Why entrepreneurship policy matters?
Entrepreneurial innovation is a key driver of improvements in productivity. Entrepreneurial endeavours have taken humanity from subsistence to relative affluence and it is entrepreneurs who will raise long-term living standards of future generations.
Entrepreneurs are also working to solve society's biggest problems from climate change to educational inequality, creating new jobs, expanding consumer choice, and supporting higher-quality public services.
What can policymakers do to support entrepreneurship?
Governments are ill-suited to picking winners and spotting the right entrepreneurs to back is an inherently tricky task. After all, if it was easy we wouldn’t have a VC industry.
Instead, governments should work to build an environment conducive to entrepreneurial risk-taking and growth.
We believe that to make Britain the best place to start and grow a business in the world policymakers need to focus on four key areas:
Whether they apply scientific knowledge, create disruptive business models, or simply spot opportunities for profit when incumbents lack competition, entrepreneurs play a vital role in the innovation process. The ability to take knowledge, labour, and capital, and put them to their most productive uses is how entrepreneurship drives long-term improvements in living standards. Economic progress is the result of a Darwinian process of creative destruction – new businesses with new ideas capture market share from old businesses with old ideas.
The massive economic and social benefits of innovation should create a presumption in favour of allowing entrepreneurs to experiment with new business models and technologies unless there are compelling reasons to believe that the new invention will bring serious harm to society. In such cases, interventions should be targeted at the specific harm and designed to leave maximum flexibility for the innovator. Regulations should be under constant review as new technology can leave them unfit for purpose. Without constant vigilance, rules can be used by vested interests to keep out new more efficient entrants, which results in higher prices and reduced choice for consumers.
New ideas are special. Unlike other inputs, the value of an idea doesn’t diminish with scale and is hard to exclude others from its value. Ideas can spillover. In fact, economist William Nordhaus estimates that innovators are only able to capture 2.2% of the total value to society of new inventions. As a result, there is a risk that the incentive to innovate can be too weak.
Innovative entrepreneurs are often not great engineers nor scientists. Rather, they have the unique ability to understand the true potential of scientific developments and a method for bringing the idea to market. Enabling new ideas to flow from the world academia and research institutions to market should be a key concern for policymakers who want to support entrepreneurial innovation.
You can’t build great businesses without great people. Entrepreneurs need access to high-skilled workers to turn their bright ideas into viable businesses. When surveyed founders increasingly cite talent shortages as a key barrier to growth. To remove this barrier Britain will need to become more open to international talent, make it easier for people to move to the cities with the greatest demand for workers, and build an education system that equips young people with entrepreneurial skills as well as being more responsive to the needs of business.
But, the focus shouldn’t just be on a shortage of skilled workers – we also need to ensure that the supply of entrepreneurial talent doesn’t dry up. Many of Britain’s fastest growing companies were founded by people born outside the UK. We should also seek to draw entrepreneurial talent from a wider range of the population – we miss out on great ideas when we under-utilise half of the population. That’s why we set up the Female Founders Forum to encourage, support and promote female entrepreneurship.
Boosting the supply of entrepreneurial talent shouldn’t just be about maximising the number of people who start companies – quality, not quantity, should be key. Upgrading the skills of would-be entrepreneurs either through formal training programmes or through support and advice at incubators or accelerators is key to ensuring that good ideas can become great businesses.
Although the costs associated with starting a many businesses have fallen, entrepreneurs will always need access to capital in order to hire staff, rent office space, and purchase new equipment. The costs typically pile up before the business has made its first sale, and the most ambitious businesses can run losses for years as they reinvest in growth and experiment with different business models before eventually turning a profit.
Start-ups face significant barriers when raising finance as unlike more established competitors they are not able to provide trading histories or offer collateral. This forces lenders and investors to carry out costly due diligence reducing the viability of smaller investments, creating an SME equity funding gap. New innovations in finance such as crowdfunding and P2P lending, alongside established public markets for early stage firms such as the Alternative Investment Market (AIM) can help close the gap and allow more firms to scale. Regulators should work to ensure these alternatives are free to expand and support more investment in SMEs.
Taxes are important too. They can excessively penalise investment relative to consumption and distort the decisions of investors. Under the status quo, the treatment of new investments and trading losses biases the tax system in favour of established incumbents, hurting start-ups and dampening innovation.
Competitive markets empower consumers and force businesses to constantly improve by either cutting costs or developing new and better products. While the textbook economics model of perfect competition is unrealistic, businesses can’t make excessive profits for long as high prices send a signal to entrepreneurs to enter the market.
The threat to a monopolist's ‘quiet life’ of competition from new entrants can lead some incumbents to use regulation to raise barriers to entry. Regulation is essential to protect consumers, worker safety, and the environment, but regulations can impose a disproportionate burden on smaller firms who lack the luxury of being able to spread the fixed costs of compliance over a large number of sales. Excessive licensing requirements or standards often fail to achieve their aims as competition is a key driver of improvements in quality.
Regulators should have a mandate to promote competition and innovation. They should seek to simplify and rationalise regulations to ensure they achieve their important aims while imposing as minimal cost on new entrants as possible.