Why I would be inclined to replace the FCC and the FDA

Francis Fukuyama writes,

Institutions are created to meet the demands of specific circumstances, but then circumstances change and institutions fail to adapt. One reason is cognitive: people develop mental models of how the world works and tend to stick to them, even in the face of contradictory evidence. Another reason is group interest: institutions create favored classes of insiders who develop a stake in the status quo and resist pressures to reform.

Pointer from Tyler Cowen.

The same holds true in business. Business organizations develop group-think biases and constituencies that resist change. However, if this gets to the point where the organization becomes dysfunctional, the market weeds out the organization. Government agencies lack such a weeding-out mechanism.

Overall, I found Fukuyama’s views did not correspond well with mine. I am concerned with the fundamental knowledge gaps that plague government policymakers. I think that the difference between market competition and government monopoly is significant. I also think that there are diseconomies of scale and scope in government.

Is the Aging of Firms Good News?

Amidst all the discussion of the trend toward fewer young firms in the economy, this question occurred to me.

I think of entrepreneurship as a trial-and-error learning process. If we had perfect knowledge in the economy, we would not need new firms. Is it possible that information about business prospects is getting better, so that we do not need as many new firms?

The analogy might be with inventories. In the 20th century, a major factor in recessions was that auto and steel manufacturers often were caught with large excess inventories, resulting in layoffs as the companies reduced production to work off the unwanted inventories. Over the last 25 years, computer and communication technology has caused the inventory cycle to be much more subdued.

What if “big data” in the economic and business environment has a similar effect on starting new ventures? Instead of having to spend years to determine whether a new business idea is viable, suppose it takes months, or can be predicted with reasonable accuracy even before it is launched?

In that kind of environment, I think that some of the advantage shifts away from entrepreneurs and toward existing businesses. As Amar Bhide pointed out, ambiguity deters large established businesses but attracts entrepreneurs. We think of rapid technological change as adding ambiguity to the environment, because change creates uncertainty. But if one of the effects of change is to make the business environment easier to read, maybe the ambiguity is lower today than it was 20 years ago.

Put this post in the “ideas I put out there but to which I am not committed” category.

UPDATE: That didn’t take long. from the comments:

I think if this were the case we would expect to see fewer of the types of entrepreneurs that don’t grow/fail quickly, but the types of entrepreneurs who grow rapidly and create a lot of jobs would not be affected (because predictions of success are becoming more accurate). This may have been the case prior to 2000, but we show that since 2000 the top of the growth rate distribution for entrepreneurs has fallen. Entrepreneurs aren’t growing as fast, and/or the high-growth types aren’t entering the market, which I think reduces the plausibility of the “lower ambiguity” theory. See http://updatedpriors.blogspot.com/2014/08/entrepreneurial-decline-mom-n-pop-or.html

Start-ups as Experiments

William R. Kerr, Ramana Nanda, and Matthew Rhodes-Kropf write,

The costs of running experiments play a big role in entrepreneurship. Technological change in the laqst decade has dramatically lowered these costs, particularly in industries that have benefited from the emergence of the Internet

Right. But then why do we see the decline in the rate of start-up formation that I have discussed in other recent posts?

Later, they write,

Large corporations…often find it difficult to terminate experiments that aren’t working out.

Right again. And government is even worse at terminating failed experiments, of course.

I have to say that I found little in this article that wasn’t obvious to me before.

Others on the Aging of U.S. Firms

Ryan Decker, John Haltiwanger, Ron Jarmin, and Javier Miranda write,

the typical young firm (as captured by the median) exhibits little or no growth even conditional on survival…however, among all the young firms, a few do exhibit very high rates of growth which yields a high mean growth rate.

Later,

the annual startup rate declined from an average of 12.0 percent in the late 1980s to an average of 10.6 percent just before the Great Recession, when it plummeted below 8 percent.

Still later,

firms aged five years or less made up about 47 percent of all firms in the late 1980s, but this number declined to 39 percent of all firms before the start of the Great Recession, and has declined further since then.

They point to one factor that I had thought of, which is that large retailers are reducing entrepreneurial activity in the “mom and pop” sector.

They also point to the possibility that startups now must spend more resources assembling a trained work force. That sounds to me like an intriguing notion. It might be the case that older, more experienced firms are better able to take advantage of the Great Factor-Price Equalization. In any event, it is probably hard to find a profitable strategy that involves creating lots of new jobs for unskilled workers in the U.S.

Let me also propose a New Commanding Heights explanation. The economy is shifting inexorably toward a larger share of spending on education and health care. Those are sectors where it is relatively hard to create a successful start-up. Do you compete against the incumbents, which have huge advantages in terms of reputation and government suppport? Or do you try to sell to the incumbents, in which case you have to overcome their bureaucracy?

Sure, there are lots of start-ups in education and health care. But my guess is that if you could come up with a way to measure the amount of effort required to be successful in a start-up, that amount would be higher in education and health care than in sectors, such as manufactured goods, on which the share of spending is declining.

Remember this story?

Health is just so heavily regulated, it’s just a painful business to be in. It’s just not necessarily how I want to spend my time. Even though we do have some health projects, and we’ll be doing that to a certain extent. But I think the regulatory burden in the U.S. is so high that I think it would dissuade a lot of entrepreneurs.

If demand shifts to sectors where entrepreneurship is harder, the rate of entrepreneurship is going to decline.

Robert Litan on the Aging of U.S. Firms

He writes,

In a study just published on the Brookings Institution’s Web site, Ian Hathaway and I found that the share of mature firms, or those at least 16 years old, rose 50 percentage points between 1992 and 2011, from 23% to 34% of all firms in the U.S. economy. Not surprisingly, the share of all private-sector workers employed in such mature firms rose over the same time, from 60% to 72%.

This is, of course, the opposite of what I would expect, given the stimulus to entrepreneurship provided by the Internet. I would like to see more discussion of this finding on other economics blogs.

The Importance of Having a Business Plan

Russ Roberts talks with Sam Altman, the CEO of Y Combinator, who says

I’ve never written one in my life. At the stage that we are operating at, it’s irrelevant. Like financial projections also we never look at. …We would rather them spend the time working on their product, talking to users. What we care about is: Have you built a product? Have you spoken to users? Can we see that? Can we talk about where it may involve? The really good interviews end up being this back-and-forth brainstorming session about all the things they can do. The future directions the product can go in, what you can do to get users, what they can do to improve it. We care about stuff like that. But in terms of business plans or financial projections, nothing.

There are people, not all of them professors of business schools, who swear by business plans. I am, like the Y Combinator folks, skeptical of them.

Also, Altman is bullish on biotech.

I’ve really come to believe that those two things, low cost and low cycle time, are the most important things for startups in a given area to be successful. But now, in biotech specifically, which is an area where we’ve been active recently, the costs and the cycle time have come down quite dramatically. And so you are able to have a startup that for a few million dollars or in a year or something can get something really meaningful done. And that’s a brand new thing.

Self-publishing and e-books

Hugh Howey writes,

Publishers can foster that change by further lowering the prices of their e-books. The record margins they’re currently earning are certainly seductive, but taking advantage of authors is not a sustainable business model. Hollywood studios had to capitulate to their writers when a new digital stream emerged. Publishers will likewise need to pay authors a fair share of the proceeds for e-book sales. 50% of net for every author is a good start.

There is much more, pointer from Tyler Cowen.

My best experience publishing was self-publishing The Three Languages of Politics.

My worst experience publishing was with Unchecked and Unbalanced. The publisher insists on pricing it not to sell on Kindle. I do not understand this. With zero marginal cost of distributing it as an e-book, I would think that the goal would be to maximize revenue. I don’t want 50 percent of the e-book revenue. I just want there to be e-book revenue. Publishers that are so stupid do not deserve stay in business.

What I’m Reading

Where Does it Hurt?, by Jonathan Bush and Stephen Baker. Bush is W’s cousin, and I imagine there are many people who will not be able to read it because of their attitude about the family. Here is one quote that I liked:

I reached the conclusion not long ago that anger, either white hot or smoldering, is a fundamental fuel for entrepreneurs. They don’t have to be angry all of the time, of course; that would be no fun for anyone. But it helps if deep down they nurse some wound, grievance, or perhaps a sense of injustice.

I was very bitter in April of 1994 when I left Freddie Mac to start my Internet business. I had been shoved aside in a project that I had struggled to start at Freddie, and I was treated in a humiliating way. I called a staff meeting, and no one showed up. One of the staff members then explained that she had been named as my replacement.

I was motivated to do some things I would not have done ordinarily, including going out of my way to meet new people and to do sales, in part because I thought of succeeding in the business as a way of “getting back” at the people who I thought wronged me at Freddie.

Anyway, I have not read enough of the book to form an overall opinion.

Observations

From visits to Pittsburgh, Cincinnati, and St. Louis.

1. A summary haiku:

Gentrification
Bike-friendly beyond all sense
Poor people moved…to where?

2. The dominant sectors are non-profits. Washington U once was located in a suburb. Now, along with St. Louis U, it is a colossus in the city. All three cities have vibrant hospital conglomerates, contributing to building booms and taking lead roles in philanthropic initiatives. We had people to visit in senior-living facilities in all three cities, and those facilities were very impressive.

3. Road construction projects are everywhere. Larry Summers should be happy.

4. Restaurants are another leading industry. Every chain, of course, but also many outstanding local restaurants. We ate better than we do in Washington (where we eat out very little).

5. In St. Louis, I biked from a suburban hotel to the arch, down a road where I would have feared for my life 40 years ago. With all the outdoor cafes along the way, it might have been Paris.

6. Went to a Cards game, of course. Those observations follow. Continue reading

Pre-commitment and Private Cities

On this post, a commenter writes,

By the way, one way to solve certain coordination / collective action problems like this – “I’ll only do it if I know a lot of other people like me are also going to do it.” – is through the ‘Kickstarter’ mechanism.

…offers people the ability to pre-commit to purchase the items, but only if there are enough other precommitments. One pays nothing until the number of other commitments reaches the target subscription, and at that point the commitment becomes binding, the money is transferred, and the product produced and shipped.

The problem of filling up a new private city could perhaps be solved with some clever variation of this mechanism, but there would also be the issue of how to enforce the commitment to migrate. In this way, you could come up with a new private city business plan that includes taxes, services, and selective demographic criteria, and test the demand curves. Putting aside questions of legality, one could even try the nightclub model and discriminate with regard to pricing (like ‘ladies’ night’) to bring in people who have a special ability to attract other desirable residents who would be willing to pay a lot extra in taxes to subsidize the residency of those attractors, whom they wish to live around.

Some remarks:

1. Wasn’t there an attempt several years back to have libertarians commit to moving to the same state (I believe New Hampshire) to try to make it more libertarian?

2. Cities price-discriminate plenty today. Think of subsidies to professional sports teams.

3. I think the way to run the kickstarter city project would be to have people state conditions for moving and conditions they would help satisfy if they moved. (“I would move if there are at least two good yoga studios and at least 200 single professional men aged 30 to 40. I would help satisfy a condition about the number of physicians, the number of single females age 30 to 40″ etc.) Everyone puts down a large deposit. Your deposit is refunded if your conditions for moving are not met. Otherwise, you either move or forfeit your deposit.