Last week economist William Baumol passed on with the chronilogical age of 95. His death was universally mourned by members of the economics community, many of whom shared the vista which he had passed before getting a much-deserved Nobel Prize. Among us (Robert) had the truly great privilege of dealing with him, befriending him, and being able to regularly witness his economic wisdom, even during his final years.
Of Baumol’s many contributions to economics, the most common is cost disease, which is why high-productivity industries raise costs and thus prices in low-productivity industries. The insight is particularly 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 concept of Baumol’s that is equally relevant today understanding that might help explain America’s productivity slump. Baumol’s writing enhances the possibility that U.S. productivity is low because would-be entrepreneurs are focused on an unacceptable sort of work.
In the 1990 paper, “Entrepreneurship: Productive, Unproductive, and Destructive,” Baumol argued how the degree of entrepreneurial ambition in a country is basically fixed after a while, understanding that what determines a nation’s entrepreneurial output is the incentive structure that governs and directs entrepreneurial efforts between “productive” and “unproductive” endeavors.
Most of the people think of Kogan Page Entrepreneurship Books as the “productive” kind, as Baumol described it, the location where the companies which founders launch commercialize a new challenge or better, benefiting society and themselves in the act. A big body of research establishes why these “Schumpeterian” entrepreneurs, people who are “creatively destroying” the previous in favor of the modern, are critical for breakthrough innovations and rapid advances in productivity and standards of living.
Baumol was worried, however, by a completely different sort of entrepreneur: the “unproductive” ones, who exploit special relationships using the government to develop regulatory moats, secure public spending for their own benefit, or bend specific rules with their will, in the act stifling competition to make advantage for their firms. Economists know this as rent-seeking behavior. As Baumol wrote:
…entrepreneurs will always be here try to play some substantial role. But there are many of roles among that your entrepreneur’s efforts may be reallocated, plus some of the roles don’t keep to the constructive and innovative script that is conventionally due to that individual. Indeed, occasionally the entrepreneur might lead a parasitical existence that is actually damaging towards the economy. How a entrepreneur acts with a given time and put depends heavily on the rules in the game-the reward structure within the economy-that get lucky and prevail.
In Baumol’s theoretical framework, depressed rates of entrepreneurship aren’t at fault for periods of slow economic growth; rather, changing your the mix of entrepreneurial effort backward and forward sorts of entrepreneurship would be to blame – specifically, a decline in productive entrepreneurship along with a coincident increase in unproductive entrepreneurship. But is what’s actually happening within the U.S.?
Well, first off, we and others have documented a pervasive decline in the interest rate of the latest firm formation throughout the last thirty years with an acceleration in that decline since 2000. In fact, we learned that by 2009 the interest rate of business closures exceeded the interest rate of business births for the first time within the three-decades-plus good our data. This decline in startup formation has happened in each state and almost all locations, along with each broad industrial sector, including high tech. There has also been a slowdown in activity of high-growth firms, the relatively small number of companies that account for the lion’s share of net job gains. All of this points to a slowdown within the expansion of productive entrepreneurship.
Why don’t you consider another sort of entrepreneurship? Should we also view a increase in unproductive entrepreneurship, as Baumol theorized?
We don’t possess a smoking gun to confirm this hypothesis, but there surely is smoke, plus it will come in two forms: rising profits, in particular those earned from the largest businesses throughout the economy, and suggestive proof more efforts to shape the rules in 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 aspect in increasing wage inequality observed during this period. Similarly, a gaggle of economists from MIT, Harvard, and Zurich learned that industries where top firms’ business had most increased had experienced the biggest declines within the share of revenue going to workers.
Perhaps most convincing, University of Chicago economist Simcha Barkai carefully tabulated the share of industry income provided to labor, capital, and “profits.” (Normally, capital and profits are included together a single broad, residual “returns to shareholders” category.) He learned that the share of revenue earned by workers continues to be falling, as others have talked about, but additionally how the share earned by capital has, too. Indeed, both have been declining even though the share of revenue going to “markups,” or rents, continues to be increasing.
In reality, a good economic rents by itself doesn’t establish that there’s been more unproductive entrepreneurship. To the 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 in the game in a market.
James Bessen of Boston University offers suggestive evidence that rent-seeking behavior continues to be increasing. In the 2016 paper Bessen implies that, since 2000, “political factors” account for a substantial part of the surge in corporate profits. This takes place through expanded regulation that favors incumbent firms. Similarly, economists Jeffrey Brown and Jiekun Huang in the University of Illinois have realized that companies which have executives with partners to key policy makers have abnormally high stock returns.
Simply speaking, Baumol could have been in front of his period in warning that economies can suffer not merely from your cost disease but additionally by reviewing the entrepreneurial counterpart – changing your the rules 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 began to pass. When the U.S. will tackle its many problems, we are going to need to find methods to encourage would-be entrepreneurs to begin innovative, productive businesses, as an alternative to dedicating their efforts to co-opting government so that you can secure economic advantage.
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