Inequality decimates the heroes of the cult of the entrepreneur

Webster has two definitions of ‘entrepreneur’.  The first definition is “a person who starts a business and is willing to risk loss in order to make money.” By this definition, high inequality creates a lot of entrepreneurs. Extremely poor people mostly work as subsistence-level entrepreneurs out of desperation: they can’t find a better job. Nations with high inequality are much more entrepreneurial (as a percent of the labor force) than highly equal nations. Similarly, in the US, the cities that are the biggest centers of inequality are also centers of entrepreneurship because of vast ranks of poor people working in the underground economy at least part of the year as day laborers, drug dealers, street vendors, or scrap metal collectors. Most of our statistics neglect this kind of entrepreneur because they aren’t part of the formal economy, but desperation does breed entrepreneurialism. At the extreme, it encourages panhandling which is an extremely entrepreneurial industry.

But the kind of entrepreneurship that flourishes under high inequality is not the kind that the cult of the entrepreneur admires. The cult of the entrepreneur uses a version of Webster’s second definition of entrepreneur: “one who organizes, manages, and assumes the risks of a business or enterprise.” In particular, they admire managers of big businesses who have become rich by hiring many employees. But big business is the antithesis of entrepreneurship because the bigger the business, the fewer the entrepreneurs.  Employees are not entrepreneurs and when a business grows, it destroys entrepreneurship by hiring people  and by displacing smaller competitors.

This is a very good thing. Nations develop and get richer in part because they develop bigger businesses that gain from economies of scale and they displace smaller, less efficient entrepreneurs. As a result, richer nations have a smaller percentage of entrepreneurs. Competition from bigger businesses makes it harder and risker to become an entrepreneur in rich nations and so their main barrier to entrepreneurship is the lack of money among potential entrepreneurs.  Aimee Groth reports:

the most common shared trait among entrepreneurs is access to financial capital—family money, an inheritance, or a pedigree and connections that allow for access to financial stability. While it seems that entrepreneurs tend to have an admirable penchant for risk, it’s usually that access to money which allows them to take risks.

And this is a key advantage: When basic needs are met, it’s easier to be creative; when you know you have a safety net, you are more willing to take risks. “Many other researchers have replicated the finding that entrepreneurship is more about cash than dash,” University of Warwick professor Andrew Oswald tells Quartz. “Genes probably matter, as in most things in life, but not much.”

University of California, Berkeley economists Ross Levine and Rona Rubenstein analyzed the shared traits of entrepreneurs in a 2013 paper, and found that most were white, male, and highly educated. “If one does not have money in the form of a family with money, the chances of becoming an entrepreneur drop quite a bit,” Levine tells Quartz.

New research out this week from the National Bureau of Economic Research (paywall) looked at risk-taking in the stock market and found that environmental factors (not genetic) most influenced behavior, pointing to the fact that risk tolerance is conditioned over time…

For creative professions, starting a new venture is the ultimate privilege. Many startup founders do not take a salary for some time. The average cost to launch a startup is around $30,000, according to the Kauffman Foundation. Data from the Global Entrepreneurship Monitor show that more than 80% of funding for new businesses comes from personal savings and friends and family.

Societies with higher inequality have fewer people in the middle class who can afford to risk the average startup costs of $30,000 AND forgo a salary for months while a business gets going. Add this to the list of reasons why high inequality is bad for economic growth.