Last month economist William Baumol passed away at the day of 95. His death was universally mourned by people in the economics community, lots of whom shared the view that they had passed before buying a much-deserved Nobel Prize. Certainly one of us (Robert) had the truly great privilege of dealing with him, befriending him, or being able to regularly witness his economic wisdom, even in his retirement years.
Of Baumol’s many contributions to economics, the most famous is cost disease, which is why high-productivity industries raise costs and for that reason prices in low-productivity industries. The insight is particularly relevant now, as economic activity has shifted into low-productivity services like health care 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 notion of Baumol’s which is equally relevant today understanding that can help explain America’s productivity slump. Baumol’s writing raises the possibility that U.S. productivity is low because would-be entrepreneurs are devoted to the wrong form of work.
In a 1990 paper, “Entrepreneurship: Productive, Unproductive, and Destructive,” Baumol argued the degree of entrepreneurial ambition in the country is essentially fixed as time passes, understanding that what determines a nation’s entrepreneurial output is the incentive structure that governs and directs entrepreneurial efforts between “productive” and “unproductive” endeavors.
A lot of people consider Buy Entrepreneurship Books as being the “productive” kind, as Baumol known it, where the businesses that founders launch commercialize something new or better, benefiting society and themselves in the process. A big body of research establishes that these “Schumpeterian” entrepreneurs, those that are “creatively destroying” that old in support of the brand new, are crucial for breakthrough innovations and rapid advances in productivity and standards of life.
Baumol was worried, however, with a different sort of entrepreneur: the “unproductive” ones, who exploit special relationships together with the government to make regulatory moats, secure public spending for their own benefit, or bend specific rules to their will, in the process stifling competition to make advantage for their firms. Economists refer to this as rent-seeking behavior. As Baumol wrote:
…entrepreneurs are invariably here and try to play some substantial role. But there are a selection of roles among that your entrepreneur’s efforts may be reallocated, and several of people roles do not follow the constructive and innovative script which is conventionally caused by that person. Indeed, sometimes the entrepreneur might even lead a parasitical existence which is actually damaging to the economy. How a entrepreneur acts with a unpredictable moment and set depends heavily on the rules from the game-the reward structure from the economy-that happen to prevail.
In Baumol’s theoretical framework, depressed rates of entrepreneurship aren’t to blame for periods of slow economic growth; rather, changing your the amalgamation of entrepreneurial effort between the two sorts of entrepreneurship is usually to blame – specifically, a decline in productive entrepreneurship as well as a coincident increase in unproductive entrepreneurship. But is what’s actually happening from the U.S.?
Well, for starters, we yet others have documented a pervasive decline in the pace of latest firm formation over the past thirty years plus an acceleration in that decline since 2000. In reality, we found that by 2009 the pace of business closures exceeded the pace of business births initially from the three-decades-plus good our data. This decline in startup formation has happened each state and nearly all locations, as well as in each broad industrial sector, including hi-tech. We are seeing a slowdown in activity of high-growth firms, the relatively few companies that account for the lion’s share of net job gains. Doing this items to a slowdown from the expansion of productive entrepreneurship.
Why don’t you consider one other form of entrepreneurship? Can we also see a increase in unproductive entrepreneurship, as Baumol theorized?
We don’t have a smoking gun to substantiate this hypothesis, but there surely is smoke, also it will come in two forms: rising profits, particularly those earned by the largest businesses throughout the market, and suggestive evidence an increase in efforts to shape the policies from the game. This pattern is consistent with the rise of economic rents and rent-seeking behavior.
By way of example, Jason Furman and Peter Orszag, both former economic advisers to The president, wrote a disciplined 2016 paper that argued that economic rents are rising, particularly since 2000, and were a main take into account increasing wage inequality observed during this time. Similarly, a gaggle of economists from MIT, Harvard, and Zurich found that industries where top firms’ business had most increased had experienced the most important declines from the share of revenue going to workers.
Perhaps most convincing, University of Chicago economist Simcha Barkai carefully tabulated the share of industry income distributed to labor, capital, and “profits.” (Normally, capital and earnings are included together a single broad, residual “returns to shareholders” category.) He found that the share of revenue earned by workers has been falling, as others have described, but also the share earned by capital has, too. Indeed, have been declining whilst the share of revenue going to “markups,” or rents, has been increasing.
In reality, the existence of economic rents by itself doesn’t establish that there’s been an increase in unproductive entrepreneurship. To the to be real, there should be be evidence an increase in rent-seeking – which is, concerted efforts to stifle competition by influencing the reward structure or rules from the game in the market.
James Bessen of Boston University presents suggestive evidence that rent-seeking behavior has been increasing. In a 2016 paper Bessen shows that, since 2000, “political factors” account for a considerable area of the rise in corporate profits. This happens through expanded regulation that favors incumbent firms. Similarly, economists Jeffrey Brown and Jiekun Huang from the University of Illinois have discovered that businesses that have executives with close ties to key policy makers have abnormally high stock returns.
In a nutshell, Baumol was before his period in warning that economies can suffer not merely from your cost disease but also from its entrepreneurial counterpart – changing your the policies that shifts the distribution of entrepreneurial effort from activity that can help the economy toward activity that hurts it. Unfortunately, there is strong suggestive evidence that Baumol’s warnings have learned to pass. When the U.S. will probably tackle its many problems, we are going to must find solutions to encourage would-be entrepreneurs to start out innovative, productive businesses, as opposed to dedicating their efforts to co-opting government as a way to secure economic advantage.
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