A few weeks ago economist William Baumol passed on with the ages of 95. His death was universally mourned by members of the economics community, a lot of whom shared the scene he had passed before receiving a much-deserved Nobel Prize. One of us (Robert) had the fantastic privilege of dealing with him, befriending him, and being able to regularly witness his economic wisdom, even during his retirement years.
Of Baumol’s many contributions to economics, the favourite is cost disease, which is the reason high-productivity industries raise costs and for that reason prices in low-productivity industries. The insight is especially relevant now, as business activities has shifted into low-productivity services like medical care and education, where price increases are devouring public and household budgets, and whose continued low productivity has weighed down U.S. productivity growth overall.
But there’s a lesser-known thought of Baumol’s that is equally relevant today which might help explain America’s productivity slump. Baumol’s writing raises the possibility that U.S. productivity is low because would-be entrepreneurs are focused on an unacceptable kind of work.
Within a 1990 paper, “Entrepreneurship: Productive, Unproductive, and Destructive,” Baumol argued that this degree of entrepreneurial ambition inside a country is basically fixed after a while, which what determines a nation’s entrepreneurial output could be the incentive structure that governs and directs entrepreneurial efforts between “productive” and “unproductive” endeavors.
A lot of people imagine Cheap Entrepreneurship Books beeing the “productive” kind, as Baumol known it, in which the companies which founders launch commercialize something new or better, benefiting society and themselves in the operation. A sizable body of research establishes that these “Schumpeterian” entrepreneurs, those that are “creatively destroying” the previous for the newest, are critical for breakthrough innovations and rapid advances in productivity and standards of living.
Baumol was worried, however, by way of a unique kind of entrepreneur: the “unproductive” ones, who exploit special relationships together with the government to construct regulatory moats, secure public spending for own benefit, or bend specific rules for their will, in the operation stifling competition to create advantage for firms. Economists call this rent-seeking behavior. As Baumol wrote:
…entrepreneurs will almost always be along with us try to play some substantial role. But there are a selection of roles among that the entrepreneur’s efforts could be reallocated, plus some of the roles don’t follow the constructive and innovative script that is conventionally related to see your face. Indeed, occasionally the entrepreneur could even lead a parasitical existence that is actually damaging towards the economy. How the entrepreneur acts in a given time and place depends heavily about the rules of the game-the reward structure from the economy-that happen to prevail.
In Baumol’s theoretical framework, depressed rates of entrepreneurship aren’t the culprit for periods of slow economic growth; rather, a change in the amalgamation of entrepreneurial effort between the two types of entrepreneurship is usually to blame – specifically, a loss of productive entrepreneurship plus a coincident boost in unproductive entrepreneurship. But is what’s actually happening from the U.S.?
Well, to begin with, we among others have documented a pervasive loss of the rate of recent firm formation over the past 3 decades plus an acceleration because decline since 2000. Actually, we discovered that by 2009 the rate of economic closures exceeded the rate of economic births initially from the three-decades-plus good reputation for our data. This loss of startup formation has happened each state and nearly all metropolitan areas, along with each broad industrial sector, including advanced. We are seeing a slowdown in activity of high-growth firms, the relatively small number of companies that be the cause of the lion’s share of net job gains. This exactly what to a slowdown from the expansion of productive entrepreneurship.
How about one other kind of entrepreneurship? Will we also see a boost in unproductive entrepreneurship, as Baumol theorized?
We don’t use a smoking gun to ensure this hypothesis, but there is smoke, also it comes in two forms: rising profits, particularly those earned with the largest businesses in the economy, and suggestive proof more efforts to shape the guidelines of the game. This pattern is in conjuction with the rise of monetary rents and rent-seeking behavior.
As an example, Jason Furman and Peter Orszag, both former economic advisers to The president, wrote an important 2016 paper that argued that economic rents are on the rise, particularly since 2000, and were a main take into account increasing wage inequality observed during this time. Similarly, several economists from MIT, Harvard, and Zurich discovered that industries where top firms’ business had most increased had experienced the largest declines from the share of income gonna workers.
Perhaps most convincing, University of Chicago economist Simcha Barkai carefully tabulated the proportion of industry income given to labor, capital, and “profits.” (Normally, capital and profits are included together in a broad, residual “returns to shareholders” category.) He discovered that the proportion of income earned by workers may be falling, as others have pointed out, but also that this share earned by capital has, too. Indeed, both have been declining as the share of income gonna “markups,” or rents, may be increasing.
In reality, the use of economic rents on its own doesn’t establish that there’s been more unproductive entrepreneurship. For your to be real, there should be be proof more rent-seeking – that is, concerted efforts to stifle competition by influencing the reward structure or rules of the game inside a market.
James Bessen of Boston University has provided suggestive evidence that rent-seeking behavior may be increasing. Within a 2016 paper Bessen demonstrates that, since 2000, “political factors” be the cause of a substantial the main surge in corporate profits. Such a thing happens through expanded regulation that favors incumbent firms. Similarly, economists Jeffrey Brown and Jiekun Huang of the University of Illinois are finding that companies which have executives with close ties to key policy makers have abnormally high stock returns.
In short, Baumol was in front of his in time warning that economies can suffer not simply from the cost disease but also by reviewing the entrepreneurial counterpart – a change in the guidelines that shifts the distribution of entrepreneurial effort from activity which enables the economy toward activity that hurts it. Unfortunately, there’s strong suggestive evidence that Baumol’s warnings have learned to pass. In the event the U.S. is going to tackle its many problems, we intend to must find methods 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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