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Research by Drs. Blanco and Prieger Reveal Why the U.S. Needs More Entrepreneurs | TechPolicyDaily.com

Wanted: More entrepreneurs

by: Mark Jamison
March 30, 2015 6:00 am

The US needs more entrepreneurs. In fact, the world needs more entrepreneurs. So says a recent study out of Pepperdine University, which puts some numbers to what it costs the US and other countries when they don’t have the right balance of entrepreneurs and established companies.

The study, authored by students Catherine Bampoky and Aolong Liu, along with professors Luisa Blanco and James Prieger (hereafter, BBLP), examines the “economic growth penalty” that a country pays when its entrepreneurship deviates from its optimal level.

How could there be an optimal level of entrepreneurship? Isn’t more always better? Not according the study. While it is clear that having too few entrepreneurs can lead a country to see slow economic growth and lagging international competitiveness, BBLP explain that too much entrepreneurship – in the form of too many new businesses relative to established ones – can also negatively impact growth. One reason for this is that large, established firms produce more knowledge than small firms because they have greater economies of scale and scope in R&D. Think of all of the R&D investments by AT&T’s Bell Labs, XEROX’s PARC, and any number of pharmaceutical companies.  Disruptive, Schumpeterian entrepreneurs are needed to bring new ideas and technologies to life. Think of Facebook, an innovation that grew from a dorm room to a $200 million company, which now is investing heavily not only in improving their original product but in so many other things, such as Internet in developing countries.

How does the US fare in BBLP’s study? Apparently, we have too few entrepreneurs compared to our optimum. The good news is that our gap isn’t large – we rank 8th, behind the likes of South Korea and Australia in terms of having too few entrepreneurs – and it isn’t statistically significant, but chances are that we are growing more slowly than we could and that, over time, this will add up to a US economy that won’t be the envy of very many people around the world.

In the BBLP study, the least-developed countries (LDCs) are the worst off. Entrepreneurs are especially important in LDCs because they fill gaps in markets, organize markets where none existed before, and adapt more easily than do large businesses to situations where laws are weak and ambiguous. In fact, BBLP find that at least some of the corruption in LDCs is an economic response to legal institutions that hinder business development. This form of corruption actually contributed positively to economic growth by providing a less costly way to deal with unresponsive bureaucracies.

BBLP find a strong, negative correlation between a country’s entrepreneurship deficit and its per capita gross domestic product. This means that, even though poorer countries have a higher concentration of entrepreneurs than do higher income countries, they need even more! The notion that poor countries need more big businesses is wrong.

What helps countries get to the right level of entrepreneurship? One key factor is the presence of government regulations that make it easy to do business. Such regulations include low business taxes, limited red tape, and strong regulations enforcing contracts. In other words, few regulations that raise costs and strong regulations that protect property.

The World Bank took on the issue of overregulation’s impact on business when it launched its Doing Business project several years ago. This project’s annual reports clearly illustrate the damage that overregulation does to an economy. How does the US do in the Doing Business framework? We rank 7th in the world, behind (in order of rank) Singapore, New Zealand, Hong Kong, Denmark, South Korea, and Norway. Where are we strong? In ease of getting credit and ease of dealing with financial insolvency.  We rank lower and are falling (relative to last year) in the areas of ease of starting a business (from 41st to 45th), paying taxes (from 44th to 47th), and protecting minority shareholders (from 21st to 25th). We basically held steady, and could do better, in rules concerning international trade (16th) and enforcing contracts (41st).

We clearly have some work to do if we hope to be the country from which the next Googles, Twitters, and the like emerge. Our primary obstacles for entrepreneurs appear to be the red tape involved in getting a business launched, buildings constructed and their power turned on, and in taxation. These are just a few areas where less would be more.

To hear more about how to design government regulation that acts as a support system, rather than a hurdle, to innovators, join AEI on April 1 for an event on regulatory humility with FTC Commissioner Maureen Ohlhausen.

The paper, "Economic Growth and the Optimal Level of Entrepreneurship," by Blanco and Prieger was also referenced in "Study: Remove policy roadblocks to solve entrepreneur shortage," on Watchdog Arena.