Entrepreneurship and Growth

The last post about entrepreneurship rates around the world (from World Bank data) raises an obvious question: what is the relationship between the rate of entrepreneurship and the rate of economic growth? Does a higher rate of entrepreneurship mean faster economic growth? This is sort of the holy grail of entrepreneurship research, and I'm not claiming to be original, but we have some cross-country data here so let's see what we come up with. 

Our most basic intuition is that, yes, more entrepreneurship should mean more innovation, higher productivity (new, more productive firms ideally push out, or make more productive, existing firms), and thus higher wages and a higher standard of living. The World Bank researchers who put together this dataset have found that entry rates (the rate of new business entry) is positively correlated with a country's per capita income. So perhaps more entrepreneurship does make a country richer. Or, obversely, richer countries have more entrepreneurship because there is greater scope (financial, psychological, societal) for taking the entrepreneurial leap. Of course, the World Bank researchers also show a positive correlation between entry rates and the business density rate: how many firms there are per capita. How do you get a higher business density rate? By creating more (surviving) firms, of course. So we're already on sort of a circular path of logic: to get more entrepreneurship, you need . . . more entrepreneurship. Right. Well, let's see what else we have.

How about growth rates? Whether or not causation runs from income level to entrepreneurship or vice versa, we should also be interested in the rate of growth, which can be more important than the absolute level of income. So first we'll take the 2005 entry rates from the previous map, and compare them against GDP growth rates for 2005:

There doesn't appear to be much of a relationship between current-year entry and current-year growth. So this is interesting but certainly not very revealing. And it makes sense--we would expect entrepreneurship rates to pay economic dividends down the road if new firms are to be allowed time to grow. They will certainly create a lot of jobs at the time of their founding, but their contribution to GDP growth will come if they expand their revenues and payroll and contribute to productivity. Naturally, then, we need to compare 2005 entry rates and subsequent growth.

Not much here either. (Note: I have removed two outliers, Azerbaijan and Armenia because their growth rates are astonishingly high, as in 26 and 14 percent in 2005, reflecting more their starting points than performance.) OK, so maybe we haven't given the new firms in 2005 enough time to grow and contribute. It would be nice to go back to an earlier year and make comparisons between entry and subsequent growth, but we will lose some countries along the way due to data limitations. But let's say causation runs the other way, that growth increases entrepreneurship. We can look backward from 2005 to economic growth in the preceding few years. Perhaps this will tell us something:

Well, sort of, but not really. There are plenty of countries the grow quickly, leading to low entrepreneurship rates; countries that grow slowly yet still have high entry rates. And there are plenty of countries that have high (low) entrepreneurship and low (high) subsequent GDP growth rates. Based on this very quick and very rudimentary glance at entry rates and economic growth, can we say anything of substance regarding the relationship, if any, between entrepreneurship and economic growth?

First, we have to make caveats about data. The data I've just used and the graphs just presented are far from perfect and far from being conclusive about the growth-entrepreneurship link. Entry rates, while more or less consistent within countries, will vary across countries for different reasons--quality or ease of data collection being the biggest. And we might also consider that developing countries will have a larger "informal" sector and so some amount of economic activitiy won't get captured by entry rates or macreconomic statistics. Comparing entrepreneurship across countries, moreover, may not mean anything if the quality or nature of entrepreneurship differs. Richer countries could tend to have more "higher quality" entrepreneurs because they have immediate access to cutting edge technology and know-how. This would lead us down an unsatisfactory vicious/virtuous circle path. 

It may also be the case that GDP and GDP growth aren't the best indicators to look at; it might be better to dig into specific industries, or measures like personal income, happiness, etc. Of course, there are also continuing doubts about the usefulness of GDP itself as an economic indicator, as Michael Mandel ably discussed a couple of weeks ago.

In any case, notwithstanding these data issues, the above charts do present some interesting puzzles. For example, entry rates are pretty steady from year to year for any given country, while growth rates, even in developed countries, are more volatile. If the rate at which people form new firms is consistent, and if new firms are important to economic growth, why does growth bounce around so much? One answer is that there is a lot more that goes into growth than new firm formation. This is sort of troubling because it suggests that raising the entrepreneurship rate in any given country won't provide any sort of payoff (at least not in the next few years). It suggests a (harder) focus on the population of firms that gets founded and their survival and performance. And it also takes us back to the squishy issue of quality: a low (high) entrepreneurship rate could tell us nothing about the (poor) (good) quality of those firms.

At some point, it's probably inevitable that such an analysis resorts to qualititative factors. If you work backward from economic growth, locating the sources of such growth, you will likely focus on innovation. Where do innovations come from? From new and existing firms, although the conventional typology is that former account for more incremental innovations while the latter generally create breakthrough innovations. So entrepreneurs create those innovations that drive growth. That's the familiar narrative, and it could be true irrespective of entry rates. 

I need to end this post at some point, and we're not going to come to anything resembling a resolution, so I'll just end by throwing it open to readers. Your thoughts? Charts? Arguments?

Comments

[E.J. Reedy, Kauffman Foundation]

Interesting post, Dane! I wanted to share this upcoming event at the World Bank which will have a large focus on this topic:

http://www.kauffman.org/Blogs/DataMaven/September-2009/Doing-Business-and-Upcoming-Conference-with-the-Wo.aspx

[Karim Badr]

maybe entry rate is not a good proxy for entrepreneurship, may be an innovation index might give better results

also to avoid the dilemma of entrepreneurship and developed countries , maybe testing the relationship in developing countries would neutralize the effect
what do u think ?

[louis vuitton online shop]

Tim: As I wrote on my blog, Truth on the Market, I think Tyler is pretty far off base with this one. See http://www.truthonthemarket.com/2009/04/28/what-does-tyler-know-about-law-and-economics-anyway/

[gucci]

Once you learn the relevant language (and German is big for tech anywhere in Europe), it's not too difficult to get set up around there. But the US economy has become very miserable for tech workers and innovative, small businesses in general.

[gucci bags]

maybe entry rate is not a good proxy for entrepreneurship, may be an innovation index might give better results

[replica watches]

It is pretty certain that the Replica handbags you are looking for is a must-have handbag. Of course, who doesn't and not especially if it's one of the

[louis vuitton handbags]

I need to end this post at some point,

[gucci bags]

so I'll just end by throwing it open to readers. Your thoughts? Charts? Arguments?

[online undergraduate diploma]

that growth increases entrepreneurship. We can look backward from 2005 to economic growth in the preceding few years.

[coach factory outlet]

Blog is so good where i get lots of information about Books are dead nice job!!*

[ugg store]

The most common remark will be that each day is arranged around training.

[MBT Shoes Uk]

I guess the point is to give and save as much as you can and make your money work for you like the good servant we should strive to be.

[Penis Enlargement]

Thanks for taking the time to discuss this, I feel strongly about information and love learning more on this. If possible, as you gain expertise, It is extremely helpful for me. would you mind updating your blog with more information

[Careprost]

Really nice job, There are many people searching about that now they will find enough sources by your tips.
Also looking forward for more tips about that

[UGG Boots Classic Short]

I find life an exciting business,The point is succinctness of expression.

[Kamagra]

hey buddy,this is one of the best posts that I’ve ever seen; you may include some more ideas in the same theme. I’m still waiting for some interesting thoughts from your side in your next post.

[Diamond Engagement Rings]

Great written article will be waiting for your future posts.
Thank you for sharing.

[Inexpensive Diamond Engagement Rings]

Excellently written article, if only all blogger offered the same level of content as you, the internet would be a much better place. Thank you for posting. Please keep it up!

[Diamond Pendants]

It is very interesting topic you've written here..The truth I'm not related to this, but I think is a good opportunity to learn more about. Thank you for sharing.

[ガバペン]

Great tips, I would like to join your blog anyway,