Is productive entrepreneurship in decline in the U.S.?

Jul 18 2013 - 12:35pm

In a recent investigative article on risk-taking and entrepreneurship in the June 20 Wall Street Journal, Ben Casselman finds that Americans have become more risk-averse.  This decline of risk-taking and entrepreneurship is manifested in the decline of new business formations, start-up rates, new job creation, and fewer adults changing jobs. It is creating less churn and dynamism in the economy, important characteristics of a growing economy.    

Coincidently, this decline in risk-taking and entrepreneurship is accompanied by increasing income and wealth inequality, shrinking of middle class, decrease in employer businesses, and big business with market and/or asset concentration.  Middle-income class provides the reservoir of entrepreneurship, a resource whose allocation into different activities determines the well-being of a capitalistic market economy. 

In "A History of Economic Theory and Method," Robert Ekelund, Jr. and Robert Herbert, state that the earliest discussion on the role of an entrepreneur in an economy is found in Richard Cantillon's 18th century work. He was an economist, Paris banker and a London merchant. For Cantillon, entrepreneurs either work with capital in their enterprises or without capital for uncertain wages, as opposed to other workers who work for certain wages. He even considered robbers and beggars as entrepreneurs.

However, 19th century economist Joseph Schumpeter crystallized the concept and considered entrepreneurs crucial for economic development in a capitalistic society. For Schumpeter, an entrepreneur sees and grabs opportunities for new products, processes, markets, organizations, resources, and any innovation to start and build an enterprise. He need not be a capitalist, businessman, manager or inventor. The common assumption that an entrepreneur is an inventor and always promotes growth and development is faulty. 

A nation must design rules, regulations, laws and an incentive system that produce productive entrepreneurs who make positive contributions to the national economy. Political indecisions and corruption create uncertainty in the design and implementation of laws and regulations that encourage entrepreneurship. 

Professor William Baumol, in his paper in the October 1990 Journal of Political Economy, further advances Cantillon's idea. Baumol argues that an entrepreneur is like any other resource. Rules, regulations, laws and incentive system can influence the allocation of entrepreneurial resources into productive or unproductive and even damaging activities (e.g., drug cartels) deleterious to the nation. 

He states, "If entrepreneurs are defined, simply, to be persons who are ingenious and creative in finding ways that add to their own wealth, power, and prestige, then it is to be expected that not all of them will be overly concerned with whether an activity that achieves these goals adds much or little to the social product." 

For Baumol, a Schumpeterian list for entrepreneurial activities should also include economic rent-seeking innovations, the type of innovations we witnessed in the financial bubble of 2007-08 that eventually led to the Great Recession. In general, rent-seeking behavior implies keeping and/or acquiring claims on resources to earn excess profits. Maintaining the ethanol subsidy by corn producers is an example.  

Baumol argues that in ancient Rome and China, despite many innovations, productive entrepreneurship in commerce and industry was discouraged by rules, regulations, reward systems, prestige and general attitude of rulers. Rules of the game were stacked against wealth accumulation in economically productive enterprises. Courts encouraged entrepreneurship that engaged in rent-seeking behavior through political favors.

The Great Recession of 2007 showed us how non-enforcement and/or non-existence of government rules and regulations and loopholes in laws led to the emergence of some entrepreneurs who implemented financial innovations that were not only unproductive but contributed to the serious recession. The emergence of such entrepreneurs was encouraged not only by non-enforcement of rules and regulations, but also by tacit approval of rent-seeking by relevant authorities to accumulate wealth by many, at the cost of the Great Recession. FBI reports show that mortgage fraud, as measured by Suspicious Activity Reports, increased 573 percent during 2003-2007. Only 7 percent of SARs filed during FY2007 led to losses of more than $813 million. 

In addition to a 4 percent decline in GDP and 10.1 percent unemployment rates from December 2007 and June 2009, economist Scott Shane of the Cleveland Fed reports in The Economic Commentary, March 24, 2011, that entrepreneurship, measured by employer firms, decreased by 146,000 firms. Perhaps rules, regulations and incentives facing many relatively small employer firms are so archaic and cumbersome that it is discouraging many in the dwindling middle class to be risk-takers in productive activities.   

The rewards for small-employer firms, who face stiff competition from big and concentrated businesses with outsourced profits, may be skewed towards activities that are shadier, border on corrupt practices and rent-seeking through political favors. The Supreme Court decision on Citizens United has further encouraged rent-seeking behavior.  

If the U.S. wishes to regain its momentum for innovations and entrepreneurship, it must implement rules, regulations, laws and an incentive system that encourage productive entrepreneurship that contributes to economic growth and well-being for all Americans.

Mathur is former chairmen and professor of economics and now professor emeritus, Department of Economics, Cleveland State University, Cleveland, Ohio.  His articles also appear at mathursblogonomics.blogs.com. He also writes blogs for the Standard-Examiner at http://blogs.standard.net/economics,etc.

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