Journal of Economic Literature Vol. XXXV (March 1997), pp. 60-85 EntrepreneurialDiscovery and the Competitive Market Process: An Austrian Approach ISRAEL M. KIRZNER New York University The aiithloris deeply grateful to Mario Rizzo, Peter Boettke, andc1Yat Nyarko, for exte.tsive and helpful comm7ents o an earlier draft Firther helpful coniiiiienit.swere provided by Joseph T Salernio,and by othieriaiemiibers of the AiustrianiEconomizics Colloquiumi71 at New York Univer- Oity.Several anioniymtouisreferee.s provided m1anzyadditionial valiuable suggestions. The auithlor is gr-atefiulto the Sarah Scaife Foundation for researchisupport. I stream economics. This paper sets forth the outlines of one important approach THE AUSTRIAN TRADITION is repre- within modern Austrian economics, an sented in modern economics by a approach offering a perspective on mi- "very vocal, feisty and dedicated subset croeconomic theory which (while it has of the economics profession" (Karen generated a considerable literature of its Vaughn 1994, p. xi). Much of the work of own) is not ordinarily well-represented this group of scholars is devoted to the either at the (mainstream) textbook most fundamental problems of micro- level, or in the (mainstream) journal lit- economics.1 This Austrian work, there- erature. Although the author subscribes fore, differs in character and content to and has contributed to this from a good deal of neoclassical theory approach, the purpose of this paper is exposition, which, despite widespread and growing not advocacy. References in the paper awareness of its limitations, continues to to criticisms of mainstream microeco- serve as the analytical core of main- nomics which have been discussed in the Austrian literature should be understood 1 The emphasis here on microeconomics ex- here not as arguments in favor of the presses the focus of the present paper, not the Austrian approach, but as clues that may scope of modern Austrian economics. For impor- tant modern Austrian contributions to macro- be helpful in understanding what the economic and to monetary theory, see Roger Gar- Austrians are saying, and how what they rison (1978, 1984), Lawrence White (1984), are saying is to be distinguished from the George Selgin (1988), Selgin and White (1994), Steven Horwitz (1992). See also Brian Snowdon, approach taken by other modern econo- Howard Vane, and Peter Wynarczyk (1994, ch. 8). mists. For a link between Friedrich Hayek's macro- This paper does not offer anything like economics and the Austrian microeconomics set forth in this paper, see Dieter Schmidtchen and a survey of modern Austrian economics. Siegfried Utzig (1989). It does not deal at all with such major 60 Kirzner: Entrepreneurial Discovery 61 areas within it, such as cycle theory, economics.6 By 1950 both Mises and monetary theory, capital theory. Within Hayek had crystallized separate, defini- its chosen scope of microeconomics, it tive, statements of their disagreements does not claim to represent a universally with mainstream microeconomics, and of accepted Austrian position (or even to their own substantive approaches. These cover its entire range of topics). None- were indeed separate statements, differ- theless, the approach described here is ing from one another certainly in style arguably central to the reviving contem- and, no doubt, to some degree also in porary interest in Austrian ideas, and has substance. But it can be argued that they been treated as such in a number of re- are best understood as both overlapping cent general surveys of modern Austrian and complementary, rather than as con- economics (Stephen Littlechild 1986; trasting alternatives. It was these contri- Bruce Caldwell and Stephan Boehm butions of Mises and Hayek which, while 1992; Vaughn 1994).2 almost entirely ignored by the midcen- During the past two decades modern tury mainstream of the profession, have Austrian economics has emerged out of nourished the Austrian revival of the the classic earlier "subjectivist"tradition3 past two decades, and which have gener- (which began in the late nineteenth cen- ated the modern Austrian approach to tury with Carl Menger, Eugen von understanding the competitive market Boehm-Bawerk, and Friedrich von Wie- process set forth in this paper. ser),4 particularly as that tradition came At the basis of this approach is the to be represented in the midcentury con- conviction that standard neoclassical mi- tributions of Ludwig von Mises and croeconomics, for which the Walrasian Friedrich Hayek.5 The early work of the general equilibrium model (in its mod- Austrian School until the 1930s was cor- ern Arrow-Debreu incarnation) is the rectly perceived as simply one variant of analytical core, fails to offer a satisfying the dominant early twentieth century theoretical framework for understanding mainstream approach to economic un- what happens in market economies. This derstanding (often loosely referred to as conviction is rooted (a) in criticisms of "neoclassical"). But the work of Mises the lack of relevance in models which and Hayek from the 30s on, steered the seek to explain market phenomena as if Austrian tradition in a direction sharply they were, at each and every instant, different from that being taken at that strictly equilibrium phenomena, and (b) time by mainstream neoclassical micro- in the belief that it is a methodologically legitimate demand to be made of a the- 2 For an authoritative, encyclopedia-style set of surveys of modern Austrian economics, see Boet- ory of the market, that it not merely be- tke (1994). gin with the instrumentalist assumption 3 For discussions of Austrian subjectivism (and of already-attained equilibrium, but also also on its influence on other schools of economic thought) see Alfred Coats (1983), Jack Wiseman realistically offer a plausible explanation (1983, 1985), Gerald O'Driscoll and Rizzo (1985, of how, from any given initial set of ch. 2), James Buchanan (1982), Ludwig Lachmann nonequilibrium conditions, equilibrating (1982). 4 For general surveys of the history of the Aus- tendencies might be expected to be set trian tradition, see Hayek (1968), Vaughn (1994), into motion in the first place. As will Kirzner (1992). For collections of papers repre- senting the work of the Austrian School from 1870 6 For the thesis that these developments in the to the present see Littlechild (1990), Kirzner work of Mises and Hayek stemmed from their par- (1994). in 5 ticipation the interwar debate on the possibility Among the principal relevant works are Mises of socialist economic calculation, see Kirzner (1949), Hayek (1941, 1948, 1978). (1992, ch. 6). 62 Journal of Economic Literature, Vol. XXXV (March 1997) be noted below, such criticisms are not ery is seen as gradually but systemati- (or, at any rate, no longer) exclusively cally pushing back the boundaries of "Austrian" criticisms. In fact, a good sheer ignorance, in this way increasing deal of recent non-Austrian work in mutual awareness among market partici- microeconoinics has in some fashion pants and thus, in turn, driving prices, attempted to grapple with these difficul- output and input quantities and quali- ties. What stamps the entrepreneurial ties, toward the values consistent with discovery approach as Austrian is not equilibrium (seen as the complete ab- these criticisms themselves, but rather sence of sheer ignorance). the specific positive elements of the ap- What will emerge from this paper is proach. thus the exposition of an Austrian way of These positive elements focus on the understanding the systematic character role of knowledge and discovery in the of markets which, while sharply differing process of market equilibration. In par- from the mainstream competitive equi- ticular this approach (a) sees equilibra- librium model, does not necessarily see tion as a systematic process in which that model as totally irrelevant. (Many market participants acquire more and practical questions, such as those regard- more accurate and complete mutual ing the effects of price controls, mini- knovledge of potential demand and sup- mum wage laws, and the like, can be an- ply attitudes, and (b) sees the driving swered quite adequately without going force behind this systematic process in beyond simple competitive supply-and- what will be described below as en- demand equilibrium models.) The dy- trepreneurial discovery. Although, of namic competitive process of en- course, much contemporary mainstream trepreneurial discovery (which is the work in microeconomics takes its point driving element in this Austrian ap- of departure from the imperfection of proach) is one which is seen as tending knowledge (relaxing the older standard systematically toward, rather than away neoclassical assumption of complete, from, the path to equilibrium. There- universal information), the Austrian ap- fore, the standard, competitive equilib- proach set forth in this paper has little in rium model may be seen as more plausi- common with this work. ble as an approximate outcome, in the For the mainstream, imperfect in- Austrian theory here presented.7 This as- formation is primarily a circumstance pect of the entrepreneurial discovery ap- constraining the pattern of attained equi- proach troubles a number of the Aus- librium (and introducing a new "produc- trian economists who have not accepted tion" cost, that of producing or searching it. In order to clearly locate the for missing information). For the Aus- entrepreneurial discovery perspective trian approach imperfect information