Recently economist William Baumol perished at the day of 95. His death was universally mourned by folks the economics community, most of whom shared the scene which he had passed before receiving a much-deserved Nobel Prize. One among us (Robert) had the truly great privilege of utilizing him, befriending him, and being able to regularly witness his economic wisdom, even during his old age.
Of Baumol’s many contributions to economics, the most famous is cost disease, which explains why high-productivity industries raise costs and so prices in low-productivity industries. The insight is very relevant now, as economic activity has shifted into low-productivity services like healthcare 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 notion of Baumol’s which is equally relevant today which may help explain America’s productivity slump. Baumol’s writing adds to the possibility that U.S. productivity is low because would-be entrepreneurs are dedicated to the incorrect form of work.
In the 1990 paper, “Entrepreneurship: Productive, Unproductive, and Destructive,” Baumol argued how the a higher level entrepreneurial ambition inside a country it’s essentially fixed with time, which what determines a nation’s entrepreneurial output could be the incentive structure that governs and directs entrepreneurial efforts between “productive” and “unproductive” endeavors.
Many people consider Kogan Page Entrepreneurship Books being the “productive” kind, as Baumol known as it, the location where the businesses that founders launch commercialize something totally new or better, benefiting society and themselves in the process. A considerable body of research establishes the “Schumpeterian” entrepreneurs, the ones that are “creatively destroying” the 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, by way of a different kind of entrepreneur: the “unproductive” ones, who exploit special relationships with all the government to make regulatory moats, secure public spending because of their own benefit, or bend specific rules to their will, in the process stifling competition to make advantage because of their firms. Economists know this as rent-seeking behavior. As Baumol wrote:
…entrepreneurs are always with us and try to play some substantial role. But there are a selection of roles among that the entrepreneur’s efforts can be reallocated, and a few of the roles don’t continue with the constructive and innovative script which is conventionally attributed to see your face. Indeed, sometimes the entrepreneur may even lead a parasitical existence which is actually damaging to the economy. What sort of entrepreneur acts at the given time and set depends heavily on 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 at fault for periods of slow economic growth; rather, a modification of this mixture of entrepreneurial effort forwards and backwards forms of entrepreneurship is usually to blame – specifically, a loss of productive entrepreneurship as well as a coincident boost in unproductive entrepreneurship. But is this what’s actually happening in the U.S.?
Well, first off, we yet others have documented a pervasive loss of the speed of new firm formation over the last 30 years plus an acceleration in that decline since 2000. Actually, we found that by 2009 the speed of economic closures exceeded the speed of economic births the very first time in the three-decades-plus history of our data. This loss of startup formation has occurred in each state and almost all metropolitan areas, plus each broad industrial sector, including modern day. There has been 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. Doing this items to a slowdown in the increase of productive entrepreneurship.
Why don’t you consider the other form of entrepreneurship? Will we also view a boost in unproductive entrepreneurship, as Baumol theorized?
We don’t have a very smoking gun to substantiate this hypothesis, but there is smoke, and it will come in two forms: rising profits, specially those earned from the largest businesses throughout the market, and suggestive evidence a rise in efforts to shape the principles in the game. This pattern is consistent with the rise of monetary rents and rent-seeking behavior.
For instance, Jason Furman and Peter Orszag, both former economic advisers to President Obama, wrote a disciplined 2016 paper that argued that economic rents are on the rise, particularly since 2000, and were a main element in increasing wage inequality observed during this time period. Similarly, several economists from MIT, Harvard, and Zurich found that industries where top firms’ share of the market had most increased had experienced the greatest declines in the share of income 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 earnings are included together in a broad, residual “returns to shareholders” category.) He found that the proportion of income earned by workers has been falling, as others have described, but additionally how the share earned by capital has, too. Indeed, both have been declining as the share of income planning to “markups,” or rents, has been increasing.
In reality, the presence of economic rents on it’s own doesn’t establish that there’s been a rise in unproductive entrepreneurship. For that to be real, there has to be be evidence a rise in rent-seeking – which is, concerted efforts to stifle competition by influencing the reward structure or rules in the game inside a market.
James Bessen of Boston University presents suggestive evidence that rent-seeking behavior has been increasing. In the 2016 paper Bessen implies that, since 2000, “political factors” be the cause of an important area 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 are finding that businesses that have executives with partners to key policy makers have abnormally high stock returns.
Simply speaking, Baumol was in advance of his amount of time in warning that economies can suffer not merely coming from a cost disease but additionally from its entrepreneurial counterpart – a modification of the principles that shifts the distribution of entrepreneurial effort from activity that assists the economy toward activity that hurts it. Unfortunately, there’s strong suggestive evidence that Baumol’s warnings began to pass. In the event the U.S. is going to tackle its many problems, we’re going to have to find solutions to encourage would-be entrepreneurs to start out innovative, productive businesses, as an alternative to dedicating their efforts to co-opting government in order to secure economic advantage.
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