditions of innovation implementation; economic nature of production with high added
value (without the specifics of Schumpeter innovations is difficult to explain
it just because of the high degree of processing of goods); the dominance
of service industries in the GDP of developed countries; and other. The
second important conceptual block of Schumpeter’s theory, which is
overlooked by the neoclassical mainstream, is the explanation of the
economic nature of periodic economic crises and mechanisms to



overcome them through the understanding of the flow of innovation
processes in a historical context. The distinction of Schumpeter’s theoretical approach from neoclassical logic lies in its recognition of the inner
forces of the market system, which conditions the economic crises of
capitalism, whilst also determining recovery and economic growth.
These forces are technological innovations.
When previous innovations become as conventional production
resources, the national economies will inexorably come to a crisis point;
progressive innovation of technological change can help overcome such
crisis and stimulate economic growth. Thus, innovations become as “endless transition,” as “endless technological change.”
In the general sense, we consider two contradictory approaches to
explain the nature of economic growth and business cycles –
Neoclassical and Schumpeterian. The first believes in the efficiency of
general equilibrium supporting the constants of main ratios between output, investments, consumption, and employment: this methodological
path does not pay special attention to the proportions of the national
economy’s technological structure. Conversely, the Schumpeterian

approach does pay attention to the emergence of technological innovations and the economic structure by sectors with a different level of
innovation technology. Josef Schumpeter referred to these two attitudes
as the “Statics” and “Dynamics” stages of cyclical economic development.
According to Schumpeter, the real economic growth can only be found
upon the “Dynamics” stage. This conceptual segment has been developing in Neo-Schumpeterian approaches and we use them to elaborate
appropriate analytical tools and proposals in order to enhance economic
The uncompromising separation of the existing state of the economy
and the future one, which is formed by the emergence of Schumpeter
innovations, is another important conceptual block of Schumpeter’s theory. His theory of economic development is a theory that denotes fundamental changes to the current state of affairs: a leap into a new quality (new
combination), which is mostly impossible to foresee. Hence, it is important
to focus particularly on the fact that in order to ensure long-term economic growth of a country, it is necessary to form new production
structures on the basis of innovation technology, rather than transforming
traditional production structures. These structures are important for the
preservation of existing scopes of national product and the support of
operations in the mode of economic “Statics,” but the “Dynamics”



mode of economic systems is directly related to innovation development
and the corresponding growth of that country. In this book, we show that
this finding is particularly significant for transition economies.
The title of this book has two parts: “Political Economy of Innovation
Development: Breaking Vicious Cycle of Economic Theory.” We believe that
category of Schumpeter innovations as isolated factor of creating new added
value has direct connection to different mainstream economic theories in
historical dimension. But this relationship has been remaining invisible.

Schumpeter innovations have been changing the economic world, and as
we consider they also have been transforming the mainstream theories. In
this book we show that there was and exist today the problem to include the
category of innovations into categorical systems of mainstream theories. We
try to give arguments for our hypothesis that mainstream theories have fallen
into decay because we did not take into consideration the meaning of
Schumpeter innovations. This state can explain the existence of surprising
Vicious Cycle of Economic Theory when any mainstream theories could not
keep themselves in such quality for the long time. It seems that the neoclassical mainstream is no exception.
Our retrospective look at the history of Political Economy provides an
argument for concluding that there is also a certain “vicious cycle” in
solving some of the fundamental theoretical issues. We believe that there
are two interconnected key issues (or main research questions): “How are
the states getting rich?” (The Wealth of Nations) and “What is the nature
of added value?”. Every new theory of Political Economy that acquired
“mainstream” status has put forward a new theory concerning the main
factor (driving force) of economic development, and rejected a previous
theory. This descended from the invention of a new concept of added
value. If a country in economic policy will be operating in old concept of
added value, such economy will remain under threat of crisis.
In this book, we give evidence that indicates the existence of a “life
cycle” for each of the core theories. At the beginning of their practical
application, each of these “life cycles” promoted the progress of human
civilization; however, later the crisis aroused revolutions, after which new
economic development was conditioned by the implementation of new
economic ideas and the forming of a new mainstream theory and a
recognition of the new main factor of development, etc. The present
period is not excluded. Today, traditional Political Economy is in crisis
and again, as in history, many experts talk about the decline of economics
as a discipline. In this book we aim to substantiate the view that Political



Economy in order to revival must include the category of Schumpeterian
innovations as a mandatory key part of conceptual framework.
The same we could have observed regarding influence of new technological paradigms in forming different mainstream economic theories. It is
well known about influence of innovation technological change on the
many economic and social processes in historical dimension. But we
demonstrate that among key categories of mainstream theories the isolated category of technological innovations is absent. As we shown, the
category of resources’ productivity cannot present the Schumpeter innovations in a full measure. Innovations were precisely this phenomenon which
pushed the emergence of new economic relations and concepts. However,
this factor has always remained in the shadows when the core construction
of main successive theories has been established and discussed. Why
innovations did not become as the main special category of Political
Economy? I think it is enigma the history of economic thought. Here we
also make attempt to give some explanation. In this book we position the
category of Schumpeterian innovations like a stem cell of Political Economy
of Development.
The reader will certainly wonder about the practical significance of our
analysis and conclusions presented in this book. Do they have today
practical application? We are trying to answer this question in the text.
Further in the introduction we will briefly present the main findings that,
in our opinion, make the book both theoretically and practically relevant.
The analysis showed that the absence of the category of Schumpeter
innovations in mainstream economic theories did not allow them to
adequately explain economic processes that occurred due to change in
the technological paradigm of the economic system. First of all, this was

due to improper identification of the causes of global economic crises that
periodically arose in the recession phase of the technological paradigm
(Kondratiev’s long wave). As a result, such theories not only lost their
explanatory function and consequently fell into decay, but also became a
reactionary obstacle to economic development, predicting the collapse of
the economic system.
Today, we can clearly observe such processes. The economic policy,
which is based on the rules of the dominant neoclassical theory, demonstrates its effectiveness only for the Statics mode of economic system. But
the recipes of this theory in response to crises are linked not to activation of
innovative processes, but to the implementation of austerity policies with
reduced funding for science, education, and innovation infrastructure. This,



invariably all the same, leads to the formation of financial bubbles because
debts generate new debts, to the threatening increase in social inequality
and poverty, increase in unemployment, uncertainty in the future, especially
among young people, etc.
In our opinion, the lack of attention to the innovation policy instruments in the proposed neoclassical recipes is caused by the lack of the
conceptual vision that Schumpeter innovations independently create new
added value, which can help the budget grow and not be the sum from
reallocation of existing added value in favour of new articles and expenditure volumes. Therefore, such policy does not provide the desired economic development for a country, especially while the policy of the
inclusion growth is realized.
At the same time, we see the success of the economic policies which de
facto implement Joseph Schumpeter’s innovative model of economic
development. These include the dynamic countries of Southeast Asia,
the USA, Canada, Scandinavia, Germany, Great Britain, Switzerland,

Denmark, the Netherlands, Estonia, Israel, and others. They spend considerable financial resources primarily on the development of the country’s
human capital, and the development of national innovation systems. These
right actions were probably the result of empirical observations of the
effective activity of successful businesses and countries rather than the
provisions of the basic University textbooks or the recommendation of
scientific centres that are followers of the theoretical positions of neoclassical mainstream.
Thus, we believe that the reason for the fact that many countries practically do not provide the intensive innovation development is mainly the lack
of adequate theoretical understanding of the role of Schumpeter innovations
as the key driving force of economic growth. By focusing on the revitalization of traditional factors of economic growth, they supply the austerity
policy concerning the education, science, institutions supporting innovation
processes, and the social security. But priority is policy to supporting of
foreign investment and financial lending for the development of traditional
economic sectors without giving due attention to the need for creation of
advanced innovative industrial structures. As a result, not only such countries fail to achieve the desirable grows, but also politicians often cannot
explain the reasons for failure, because they seemingly were applying recommendations of recognized expert organisations, in particular the
International Monetary Fund. But explanation to this situation is because
recommendations were as neoclassical not from Schumpeterian approaches.



This collision is most prominent in transition economies. In our analysis of the features of this group of countries, in many cases, we examine
them based on the facts and materials relating to Ukraine. On the one
hand, this is due to the fact that, living in Ukraine, the author operates
with the experience and data that he knows well not only through statistics
and literature, but also through active participation in discussions accompanying drawing up economic policy-making and the evaluation of its
results. This allows for deeper perception and understanding of the conceptual nature of opinions of politicians and experts, including foreign
consultants who had influenced decision-making. But by using Ukrainian

data, the author’s aim was not to highlight the specificity of Ukraine’s
economy as a separate topic. The main reason for operating with the
Ukrainian experience in this study is that Ukraine among the European
transition countries has become the distinguishing economic victim of
implementation the recipes of neoclassical theory.
Today, after 25 years of building of market economy, Ukraine has
descended to the last place in Europe in terms of GDP per capita, level
of salaries, pensions, and social security. We believe that this is the result of
underestimation of the innovation factor of economic development. Such
conclusion regards many countries not only Ukraine. The evidences of this
assertion are main content of this book. The Ukrainian sample give us
suitable case to use in analysis the method proof by contradiction, when
the innovation development factor is insufficiently implemented in a
country. It gives us opportunity to discover and analyse the deep methodological roots of current mistakes of economic policy.
But these processes also are manifested in other transition countries,
where building an efficient market system had been from virtually “zero
cycle.” So these countries have become an unique experimental polygon
to testing economic theories. This book considers these samples through
the innovation model of economic development. This approach let
explain the “trap” in which the some developing transition countries
have found themselves, that were focusing on a policy of increasing
output of traditional industries, but were not supporting the creation a
powerful innovation resources for dynamic long-run development.
Many of these countries, including Ukraine, failed to achieve prosperity
in terms of a welfare economy. Why did that happen? Why the classical
recipes of building market institutions turned out not effective? What
mistakes were made? The common, typical answers from a current economic literature arise from the same neoclassical approaches: the failures



were due to bad market institutions which did not give an appropriate
environment to manifest market forces. But there are many examples in
history when the countries implementing these neoclassical recommendations did not reach levels of success. Our analyses of these subjects also
necessarily lead us to elaborate a new theoretical framework to answer the
In this book we would like to show that model of building capitalism according to the canonic neoclassical recommendations in reality did not improve the lives of the majority of transitive countries
because it was the model which Schumpeter classified as the “Statics.”
Moreover, those countries that complied with only the “canonical”
neoclassical prescriptions from the “Washington consensus” suffered
major setbacks.
Another Ukrainian context is presented in detail in the book not
because the author wants to highlight his region but because of importance for presenting the main subject of the book, which applies to any
country. This also relates to necessity to use the theory of economic crisis
of the famous Ukrainian economist M.I. Tugan-Baranovsky in modern
theoretical discourse. This theory was formulated in 1894, and it is rightly
considered to be the first scientific theory of economic crises. And what is
important for our analysis is the fact that this theory became a fruitful
conceptual basis for Schumpeter’s theory of economic development
(through the influence by Arthur Spiethoff). This relates to proving the
hypothesis of the existence of internal objective factors of economic crises.
The important point here is that these factors are directly related to the
innovation process. This theory of M.I. Tugan-Baranovsky is less known
to the public, but it is very important to know for a better understanding
of both Schumpeter’s theory of economic development and NeoSchumpeterian approaches.
The reconsideration of the Schumpeterian approach gives the author a
new methodological space to upgrade understanding of some key fundamental concepts that are nearly forgotten in modern publications and text
books: the significant meaning of the original key subject of Political

Economy, namely, The Wealth of Nations, but not only the Pareto equilibrium; the theory of value, theory of long-run economic cycles, the
structural technological policy, and the influence innovations on increasing the real wages. The rethinking of core theoretical categories will be
managed by comparing the principles of neoclassical “Statics” economy
with special features of the innovative “Dynamics” economy.



The timeliness of this book is highlighted in that today, the model of
innovation economic development de facto engages in competition with
the conception of “Industrial Modernization” that has become popular in
many countries, especially amongst those that demonstrate weakness in
their potential for innovation development. In such countries, many
experts suggest building a strategy of economic development based
upon supporting traditional industrial enterprises by their modernization,
including through innovation. This point of view is limited because today
the traditional industrial markets reach maturing very quickly, and their
profitability subsequently decreasing. The current economic crisis has
further confirmed this finding.
The book is structured as follows.
Chapter 2 considers the existence of conceptual collision when the
mainstream of economic theory takes no notice of Schumpeter’s theory
of economic development as the systematic doctrine. This raises serious
theoretical and practical problems because the innovation development
has become a key priority of successful economic policy. The chapter
reveals the conceptual nature phenomenon of innovations as central category of Schumpeter’s theory, which is positioned as independent factor
creating new added value. Category of innovation may become like a stem
cell of the new Political Economy of innovation development. It is shown

that methodological underestimation of innovation as fundamental category of economic theory led to the inadmissible gap between the neoclassical mainstream theories and the real innovation processes of modern
economic life.
Chapter 3 reveals genesis and essence of Schumpeter’s theory of economic development. The chapter analyses its core methodological findings
and gives theoretical grounds for proposition that only innovation development can be able to increase national added value; it highlights the
conclusion that an economy based on reproduction and development of
traditional production structure is unable to obtain substantial increase in
national wealth. The chapter also analyses a less known conceptual background of the Schumpeter’s innovation theory related to M.I. TuganBaranovsky ideas on the business cycle theory, as well as the NeoSchumpeterian theory of technological paradigm, which has created a
conceptual basis for a new methodological vision of the cyclical nature of
economic development and the anti-crisis state policy.
Chapter 4 analyses the role and place of Schumpeter innovations in the
categorial system of the economic theory, and it is substantiated of its



importance in order to recognize the subject of Political Economy as the
doctrine on the Wealth of Nations. It is shown that over time the country’s
absolute economic wealth was lost as the main subject in Economics. The
chapter shows that phenomenon of innovation did not acquire the status
of a key scientific category in the formation of new theories and remained
as the visible invisible factor of development. The technological innovations not only changed the course of economic history; they also have
been changing mainstream economic theories.
Chapter 5 investigates the methodological background of modern
attempts to establish the names for current and future type of our socioeconomic system. It is shown that unexpectedly many experts came back
to the old used terminology and have offered to define new phenomena to
use category of “Industrialisation” in different combinations, but not
using category of “Innovation”. The chapter analyses such controversy
and considers as avoidance of the recognition of Schumpeterian conception as new mainstream of economic theory. The traditional economic

programmes pay attention to the competitive advantages of available
resource base with proposals of their further modernization. Modern
Schumpeterian programmes must be created to elaborate the innovation
model focusing on the creation of new knowledge resources for gaining
new competitive advantages.
Chapter 6 provides quantitative testing of the credibility of
Schumpeterian hypothesis about innovative nature of economic development. The rating method of “Global competitiveness report” was used to
evaluate innovations’ impact on welfare of different countries. The results
are that all rich countries had an active innovation processes, and the
dynamic catch-up countries demonstrate strong interest in implementation of innovation technologies. The chapter also analyses the structural
technological development of Ukrainian industry. The structure of industrial sectors was classified according to technology levels and as belonging
to technological paradigms. It could be an effective analytical method to
evaluate production facilities of the economic activity in the context of
technological determinism of the innovation theory of economic
Chapter 7 gives arguments that category of Schumpeter innovations can
give an understanding of the contemporary “paradox” of the productivity
slowdown that has emerged simultaneously with a fundamental change of
innovation technologies and increasing accumulation of human capital.
The chapter analyses this problem for transitive countries regarding the



big differentiation of its labour cost. It is difficult to explain this phenomenon by the cardinal changes in the physical labour productivity for the
existing comparable productions, but it can be done taking into account
the difference in the wages policy and the innovational changing of
technological structure of production. The analysis shows the transitive

countries that had undertaken considerable gradual increase in labour cost
and simultaneously stimulation of the innovation activities have ensured a
high dynamics of real GDP.
The proposed new Political Economy of Innovation Development contains findings that the R&D and the technological innovation sphere of a
country is not so much the result as the key factor of sustained economic
growth. In many ways, the innovation technological determinism shapes
the economic preconditions for the cyclical surge formation with its phases
of recovery and expansion after crisis. Readiness to innovations becomes
the main competitive advantage of national economies, determines its
position in the world competitiveness ranking, and becomes the main
capability in order to reaching the well-being of these countries.
The presented new concept of Political economy for innovation development, the new analytical angle to analyses of urgent economic problems
and challenges of the economic development policy will be interesting for
academics, professional analytics, and politicians in many countries, especially in transitive and emerging economies. Also, it could be attractive for
the mass audience interested in modern economic problematics and discussions. It gives to readers the materials to have a fresh look on some
known problems, to recognize new ones and, that is very important, to
attract more attention to recognition a practical function of modern
economic theory.


Innovations: A known Unknown
Phenomenon of Economy

Abstract This chapter considers the existence of conceptual collision
when the mainstream of economic theory takes no notice of
Schumpeter’s theory of economic development as the systematic doctrine.
This raises serious theoretical and practical problems because the innovation development has become a key priority of successful economic policy.
This chapter reveals the conceptual nature phenomenon of innovations as

central category of Schumpeter’s theory, which is positioned as independent factor creating new added value. Category of innovation may become
like a stem cell of the new Political Economy of innovation development.
It is shown that methodological underestimation of innovation as fundamental category of economic theory led to the inadmissible gap between
the neoclassical mainstream theories and the real innovation processes of
modern economic life.
Keywords Phenomenon of innovation Á Innovation development Á
Schumpeter innovations Á Neoclassics theories Á Schumpeterian neoclassical models Á Total factor productivity Á Creative destruction





Comparing the scale of presence of the “innovation development” topic in
the modern real economic policy and practice, especially in the developed
countries, and level of attention to this subject in fundamental economic
© The Author(s) 2017
I. Bazhal, The Political Economy of Innovation Development,
DOI 10.1007/978-3-319-54852-4_2




theories, we can easily recognize a big difference in favour of real policies
and practices. This gap needs explanation in itself and raises the question:
“Does the modern economic theory fulfil its practical function?”
In this book, we will try to pinpoint the cause of this paradox, which
should enable us to eliminate it going forward. Fundamental economic
theory and the theory of innovation activities must exist in organic combination to help solve the current problems of economic theory and
practice alike and create the methodological basis with a view towards
the formation of an effective economic development policy.
As it is well known, the recognized analytical and statistical publications
of the leading international organizations specifically designed for monitoring the R&D and innovation practices demonstrate impressive volume
of innovation activities in the economies of developed countries. Here are
the links to the latest issues as an illustration: The Organisation for
Economic Co-operation and Development (OECD 2015; World Bank
2014), The United Nations Conference on Trade and Development
(UNCTAD 2011), European Union (European Commission 2015);
respected analytical publications of the National Science Foundation
(NSF) in the United States of America (USA) (National Science Board,
2016) and resonant innovation ranking of countries by the World
Intellectual Property Organization (WIPO), Cornell University, and the
European Institute of Business Administration (INSEAD) (Cornell
University et al 2015), etc. These are the general worldwide reports.
The global pool of publications on the topical issues of the innovation
policies of individual countries, industries and enterprises includes thousands of books, articles, reviews, etc.
The phenomena of “innovations” and “innovation activities” are presented here as an independent core object of analysis and policy. It should
also be pointed out that the authors of the mentioned publications clearly
recognize this object (innovations) as a key factor of economic development in different countries, regions, and business. Therefore, in order to
gain an adequate understanding and perception of statistical, analytical,
and scientific investigations on the innovation thematic, it is important to
define the specific content of the used terminology and to point out an
additional categorial specific of innovations that we analyse in this book.

Interpretations of “innovations” as a term and a category are given a lot
of attention in many publications nowadays. Often, the term “innovation”
just designates something new, being used as a synonym to “new things”
or “novelties”. As a result, a wide array of definitions and interpretations




has been accumulated. Those have stimulated special generalized analytical studies in this information field. For example, it is worthy of attention
the fundamental interdisciplinary monograph by Benoit Godin titled
Innovation Contested. The Idea of Innovation over the Centuries (Godine
2015). There, meticulously collected examples pertain to the use and
interpretation of the term “innovation” in philosophy, religion, and politics, and its use in different social relations, economics, etc. over the
However, in economic theory and management practice, the term
“innovation” is used not just as a synonym for “new things”, “novelties”,
etc, but rather strictly as a generalizing scientific category, which was
elaborated by famous economist Josef Schumpeter in his new theory of
economic development. The innovation category presents the economic
nature of specific isolated production factor that strictly determines and
promotes the economic development. This category was developed by
Schumpeter and introduced into Political Economy in his classic book
Theory of Economic Development: An Inquiry into Profits, Capital,
Credit, Interest, and the Business Cycle, which was first published in
German in 1911 and translated in English in 1934 (Schumpeter 2010
[1934]). In this book, Schumpeter examines the phenomenon that he

later defined “innovation” under the name of a “new combination”.
This analysis allowed Schumpeter to scientifically justify and introduce
into research circulation a fundamentally new production factor of economic development, a new political economic category, which was
secured in the economic theory as “innovation” and was internationally
recognized and gained wide use. Now category “innovation” is not translated to other languages. In our book, we will consider this category of the
Schumpeter’s theory as cornerstone of Political Economy of innovation
Over the course of his analysis, Schumpeter was presenting this phenomenon by three hypostases:
1) As a specific category of economic theory, differed from the existing
theories in that it reveals the innovation essence of the processes of
“economic development”, and which, according to Schumpeter,
could only be explained by the emergence of innovation changes
that independently create the new added value without reallocation
or increasing productivity of existing resources (production factors):
innovations generate the increasing of added value by themselves.



2) As a specific display of visible in practice forms of existence innovations. Schumpeter identifies five main external forms of manifestation
of innovations (new combinations): new good or a new quality of a
good, a new method of production, the opening of a new market,
the conquest of a new raw materials or half-manufactured goods,
and the carrying out of the new organization of any industry. This
classification still remains to this day the basis for innovation statistics and corresponding analytics based on these statistics.
3) As an existence the phenomenon of innovative entrepreneurship as
special capitalist institution that creates Schumpeter innovations and
in this quality the entrepreneurship becomes also as the specific

factor in economic development. To be precise, Schumpeter identified the entrepreneurship phenomenon only as the innovation
entrepreneurship. But today the name of Schumpeter mainly is
associated with any entrepreneurship.
The second and third hypostasis of Schumpeter innovations is more widely
known in the research and an analytical literature. But these external forms of
innovations do not reveal the conceptual economic nature of the category of
Schumpeter’s innovations (first hypostasis). In our opinion, the perception of
innovations mainly through their forms of appearance is one of the important
explanations why innovations apply to an account of specific ingredients of
traditional factors of economic growth but not as an isolated phenomenon.
The best way to reveal exactly an essence of the first hypostasis of innovation, which we will continue to call Schumpeter’s innovations, is to give a direct
quote of J. Schumpeter where this category was named as “kind of change”:
. . . this kind of change is the cause of so many important economic phenomena that it seems worth while to build a theory for it, and, in order to do
so, to isolate it from all the other factors of change. The author begs to add
another more exact definition, which he is in the habit of using: what we are
about to consider is that kind of change arising from within the system which
so displaces its equilibrium point that the new one cannot be reached from the
old one by infinitesimal steps. Add successively as many mail coaches as you
please, you never get a railway thereby.
(Schumpeter, J. A. (2010 [1934]). The Theory of Economic
Development: An Inquiry into Profits, Capital, Credit, Interest, and the
Business Cycle. New Bruswick (U.S.A.) and London (U.K.): Transaction
Publishers. – p. 64).