Academic journal article Academy of Entrepreneurship Journal

The Entrepreneurial Critique of the Optimization Paradigm

Academic journal article Academy of Entrepreneurship Journal

The Entrepreneurial Critique of the Optimization Paradigm

Article excerpt

"What we cannot speak about we must pass over in silence." Ludwig Wittgenstein (1922: proposition 7)

ABSTRACT

This paper criticizes the optimization paradigm in neoclassical microeconomics with respect to its treatment of entrepreneurship. Conventional cost minimization-profit maximization exercises central to modern neoclassical economics virtually ignore entrepreneurial action. Entrepreneurial managers should be understood as seeking to (a) adjust the production process to extract more output from each input or more output from the same level of inputs, (b) switch inputs or combine new inputs with those already used to produce more or cheaper output, (c) devise strategies to sell their output or some part of it for a higher price, (d) attract new buyers and devise new uses for the output, and (e) lower the costs of their inputs. In the theory of the consumer, the optimization exercise ignores entrepreneurial innovations which imply changes in the (a) number of utility function arguments, (b) form of the utility function, (c) consumer income, (d) prices of consumed goods, and (e) quality of consumed goods. More fundamentally, the optimization paradigm ignores entrepreneurial consumers' alertness to these opportunities to costlessly improve the satisfaction of their wants.

In addition to developing an Austrian critique of the prevailing orthodoxy, this paper also offers some modest extensions which partially address the critique, though they fail to overcome it. It is hoped that as the optimization paradigm continues to be central to what is taught in graduate economics programs and much economic research, academic researchers will come to accept a more mature understanding of its limitations.

INTRODUCTION

The optimization paradigm in neoclassical microeconomics is the modeling of economic behavior as a series of constrained and unconstrained optimization problems. Market participants are thought of as knowingly optimizing known objective functions: minimizing cost, maximizing output, maximizing profit, or maximizing utility, subject to known constraints (Robbins 1935). However, analytical functions can never be more than imperfect analogues of the processes of producing output or obtaining satisfaction through consumption. (It might be suggested that the true objective function is an unknowable transcendental function which theorists crudely attempt to mimic with algebraic functions. Even when the objective function of an optimization exercise is rendered as a transcendental function, it cannot be correctly rendered as the underlying reality is, at best, some other, unknown transcendental function.) In a sense, considered as mathematical models, they do not purport to be anything more. The optimization paradigm is based on fundamental assumptions precluding the possibility of entrepreneurial activity. The uncertainty entrepreneurs overcome and exploit to earn entrepreneurial profits is removed by assumption. Insight entrepreneurial behavior might offer economic theory, and corresponding insight economic theory might shed on entrepreneurial action, are thus ignored and disregarded.

The optimization paradigm is usually presented through graphical analysis at the undergraduate level, while graduate courses are typically more formalized (Samuleson 1947, Debreu 1959, Silberberg 1978, Henderson and Quandt 1980, Chiang 1984, Varian 1984, Takayama 1985). The optimization paradigm assumes away the entrepreneur and treats all the data of the market as perfectly known in advance. This approach fundamentally misrepresents the nature of market competition. The Austrian school has always been skeptical of mathematical formalism: "in the imaginary construction of an evenly rotating system nobody is an entrepreneur and speculator. In any real and living economy every actor is always an entrepreneur and speculator...." (Mises 1949: 252). Entrepreneurial action sometimes improves market coordination and moves the market toward a hypothetical equilibrium, but also sometimes increases the level of discoordination, moving the market further away from idealized equilibrium. …

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