A few weeks ago economist William Baumol perished in the ages of 95. His death was universally mourned by people in the economics community, many of whom shared the view that he had passed before buying a much-deserved Nobel Prize. One of us (Robert) had the truly amazing privilege of working together with him, befriending him, or being able to regularly witness his economic wisdom, even during his later years.
Of Baumol’s many contributions to economics, the most famous is cost disease, so in retrospect high-productivity industries raise costs and for that reason prices in low-productivity industries. The insight is particularly relevant now, as economic activity 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 overwhelmed U.S. productivity growth overall.
But there’s a lesser-known concept of Baumol’s which is equally relevant today knowning that can 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 kind of work.
Within a 1990 paper, “Entrepreneurship: Productive, Unproductive, and Destructive,” Baumol argued how the a higher level entrepreneurial ambition within a country is basically fixed with time, knowning that what determines a nation’s entrepreneurial output will be the incentive structure that governs and directs entrepreneurial efforts between “productive” and “unproductive” endeavors.
Most of the people consider Cheap Entrepreneurship Books being the “productive” kind, as Baumol described it, where the companies which founders launch commercialize something new or better, benefiting society and themselves in the process. A sizable body of research establishes why these “Schumpeterian” entrepreneurs, those that are “creatively destroying” the existing in support of the newest, are crucial for breakthrough innovations and rapid advances in productivity and standards of life.
Baumol was worried, however, by a very different sort of entrepreneur: the “unproductive” ones, who exploit special relationships using the government to create regulatory moats, secure public spending for their own benefit, or bend specific rules with their will, in the process stifling competition to produce advantage for their firms. Economists call this rent-seeking behavior. As Baumol wrote:
…entrepreneurs will almost always be with us try to play some substantial role. But there are a variety of roles among that this entrepreneur’s efforts can be reallocated, plus some of people roles do not keep to the constructive and innovative script which is conventionally due to the face. Indeed, at times the entrepreneur might even lead a parasitical existence which is actually damaging for the economy. How a entrepreneur acts in a unpredictable moment make depends heavily around the rules from the game-the reward structure inside the economy-that get lucky and prevail.
In Baumol’s theoretical framework, depressed rates of entrepreneurship aren’t to blame for periods of slow economic growth; rather, changing your the mix of entrepreneurial effort between the two types of entrepreneurship is always to blame – specifically, a loss of productive entrepreneurship along with a coincident surge in unproductive entrepreneurship. But is this what’s actually happening inside the U.S.?
Well, first of all, we yet others have documented a pervasive loss of the interest rate of recent firm formation during the last 30 years as well as an acceleration because decline since 2000. The truth is, we found that by 2009 the interest rate of business closures exceeded the interest rate of business births initially inside the three-decades-plus history of our data. This loss of startup formation has occurred in each state and the majority of towns, plus each broad industrial sector, including modern day. We are seeing a slowdown in activity of high-growth firms, the relatively very few businesses that are the cause of the lion’s share of net job gains. All of this points to a slowdown inside the growth of productive entrepreneurship.
What about one other kind of entrepreneurship? Do we also see a surge in unproductive entrepreneurship, as Baumol theorized?
We don’t have a smoking gun to confirm this hypothesis, but there surely is smoke, also it also comes in two forms: rising profits, specially those earned with the largest businesses throughout the market, and suggestive proof of a rise in efforts to shape the guidelines from 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 President barack obama, wrote a disciplined 2016 paper that argued that economic rents are on the rise, particularly since 2000, and were a main factor in increasing wage inequality observed during this time period. Similarly, a gaggle of economists from MIT, Harvard, and Zurich found that industries where top firms’ share of the market had most increased had experienced the most important declines inside the share of income planning to workers.
Perhaps most convincing, University of Chicago economist Simcha Barkai carefully tabulated the proportion of industry income distributed to labor, capital, and “profits.” (Normally, capital and earnings are included together a single broad, residual “returns to shareholders” category.) He found that the proportion of income earned by workers continues to be falling, as others have pointed out, but in addition how the share earned by capital has, too. Indeed, both have been declining even though the share of income planning to “markups,” or rents, continues to be increasing.
In reality, the use of economic rents by itself doesn’t establish that there’s been a rise in unproductive entrepreneurship. For your to be true, there has to be be proof of a rise in rent-seeking – which is, concerted efforts to stifle competition by influencing the reward structure or rules from the game within a market.
James Bessen of Boston University has provided suggestive evidence that rent-seeking behavior continues to be increasing. Within a 2016 paper Bessen signifies that, since 2000, “political factors” are the cause of a substantial section of the surge in corporate profits. This happens through expanded regulation that favors incumbent firms. Similarly, economists Jeffrey Brown and Jiekun Huang from the University of Illinois have discovered that companies which have executives with relationships to key policy makers have abnormally high stock returns.
Simply speaking, Baumol might have been in advance of his time in warning that economies can suffer not just from your cost disease but in addition from the entrepreneurial counterpart – changing your the guidelines that shifts the distribution of entrepreneurial effort from activity that helps 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. will almost certainly tackle its many problems, we’re going to need to find solutions to encourage would-be entrepreneurs to start innovative, productive businesses, instead of dedicating their efforts to co-opting government so that you can secure economic advantage.
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