Last week economist William Baumol passed on in the chronilogical age of 95. His death was universally mourned by folks the economics community, most of whom shared the vista that they had passed before receiving a much-deserved Nobel Prize. Among us (Robert) had the fantastic privilege of working together with him, befriending him, and being able to regularly witness his economic wisdom, even in his old age.
Of Baumol’s many contributions to economics, the favourite is cost disease, so in retrospect high-productivity industries raise costs and so prices in low-productivity industries. The insight is particularly relevant now, as business activities has shifted into low-productivity services like medical and education, where price increases are devouring public and household budgets, and whose continued low productivity has overwhelmed U.S. productivity growth overall.
But there’s a lesser-known thought of Baumol’s that is certainly equally relevant today which can help explain America’s productivity slump. Baumol’s writing improves the possibility that U.S. productivity is low because would-be entrepreneurs are focused on a bad kind of work.
Inside a 1990 paper, “Entrepreneurship: Productive, Unproductive, and Destructive,” Baumol argued the amount of entrepreneurial ambition within a country is actually fixed as time passes, which what determines a nation’s entrepreneurial output will be the incentive structure that governs and directs entrepreneurial efforts between “productive” and “unproductive” endeavors.
Most of the people imagine Entrepreneurship Books as the “productive” kind, as Baumol referred to it, in which the firms that founders launch commercialize something new or better, benefiting society and themselves in the operation. A sizable body of research establishes these “Schumpeterian” entrepreneurs, the ones that are “creatively destroying” the old in favor of the modern, are critical for breakthrough innovations and rapid advances in productivity and standards of living.
Baumol was worried, however, by a completely different type of entrepreneur: the “unproductive” ones, who exploit special relationships using the government to construct regulatory moats, secure public spending for their own benefit, or bend specific rules with their will, in the operation stifling competition to make advantage for their firms. Economists label this rent-seeking behavior. As Baumol wrote:
…entrepreneurs will always be with us try to play some substantial role. But there are a number of roles among that your entrepreneur’s efforts can be reallocated, plus some of people roles do not stick to the constructive and innovative script that is certainly conventionally caused by that individual. Indeed, occasionally the entrepreneur might even lead a parasitical existence that is certainly actually damaging towards the economy. How the entrepreneur acts at the moment make depends heavily around the rules in the game-the reward structure in the economy-that occur to prevail.
In Baumol’s theoretical framework, depressed rates of entrepreneurship aren’t the culprit for periods of slow economic growth; rather, changing your a combination of entrepreneurial effort between the two kinds of entrepreneurship is always to blame – specifically, a loss of productive entrepreneurship along with a coincident increase in unproductive entrepreneurship. But are these claims what’s actually happening in the U.S.?
Well, to begin with, we and others have documented a pervasive loss of the speed of recent firm formation over the last 30 years and an acceleration because decline since 2000. In fact, we found that by 2009 the speed of economic closures exceeded the speed of economic births the first time in the three-decades-plus reputation our data. This loss of startup formation has happened in each state and nearly all metropolitan areas, and in each broad industrial sector, including hi-tech. We are seeing a slowdown in activity of high-growth firms, the relatively very few businesses that are the cause of the lion’s share of net job gains. All of this exactly what to a slowdown in the expansion of productive entrepreneurship.
Think about the other kind of entrepreneurship? Do we also view a increase in unproductive entrepreneurship, as Baumol theorized?
We don’t possess a smoking gun to ensure this hypothesis, but there surely is smoke, and it will come in two forms: rising profits, especially those earned by the largest businesses in the economy, and suggestive evidence a rise in efforts to shape the rules in the game. This pattern is similar to the rise of monetary rents and rent-seeking behavior.
As an example, Jason Furman and Peter Orszag, both former economic advisers to Barack obama, wrote a disciplined 2016 paper that argued that economic rents are rising, particularly since 2000, and were a central factor in increasing wage inequality observed during this time. Similarly, a gaggle of economists from MIT, Harvard, and Zurich found that industries where top firms’ share of the market had most increased had experienced the largest declines in the share of capital planning to workers.
Perhaps most convincing, University of Chicago economist Simcha Barkai carefully tabulated the proportion of industry income offered to labor, capital, and “profits.” (Normally, capital and profits are included together in a broad, residual “returns to shareholders” category.) He found that the proportion of capital earned by workers has become falling, as others have talked about, but additionally the share earned by capital has, too. Indeed, both have been declining while the share of capital planning to “markups,” or rents, has become increasing.
In reality, a good economic rents alone doesn’t establish that there’s been a rise in unproductive entrepreneurship. To the to be true, there should be be evidence a rise in rent-seeking – that is certainly, concerted efforts to stifle competition by influencing the reward structure or rules in the game within a market.
James Bessen of Boston University presents suggestive evidence that rent-seeking behavior has become increasing. Inside a 2016 paper Bessen demonstrates that, since 2000, “political factors” are the cause of a considerable part of the rise in corporate profits. This occurs through expanded regulation that favors incumbent firms. Similarly, economists Jeffrey Brown and Jiekun Huang in the University of Illinois have discovered that firms that have executives with relationships to key policy makers have abnormally high stock returns.
In short, Baumol could have been ahead of his in time warning that economies can suffer not simply from a cost disease but additionally looking at the entrepreneurial counterpart – changing your the rules that shifts the distribution of entrepreneurial effort from activity that helps the economy toward activity that hurts it. Unfortunately, there’s strong suggestive evidence that Baumol’s warnings have come to pass. In the event the U.S. will almost certainly tackle its many problems, we will have to find methods to encourage would-be entrepreneurs to start innovative, productive businesses, instead of dedicating their efforts to co-opting government so that you can secure economic advantage.
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