The principle of increasing returns

At this point we are in a position to discuss the growth models worked out by contemporary economists and, in the past, by Classical economists, primarily Adam Smith, David Ricardo and Thomas Robert Malthus.

The fundamental role played by technological and organizational innovations was recognized by Adam Smith, for whom the gradual expansion of the extent of the market promoted the increasing division of labour and thus stimulated innovations and the systematic increase of productivity (‘the productive power’) of labour: this is what has subsequently been called the ‘principle of increasing returns’. The new techniques are embodied in machines, invented or improved by common workmen (‘inventing by doing’) or, in the case of major innovations, by scientists (‘philosophers’). The market expands owing to the growth of traffic and of real incomes, that increase as a result of competition that compels firms almost continuously to introduce innovations to outdo each other, thus pushing down costs and prices.

The Smithian division of labour is often conceived by contemporary economists too schematically, almost trivially, strictly speaking in unacceptable terms. At the very beginning of his Wealth of Nations Smith emphasizes that the division of labour can take place either within each firm – this is the case of the famous example of the pin factory – or among different firms.