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Overview
User:
Adam Gore
Activity:
Entrepreneurship and Economic Growth
Curriculum:
Economics
Date:
32 items printed.
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Overview
Entrepreneurship and Economic Growth
INTRODUCTION
Entrepreneurs are people who identify business opportunities. They gather together
economic resources and assume the risks associated with taking advantage of these
opportunities. Entrepreneurs can be found in both small new companies and in large wellestablished ones. Entrepreneurs usually need assistance -- financial, managerial, and
technical. There are many sources for this assistance.
Entrepreneurship promotes the growth of trade and industry for individual firms and
countries . Economies that encourage entrepreneurs are also economies with higher levels of
economic growth. Economic growth allows a higher standard of living and prosperity. Thus,
government policies toward entrepreneurship are important to a country's economy.
ENTREPRENEURS
Entrepreneurs are an economic resource. An entrepreneur is someone who takes risks
and organizes the factors of production in order to efficiently produce goods and services.
They frequently create and develop new products or business opportunities. An example of
creating a business opportunity is finding the perfect site for a new Italian restaurant and hiring
an excellent chef.
Entrepreneurs can start new companies or be employed within an established company.
The Apple personal computer was developed in 1977 by Apple Computer, Inc., a new
company . Though the Apple was popular, personal computers remained mostly an
experimental device in the business world until the introduction of the IBM personal computer in
1981. IBM, an established company founded in 1911, broke many of its own traditions and
allowed employees to work as entrepreneurs to develop its personal computer. The
combination of IBM's position of prominence in the business world and its use of common
hardware and software products made an unbeatable product.
In a market economy (capitalism), most entrepreneurs are private individuals. In the United
States 12% of people ages 18 to 64 were entrepreneurs in 2003. This is the largest
percentage of entrepreneurs in any developed country. By comparison, only 6% of that age
group were entrepreneurs in Great Britain, and slightly over 2% in Japan.
Characteristics of an Entrepreneur
Entrepreneurs have personal characteristics that help make them successful. They are
visionaries, innovators, and risk-takers. They are motivated by personal success and profits.
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Entrepreneurs are visionaries. They anticipate consumer trends, invent products and
processes, and dream up new ways of doing things. Michael Dell is a recent example of an
entrepreneur with a vision. Back in the early 1980s, he had the idea that a lot of money
could be made in customizing computers and selling them directly to consumers rather than
in retail stores. He founded the Dell Computer Corporation in 1984 and today it is one of the
top personal computer manufacturers. In 1992, Michael Dell became the youngest CEO of a
company to earn a ranking on the Fortune 500 (a list of America's largest 500 businesses
prepared by "Fortune" magazine).
Entrepreneurs are innovators. They dream up new products and processes. For new
products, they bridge the gap between the idea and the marketplace. It is in the market that
new products are tested against consumer demands . New processes frequently allow
existing products to be made more cheaply or efficiently. The software innovations of
entrepreneurs like Steve Jobs (Apple Computer, Inc.) and Bill Gates (Microsoft Corp.)
allowed computers to evolve from devices used only by electronics enthusiasts into ones
that everyone can use. Computers can process and store data much faster and more
efficiently than other previous devices. Microsoft Word, for instance, is a word-processing
program that produces documents much easier and faster than the traditional typewriter.
Entrepreneurs are risk-takers. The discovery and development of new business
opportunities is risky. Failure can have a devastating effect on entrepreneurs . It is possible
that they could end up bankrupt, losing both their invested money and time. Failure is highly
likely. Only about half of all new businesses are still operating five years after their founding.
Entrepreneurs are motivated by personal success and profits. Entrepreneurs can gain
great personal satisfaction in seeing their ideas carried to a successful conclusion.
Successful entrepreneurs can also make fortunes. For instance, of the top 10 people on the
2003 "World's Richest People" list of "Forbes" magazine, six are described as "self-made" -in other words, they made their own fortunes. The list includes such entrepreneurs as Bill
Gates and Paul Allen (the founders of Microsoft Corp.), Karl and Theo Albrecht (the founders
of Aldi discount stores [Germany]), and Larry Ellison (the founder of Oracle Corp.). The only
four not described as "self-made" are the heirs of an entrepreneur, Sam Walton, the founder
of Wal-Mart. Although many on the list were hardly born poor, their substantial fortunes
arose out of their own entrepreneurial efforts. In a market economy , profits are the reward
for success.
Assistance for Entrepreneurs
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In most cases, entrepreneurs cannot turn their ideas into products and bring them to the
market by themselves. They need assistance. There are several sources of assistance
available.
Partners
Entrepreneurs frequently need partners to provide financial resources and technical
and managerial skills the entrepreneurs may be lacking . Partners can also provide
psychological support, encouraging entrepreneurs to persevere against any difficulties.
Thus, entrepreneurs frequently need to form partnerships that allow them to share the
risks and the rewards of the new business venture. These partnerships can be either
legal business partnerships (where each partner is liable for all the losses of the
partnership) or corporations (where each shareholder is liable only for the amount of
capital he or she contributes).
Many entrepreneurs gather support from friends and relatives. If a sizable amount of
money is needed, they may wish to involve venture capitalists. Venture capitalists look
for opportunities to invest in new businesses, hoping to earn profits when the business
succeeds. They can provide entrepreneurs with initial capital financing, management
assistance, and business networking. In return, they expect to receive a share of the
company's ownership and the eventual profits.
A business plan is of particular importance for entrepreneurs who seek financing from
venture capitalists. Venture capitalists usually require a carefully thought-out plan that
describes the company's mission, product description, target market, competition,
management team, and financial requirements. This is because venture capitalists are
looking for clues to the entrepreneur's reputation, personality, background/experience,
managerial capabilities, management commitment, ability to evaluate alternative business
opportunities, and execute (reach) certain goals.
Business Incubators
Another source of assistance available to many entrepreneurs are business incubators.
Business incubators provide start-ups with flexible accommodation and office leases,
shared facilities, business networking, and often some capital financing. Business
incubators are frequently run by public agencies and universities in order to promote the
economic success of a particular regional area.
Government Assistance
Governments can encourage entrepreneurs directly by making it easier for them to
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obtain the investment financing that they need. In the United States, Congress has
established the Small Business Administration (SBA). It guarantees loans that banks
make to new companies approved by the SBA. It also provides training and sources of
information . The Israeli and Irish governments have set up special funds to provide
financing to new companies in certain industries, like the information and biotechnology
industries.
ENTREPRENEURSHIP
Entrepreneurship is the process or act of being a successful entrepreneur . It includes
having the abilities and skills to successfully accomplish the tasks that an entrepreneur must
accomplish. Entrepreneurship involves the discovery and exploitation of new business
opportunities. Thus, it involves making choices of which opportunities to pursue and which not
to pursue.
Entrepreneurship is different from managing a company. Managing a company involves
allocating the right resources to pursue the opportunities chosen. While implementing their
new product, process, or company, entrepreneurs frequently manage business firms, but the
act of entrepreneurship is in recognizing or discovering the business opportunity to begin with.
Entrepreneurship: A Source of Competitive Advantage
Entrepreneurship is a source of competitive advantage. To stay ahead of the
competition, firms must continuously discover and exploit new business opportunities.
Thomas Edison, for instance, did not invent the electric light bulb itself -- many people
had been experimenting with electric light since at least 1801. Sir Joseph Swan, a British
scientist, had produced the basic design for a practical electric light bulb as early as 1860.
However, Swan did not have a good electric power source. Edison's 1879 light bulb design
was very similar to Swan's. However, Edison has received the major credit for the electric
light bulb because of his development of the power lines and other equipment needed to
establish electricity as a practical lighting system. His developments provided Consolidated
Edison (New York City) a competitive advantage in the emerging electric utility industry.
Another example of a successful entrepreneur is Andrew Carnegie. He was not
knowledgeable about metals, but he foresaw the future importance of steel in America.
Although the process of steel-making had been known for centuries, it was comparatively
more expensive than that for other metals -- iron was cheaper to produce, for instance.
Mass production of steel was only made possible when Sir Henry Bessemer developed his
new steel-making process in England in 1855. In the 1870s, Carnegie was the first in
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America to build steel plants that used the Bessemer process. This gave his Carnegie Steel
Company an advantage in the emerging U.S. steel industry.
If an established firm is entrepreneurial , it is often built into the culture and is therefore
hard for competitors to copy. Established companies can encourage entrepreneurship by
giving their employees stock options or otherwise rewarding employees that act in an
entrepreneurial manner. Stock options give employees an incentive to ensure that the firm
does well.
Entrepreneurship Has Taken Different Forms over Time
In the history of humankind, entrepreneurship has taken a number of forms and
meanings. In the pre-capitalist world, entrepreneurship often took the form of land
expeditions and sea explorations that encouraged trade, growth, and prosperity.
Early America
In early colonial America, entrepreneurs developed trade with the West Indies, Africa,
and Europe. This involved exporting fish, meat, lumber, iron, rum, and other goods. This
encouraged the emerging fishing and shipping industries of the colonial Northeast
American economy . After the Revolutionary War, new merchant ventures expanded the
new republic's foreign markets across the Atlantic Ocean. New ones were begun in Asia
across the Pacific Ocean. Meanwhile, land expeditions expanded America's domestic
markets westward across the North American continent.
In the early period of industrialization, entrepreneurship in the form of industrial
innovations spurred new industries, such as the automated production of textiles, the
economical mass manufacturing of iron and steel, and the development of railroads.
Modern America
Entrepreneurship promotes the growth of trade and industry. It is estimated that a
great deal of America's economic growth is due to technological innovation initiated by
entrepreneurs.
In the 20th century, entrepreneurship has yielded new products and processes which
fostered the growth of new businesses and industries. For instance, entrepreneurship
has resulted in innovations based on integrated circuits and lasers (CD-ROMS and fiber
-optics) that have led to computers and an "information revolution." These new ways of
gathering, storing, manipulating, and transmitting information have given rise to yet
another host of industries and developments. Thus, in recent years, entrepreneurship
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has created new computer software and hardware, the Internet, and new business
organizations. This information technology continues to be the source of economic
growth.
Example:
Information technology is used by Wal-Mart to track every purchase, every shipment
of supplies, and every cost of business, everywhere around the world. With this
information technology, Wal-Mart can quickly respond to any business situation. If Wal
-Mart finds a cheaper supplier of toothbrushes, it can immediately switch suppliers and
pass the savings on to its customers . It is estimated that Wal-Mart price reductions saved
consumers $80 billion in 2003. Wal-Mart has grown into one of the largest corporations in
the United States.
Government Policies to Encourage Entrepreneurship
Since entrepreneurship can be such an important part of a market economy,
governments frequently encourage entrepreneurs. Governments and government officials
can be instrumental in creating an "entrepreneur-friendly" environment.
New Business Opportunity Creation
The government can create new business opportunities in foreign and domestic
markets. In foreign markets, they can negotiate international agreements to lower tariffs
and other barriers to trade. In domestic markets, they can create new business
opportunities through deregulation and the opening of commodity and resource markets
to competition. For example, in the United States, some states have moved to deregulate
energy markets, such as electricity, allowing newly formed companies to compete with
formerly monopolistic utilities.
Legal Protections
The government can pass laws that protect private property and encourage new
business activity. For example, intellectual property can be protected through patent and
copyright laws. These laws allow inventors and innovators to reap the benefits of their
developments. Patents are especially important to companies that need to spend a great
deal of money to bring a product to market. For instance, a successful drug can cost
billions of dollars to discover, test, and market.
Favorable Tax Policies
Another measure that governments can take is to lower taxes on business profits. For
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example, capital gains taxes are assessed on profits from securities, property, or other
assets considered investments in capital. Reducing these should encourage capital
investment. Tax incentives can encourage companies to purchase new capital equipment
to replace older capital equipment with more modern equipment.
Ireland was among the first countries in Europe to cut business taxes in order to create
a business-friendly environment. Since the 1980s, Ireland has become a popular site for
investment by American businesses and investors. The United States has also recently
reduced federal taxes.
Encouragement of Capital Investment
Investment is the primary source of efficiency and productivity gains for businesses.
Capital investment is the acquisition of physical and human assets that expand and enhance
the productive capacity of business enterprises. Capital investment generally translates to
higher profits, incomes, and living standards.
For example, America's long economic expansion in the 1990s was mostly due to
productivity gains propelled by capital investment in new technologies like the Internet. Email and instant messaging increased the speed of communications between companies
and their customers, suppliers, and employees. Web-based inventory and customer-profile
tracking cut product inventory and marketing costs.
Recognizing the contribution of capital investment to efficiency and productivity,
governments around the world have a number of policies in place to foster capital
investment. These include encouraging entrepreneurs directly, investing in infrastructure,
and investing in human capital through student scholarships and low-interest student loans.
Direct Assistance to Entrepreneurs
Governments can encourage entrepreneurs directly by making it easier for them to
obtain the investment financing that they need. For instance, in the United States, the
federal government has set up the Small Business Administration (SBA), which
guarantees loans and provides training and sources of information. Many state
governments and local communities provide similar assistance and may also offer tax
incentives for businesses that locate in their area. Certain regional areas may establish
business incubators or industrial parks to encourage businesses to locate in their area.
Business incubators, in particular, are aimed specifically at new companies.
Infrastructure Spending
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Spending on the country's infrastructure -- for example, improving the transportation
system through better roads, railroads, seaports, and airports -- makes it easier for
companies to expand their business and productive capacity. This encourages capital
investment in established and new businesses.
Encourage Education and Training
Student scholarships and low-interest student loans lower the cost of education and
training. This encourages spending that improves a country's human capital. Some
countries, such as Brazil and Mexico, even have programs that pay poor families if their
children stay in school. A lot of human capital improvement takes place today within
corporations. The government can also give incentives, such as grants, that lower the
cost of this training. This is especially important in those industries where workers need to
be retrained because they will otherwise lose their jobs .
ECONOMIC GROWTH
Economies that encourage entrepreneurs are also economies with higher levels of
economic growth. Economic growth is an increase in an economy's production of goods and
services. Thus, entrepreneurship greatly affects a nation's economic growth by promoting the
growth of business, trade, and industry. Economic growth is desired and encouraged by
governments and people because it allows a higher standard of living and prosperity.
Gross National Product {GNP) and Gross Domestic Product {GDP)
Economic growth is usually determined by comparing either of two measures over time:
Gross National Product (GNP) or Gross Domestic Product (GDP). GNP is the total market
value of all goods and services produced by a nation's economy during a specific period of
time (usually a year), including foreign investments. GDP is basically the same as GNP, but
it eliminates profits on foreign investments from the calculation. "Gross" in this case means
an overall total -- like gross income is total income before taxes. "National" and "domestic"
both mean that the measure is about an economy or nation. "National" here indicates all of
the nation's production, while "domestic" indicates that the production counted derives solely
from that nation's own resources. "Product" here means everything that is made or created.
Both GNP and GDP are expressed in terms of money. These types of measurement can
only be accumulated if everything produced in an economy is converted into money because
the money price is the final price that a thing is sold for and is a common measure of its
worth.
Nominal and Real GNP and GDP
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Unfortunately, money does not maintain a constant value. It is normal for money to
gradually lose value and be able to purchase less. This is called inflation. Thus, it can be
difficult to compare GNP and GDP from year to year because they are calculated in
money terms and the value of the money can change. GNP and GDP figures that have
not been adjusted for inflation are called "nominal." Without adjustment, they cannot
accurately be compared with other figures in other time periods.
For example, if the inflation rate is 3%, this means that money has lost 3% of its value
and prices are 3% higher to purchase the same goods and services. Economists thus
reduce the nominal numbers for GNP and GDP by 3% in order to compensate for the
inflation. The adjusted numbers are called "real" numbers and can be used to compare to
figures from other time periods.
Assume that the nominal GDP this year is 5% greater than it was the previous year,
but there was an inflation rate of 2%. Therefore, the nominal GDP must be reduced by
2% for a real GDP of 3%. It is always necessary to convert the nominal numbers to real
numbers in order to accurately compare different time periods and determine whether or
not the economy is growing.
If real GNP and GDP are rising, an economy is said to be enjoying healthy growth or
expansion. Prolonged economic growth and prosperity is called a "boom." Most of the
1990s were boom years. If real GNP and GDP are falling, the economy is said to be in
recession. A recession is a reduction in the size of a nation's economy. One definition is
that a recession is when real GDP declines for two consecutive quarters. In both 1992
and 2002, the United States had recessions. If the recession continues for several years
and results in much unemployment, it is called a depression. The Great Depression of
1929-1939, which spread worldwide, was the longest and most severe depression
experienced by the modern Western world. It was the last depression that the United
States experienced.
Technological Innovation and Government Policies Affect Economic Growth
Economic growth comes mostly from technological innovation -- that is, innovations in
products and processes used to make products. Product innovations allow the country's
enterprises to expand their product offerings to consumers, while process innovations allow
enterprises to produce these products more efficiently, on a timely basis, and at lower costs.
Government policies can also encourage economic growth, both directly and indirectly.
Government policies like tax incentives directly affect growth by allowing businesses and
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individuals to retain more of their money for spending and investment. Government policies
that encourage lower interest rates also indirectly affect growth because lower interest rates
stimulate capital investment. By encouraging investment, government policies can spur
productivity.
Example:
In the 3rd quarter of 2003, the economy of the United States grew by 8.2% because of
tax rebates, lower interest rates, and higher productivity growth. That summer, Congress
granted a tax rebate to many Americans with children. This increased the amount of money
that they had available to spend. At the same time, many Americans took advantage of
lower interest rates to refinance their mortgages -- that is, they took out new home
mortgages at the current low rates and used these to pay off their old, higher-rate
mortgages. Getting a new loan at a lower interest rate means a lower monthly payment,
thus they have more cash to spend. Businesses benefited from surging productivity due to
the better use of technology.
Ways to Measure Economic Growth Other Than GNP and GDP
Economic growth should reduce poverty. First, economic growth spurs business
opportunities and entrepreneurship. These create job opportunities and lower
unemployment, a major source of poverty. Second, economic growth allows governments
increased tax revenues without raising taxes. In other words, more people and companies
are paying more taxes because sales and incomes are higher. This increases the amount of
money the government takes in without increasing the tax rate. Higher revenues, in turn,
allow governments to pursue social programs that lower poverty.
However, some countries find it difficult to experience true economic growth. It is
possible for a country's economy to be growing while its people are actually getting poorer.
Thus, economists attempt to determine how economically comfortable a nation's people are
as a way to measure economic growth. Economists are limited, however, to what can be
accurately measured through money. Since many aspects of life cannot be directly
translated into money, these evaluations by economists may not always match how
economically comfortable people feel.
Standard of Living
Unfortunately, there is no precise measure of people's economic health, but the term
"standard of living" is usually used to compare the quality of life in different countries. It is
often defined as the goods and services either considered necessary and desirable or
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actually enjoyed by a person or group of people. Other things being equal, the higher a
country's economic growth, the higher its standard of living. Ways to measure the
standard of living include per capita GDP, the cost of living, the consumption of certain
goods (such as protein), the distribution of income, and the quality and availability of
services (such as the water supply).
Because there is no precise way of measuring a nation's standard of living, it can never
be a perfect tool. Furthermore, different nations spend their income purchasing different
goods and services. Americans spend more money on automobiles than the people of
any other nation, while Germans spend more on vacations. Both nations believe that they
have a high standard of living.
Inflation, a steady increase in prices, has a negative impact on a country's standard of
living. Thus, other things being equal, countries that experience higher inflation rates end
up with a higher cost of living and a lower standard of living.
Per Capita GDP
"Per capita" is Latin for "by heads" -- thus, it means "per person." Per capita GDP is
determined by dividing the GDP of a particular region or country by the number of people
living there.
If the per capita GDP is declining, it is possible for a country's economy to be growing
while its people are actually getting poorer. If the GDP is growing at a rate of 2% per
year, while the number of people in the country is growing at the rate of 3% per year, the
per capita GDP is decreasing. Thus, the typical person in the country is getting poorer
even though the economy is growing. During the last 30 years, this has happened in
many poor countries. Their economies were growing, but their population was growing
even faster. Thus, their people were getting poorer -- their per capita GDP was falling.
Cost of Living
Cost of living is another way to assess how economically comfortable a nation's people
are. In the United States, the cost of living is computed using the Consumer Price Index
(CPI). This is the total amount of money needed to purchase about 300 consumer goods
and services that would be purchased by a "typical" urban consumer. By comparing the
CPI over time, you can measure the change in the cost of living. Other things being
equal, countries with a higher cost of living have a lower standard of living.
Distribution of Income
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If a nation has a growing per capita GDP, it usually means that most people in that
nation are getting richer, but that is not always true. This would be true if everyone
shared equally in the increase, but that never actually happens. Some people earn a
greater part of the national income than others earn. This is called "distribution of
income." In some poor countries, there is a very great difference in the distribution of
income among the people. For example, a few thousand wealthy people may earn a very
large part of the nation's income, while millions live in poverty.
Uneven Economic Growth
Economic growth and standards of living are uneven around the world. Some countries
have been growing for a longer time and have become "developed," other countries have
been growing for a shorter time and have yet to become developed ("developing"), while a
third group has yet to grow, remaining "underdeveloped." The United States and most
European countries belong in the first category, a number of Southeast Asian countries
belong in the second category , while most Latin American, African , and South Asian
countries belong in the second or third category .
The sources of slow economic growth and poverty are many: lack of natural resources,
poor health and nutrition, war, lack of political and economic freedoms , extensive
government intervention in the economy , heavy taxation, and lack of physical infrastructure.
Civil wars, for instance, increase economic and political uncertainty, which has the effect
of discouraging entrepreneurship and capital investment. Poor health and nutrition is
responsible for a number of diseases that negatively affect the quantity and quality of
human resources. This further discourages entrepreneurship and capital investment,
making it difficult for the country to grow, compete, and catch up with countries growing at a
faster rate.
Lack of political and economic freedoms further impairs entrepreneurship and economic
growth. According to an annual survey of 150 countries conducted by "The Wall Street
Journal" and the Heritage Foundation, economic and political freedom is closely correlated
with economic growth. Countries that are "more free" have been consistently growing faster
than "less free" countries . That is, the economic growth of market economies has generally
been better than that of command economies.
SUMMARY
Entrepreneurship is at the core of the capitalist system. It is the spark of new business
enterprises and industries, and a source of competitive advantage, especially in global
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industries. Entrepreneurship together with capital investment contributes to economic growth
and the reduction of poverty.
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