Baumol’s productive and unproductive entrepreneurship after 25 years

Abstract

Purpose – The purpose of this paper is to consider the impact of Baumol’s work on entrepreneurship has had on framing the economic development puzzle. Design/methodology/approach – In many ways, the intuition behind the paper is straightforward. Entrepreneurs allocate their time and attention based on the relative payoffs they face in any given social setting. If the institutional environment rewards productive entrepreneurship, then the time and attention of entrepreneurial actors in the economy will be directed toward realizing the gains from trade and the gains from innovation. If, on the other hand, there are greater returns from the allocation of that time and attention toward rent-seeking and even criminal activity, alert individuals will respond to those incentives accordingly. The simplicity of the point being made is part of the brilliance in Baumol’s article. As with other classics in economics, once stated the proposition seems to be so basic it is amazing that others did not put it that way beforehand. Findings – It has been 25 years since Baumol published his paper in the Journal of Political Economy, and as pointed out, it has had a significant scientific impact. But to put things in perspective, James Buchanan’s “An economic theory of clubs” published in 1965 has accumulated roughly 3,500 citations, F.A. Hayek’s “The use of knowledge in society,” published in 1945 has over 12,000, and Ronald Coase’s “The problem of social cost” published in 1960 has over 28,000 citations. So Baumol’s paper would put him in rather elite company. The great strength of the paper is to focus the attention on the relative payoffs of productive, unproductive and destructive entrepreneurial activity. But one of the most significant disappointments of the subsequent history of this paper is a methodological one. The comparative case study approach that Baumol employed did not result in a renewed appreciation for narrative forms of empirical research in political economy. It could legitimately be argued that the sort of questions about the fundamental institutional causes of economic growth and development can only be captured with these more historical methods. Attempts to force fit this analysis into a set of methodological tools which have already revealed themselves to be inadequate to do justice of the role of institutions and disregard the underlying cultural norms and beliefs that characterize human sociability. Originality/value – In this paper, the authors will focus on the contribution made by Baumol’s 1990 paper on the field of comparative political economy, and in particular on the literature on transitional political economy. Section 2 places Baumol’s argument in the context of the failure of neoclassical growth theory. Section 3, the authors argue that although the Baumol framing was an improvement over the old comparative economic systems literature, contemporary transitional political economists have failed to fully realize the implications of the institutional revolution. They have therefore been unable to understand the causes of the heterogeneity of outcomes among those countries that transitioned from communism to the market economy in the 1990s. In Section 4, the authors argue that the political economy of transition will gain from a more sophisticated view of the economic process of the market economy, an appreciation of the entrepreneurial function, and a deeper understanding of the role of formal and informal institutions and their effect on entrepreneurship. The authors will illustrate the point with some examples from the recent history of the Russian political and economic transition. Credible commitment problems and the deficiencies of the institutional reforms of the early 1990s were responsible for the failure of reallocating the entrepreneurial talent that existed in the Soviet economy to productive economic activities. The framework can therefore be used to solve the puzzle of why the announced liberalization of Russian markets and privatization of previously state-owned resources led to economic stagnation, the growth of black markets, and the rise of organized crime, instead of economic development through the operations of smoothly operating markets. Section 5 briefly concludes.

Institutions and Entrepreneurship: Pushing the Boundaries

“…This focus on the guiding role of institutions for entrepreneurial actors was most famously noted by Baumol (1990), who argues that what differs between nations is not the supply of entrepreneurial talent but its allocation between productive (e.g., innovation), unproductive (e.g., rent seeking), and destructive (e.g., crime) activities. This allocation is determined by the relative payoffs that a society offers to such activities, and these payoffs are determined by the prevailing institutions (Baumol 1990;Boettke and Coyne 2003;Boettke and Piano 2016;Lucas and Fuller 2017;McCaffrey 2018). The primary conclusion is that entrepreneurship is a proximate cause of growth but institutions are the fundamental cause.…”

Institutional drivers of born-public ventures

“…Baumol’s (1990) seminal paper posited that government policy not only affects the overall number of new ventures in the market, but also can have an equally, if not greater, impact on where new ventures expend their efforts. This occurs because individuals are profit seeking and are greatly motivated by the incentive systems designed by government (Baumol, 1990; Boettke and Piano, 2016). Specifically, Baumol’s original thesis was that institutional arrangements may, at times, serve to divert entrepreneurial activity toward activities that result in less economic growth.…”

“…More than 25 years have passed since Baumol wrote that “policy can influence the allocation of entrepreneurship more effectively than it can influence its supply” (1990, p. 893). From that prompt, scholars have addressed questions related to where new ventures choose to expend their efforts based on the payoffs available (Boettke and Piano, 2016). For example, scholars have studied allocation between high-growth and non-high-growth entrepreneurship (Bowen and De Clercq, 2008), between high-impact and high-growth entrepreneurship (Stenholm et al , 2013), between opportunity-driven and necessity-driven entrepreneurship (McMullen et al , 2008), and among rent seeking, rent extraction, productive, and leisure activities (Dong et al , 2016).…”

Extending the Economic Foundations of Entrepreneurship Research

“…Baumol shows that institutions provide fundamental incentives for entrepreneurs by establishing the relative social rewards for different kinds of talent. These include intangible rewards such as social status, access to improved networks, and political favor, in addition to simple wealth (Boettke and Piano, ). Understanding the range of available incentives informs entrepreneurs' judgments about which kinds of investments to pursue.…”