Growthology

The Business Cycle and the Climate for Enterprise II: Japanese Growth in the Aftermath of Its Financial Crisis of the Early 1990s

I continue to worry about (and worry) the issue of what the experience of the past generation tells us about the relationship between short-run cyclical economic downturns and long-run enterprise, entrepreneurship, and growth...

From the end of World War II until the beginning of the 1990s, it looked as though the Japanese economy was "converging" to the American economy in living standards and productivity levels--that although Japan started the post-World War II period with a labor force inferior in education, with a lower level of installed technology, and with a capital stock deeply depleted by the fact that Curtis LeMay's bombers had made the rubble of Japan bounce, that eventually Japan's economy would "catch up" to that of the United States.

Gloomy Thoughts About the Effects of the Cyclical Downturn on Entrepreneurship, Enterprise, and Growth

I have been staring at a very gloomy graph--at the Congressional Budget Office's forecasts of "potential output", of what the economy can produce without starting to "overheat" and putting upward pressure on inflation:

Looking at this graph tells me that:

• Real GDP fell relative to potential output by 8% in 2008-2009…
• Real has stayed 8% below its previous growth path ever since…
• The CBO is now forecasting that real GDP will return to potential output as of the end of 2017…
• The CBO is now forecasting that, come the end of 2017, the economy's full-employment productive potential will be 8% below what CBO was forecasting in 2007…

High-Skill Immigration: A Resource (Part 1)

Earlier this week in his post on Forbes.com Adam Ozimek challenged bloggers and economists to write more on the subject of high-skill immigration as an economic policy lever. Ozimek is frustrated because this is an issue of extreme importance and urgency on a national scale (we agree), but it doesn’t get blogged about much because it’s really not that controversial. Most people are of the opinion that allowing more highly skilled and highly educated immigrants to stay in the United States is a good thing, but national policies on the matter have yet to change.

To add fuel to the blogging fire and to provide something of practical use for Practically Friday, I present you with a wealth of research on the topic. This is part one of two posts: the first is specifically Kauffman-funded research and resources, the second will be outside research and resources.

The Kauffman Foundation has funded a great deal of research regarding immigrant entrepreneurs since 2007, primarily written by Vivek Wadhwa and company. The latest report, America’s New Immigrant Entrepreneurs: Then and Now, is Part VII in Wadhwa’s Immigration and the American Economy series, which examines “the economic contributions of skilled legal immigrants in the United States, what is different about them, what obstacles they face with the U.S. immigration system and why tens of thousands of skilled immigrants and would-be immigrants are heading back to their home countries and what the implications are for the United States.”

Tom Brokaw highlighted some of Wadhwa et al.’s research for NBC Nightly News in 2011 as a part of its “America at the Crossroads” series, interviewing some of these young foreign entrepreneurs, most of who will be forced to return to their home countries once their temporary visas expire, taking the jobs they created with them.

You can check out the entire research paper series through the links below:

• Part I: America’s New Immigrant Entrepreneurs
• Part II: Education, Entrepreneurship and Immigration
• Part III: Intellectual Property, the Immigration Backlog, and a Reverse Brain-Drain
• Part IV: America’s Loss is the World’s Gain
• Part V: Losing the World’s Best and Brightest
• Part VI: The Grass is Indeed Greener in India and China for Returnee Entrepreneurs
• Part VII: America’s New Immigrant Entrepreneurs: Then and Now

Wadhwa has also written a new book based on this research, The Immigrant Exodus: Why America Is Losing the Global Race to Capture Entrepreneurial Talent, and created a website as a resource for journalists and a voice for immigrant entrepreneurs: ImmigrantExodus.com. The book argues that with increased global competition, current U.S. immigration policies leave foreign-born entrepreneurs no choice but to take their innovations to other countries, as shown by the unprecedented drop in the number of immigrant-founded, high-growth startups (see Part VII). This exodus creates a multi-trillion dollar loss for the United States and an economic gain for countries such as India and China.

Other entrepreneurship and immigration research from the Foundation includes:

• The Kauffman-designed Startup Act, which gave rise to the Startup Act 2.0 (S. 3217 and H.R. 5893), currently being sponsored by Senators Marco Rubio (R-Fla.), Chris Coons (D-Del.), Jerry Moran (R-Kan.), and Mark Warner (D-Va.). The bill includes language to create new visas for immigrant entrepreneurs (Sections 3, 4, and 5).
  
  
  
  
• Reforming Immigration Law to Allow More Foreign Student Entrepreneurs to Launch Job-Creating Ventures in the United States by Anthony Luppino, John Norton, and Malika Simmons outlines specific measures to modify immigration law in the United States to attract and encourage talented international students to start job-creating businesses in the U.S.
  
  
• A chapter in Better Capitalism: Renewing the Entrepreneurial Strength of the American Economy by Robert E. Litan and Carl J. Schramm entitled “Importing Entrepreneurs” discussing immigration policy regarding highly skilled entrepreneurs. “Welcoming and even recruiting skilled immigrants, especially those wanting to launch a business in the United States, can be – and is – both good economics and good politics.”
  
  
• Two Kauffman-funded policy briefs by the National Foundation for American Policy:
  
  • Keeping Talent in America argues that international STEM graduates (science, technology, engineering, or math) from advanced universities should be handed a green card along with their diplomas to encourage them to stay in the United States and start a business.
  • Still Waiting: Green Card Problems Persist for High Skill Immigrants points out that the increased wait times for highly-skilled immigrant entrepreneurs to get green cards (up to 70 years!) is a threat that could “deprive the country of talented individuals who will choose to develop innovations, make their careers and raise their families in other nations” and offers solutions to remedy the backlog.
• A Fordham Urban Law Journal article, “Making the Case for Changing U.S. Policy Regarding Highly Skilled Immigrants,” by John E. Tyler and Peter H. Schuck, that highlights the importance of highly skilled immigrant entrepreneurs to the economy, stating that these entrepreneurs in STEM fields “have disproportionately catalyzed and expanded U.S. innovation, jobs, wealth creation and resulting advances in human welfare.” A version of this article was also a chapter in the Kauffman Foundation book Rules for Growth (chapter 4).
  
  
• Knowledge Economy Immigration: A Priority for U.S. Growth Policy by Robert E. Litan and Tim Kane, states that the “single most important policy reform that will boost long term growth in the United States is to reduce the barriers facing highly skilled and highly educated immigrants. At least 50,000 workers with advanced degrees are sent out of the United States each year, although they have already passed security tests and become part of the productive fabric of the U.S. economy. In a world where the knowledge economy adds more value to national incomes than physical labor, the current U.S. stance of exiling many of the smartest people in the world imposes self-inflicted wounds on our currently troubled economy.” [emphasis mine]
  
  
• The Budgetary Effects of High-Skilled Immigration Reform by Arlene Holen at the Technology Policy Institute. Through a grant from the Kauffman Foundation, Holen examined the fiscal effects of immigrant entrepreneurs and concluded that “legislation considered by Congress during the last few years to loosen green card and H-1B caps could reduce the federal deficit on the order of $100 billion over ten years.” [emphasis mine]
  
  
• America’s Great Job Creators: Immigrant Entrepreneurs – a Kauffman-produced video featuring entrepreneurs from India, Russia, Korea, and other countries about the potential benefits from increasing the number of green cards so that foreign entrepreneurs can start businesses and create jobs in the U.S.
  
  

The major takeaway from all this research is that America loses big – and I mean big –when highly skilled immigrant entrepreneurs return to their native countries if they can’t start a business in the United States. In order to have a vibrant, flourishing economy, create jobs on the scale this country needs, and help reduce the federal deficit, the U.S. needs to recognize the contributions of these skilled immigrants and encourage them to stay and continue to create businesses. In order to do that, our visa system needs to change, and quickly.

And that, as Ozimek points out, is absolutely worth blogging about. As he puts it, “It’s the most important economic issue of our time, far more important than tax reform, and it is a lever that could help improve a lot of problems we have in this country. We should be shouting this from the rooftops daily.”

Post-IPO Employment and Revenue Growth

The Kauffman Foundation released today a new study by Martin Kenney, Don Patton, and Jay Ritter on the employment and revenue growth of all companies that have made initial public offerings over the past 14 years. The report and press release are available here.

The slump in IPOs, also shown in this study, has already been documented elsewhere, for example in previous work by Ritter. The new contributions from this study pertain to post-IPO revenue and jobs. As expected, after the IPO, firms experience significant increases in revenue and employment, especially if they are younger firms, classified in the report as Emerging Growth Companies.¹ The widely cited figure that 92 percent of employment growth comes after the IPO is not corroborated. This report finds that 10 years after IPOs from 1996-2000, 37 percent of jobs come after the IPO. Ritter has authored a post at Forbes.com about this finding. It’s not clear to me if the NVCA figure should be compared to all IPOs, or some sort of filter by company age. Even so, it appears as though the 92 percent figure is overstated. 62 percent of jobs at EGCs have come after the IPO. For non-EGC firms, this figure is only 27 percent, unsurprising since older firms would presumably have less room for growth.

Post-IPO, EGCs also experience greater revenue growth than non-EGC firms. Figures 2 and 6 from the report visualize the growth trend for EGCs:

Note that different IPO cohorts show different performance trends for these EGCs. We see here immediate gains in employment and revenue that slowly taper off for 1990s cohorts. The 2000s cohorts don't display such jumps (except for 2004—remember that Google and Salesforce.com went public in 2004). Read the report for further information.

If you want to take the numbers from the report to calculate what would have happened to our economy if the slowdown in IPO activity did not occur, keep in mind that arguments about the causality of the IPO on growth are still relevant. It’s worth noting that acquisition-fueled growth likely overstates the employment and revenue growth figures to some degree. I urge you to read this section of the report in full and recognize the huge assumptions needed to make such a calculation:

One can use our numbers, in a mechanical sense, to calculate the lost jobs from the slowdown in IPO activity. If the volume of IPOs per year during 1980–2000 had been maintained during 2001–2011, i.e., 298 domestic operating company IPOs per year rather than ninety per year, and if each of the 208 additional IPOs per year had created 822 jobs, the 2,288 additional IPOs would have created 1.881 million more jobs, a far smaller number than the 22.7 million figure that has been repeatedly cited. 

There are some strong assumptions that go into the above calculation. First, since the number of years in which to grow would have been shorter than for the firms that went public in the late 1990s, the jobs created through 2010 probably would be lower. Second, there is an assumption that the average quality of firms going public would remain the same as those that actually did go public. In other words, that there would have been additional eBays, Amazon.coms, and Googles if there had just been more IPOs. Third, that the people that would have been hired would not have been doing something else. In other words, there is an implicit assumption that a mass army of would-be engineers, scientists, and marketing experts is sitting at home watching television. And fourth, that the capital invested when a company raises funds in an IPO would not otherwise have been invested in job-creating activities. The average company that conducted an IPO during our sample period raised $162 million in inflation-adjusted dollars, and if there were 2,288 more IPOs of the same average size, $370 billion of capital would have been pulled from other uses. 

There are many other interesting findings in the report. For example, I read this as further evidence of the tremendous effects superstar/outlier firms have on our economy. The biomedical industry did not consolidate as many analysts projected, with firms in this industry actually having the highest survival rate post-IPO. And I think this serves as a reminder that ratings of ‘business friendliness’ need to be taken with a grain of salt—IPOs disproportionately come from California, Massachusetts, and D.C. on a per capita basis, despite these jurisdictions considered to be less business friendly.

¹ EGCs are defined as firms less than 30 years old that are not spinoffs, rollups, buyouts, or demutualizations. The purpose of the cutoff is to exclude firms such as UPS, which was founded in 1907 but did not go public until 1999.

Women Entrepreneurs in the Americas: Turning Chaos into Productivity

As an undergraduate math major, one of my favorite areas of study was chaos theory. That is, the notion that a small, seemingly inconsequential action in one location can have a major effect in another, very distant location. This concept is often illustrated through what is known as “the butterfly effect,” whereby the beating of a butterfly’s wings is the catalyst for a major hurricane on another part of the planet weeks later. Recently, I was reminded of this notion in the context of entrepreneurship and, in particular, women in entrepreneurship.

The 2011 American Express OPEN report, “State of Women-Owned Businesses,” indicates that the number of women-owned firms is growing steadily. In fact, between 1997 and 2011, when the total number of businesses in the United States increased by 34 percent, the number of women-owned firms increased by 50 percent, a rate 1½ times the national average. While that fact is encouraging, and while sales, too, are increasing for these same women-owned firms, sales growth of women-owned firms at 53 percent lags behind that of the national average at 71 percent. It seems a reasonable goal to help grow women-owned firms, which currently account for 29 percent of all enterprises according to the American Express OPEN report, in an effort to increase their contribution to the workforce and the economy.¹

Women’s Entrepreneurship in the Americas (“WEAmericas”), an initiative that leverages public-private partnerships to increase women’s economic participation and address key barriers women confront when starting and growing small and medium enterprises (e.g., access to training/networks, access to markets, and access to finance), is working to bring these concepts to bear. In addition to the U.S. government, WEAmericas founding partners include Cherie Blair Foundation for Women, ExxonMobil Foundation, Goldman Sachs 10,000 Women, Inter-American Development Bank, Thunderbird School of Global Management, Vital Voices, Walmart Foundation, WEConnect International and, proudly, my own organization, Kauffman FastTrac.

In the spirit of strengthening economic partnerships and exchanging ideas among countries in the Americas, next month, during a Walmart Foundation and U.S. Department of State sponsored visit to the United States, approximately 40 female entrepreneurs from several Latin American countries will spend a day with Kauffman FastTrac in Kansas City, Missouri. The experience will be designed to engage the visitors in learning, exploration, and dialogue related to entrepreneurship, with a focus on business growth. The attendees will participate in Kauffman FastTrac’s Listening to Your Business three-year visioning workshop. In particular, the women will examine their businesses today, including strengths, weaknesses, and opportunities; visualize their businesses three years from now; formulate internal planning processes to establish interim goals and strategies; identify resources to assist in reaching business goals; and examine and respond to challenges and transitions. 

The hoped-for output of these and other efforts: Economic recovery and growth. As noted by the Kauffman Foundation, it is essential to view women’s entrepreneurship as an economic issue – not as a gender-equity issue. Thus, as chaos theory suggests, small investments in women – to help advance their entrepreneurial aspirations – can result in significant positive global economic implications. Just like the butterfly effect, from chaos will come order, and as women bring their ideas to market, global returns will increase and everyone will benefit.

 

¹ The report bases its analysis on the U.S. Census Bureau’s Survey of Business Owners (1997, 2002, and 2007) with extrapolations into 2011 based on Gross Domestic Product. 

Job Creation Strategy: Statistics?

The Kauffman Foundation's E.J. Reedy on how improved data collection can enhance job creation:

As the government and other nonprofits implement more local programs to spur job creation or small business development, data are desperately needed to track local trends in business outcomes and conditions. It’s because of this that politicians tend to be more interested in supporting programs that can help provide independent, meaningful, and timely data on job creation in their regions. The statistical community should recognize this and strengthen their collections before politicians become alienated consumers of private data.

Read more of this insightful piece here.

State of the Union Word Cloud

 

And, according to the New York Times, President Obama used "innovation" 9 times (compared to two in 2009), and "government" 18 times (compared to seven in 2009).

3.2 percent ain't good enough

The advance number for Q1 growth was released today: 3.2 percent (this link is to a WSJ summary of economist opinions).  Three-point-two would be good in normal times, but it's not enough to catch-up to where the U.S. economy "should" be. 

I'm skeptical this is a solid recovery. I'm skeptical there won't be a double dip. Why?  Because interest rates are very low and have to rise sometime soon, because federal spending stimuli are fading, because I believe in a place called California, and because so much of the durable consumption seems driven by cut-rate deals (Toyota in Q1 offered zero-percent financing for the first time in history). Thin ice.

This would be a good time to reread Mankiw's argument that this is a Unit Root recession, not a Trend Stationary recession. A rebound to normalcy would be nice, but we all know better than to believe the housing bubble defined normalcy. It's time to shelve fantasies that a stimulus, any stimulus, can or should get America back to artificial prosperity.

Who Declared War on Entrepreneurs?

Nick Schulz over at the Enterprise Blog draws our attention to an apparent crackdown by the IRS on the flexible employment arrangements used by many independent contractors and small businesses. It's not clear what impact this will have but, anecdotally at least, there have been reports that many new and young businesses in this recession have been turning more and more to freelancers and contractors. And we've seen the average size of new companies shrink over the past few years by about two employees--as noted in the story above, this likely indicates increasing use of such flexible arrangements.

Put this together with the anti-angel provisions in the Dodd bill (which I think may have been slightly diluted recently), and it seems as if someone has declared a war on startups. Which is, in other words, a war on job creation and economic growth.

More on Friedman

Here is another, albeit similar, take on one particular response to Thomas Friedman's Easter column celebrating startup companies. By the way, while you visit the PPI website, be sure to read Michael Mandel's policy memo on why the jobs crisis may well be an innovation crisis. 

Fiscal policy is "out of control" ... so what?

Ken Rogoff, a Harvard professor, and one of the few economists who can claim to be prescient (this January 2008 NBER paper with Carmen Reinhart anticipated the economic fallout from the financial crisis in the U.S.), now warns that fiscal policy is out of control ... here, there, and everywhere.

Speaking in Tokyo, he actually used the phrase "out of control" to describe Japanese fiscal policy (debt to GDP is over 200% there), but also focused on Greece, the EU, and the U.S.  The difficulty to curb fiscal stimulus during a recession means that monetary policy is likely to tighten first, and last week's Fed announcement pretty much fits in exactly with the Rogoff prediction.  Actually, the political economy of fiscal versus monetary policy is something taught in economics classrooms for decades. Rogoff now predicts:

The U.S. is likely to tighten monetary policy before cutting government spending, sending “shockwaves” through financial markets, Rogoff said in an interview after the speech. Fiscal policy won’t be curbed until soaring bond yields trigger “very painful” tax increases and spending cuts, he said....

“Most countries have reached a point where it would be much wiser to phase out fiscal stimulus,” said Rogoff, who co- wrote a history of financial crises published in 2009. It would be better “to keep monetary policy soft and start gradually tightening fiscal policy even if it meant some inflation.”

It's interesting to note the 2008 NBER paper said:

A critical question is whether the U.S. crisis will prove similar to the most severe industrialized-country crises, in which case growth may fall significantly below trend for an extended period. Or will it prove like one of the milder episodes, where the recovery is relatively fast? Much will depend on how large the shock to the financial system proves to be and, to a lesser extent, on the efficacy of the subsequent policy response. (emphasis added)

What are the consequences? 

The first consequence is that the U.S. recovery will be more difficult than it needs to be, followed by a systemic shock. It is impossible to anticipate what the U.S. economy will look or feel like in 2020 after that shock occurs.

The second consequence is global. For growth optimists like Dane, Bob, and me (and our readers, right?), it is very difficult to reconcile the gloomy short-term outlook with all of the historical evidence showing long-term acceleration in economic growth. (I'm reminded of the TED talk Alex Tabarrok gave a year ago). The reconciliation is, of course, growth is heterogenous among countries, states, and cities (people, too, for that matter). Japan and Greece seem determined if not destined to be fiscal train wrecks. America seems to be falling into the same trap, and not just because of next year's projected deficit, but because of the inability to institutionally even think about entitlement realities. So, yes, growth will happen, but it won't surge in nations with fiscal hangovers. Growth leadership starts with fiscal restraint, so we can look at this list of public debt by country to see who has the advantage. Names that stick out: China, Russia, Estonia, Chile, Australia, among others. 

Does America eally want to pass the baton of global leadership? Of course not. Such batons are never passed. They're dropped.

UPDATE: Jim Hamilton makes the case that the Fed discount rate increase is not a signal of tighter monetary policy.  I don't disagree, per above, but I doubt Jim would disagree with the claim that monetary policy is much more likely to tighten before fiscal policy (I give 50-1 odds). And I can guarantee that Jim would prefer to see real fiscal discipline, because he's been writing about that for years.

Waging Politics Through Graphics

For those of you who haven't seen it, this is a recently released graphic being pushed by the Obama Administration to illustrate the recession it inherited and the impact of the stimulus:

 Source.

Although it doesn't quite embody the "golden age" of data visualization that Paul Kedrosky likes to say we're living in, it is a very clever graphic--a "brilliant image" says Ryan Avent. That said, it's not without problems--Drew Conway provides a nice angle.

Has the Great Recession Ended?

This is the question of the moment for many economists and analysts and policymakers, although the relevance of the answer will vary widely across the country. Will someone who has been unemployed for seven months or longer (which is now the average duration) celebrate when the National Bureau of Economic Research (NBER) officially dates the end of the recession?

In a recent research note, William Hester of Hussman Funds examines the four primary indicators tracked by the NBER Business Cycle Dating Committee: Industrial Production, Real Manufacturing and Trade Sales, Real Personal Income Less Transfer Payments, and Nonfarm Payrolls. Many readers won't be surprised to learn that the first two indicators have bounced back nicely, in line with prior recoveries:

Source: William Hester, Hussman Funds 

The Manufacturing and Trade chart is similar, although with not quite the same "V" shape as Industrial Production. Personal Income has risen in the last several months, but so far is merely flat-lining rather than rising. But as you can guess, it's the employment situation that will continue to weigh on the economy:

Source: William Hester, Hussman Funds 

Yikes. Hester points out that the trend of NonFarm Payrolls thus far tracks quite closely the "jobless recovery" that followed the 2001 recession. That recession was said to be over in November 2001, but employment didn't recover for about two years and the bear market persisted for another year. As Hester notes, "it would go against precedent for [NBER] to declare the end of a recession with the mixed signals that are currently in place."

So what do you think? Is the Great Recession over? If it is, does it matter? Don Peck has a very disheartening piece in the newest Atlantic predicting a "long shadow" that will stretch across the economy for several years to come and will even produce a "slow motion social catastrophe," wrecking marriages, cities, and quality of life for whole swathes of the United States.

It's a perpetual temptation for every generation to declare its time to be historic, for everyone to perceive themselves as living through some sort of inflection point. Such time-centrist sentiment often proves unfounded, but occasionally the signals are so overpowering that you can't help wondering: is this the moment when everything changed?

The Value of Bernanke's Reconfirmation

Federal Reserve Chairman Ben Bernanke is up for a reconfirmation vote in the Senate tomorrow. He will likely be confirmed, and that's good news.

A perceived surge in populism is roiling both the Democratic and Republican parties, and a strange combination of all the political tension somehow fell on Ben Bernanke. And it was bipartisan. Politicians got the message that voters were angry: angry at Wall Street, angry at Washington policies, angry at elites wherever they may be. So Ben Bernanke, the calm-voiced Princeton professor and author of macro textbooks, became the fall guy for all those who really contributed to the subprime mortgage-induced recession. There's been a drumbeat of attacks on his stewardship of the central bank. But a funny thing happened on the way to guillotine. A majority of Senators seem to have decided to reconfirm.

In our view, Chairman Bernanke has been creative when others were dogmatic. He was decisive when others were silent. For that reason alone he should be praised, as Time magazine has done, certainly not condemned.

Second, what too many fail to understand is that for millions of Americans the U.S. recession is not over. There is no certain destiny for a recovery, strong or weak, in the coming year. And the biggest danger remains the fragility of the global financial system. The Chairman has demonstrated that he understands that danger. We need him now as much as we needed him in September 2008 when things looked much darker.

The third value in reconfirming Bernanke has hardly been noticed, but here it is. In a city drowning in partisan rancor, the bipartisan victory of the chairman reconfirmation will emerge as an invaluable island of sanity, and perhaps point the way toward more bipartisan, constructive action ahead. Let’s hope.

SIGNED

Robert Litan and Tim Kane

Field of Dreams is an Awesome Baseball Movie, not an Economic Development Strategy

By some estimates, the United States currently has vacant office space running into the hundreds of millions of square feet: law offices, Fortune 500 companies, cookie-cutter glass boxes constructed on sandpiles of debt, etc. And, as discussed previously, commercial real estate (CRE) could very well be the next economic shoe to drop, dragging down whatever economic recovery is materializing. 

At the same time, it's increasingly clear to more and more people that recovery and expansion simply won't happen without entrepreneurs: new companies that bring innovations to market. Entrepreneurs are not the silver bullet solution, yet growth will not occur without them. 

So let's see: how could we possibly address a looming CRE problem as well as encouraging incipient and potential entrepreneurs? Got it! Construct completely new science parks! Ignore both problems and travel a well-trod path that, if not inspired by Field of Dreams, at least follows the same blueprint: Build it and they will come. 

Oh, wait, hold on a second, I'm being told that this idea is already being pursued--it seems that Congress has taken time from its time-consuming BCS debates to pass legislation that will ostensibly "spur innovation [and] economic with development" by building science parks. And wouldn't you know it, the bill miraculously finds empirical support from the Association of University Research Parks. This is a page right out of the NVCA's playbook.

Not that science parks are necessarily bad, but evidence on their effectiveness appears mixed and, in any case, the concept would seem to contradict, you know, the entire history of innovation.

The bill's title is "The Building a Stronger America Act," which should not be confused with Build a Stronger America, an entrepreneurs' movement that seeks, inter alia, to expand the popular notions of entrepreneurship and innovation beyond science parks and venture capital, beyond the idea of walling off our "innovators" from the huddled masses of ordinary humans.

One of the absolute best pieces to read on how innovation happens is J. Rogers Hollingsworth's chapter on "High Cognitive Complexity." Synthesis, not separation, is the key.

Update: Kedrosky has written a wonderfully scathing post focused on the CRE part of this issue.

Breaking Through Barriers to Innovation

The search is on for ideas that will stimulate short- and long-term economic growth in the United States without further adding to the budget deficit. Here's a no-brainer: allow university researchers with innovations that are ready to be commercialized to shop around to different technology licensing offices. 

That's the idea advanced by Kauffman Foundation vice-presidents Lesa Mitchell and Bob Litan in the forthcoming issue of the newly revamped Harvard Business Review. This issue features the top "Breakthrough Ideas for 2010" and, happily, this idea comes in at number 6!

Currently, if you are a professor with a new technology or innovation, you typically must work through your own university's technology licensing office (TLO). This is inefficient for a variety of reasons. For one thing, not all TLOs are created equal: some have greater skill than others, while a handful excel. Several decades ago, federal funding of academic research was dramatically skewed toward those universities that engaged in the most commercialization: patents, licenses, spinoffs, etc. In the last twenty or thirty years, the distribution line of federal funding has flattened considerably, with a greater number of schools receiving money than before. This is not to say that the distribution is equal, but it's much less skewed than before.

Here's the kicker: the distribution of innovation output--patents, licenses, startups--has not changed. It's still skewed toward a handful of schools despite the huge increase in the number of universities receiving federal R&D money. We are not reaping the benefits of innovations that are presumably emerging from all that research and development. 

While some TLOs are more competent than others, moreover, it's also likely that such competence varies by area: one TLO may excel at commercializing life science discoveries while another may have a comparative advantage in computer science. Opening up the market for discoveries and commercialization should help iron out the inefficiencies and barriers that exist.

Kudos to Lesa and Bob for a fantastic article and for advancing a top Breakthrough Idea of 2010.

Credit Supply and Demand: What to Make of the NFIB Survey?

A recent survey by the National Federation of Independent Businesses (NFIB) has garnered some attention for suggesting that demand for credit among small businesses is the problem, rather than a restricted supply due to tighter lending standards. The implication is that, contrary to President Obama's recent proposals to expand the flow of credit to small businesses (and our own discussion here on Growthology), the credit pipeline is secure if only businesses would access it. With consumer demand still rather sluggish, small businesses may see little reason to pursue new credit. 

Clearly, many businesses face difficulties in obtaining credit from banks; indeed, the weight of anecdotal evidence seems to support the notion that this is a supply problem, as do other surveys pointing to a spike in the number of companies reporting difficulty getting loans. I spoke with Ann Meyer of the Chicago Tribune last week who noted that not one company she has encountered in Chicago reports an easy time of getting credit. The Kauffman Foundation's recent work in Detroit seconds this perspective. 

And, indeed, the October Federal Reserve Senior Loan Officer Survey did find that "domestic banks indicated that they continued to tighten standards and terms over the past three months on all major types of loans to businesses and households." Supply of credit, in other words, continued to be an issue.

But that's not the whole story. The Fed survey also indicated that the percentage of banks tightening standards has fallen over the last year--the supply pipeline is easing. In fact, the percentage of banks reporting tighter standards for loans to small businesses is at 2007 levels. Demand, moreover, "for most major categories of loans at domestic banks reportedly continued to weaken," albeit at a somewhat slower pace.

The question of credit, particularly to small businesses, is a thorny issue. Supply and demand both seem to be at work here, with the preponderance either way likely to vary by region. Meyer, in fact, pointed out that a problem with the NFIB survey is that it is skewed toward non-urban regions and businesses and thus doesn't represent the business conditions in places like Chicago. This seems like a fair point and echoes other criticisms of the NFIB. Two further issues require brief mention.

One is the apparently ballooning problem in commercial real estate with, by some estimates, half a billion dollars in bad loans preparing to come due and eat up banks' balance sheets. What does this have to do with credit for small companies? As the Atlanta Fed recently pointed out, the banks holding a large chunk of these CRE loans also happen to be the same banks that lend to small companies. 

Second, any discussion of credit for "small" businesses inevitably elides over an essential corner of the economic universe: new and young companies. True, these are often coterminous with small business, but it doesn't mean the interests of a five-employee startup will coincide with the interests of a five-employee, 25-year-old company, particularly in different industries. Credit problems pertaining to "small" businesses won't necessarily apply to new and young firms, especially since a primary source of financing for the latter category is the proverbial trio of family, friends, and fools, as well as personal credit cards. True, using one's credit card or home equity line isn't exactly easier than it was two or three years ago, but this means an easing of credit availability aimed at "small" businesses may not have (much of) an effect on the fortunes of new and young companies, which are the real sources of job creation in the American economy.

Would a Jobs Credit Work? A Response to Pozen

(Bob Litan)

Main Street is impatient with the pace of the recovery. Yes, the stock market has rebounded smartly from its March lows; and yes, government statisticians tell us that total output of goods and services actually increased at an annual rate of 3.5% in the third quarter, most likely marking an official end to the Great Recession. But on Main Street, unemployment has now passed 10%, and many more Americans are discouraged from looking for work, or engaged in part-time jobs unable to upgrade into full-time work.

No wonder then that policy makers in both political parties are frantically searching for ways to reverse the monthly job losses and start putting more Americans back to work. One idea that has attracted a lot of attention is a temporary tax credit or a partial or total suspension of the payroll tax to encourage employers to begin hiring again.

Robert Pozen, a thoughtful and experienced financial expert, recently provided some useful analysis of this idea, and came up with a highly targeted job creation proposal designed to provide the largest bang for the policy bucks (to minimize the impact on the uncomfortably large federal deficit). The notion is to provide a 15% tax credit, up to $100,000 per employee, for employers making net additions to their payrolls, but require that half of the new workers come from the ranks of the previously unemployed.

However, this proposal would limit the credit only for already established employers – those in business prior to some cutoff date (Pozen suggests September 30th of this year). The rationale for excluding all new firms from eligibility is to prevent existing firms from breaking themselves up or forming new subsidiaries or affiliates simply in order to qualify for the credit.

What sounds like a minor detail – the eligibility cutoff – would actually be a big mistake--for it reflects a fundamental misreading of which firms are most likely to hire new workers and sustain the recovery after the stimulus measures wind down and are eventually withdrawn.

A new Kauffman Foundation study documents that over the past three decades, until this recession, new firms (those one to five years old) have been responsible for much or all of the net new jobs created in our economy. Remarkably, even in the teeth of the recession, through 2008, the number of new business starts, as measured by another Kauffman study, has actually increased modestly. What we don’t know is whether the constraints on business credit or other impediments will deter these new firms, as well as those recently created, from continuing the historical pattern by being the prime source of net job creation now and in the years ahead. What do know, though, is that excluding new firms from receiving any job tax credit will certainly break that historical pattern – hardly the outcome anyone wants.

Fortunately, there is much more straightforward way to prevent the kind of gaming that Pozen worries about: in calculating the employment benchmark for determining whether a firm has added to its payrolls, the tax authorities should include all subsidiaries and affiliates in which a firm has an equity interest above a certain threshold (such as 10% of  an entity’s equity).

Meanwhile, policy makers should continue to look for other ways to boost the formation and growth of new companies, which are not only likely to be source of new jobs but of the next wave of new products and services that will restore optimism about our economic future.

Some examples: Establish a “job creator’s” visa for immigrants who launch new companies and hire workers; fix bank capital requirements so that they are less likely to discourage business lending in economic downturns (by making the requirements less pro-cyclical); allow shareholders to determine whether their companies should adhere to all or a portion of the requirements of the Sarbanes Oxley Act that make it more expensive for high growth companies to go public and thus expand on their rather than to sell out; and encouraging the development of a truly free market in the licensing of technologies developed by our universities using federal research funds, which would accelerate the commercialization of innovations that will reshape our future. (The House Financial Services Committee recently voted to extend the exemption of small companies from Sarbanes-Oxley's section 404(b). The measure still needs to pass the full House and Senate and does not affect the requirement that these companies comply with section 404(a).)

Agree or disagree, as you may, with some of these specifics. But the source of America’s remarkable job growth, our new firms, is not in dispute. As we all seek to dig our way out of our current economic hole, we cannot leave our entrepreneurs out of the solution, because they are the solution.

--Bob Litan

Where Have All the Loans Gone?

Last week the Obama Administration announced the expansion of a few Small Business Administration (SBA) loan programs, raising the cap on 7(a) loans, increasing the size of "microloans," and offering more aid, via TARP, to community banks. Questions will persist about the efficacy of SBA loan programs for new and small companies, as well as the effect of TARP restrictions on community banks, but two things are immediately clear. 

First, business loans have plummeted during this recession (via Econompic):

Worse, they show absolutely no upward trend in recent months:

(Source: John Mauldin.)

Any expansion of capital for businesses, even from the SBA, should theoretically help in some way. Credit is the oxygen line of new firms and they have been courting asphyxiation in this recession. 

Second, new and young businesses are the primary source of net job creation in the United States, yet this fact of economic life has for the most part been lost on policymakers (and media) obsessed with restarting the hiring process at large, established companies. Any recognition, therefore, of the importance of new firms and their access to capital can only be a good thing.

These steps aren't a silver bullet, mind you, and officials in Washington and every state capital continue to cast around for anything that will address (or appear to address) the dire employment situation this country faces. Nonetheless, President Obama's announcement is a step in the right direction and it comes on the heels of the creation within the Department of Commerce of a new Office of Innovation and Entrepreneurship. New firms are the drivers of job creation, and now Washington is finally turning to them.

"Micromortgages": A Better Approach to Economic Development Through Entrepreneurship?

Guest post by Charles Johnson

Our foundation president, Carl J. Schramm, has criticized Yunus's approach to microfinance, most recently in his essay for the Claremont Review of Books. In comparing the Nobel Prizes awarded for economics and peace in 2007, Dr. Schramm argued in the Wall Street Journal that microfinance might not be the panacea for world poverty that aid development agencies, like the State Department, have suggested that it is. With co-author, Dr. Amar Bhidé, Schramm writes,

Mr. Yunus's ameliorative entrepreneurship however is very different from the transformative entrepreneurship that Mr. Phelps argues has been central to modern capitalism. Indeed, most of the ventures funded by microloans in Bangladesh are activities that were marginalized by modern entrepreneurs: They don't involve any economies of scale or scope or the use of new technologies capable of producing significant advances in overall productivity and incomes. 

 Economic development does wonders for peace, but what does microfinanced entrepreneurship really do for economic development? Can turning more beggars into basket weavers make Bangladesh less of a, well, basket case? A few small port cities or petro-states aside, there is no historical precedent for sustained improvements in living standards without broad-based modernization and widespread improvements in productivity brought about by the dynamic entrepreneurship that Mr. Phelps celebrates.

It seems, though, that microfinance, far from being the panacea, may simply encourage consumption at the expense of long term economic growth. As a welfare program, microfinance isn't necessarily bad, as it most likely going to keep people from starving, but it lacks the kind of true impetus to drive true growth. True, Yunus’s model may be preferable to the massive government to government loans and spending of the Bengladeshi government, but that isn’t really saying much, even if the money is put directly into the hands of individuals.

A most recent article, titled,”A $9 Trillion Question: Did the World Get Muhammad Yunus Wrong?,” in Foreign Policy makes a similar point: how can the estimated $17 billion in loans actually help elevate the living standards of the $4 billion in poverty and why has it been so lackluster at generating real results?

Peter Schaefer writes,

Moreover, most of the existing microfinance credit is subsidized. Very little comes from private, profit-seeking capital markets (as of 2004, just $2.7 billion, or about 60 cents per poor person per year). This is because development banks do not really require collateral for their microloans. They often use subsidized credit, as they generally aren't profit-seeking. But banks backed by private capital markets require collateral. This means that their loans are too expensive for most of the long-term needs of the poor.

For instance, the private Mexican microbank Compartamos charges 100 percent annualized interest -- which, to be fair, reflects the real risk of providing an unsecured loan. But such long-term interest rates cannot encourage capital investment in projects that need time to gestate. And though shorter-term loans with 25 or 50 percent annualized rates beat the street rate, such debt cannot be carried for any length of time. As a result, the pool of global capital is largely inaccessible to poor people. And the solutions proposed by Yunus and de Soto for formalizing the economy of the poor and thus lifting them from poverty prove only marginal.

In short, too much debt tends to sink individuals faster than it takes for them to make long-term financial decisions. The author suggests that “micromortgages” could actually help promote real long-term growth. He writes,

How would it work? Let's consider a poor individual living in a house without a title or even an address in Mexico. He hopes to formalize his house. So, he visits a local bank to apply to register his property. To the bank, he represents potential demand for credit -- the bank has incentive to research his claim, help him map his land, assess any improvements, and submit his information to the registry. The bank would do this in return for his loan business and a fee to cover costs. 

The bank would then submit the individual's information to the government, ready for entry into an official national digital registry. Were the application accepted for processing, he could take out a form of title insurance from the bank, which could then safely extend credit to the applicant. The modest application fee would be added to his loan principal, allowing him to immediately use the balance for, say, a long-term micromortgage to finance a business.

 Intuitively, tapping into the equity in your home makes sense. Many entrepreneurs in the U.S. have used home equity lines of credit to finance their businesses, why should the developing world be any different?