Theories of Entrepreneurship

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Innovation Theory by Schumpeter & Imitating

Theory of High Achievement by McClelland X-Efficiency Theory by Leibenstein Theory of Profit by Knight Theory of Social change by Everett Hagen

Development of Entrepreneurship Theories

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Adam Smith (1776) An entrepreneur is a person who acts as agent in transforming demand into supply. Jean Baptiste Say (1803) An entrepreneur is a person who shifts resources from an area of low productivity to higher productivity. John Stuart Mill (1848) An entrepreneur is a prime mover in the private enterprise. The entrepreneur is the fourth factor of production.

Development of Entrepreneurship Theories

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Carl Menger (1871) The entrepreneur acts as an economic agent who transforms resources into products and services. These transformation process gives added value to the output. Joseph Aloysius Schumpeter (1934) The entrepreneur is an innovator. The economy moves through leaps and bounds because of the innovations. This process is known as creative destruction Alfred Marshall (1936) The process of entrepreneurship development is evolutionary. The entrepreneur is responsible for the evolution of sole proprietorships into a public company.

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Ibnu Khaldun (Abdul Rahman Mohamed Khaldun) The entrepreneur is seen as a knowledgeable individual and is instrumental in the development of a city-state where enterprises emerge. David C. McLelland (1951) The entrepreneur is a person with a high need for achievement. This need for achievement is the foundation of the entrepreneurship process.

OBJECTIVES OF ENTREPRENEURSHIP
Economic Objectives
Profit Earning
Production of Goods Creating Market Technological Improvement

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Human Objectives
Welfare of Employee s Satisfaction of Consumers

Social Objectives
Availability of Goods Supply of Quality goods Co-Operation with government

Personal Objective
Growth

National Objectives
Helping National efforts Development of Small Entrepreneur National Self Sufficiency Development of Skilled Personal

Survival Earning Prestige

Creation of More Employment Utilising Natural Resources Properly

THEORIES OF ENTREPRENEURSHIP
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Four Categories of Entrepreneurship:

Entrepreneurial history is felt to be interdisciplinary in approach and thus, it is difficult to label entrepreneurship as purely a theory of economics or sociology or psychology or a anthropology. The concept of entrepreneurship is as old as civilization while theories of entrepreneurship have been evolved from over a period of more than two centuries.

The Economists View

The Sociologists View

The Psychologists View

The Anthropologist s View

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1). Economic Theory Richard Cantillion (1755) was the first person to recognise the role of entrepreneurs in economic theory. He stated that , the farmer is an entrepreneur who promises to pay the land owner for his farm or land, a fixed sum of money without assurance for the profit he will derive from his enterprise. Hence entrepreneur is always at risk of bearing losses if he would unable to sell the goods at a higher price. J.Schumpeter (1994) added the concept of innovation to the theory of entrepreneurship . He visulalised the entrepreneurs as the key figure in the economic development because of his role in introducing innovations. For Schumpeter, the ability to identify new opportunities in the market is a central entrepreneurial activity which creates disequilibrium In the economy. According to economists, G.F Papanek and J.R. Harris, economic incentives bring forward a favourable drive for entrepreneurial activities. A desire to have more economic gain sparks the entrepreneurial instinct. Lack of incentives , unattractive economic polices and unfavourable market conditions tend to reduce the vigour of entrepreneurship.

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2).Sociological Theory
Sociologists suggests that the entrepreneurship can conceptualized as a social movements and entrepreneurs exist not only in the economy but in other spheres of society as well. S.M Lipset argues that cultural values deeply effects entrepreneurship and the level of economic development. Mark Granovetter points that family ties may create an obstacle for a businessman. According to Hoselitz, the approach which emphasizes the theory of deviance assumes that those who introduce changes must be deviants since they reject the traditional elites way of doing things. For example , in Latin America , recent immigrants , members of minority groups have formed a considerable section emerging business elite. A great land mark in entrepreneurial studies is represented by study conducted at Harvard University (1948-1958). A journal of the centre Explorations in Entrepreneurial History, states that entrepreneurship should not be studied by focusing on individual entrepreneur but rather by looking enterprise . Special attention was often paid to the social relations within the enterprise and to the relations between the enterprise and its surroundings.

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3).Psychological Theory
Joseph Schumpeter states that the entrepreneur is mainly motivated and driven by three things: a. The dream and the will to found a private kingdom. b. The will to conquer. c. The joy of creating. J.Schumpeter formulation can be translated as: a) the desire of power and independence ; b) The will to succeed; c) The satisfaction of getting things done. d) According to him , money is not what ultimately motivates the entrepreneur. Thus he supports the psychological theory and not the economic theory. He asserts that what matters is the behaviour and not the actors.

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4).Anthropological Theory
Barth on of the leading anthropologist of the world , states that entrepreneurial behaviour means to connect two different spheres in the society, between which huge discrepancy in value. Something which is cheap in one sphere may be expensive in another.

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Each of the above theories is incomplete and none of them is right or wrong. Theories of entrepreneurship are inter-disciplinary and are influenced by multitude of factors. It is the integration of external environment , achievement motivation, ability and ambition which largely determines whether an individual become an entrepreneur.

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Joseph Schumpeter and Entrepreneurialism

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1. Background and Personal Characteristics of Joseph Schumpeter 2. Joseph Schumpeters books 3. Entrerprenuer 4. Innovation 5. Scumpeter versus capitalism and socialism

Schumpeter A Defender of Rational Capitalism AIBS

A Lawyer turned Professor at Czernowitz Theory of economic Development (1911) Founder of the Theory of Entrepreneurship Theory of The Theory of Economic Development: An inquiry into profits, capital, credit, interest and the business cycle , 1911. Economic Doctrine and Method: An historical sketch, 1914.

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Background and Personal Characteristics of Joseph Schumpeter (1883-1950)

Tangled patterns wove throughout Schumpeters early life. He was born in Moravia in 1883. He worked in government and finance during the 1920s. He settled at Harvard University.

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Schumpeters characteristics were evident in his actions and writings

He both dressed and wrote flamboyantly. He was extremely well read. He had a streak of contrariness.

Schumpeter as a Politician and an Academic

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German Socialization Committee Kiel School of Economists and German Marxists Such Kautsky and Hilferding Brief Tenure as Austrian Minister of Finance in 1919 President of Bank and Professorship at Bonn Harvard University in 1932 Mentor of Paul Samuelson

Joseph Schumpeters books

1908, The Nature and Essence of Theoretical Economics 1911, The Theory of Economic Development 1914, Economic Doctrine and Method 1939, Business Cycles 1942, Capitalism, Socialism, and Democracy 1954, History of Economic Analysis (published posthumously)

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Schumpeter
Starts with neoclassical model. Introduces entrepreneurship and innovationchange. The balanced, circular flow is disrupted.

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Innovations drive business cycles and development. Innovations occur in clusters.

Innovation is followed by recession and depression, then recovery.

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David McClelland
1917-1998 Boston University Harvard Achievement motivation

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Need to achieve
nAch

Write a story based on questions:AIBS

Who is the person? What is happening? What led up to situation? What is being thought or wanted? What will happen? What will be done?

Story content with high nAch

Main character Ambitious Making plans to forge ahead Attempting to reach a goal

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Stories low in nAch

Main character Yielding to pressure Failing in endeavors Avoiding responsibility

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McClellands Achievement Motivation AIBS Theory McClelland and colleagues studied the behavioral effects of three needs
Need for Achievement Need for Power Need for Affiliation

Emphasized the Need for Achievement, although they investigated all three needs

McClellands Achievement Motivation AIBS Theory (Cont.) Product of an impressive long-running research program Controversy over measurement methods Recent study shows the validity of different measures

McClellands Achievement Motivation AIBS Theory (Cont.) Strong need for achievement people
Take responsibility for results of behavior Willing to take calculated risks Set moderate achievement goals Prefer to set performance standards for themselves Prefer non routine tasks to routine assignments Welcome feedback about how well they are doing

McClellands Achievement Motivation AIBS Theory (Cont.) Acquire the Need for Achievement through socialization to cultural values Presence of Need for Achievement themes in folklore, mythology, art Need for Achievement societies had high levels of economic development

McClellands Achievement Motivation AIBS Theory (Cont.) Strong Need for Power people
Focuses on "controlling the means of influencing the behavior of another person Having strong effects on other people Means of influence: anything available to the person to control the behavior of another Actively searches for means of influence
Example: use superior-subordinate relationship or external rewards to control the behavior of another

McClellands Achievement Motivation AIBS Theory (Cont.) Two ways of expressing the Need for Power
Dominance, physical aggression, exploitation
View situations from a win-lose perspective Must win and the other party must lose

Did not feel such power behavior resulted in the type of leadership required by organizations

McClellands Achievement Motivation AIBS Theory (Cont.) Two ways of expressing the Need for Power (cont.)
Persuasion and interpersonal influence
Tries to arouse confidence in those he or she wants to influence Clarifies groups goals and persuades members to achieve those goals Emphasizes group members ability to reach goals

McClellands Achievement Motivation AIBS Theory (Cont.)

Two ways of expressing the Need for Power (cont.)
Tries to develop a competence belief in group members McClelland felt this type of power behavior characterized effective leaders in organizations

McClellands Achievement Motivation AIBS Theory (Cont.) Strong Need for Affiliation people
Focuses on "establishing, maintaining, and restoring positive affective relations with others" Want close, warm interpersonal relationships Seek the approval of others, especially those about whom they care Like other people, want other people to like them, and want to be in the company of others

McClellands Achievement Motivation AIBS Theory (Cont.)

Need for achievement and behavior
Money: important to both high and low achievers, but for different reasons
High achiever wants concrete feedback about performance Making a profit, or receiving a bonus, is a statement about success or failure Symbol of success and feedback about job performance

McClellands Achievement Motivation Theory (Cont.) AIBS Need for achievement and behavior (cont.)
High achiever wants a challenging job and responsibility for work Want to feel successful at doing something over which they have control

McClellands Achievement Motivation AIBS Theory (Cont.) Need for achievement and behavior (cont.)
Low achiever views monetary reward as an end in itself Get increased performance from low Need for Achievement person by rewarding with money

McClellands Achievement Motivation Theory (Cont.)

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Managers and executives usually have a stronger Need for Achievement than people in other occupations Evidence points to strong Need for Achievement as an entrepreneur characteristic Nature of Need for Achievement behavior fits well with such role demands

McClellands Achievement Motivation AIBS Theory (Cont.) Need for Achievement and Need for Power: some relationships
Strong Need for Achievement person
Task centered Future oriented Performs to internal standard of excellence

McClellands Achievement Motivation AIBS Theory (Cont.) Need for Achievement and Need for Power: some relationships (cont.)
Strong Need for Power person
Draws attention Risk taking Present oriented Assesses situations for change potential

McClellands Achievement Motivation AIBS Theory (Cont.) Need for Achievement and Need for Power: some relationships (cont.)
Both types of people important for successful organizations Strong Need for Achievement managers keep an organization going Strong Need for Power people bring dramatic change and innovation

X-Efficiency Theory

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Harvey Leibenstein (1966) originated Xinefficiency as a concept to cover nonallocative inefficiencies in an organization. X-inefficiency was a counterpart to technical inefficiency and was to capture organizational or motivational inefficiency.

X-efficiency Theory
Leibenstein summarized his theory as follows:

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Firms generally operate within rather than on their production frontiers. As such, their output is not maximized and their costs per unit are generally not minimized. Innovations are generally not introduced when it is optimal to do so. Less output is not necessarily associated with more desired leisure. The price of the product can have an influence on the cost of production.

Theory of Profit by Knight

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Risk and Uncertainty-bearing theory of profit by Knight What is Risk and Uncertainty? Entrepreneurs have to undertake the work of production under conditions of uncertainty. They have to make estimates of the future conditions regarding demand for the product and other factors in advance and these affect their future price and costs In view of their estimates and anticipations, they make contracts with the suppliers of factors of production in advance at fixed rates of remuneration.

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Now these contracts are no doubt based on anticipations about the future conditions.Between the time of contracts and the time of the sale proceeds many changes may take place which may upsets anticipations for better or for worse. Knight distinguishes between risk and uncertainty. Acc to him, risks inherent in any business are of two kinds: 1)Insurable 2)Non-Insurable

Insurable Risks

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Insurable risks are those risks which can be calculated statistically and thus insured with an insurance company.These in turn are of two types: a) Risk of loss of assets, resulting from natural factors like fire,flood,etc b) Risk of theft, robbery etc. By paying insurance premium these risks can be taken care of by the entrepreneur.

Non-Insurable Risks

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There are certain risks which have to be borne by the entrepreneur himself as these cannot be insured against These non-Insurable risks are: 1)Competition Risks: These are the risks arising from the policy changes of the rivals, which include things like changes in price, product line ,advertisement expenditure, etc. For i.e change in prices of coke pet bottle made Pepsi also to change their prices. 2)Risks of market condition: Whole or major part of the business sector in an economy may enter a phase of recession or a boom, thus effecting the firm adversely or favorably. Like India business sector was hit by recession in 2008-09.

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3) Risks of technological changes :This is also called risk of obsolescence which grows with advancement of an economy. These risks arise from the possibility of newly installed machinery becoming obsolete with the discovery of new and more economical processes of production. 4) Risks of public policy: Government policy regarding business undergoes a change over time, some of which cannot be predicted precisely. These policies changes may relate to price control, foreign trade policy, corporate taxation etc. These non-insurable risks are called uncertainties by knight. According to him ,the term risk should be applied only to insurable risks .

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Acc to Knight, the most significant function of an entrepreneur is to bear risk and uncertainty which is rewarded by Profit. He says that different rates of profit earned by different firms in the same industry reflect the differences in their capabilities of bearing risk and uncertainty. Weaknesses of Knights Theory: Actually uncertainty-bearing is not the only determinant of profit. Ability of the businessmen to mould demand in the market in favor of his commodity, innovative ability etc are also equally important for the emergence of profit.

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Some Critics go on to point out that a monopoly producer earns profit even without beating uncertainty.

Thus according to this theory Profits are the result of market frictions and imperfections. They exist because of disequilibrium and imperfect competition.