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 / Winter 2006 / Issue 45(originally published by Booz & Company)


Best Business Books: Economics

Making Theory Real

David Warsh,
Knowledge and the Wealth of Nations: A Story of Economic Discovery
(W.W. Norton, 2006)

Eric D. Beinhocker,
The Origin of Wealth: Evolution, Complexity, and the Radical Remaking of Economics
(Harvard Business School Press, 2006)

Michael J. Mauboussin,
More Than You Know: Finding Financial Wisdom in Unconventional Places
(Columbia University Press, 2006)

For excellent reasons, effective executives traditionally view schoolbook economics with a mix of skepticism and mistrust. In their view, the equations are crudely simplistic even as their Greek letter formalism grows more grotesquely baroque. The widgets of Microeconomics 101, the allocative efficiencies of linear programming, and the Nobel Prize–winning Nash equilibria of game theory seem disconnected from market realities. They are like Sudoku for Ph.D.s — more puzzle-solving exercises than generators of actionable insights.

What technically gifted entrepreneurs and numerate managers have learned — or, more accurately, what they’ve been taught — about supply, demand, and dynamic equilibria hits the point of diminishing returns astonishingly fast. The grad school joke is that “In theory…” means something doesn’t work in practice, and “In practice…” means there’s no good theory. In global business, economics doesn’t buy executives much.

In fact, however, the past 20 years have seen enormous shifts in economic thinking as it moves closer to the reality of practitioners. Once-heretical ideas about monopolistic competition and growth have been mainstreamed. Truly laughable assumptions about perfect rationality and institutional behavior have been scrapped in favor of models that conceive markets as places where other things are decidedly not equal. Although the math is undeniably more elaborate than ever, the stories it’s telling are profoundly different. They speak to the real world, not just to idealized abstractions of it. Empirical phenomena once blithely ignored as too tough to model or conveniently declared irrelevant have acquired central roles in the ongoing narrative of economic understanding.

The result? Economics as science, discipline, and world view has been gaining a level of business relevance that simply did not exist even a generation ago. That’s not to say a command of contemporary economic thought dramatically improves chances for entrepreneurial success. However, giving serious thought to the models today’s economics devises and confronts offers serious executives far greater situational awareness of the dynamics that both define and drive profitable growth. That’s invaluable.

Three new books do a magnificent job detailing the (r)evolution in postmillennial economic thought. Each stands on its merits. Collectively, however, they form a comprehensive trilogy that captures the personalities, histories, concepts, and controversies reshaping the discipline’s most fundamental debates. More importantly, they could be useful: No one will look at the business implications of diminishing re-turns, increasing returns, modeling complexity, or the economics of ideas in the same way after reading them. Readers will — right along with the economists — think differently about what value creation can and should mean. Better yet, they won’t yawn while doing so. These books are accessible and even enjoyable.

Epiphanies and Backbiting
David Warsh’s Knowledge and the Wealth of Nations is the finest popular history of economic discovery since Nobel laureate George Stigler’s tangy 1988 autobiography, Memoirs of an Unregulated Economist. Mr. Warsh has taken a provocative 1990 academic paper (“Endogenous Technological Change,” by then 24-year-old University of Chicago economist Paul Romer) and used it as his window, lens, and X-ray machine to explore how economists have come to grips with the economics of intangibles. Modeling the possible role of “knowledge” in explaining economic growth, Professor Romer’s paper helped launch the “New Growth” school. Capital, labor, and technology are nice, but New Growth places the “marketplace of ideas” in the red-hot center of its economic development model. New ideas — and their diffusion — enable new growth. Innovation über alles.

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