Are Entrepreneurs Creating the Growing Economy, or is the Growing Economy Enabling Entrepreneurs?


It is taken as given that taxation and regulation affect business startups and job creation.

However, the many metrics seeking to explain governmental policies’ effects on entrepreneurship probably rarely capture precisely what one thinks they do.

“[E]ndogeneity problems between innovation or technological change and regulation persist,” asserts Anna Maria Zárate Moreno.

That is a technical way of saying cause and effect can potentially run both ways. For example, regulation affects firm startups and sizes; but firms also affect regulations, such as when firms may lobby against regulations in favor of a freer economy.

On the other hand, firms not infrequently support regulatory intervention that benefits them but damages their competitors; in yet another technical term, economists call that “rent-seeking.”

Kristina Nyström in “Business Regulation and Red Tape In the Entrepreneurial Economy” describes how “the regulatory quality and amount of business regulation may also be influenced by the amount of entrepreneurial activities in the society since policymakers and bureaucrats tend to respond to changing conditions in the society.”

In similar fashion James Bailey and Diana Thomas in the Mercatus Center report “Regulating Away Competition: The Effect of Regulation on Entrepreneurship and Employment” note that “studies suffer from the problem that healthy economies usually score well on a number of different institutional variables, making it difficult to isolate the specific effect of a particular variable.”

You get the idea. Dependent variables some scholars study might be employed by other scholars as independent variables.

It’s a jumble. The political power of those inclined toward laissez-faire in entrepreneurship likely affects institutions, as does, unfortunately, growth in rent-seeking in pursuit of suppression of competition. Some studies link regulatory intensity to industry decline—implying that regulation is the cause and declining productivity is the effect.

But in expression of the endogeneity phenomenon, in some instances, it may be the reverse, such as the familiar case of declining industries supporting regulation that shields them from competition from innovators, which also ultimately feeds back to declining productivity.

While there remains the familiar longstanding “unholy alliance of anti-market intellectuals and rent-seeking businesses,” as phrased by Fred L. Smith Jr. in “Countering the Assault on Capitalism,” one can conceive, nonetheless, of liberalization-oriented lobbying spawning burgeoning entrepreneurship. Those one-time entrepreneurs may eventually embrace zero-sum lobbying, but one can hope they do not.

Clearly studying regulation’s effect on entrepreneurship means looking at imperfect empirical relationships. One takeaway is that regression models cannot be the only tool policymakers employ. But we mustn’t despair; if the classical liberals among us believed economies could be modeled, we would be socialists and central planners instead.

I’ve long noted that costs of regulations and interventions cannot be precisely measured. We can likewise comfortably acknowledge that we cannot precisely measure the effects of regulation on innovation and entrepreneurship. However, imperfect measurement is not a failure; it is a feature, not a bug.

(Note: This column is in part based on a piece of my chapter in the Fraser Institute’s new book Demographics and Entrepreneurship. Readers will find the authors and their chapters at the volume’s landing-page here.)

Originally published at Forbes.