A few weeks ago economist William Baumol perished on the age of 95. His death was universally mourned by folks the economics community, many of whom shared the vista which he had passed before finding a much-deserved Nobel Prize. Among us (Robert) had the fantastic privilege of working with him, befriending him, or being able to regularly witness his economic wisdom, even in his final years.

Of Baumol’s many contributions to economics, the favourite is cost disease, which is why high-productivity industries raise costs and thus prices in low-productivity industries. The insight is very 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 and 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 dedicated to the incorrect form of work.

In a 1990 paper, “Entrepreneurship: Productive, Unproductive, and Destructive,” Baumol argued how the amount of entrepreneurial ambition in a country is actually fixed after a while, and that what determines a nation’s entrepreneurial output is the incentive structure that governs and directs entrepreneurial efforts between “productive” and “unproductive” endeavors.

Most people think about Entrepreneurship Books as being the “productive” kind, as Baumol known as it, where the companies that founders launch commercialize something totally new or better, benefiting society and themselves in the process. A sizable body of research establishes the “Schumpeterian” entrepreneurs, those who are “creatively destroying” the old and only the modern, are crucial for breakthrough innovations and rapid advances in productivity and standards of life.

Baumol was worried, however, with a very different kind of entrepreneur: the “unproductive” ones, who exploit special relationships with all the government to develop regulatory moats, secure public spending for his or her own benefit, or bend specific rules to their will, in the process stifling competition to produce advantage for his or her firms. Economists know this as rent-seeking behavior. As Baumol wrote:

…entrepreneurs will always be along with us and try to play some substantial role. But there are a variety of roles among which the entrepreneur’s efforts could be reallocated, and some of these roles tend not to stick to the constructive and innovative script which is conventionally attributed to that individual. Indeed, from time to time the entrepreneur may even lead a parasitical existence which is actually damaging for the economy. How a entrepreneur acts in a with time and set depends heavily for the rules in the game-the reward structure within the economy-that eventually prevail.

In Baumol’s theoretical framework, depressed rates of entrepreneurship aren’t at fault for periods of slow economic growth; rather, a change in this mixture of entrepreneurial effort backward and forward forms of entrepreneurship would be to blame – specifically, a loss of productive entrepreneurship and a coincident rise in unproductive entrepreneurship. But are these claims what’s actually happening within the U.S.?

Well, first off, we while others have documented a pervasive loss of the pace of new firm formation throughout the last thirty years plus an acceleration for the reason that decline since 2000. In reality, we found out that by 2009 the pace of commercial closures exceeded the pace of commercial births initially within the three-decades-plus reputation our data. This loss of startup formation has took place each state and nearly all locations, along with each broad industrial sector, including hi-tech. There has 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. Doing this items to a slowdown within the increase of productive entrepreneurship.

What about the opposite form of entrepreneurship? Should we also visit a rise in unproductive entrepreneurship, as Baumol theorized?

We don’t have a smoking gun to confirm this hypothesis, but there surely is smoke, and yes it will come in two forms: rising profits, in particular those earned through the largest businesses in the economy, and suggestive proof a rise in efforts to shape the principles in the game. This pattern is consistent with the rise of economic rents and rent-seeking behavior.

For example, Jason Furman and Peter Orszag, both former economic advisers to Barack obama, wrote a disciplined 2016 paper that argued that economic rents are rising, 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 out that industries where top firms’ share of the market had most increased had experienced the biggest declines within the share of revenue gonna workers.

Perhaps most convincing, University of Chicago economist Simcha Barkai carefully tabulated the share of industry income offered to labor, capital, and “profits.” (Normally, capital and income is included together in a broad, residual “returns to shareholders” category.) He found out that the share of revenue earned by workers continues to be falling, as others have talked about, but also how the share earned by capital has, too. Indeed, have been declining while the share of revenue gonna “markups,” or rents, continues to be increasing.

To be clear, the existence of economic rents on it’s own doesn’t establish that there’s been a rise in unproductive entrepreneurship. With the actually was, there has to be be proof a rise in rent-seeking – which is, concerted efforts to stifle competition by influencing the reward structure or rules in the game in a market.

James Bessen of Boston University presents suggestive evidence that rent-seeking behavior continues to be increasing. In a 2016 paper Bessen signifies that, since 2000, “political factors” account for a considerable the main rise in corporate profits. This occurs through expanded regulation that favors incumbent firms. Similarly, economists Jeffrey Brown and Jiekun Huang in the University of Illinois have discovered that companies that have executives with relationships to key policy makers have abnormally high stock returns.

In short, Baumol was ahead of his in time warning that economies can suffer not merely from your cost disease but also looking at the entrepreneurial counterpart – a change in the principles 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. If 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 opposed to dedicating their efforts to co-opting government to be able to secure economic advantage.
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