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Intellect Economics - Increasing Returns

Intellect Economics - Increasing Returns

Introduction

Our understanding of how markets and businesses is an understanding based squarely upon the assumption of diminishing returns: products or companies that get ahead in a market eventually run into limitations, so that a predictable equilibrium of prices and market shares is reached. The theory was in rough measure valid for the bulk-processing, smokestack economy of Marshall’s day. And it still thrives in today’s economics textbooks. But steadily and continuously in this century, Western economies have undergone a transformation from bulk-material manufacturing to design and use of technology—from processing of resources to processing of information, from application of raw energy to application of ideas. As this shift has taken place, the underlying mechanisms that determine economic behavior have shifted from ones of diminishing to ones of increasing returns.

Increasing returns are the tendency for that which is ahead to get farther ahead, for that which loses advantage to lose further advantage. They are mechanisms of positive feedback that operate—within markets, businesses, and industries—to reinforce that which gains success or aggravate that which suffers loss. Increasing returns generate not equilibrium but instability: If a product or a company or a technology—one of many competing in a market—gets ahead by chance or clever strategy, increasing returns can magnify this advantage, and the product or company or technology can go on to lock in the market. More than causing products to become standards, increasing returns cause businesses to work differently, and they stand many of our notions of how business operates on their head. Mechanisms of increasing returns exist alongside those of diminishing returns in all industries. But roughly peaking, diminishing returns hold sway in the traditional part of the economy—the processing industries. Increasing returns reign in the newer part—the knowledge-based industries. Modern economies have therefore become divided into two interrelated, intertwined parts—two worlds of business—corresponding to the two types of returns. The two worlds have different economics. They differ in behavior, style, and culture. They call for different management techniques, different strategies, different codes of government regulation. They call for different understandings.

Alfred Marshall and Classic Economics (Diminishing Returns)

In order to understand the term “Increasing Returns”, first we must define “Diminishing Returns” .

In Marshall’s world of 1880s and 1890s, there was bulk production which consisted of iron cores,mining,coffee planting, lumber and coal production, mostly depended on resources rather...

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