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The economics of entrepreneurship

Professor April Franco is helping organize a conference on the economics of entrepreneurship later this month at U of T Scarborough. She's been studying the subject for more than 20 years and says the field has become a growing area of research among economists.

On May 25 the University of Toronto Scarborough will host a conference exploring a crucial factor in any modern economy – the role of entrepreneurship.

Since entrepreneurs are important drivers for growth and innovation, they shape economies in ways that few others can. U of T Scarborough and Rotman School of Management Professor April Franco, who helped organize the day-long conference, has been studying entrepreneurship for the past 20 years and says the field has become a growing area of research among economists.

She spoke to writer Don Campbell about a range of topics including the importance of incentives, why governments are interested in entrepreneurship, and even the role a CEO’s personality can have on company performance.

Why is it important to focus on the economics of entrepreneurship?

We’re in a period of significant change, both in how we produce goods and services, and how we communicate and interact with each other. We often see new firms as being able to take advantage of these change in ways established firms don’t. This happens for a variety of reasons, but often established firms are too close to their current set of customers to understand or envision the next big thing.

Entrepreneurs tend to be innovators and drivers of growth. They’re the ones on the ground taking advantage of changes and moving markets forward. As economists, we’re always thinking about growth, not just in terms of productivity but the new products and services that will create and shape markets. We’re also interested in how incentives work and in policy questions since governments are interested in who  will be creating jobs for the future, they want to learn more about new firms and how to best help them.

You mentioned its importance to governments. What are some interesting policy debates surrounding entrepreneurship?

One important question is how can we harness entrepreneurship? One of our speakers, Sari Kerr, will explore immigration and entrepreneurship. Immigration has become an intense political issue, but these groups are one of the big engines for entrepreneurship within North America and as a result are important job creators. Important technology firms like Google, Tesla and Yahoo were created by immigrant entrepreneurs. We want to explore what type of firms are being created by newcomers, how do they differ from firms created by non-immigrants, and how well they fare in terms of growth.

Another important question is what kind of incentives drive innovation. Petra Moser, an economic historian, is an expert on the origins of creativity and innovation. She looks at the effect of copyright on science, which basically impacts incentives in two important ways. If you give someone a copyright they have an incentive to develop new knowledge because they can capture  the value created by that new knowledge. But the problem with copyright and intellectual property rights in general is that it also prevents people from entering this particular market. On the one hand, you’re creating a reason to innovate, but on the other hand you’re creating a cost to those trying to enter after the original innovation has taken place.

Finally, David McKenzie looks at ways government can support individuals starting new firms using randomized controlled trials (RCT) that look at investment readiness programs in developing countries. By using RCT, we can see if the group that receives help is actually better off compared with the group that didn’t receive help. This provides important information for the Canadian government when it invests in supporting entrepreneurship in developing countries in an effort to increase their growth and future prosperity.

What about the entrepreneurs themselves, is there something about their personality that are of interest to economists?

We’re really interested in looking at what CEOs do or don’t do on a regular basis that can impact firm productivity. One of our speakers, Raffaella Sauduan, uses information on all the activities a CEO over the course of a week to determine which ones are associated with high productivity firms. Her research found that when CEO’s dedicate time to high value activities, it can explain 13 per cent of the productivity gap between high and low-income countries. So, even small changes in management techniques can have big impacts on firm productivity.

It’s also interesting to consider serial entrepreneurs. These are people who start up many firms, not all at once, but one after another. One of our speakers, Mirjam Van Praag will examine this issue. We want to know if they experience failure can we evaluate why and try to understand the difference between having bad luck, having a bad idea, or whether the failure occurred because of bad leadership. For venture capitalists being able to separate this is important. Investors want to invest in good entrepreneurs who might have failed due to bad luck, not poor ability.

So how much of an influence is entrepreneurship having on the North American economy at the moment?

It’s funny you ask that because as it turns out the rate of entrepreneurship, that is the rate of new firms entering the economy, had been falling dramatically over a period of about 10 to 15 years in North America. The number of new firms hit a peak in the U.S. in 2006, and then by 2010 had fallen to 1994 levels. The numbers from the Bureau of Labour were really stark. There’s been a recent jump, and since 2010 the number has been slowly increasing, but it’s something we’re trying to unpack – why such a dramatic fall in the first place?

One reason is the recession, but that doesn’t explain all of it. The number of exits, which are firms that closed, steadily increased but the number of new firms entering the market really declined. It’s also important to understand on how this affected firms that grew and became large firms, that is those that go on to have multiple locations and more than 100 employees. We want to understand the dynamics at play here since this will affect rate of growth in the future economy.




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