Recently economist William Baumol passed on with the day of 95. His death was universally mourned by individuals the economics community, lots of whom shared the view that he had passed before receiving a much-deserved Nobel Prize. Certainly one of us (Robert) had the truly amazing privilege of working with him, befriending him, or being able to regularly witness his economic wisdom, during his old age.
Of Baumol’s many contributions to economics, the favourite is cost disease, which explains why high-productivity industries raise costs and therefore prices in low-productivity industries. The insight is very 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 idea of Baumol’s that is equally relevant today and that can help explain America’s productivity slump. Baumol’s writing improves the possibility that U.S. productivity is low because would-be entrepreneurs are devoted to an unacceptable type of work.
In a 1990 paper, “Entrepreneurship: Productive, Unproductive, and Destructive,” Baumol argued that this amount of entrepreneurial ambition within a country it’s essentially fixed as time passes, and that what determines a nation’s entrepreneurial output may be the incentive structure that governs and directs entrepreneurial efforts between “productive” and “unproductive” endeavors.
Most of the people think of Cheap Entrepreneurship Books being the “productive” kind, as Baumol referred to it, the place that the businesses that founders launch commercialize new things or better, benefiting society and themselves in the operation. A substantial body of research establishes the “Schumpeterian” entrepreneurs, the ones that are “creatively destroying” the previous and only the newest, are crucial for breakthrough innovations and rapid advances in productivity and standards of just living.
Baumol was worried, however, by a unique form of entrepreneur: the “unproductive” ones, who exploit special relationships using the government to construct regulatory moats, secure public spending for own benefit, or bend specific rules to their will, in the operation stifling competition to produce advantage for firms. Economists call this rent-seeking behavior. As Baumol wrote:
…entrepreneurs will always be around and always play some substantial role. But there are many of roles among that the entrepreneur’s efforts can be reallocated, and some of these roles tend not to continue with the constructive and innovative script that is conventionally attributed to that person. Indeed, sometimes the entrepreneur might even lead a parasitical existence that is actually damaging for the economy. The way the entrepreneur acts with a unpredictable moment and place depends heavily around the rules from the game-the reward structure within the economy-that occur to prevail.
In Baumol’s theoretical framework, depressed rates of entrepreneurship aren’t at fault for periods of slow economic growth; rather, a change in a combination of entrepreneurial effort forwards and backwards forms of entrepreneurship would be to blame – specifically, a loss of productive entrepreneurship along with a coincident rise in unproductive entrepreneurship. But is that this what’s actually happening within the U.S.?
Well, first off, we yet others have documented a pervasive loss of the rate of latest firm formation during the last three decades plus an acceleration for the reason that decline since 2000. In reality, we learned that by 2009 the rate of commercial closures exceeded the rate of commercial births initially within the three-decades-plus good reputation for our data. This loss of startup formation has happened in each state and virtually all metropolitan areas, and in each broad industrial sector, including advanced. There has been a slowdown in activity of high-growth firms, the relatively small number of firms that be the cause of the lion’s share of net job gains. All of this items to a slowdown within the development of productive entrepreneurship.
Think about one other type of entrepreneurship? Will we also view a rise in unproductive entrepreneurship, as Baumol theorized?
We don’t have a smoking gun to substantiate this hypothesis, but there is surely smoke, and it also comes in two forms: rising profits, specially those earned with the largest businesses throughout the economy, and suggestive evidence a rise in efforts to shape the policies from the game. This pattern is in conjuction with the rise of economic rents and rent-seeking behavior.
As an example, Jason Furman and Peter Orszag, both former economic advisers to President barack obama, wrote an important 2016 paper that argued that economic rents are rising, particularly since 2000, and were a main factor in increasing wage inequality observed during this period. Similarly, several economists from MIT, Harvard, and Zurich learned that industries where top firms’ share of the market had most increased had experienced the biggest declines within the share of greenbacks gonna 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 profits are included together in a single broad, residual “returns to shareholders” category.) He learned that the share of greenbacks earned by workers has been falling, as others have described, but additionally that this share earned by capital has, too. Indeed, both have been declining even though the share of greenbacks gonna “markups,” or rents, has been increasing.
In reality, the use of economic rents alone doesn’t establish that there’s been a rise in unproductive entrepreneurship. To the really was, there needs to be be evidence a rise in rent-seeking – that is, concerted efforts to stifle competition by influencing the reward structure or rules from the game within a market.
James Bessen of Boston University offers suggestive evidence that rent-seeking behavior has been increasing. In a 2016 paper Bessen signifies that, since 2000, “political factors” be the cause of a substantial part of the surge in corporate profits. Such a thing happens through expanded regulation that favors incumbent firms. Similarly, economists Jeffrey Brown and Jiekun Huang from the University of Illinois have realized that businesses that have executives with close ties to key policy makers have abnormally high stock returns.
Simply speaking, Baumol might have been before his period in warning that economies can suffer not merely from a cost disease but additionally from the entrepreneurial counterpart – a change in the policies that shifts the distribution of entrepreneurial effort from activity that assists the economy toward activity that hurts it. Unfortunately, there is certainly strong suggestive evidence that Baumol’s warnings have come to pass. If the U.S. will probably tackle its many problems, we’re going to need to find ways to encourage would-be entrepreneurs to get started on innovative, productive businesses, as an alternative to dedicating their efforts to co-opting government to be able to secure economic advantage.
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