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The Rise of the Entrepreneurial Economy and the Future of Dynamic Capitalism
Published as: Thurik, A.R., Stam, E & Audretsch, D.B (2013) The Rise of the Entrepreneurial Economy and the Future of
Dynamic Capitalism. Technovation 33(8–9): 302–310.
A.R. Thurika, E. Stamb* & D.B. Audretschc
a Erasmus School of Economics, Erasmus University Rotterdam and EIM/Panteia, Zoetermeer
b Utrecht University School of Economics
c Institute for Development Strategies, Indiana University
*corresponding author: e.stam@uu.nl; Kriekenpitplein 21-22, PO Box 80125, 3508 TC
Utrecht, The Netherlands;
T +31 30 253 7894, F +31 30 253 7373
Abstract:
A major shift in the organization of developed economies has been taking place: away from
what has been characterized as the managed economy towards the entrepreneurial economy,
or what Kirchhoff (1994) has called dynamic capitalism. However, the factors underlying this
observed shift have not been identified in a systematic manner. The purpose of this paper is to
analyze the main factors leading to this shift and implications for public policy. In particular,
we find that technological change is a fundamental catalyst underlying the shift from the
managed to the entrepreneurial economy. However, it was not just technological change but
rather involved a multitude of factors, ranging from the demise of the communist system,
increased globalization, corporate reorganization, increased knowledge production and higher
levels of prosperity. Recognition of the causes of the shift from the managed to the
entrepreneurial economy implies a shift in public policy directions. Rather than to focus
directly and exclusively on promoting new firms and small firms, it may be that the current
approach to entrepreneurship policy is misguided. The priority should not be on
entrepreneurship policy but rather a more pervasive and encompassing approach, policy
consistent with an entrepreneurial economy, in order to foster dynamic capitalism.
Keywords:
entrepreneurship, entrepreneurial economy, dynamic capitalism, technological change, socio-
economic change, institutions, policy
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1. Introduction
It has been nearly a quarter of a century since Bruce Kirchhoff’s (1989, p. 161)
prescient analysis of the shift towards an entrepreneurial economy: “There is growing interest
in dynamic modeling of capitalism as recent experience has demonstrated the importance of
innovation in shaping the structure and growth rate of capitalist nations.” As Kirchhoff
suggested, for a long time developed economies could be characterized as what Audretsch
and Thurik (2001) subsequently termed a managed economy. The inventions of the division
of labor, economies of scale and scope, paid labor and the fine-tuned cooperation between
man and machine following the industrial revolution led to the rise of the large multinational
enterprise. This enterprise was clearly the dominant form of organization until the 1980s.
Statistical evidence, gathered from both Europe and North America, points towards the
increasing presence and role of large enterprises in the economy in this period (Caves, 1982;
Brock and Evans, 1989; Chandler, 1990). This was the era of mass production, when
economies of scale and scope seemed to be the decisive factor in dictating efficiency. This
was the world described by John Kenneth Galbraith (1956) in his theory of countervailing
power, where the power of ‘big business’ was balanced by that of ‘big labor’ and ‘big
government’. Stability, continuity and homogeneity were the cornerstones of the managed
economy (Audretsch and Thurik, 2001). Rising levels of prosperity absorbed the goods and
services created by the typical multinational enterprise in this managed economy.
Before the fall of the Berlin Wall and the ensuing wave of globalization, the
conventional wisdom predicted that small firms would wither away. In particular, with the
rise of mainframe computing, it was predicted that this technology would be something of a
final blow for small-scale operations (Audretsch, 2007b). Small firms were viewed as
something Western countries needed to ensure decentralized decision making, obtained at the
unfortunate cost of efficiency. Studies from the United States in the 1960s and 1970s revealed
that small businesses produced at lower levels of efficiency than larger firms (Pratten, 1971;
Weiss, 1976). Small firms were also paying lower salaries: empirical evidence from both
North America and Europe found a systematic and positive relationship between employee
compensation and firm size (Brown and Medoff, 1989). Based on R&D measures, small
businesses accounted for only a small amount of innovative activity (Acs and Audretsch,
1990; Chandler, 1990; Scherer, 1991; Audretsch, 1995). The relative importance of small
firms and self-employment had been declining over time in both North America and Europe
(Scherer, 1991; Wennekers et al., 2010), in a sense fulfilling what Schumpeter (1942) had
already predicted in the 1940s.
However, this managed economy has been replaced by the entrepreneurial economy.
The managed economy is defined as an economy where economic performance is positively
related to firm size, scale economies and routinized production and innovation. By contrast,
the entrepreneurial economy is defined as an economy where economic performance is
related to distributed innovation and the emergence and growth of innovative ventures
(Kirchhoff, 1994; Audretsch and Thurik, 2000; 2001). This replacement did not just happen in
a few regions, such as Silicon Valley and the Research Triangle in North Carolina, or a single
country, such as the United States, but rather in most developed countries (Drucker, 1985;
Baumol, 2002; Wennekers et al., 2005; Acs, 2006; Baumol et al., 2007; Audretsch, 2007b;
The Economist, 2010a). Whereas the managed economy was characterized by a divergence of
institutions and policy approaches to the underlying economic problem of that era,
maximizing the efficiency and productivity of large scale production while minimizing any
negative externalities from a concentration of economic power, the entrepreneurial economy
is characterized by a convergence of institutions and policy approaches designed to facilitate
the creation and commercialization of knowledge through entrepreneurial activity.
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The recognition of the emergence of the entrepreneurial economy helped to trigger
policy debates to promote entrepreneurship through “entrepreneurship policy”. Governments,
spanning the local, city, regional, national and even supranational levels, such as the EU,
began a vigorous and targeted effort to spur the startup of firms and subsequent growth and
survival.
This shift towards an entrepreneurial economy involves a move towards a more
dynamic form of capitalism (Kirchhoff, 1994). Although Audretsch and Thurik (2000; 2001)
identify how the manifestations and characteristics of the managed economy differ from those
characterizing the entrepreneurial economy, the exact reasons triggering the shift from the
managed to the entrepreneurial economy remain scattered (Audretsch, 2007b; Baumol et al.,
2007). The purpose of the present paper is to explain why the shift from the managed to the
entrepreneurial economy has taken place in the framework of a model. Also, some
implications for public policy are given. In our model technological change is the crucial
element of the explanation. However, as we will emphasize, the impact of technological
change in leading to a shift from the managed to the entrepreneurial economy has been
imbedded in a myriad of supporting factors, including increased globalization, corporate
reorganization, increased knowledge production and higher levels of prosperity.
2. A model of the shift to the entrepreneurial economy
The present paper follows the tradition of Bruce Kirchhoff (1994) and his focus on the
key role that entrepreneurship plays in generating innovation and economic growth by
explicitly identifying those factors associated with the rise of information and communication
technologies (ICT) influencing the shift from the managed to the entrepreneurial economy.
While information and communication technologies can have different meanings for various
contexts, the definition commonly applied by the OECD is useful. The OECD considers the
ICT sector to consist of “a combination of manufacturing and services industries that capture,
transmit and display data and information electronically” (OECD, 1998).
Our emphasis is on the explanation of why the rise of the entrepreneurial economy
occurred, given that it took place around the late nineteen-eighties/early nineteen-nineties
(Wennekers et al., 2010). Hence, we will not deal with later major developments like the rise
of China and the multiple crisis of 2008 onwards. Figure 1 summarizes the links identified
and analyzed in this paper. The starting point for this shift was the shock of the ICT
revolution emerging in the 1970s (Castells 1996), which not only triggered numerous
intermediate changes but also ultimately led to the entrepreneurial economy. The numbers
associated with the arrows refer to the corresponding sections in this paper that address each
link explaining the shift from the managed to the entrepreneurial economy.
ICT can be considered a general-purpose technology (Helpman, 1998; Jorgenson,
2001). The introduction of technologies of that type has a deep impact on industrial
organization. This is the subject of section three of the present paper. In section four, we show
that these introductions can even lead to major changes in the worldwide political
configuration.
The character of this globalization wave created new restrictions and opportunities for
multinational corporations. Section five addresses the causes and consequences of
globalization as it manifested itself over the last two decades. Section six concerns the new
business model of large American and European corporations that resulted from the pressures
of the ICT revolution and globalization. This new model was the result not only of the
distance-destroying capacity of ICT but also of the political opportunity and determination to
deregulate world trade (Thurow, 2002).
Making and using knowledge is the most important consequence of the decline of
physical capital as the source of competitive advantage of developed industrialized economies
(Archibugi and Lundvall, 2001; Foray, 2004). Knowledge production and its transformation
into economic value are addressed in section seven.
The final role of entrepreneurship results from the massive spurt in economic growth
resulting from the introduction of ICT, the expansion of participation in the global economy
(i.e., the absorption of the labor reserve of the emerging economies) and the reallocation of
economic activities. The ensuing unprecedented high levels of economic prosperity in the
formerly industrialized countries led to demand characteristics favorable to an entrepreneurial
organizational structure. This is the subject of section eight.
Our last section provides implications for public policy. The traditional approach to
entrepreneurship policy has a primary and exclusive focus on promoting new firms and small
firms. However, considering the forces underlying the shift away from the managed economy
and the emergence of the entrepreneurial economy suggests that a considerably broader
approach may be more effective, and in particular, one that re-orients all institutions towards
promoting entrepreneurial behavior (Stam and Nooteboom, 2011). Rather than a simple focus
on specific instruments to promote new firms and small firms, this new role calls for a
fundamental, all-encompassing re-thinking of public policy that spans all dimensions of the
economy, which is not termed entrepreneurial policy but rather policy for the entrepreneurial
economy. The organization of our section on the implications for public policy is derived
from that of Kirchhoff (1994), who discriminates between three dimensions to foster dynamic
capitalism: removing barriers to entry, facilitating resource mobility and stimulating
international competition. Although we cannot know the future content of dynamic
capitalism, as the results of creative destruction are unpredictable, we can provide
recommendations for policy to foster dynamic capitalism and maintain a prosperous
entrepreneurial economy in the future.
Figure 1: Factors underlying the shift to the entrepreneurial economy*
* the arrow numbers refer to the sections below
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3. Information and Communication Technology
Although Karl Marx, in his analysis of technological determinism, may not have been
the first, he certainly was among the most prominent scholars to make a link between
technology and institutions, broadly considered. The most prolific technological change over
the last decades involves the rise of ICT. Modern information technology begins with the
invention of the transistor at Bell Labs in 1947, which was the basis of the Nobel Prize in
Physics in 1956 (Shurkin, 2006). The transistor replaced the vacuum tube in computers and
televisions and enabled the transistor radio. The next major milestone in information
technology was the co-invention of the integrated circuit by Texas Instruments in 1958 and
Fairchild Semiconductor in 1959, which for example enabled the hand held calculator. The
third invention was the microprocessor invented in 1971 by Intel, which was a major input to
the subsequent development and diffusion of the microcomputer in the 1970s and the personal
computer in the 1980s (by a.o. IBM and Apple). In the 1990s the era of computer networking
and more in particular the internet started (Castells, 1996; Fransman, 2002). The impact of
technological change as characterized by the advent of ICT on organizational structure has
shifted the competitive advantage away from larger scale organizations to smaller scale
organizations and inter-organizational alliances. The arrows labeled 3.1 and 3.2 in Figure 1
depict this shift. We discriminate between its influence on entrepreneurship, i.e., new and
small firms and on corporate reorganization, i.e., all changes in the world of large companies
such as outsourcing, R&D activities, etc.
3.1. The rise of ICT and entrepreneurship
There are a number of reasons why ICT has made entrepreneurship, in the form of new firms
and small firms, more competitive. The first involves the role of entrepreneurial firms and the
emergence of new technologies. Any change in economic regime based on a radical new
technology is accompanied by the arrival of numerous small firms (see Kassicieh, 2002;
Spencer and Kirchhoff, 2006; Romig et al., 2007). Klepper (1996), for example, has
documented that in the early stages of the life cycles of industries, small and new firms tend
to play an important role. Jovanovic and Rousseau (2005) present examples from the advent
of the electricity and IT industries and their effects on the US economy, and more recently,
Brynjolfsson and McAfee (2012) show that there has never been a better time to be a talented
entrepreneur than in the current ICT revolution, as evidenced with entrepreneurial firms like
Google, Facebook and Skype. These effects are due to the new technology, which creates new
markets (e.g. the plethora of software applications) while also destroying incumbent market
positions (for example the traditional telecom providers) and the entry barriers typical for the
older technology and its market (Schumpeter, 1942; Henderson and Clarke, 1990; Spencer et
al., 2008). Therefore, the entry into new industries in the initial stages of the life cycle is
facilitated (Tirole, 1989). In addition, in the early stages of new markets, price elasticity is
low because of the novelty of the product (Parker, 1992). The small size of the typical entrant
is not a disadvantage because there is no competitive pressure to fight the battle of scale
economies. These new entrants in emerging industries might enter the ranks of the economy’s
leading firms, driving out long established incumbents (Kirchhoff 1989), which is what
occurred with the rise of new ICT-driven industries (Louca and Mendonca, 2002).
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3.2. ICT and corporate reorganization
However, even though the life cycle model explains the relative competitive
advantage of small and new firms in new industries triggered by new technologies, there are
two additional reasons specific to ICT that have reduced the competitive advantage of large
firms. First, ICT tools and open access to the Internet created a worldwide platform for
relations between firms irrespective of their size. The marginal costs of communication
dropped (Shapiro and Varian, 1999; Brousseau and Curien, 2006). Small firms in particular
need these relationships to compensate for their narrow set of competencies and limited scope
for investments in human, social and financial capital (Nooteboom, 1994). The second reason
concerns scale effects in transaction costs (Nooteboom, 1993) when firms engage in deals,
attempt to do so or wish to monitor them. Transaction costs are higher for small firms
compared to large firms. This has to do with the fixed costs involved in establishing
information systems for search, evaluation, control and enforcement. These fixed costs consist
of necessary hardware and software and mastering their use. The arrival of ICT tools, which
are generally inexpensive, small and easy to use, combined with practically free access to the
Internet, has almost eliminated the fixed cost component of the transaction costs of any deal.
Therefore, the fixed cost component of communications declined.
Thus, the ICT revolution was both accompanied by the arrival of numerous new small
firms and abolished some advantages of firm size, leading to corporate reorganization. This
has been evidenced in the continued restructuring and decline in size of many long established
multinationals (see also section 6.1), and the rise of micromultinationals - businesses with
fewer than a dozen employees that sell to customers worldwide and often draw on worldwide
supplier and partner networks (Varian, 2011). While the archetypal firm in the managed
economy was one of a small number of megafirms with huge fixed costs and thousands of
employees, ICT enables the birth of small multinationals with low fixed costs and a small
number of employees each. Both models can conceivably employ similar numbers of people
overall, but the latter one is likely to be more flexible.
4. ICT and the demise of the communist system
A third factor conducive to entrepreneurship comes from the demise of Soviet
communism. This section will demonstrate that this demise is, in part, attributable to the
advent of ICT. The early theories about the demise of the Soviet Union (i.e., the generic non-
viability of the socialist economic system, the rise of a popular revolution against the system,
the existence of foreign pressures, and the betrayal at the very top of the Communist Party)
are contested by Kotz and Weir (1997), who show that although these theories played an
important role in the collapse of the system, the main dismantling factor was the combination
of a series of hasty economic reforms and that a powerful group coming from the party-state
elite became capitalists along the way. How could this result have occurred after seventy
years of an allegedly successful regime? It seems that the role of ICT and its inevitable
relationship with democracy and economic growth are behind the demise of the Soviet system
(Shultz, 1985; Shane, 1994; Robinson, 1995; Kedzie, 1997; Brown, 2009).
By the late seventies, the Soviet Union was already lagging behind in ICT compared
to the Western world (Robinson, 1995). The technical intelligentsia, which under Stalin
labored in prison laboratories and later in secret scientific institutes and even towns, could not
keep up with its counterparts. As a consequence, the gaps in efficiency, quality and
development between the Soviet economy and the Western economies grew. Moreover, the
Soviet economy had begun to stagnate (Shane, 1994; Kotz and Weir, 1997; Brown, 2009).
After a period of minor attempts to improve economic performance, a new leader, Mikhail
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Gorbachev who came to power in 1985, experienced pressure for change from below and
undertook a series of structural reform policies aimed at renewing Soviet socialism
(Gorbachev, 1987; Kotz and Weir, 1997). Gorbachev sought to take advantage of the tools of
a market economy without destroying socialism by capitalizing on ICT while maintaining
control over information (Shane, 1994). However, this strategy was unworkable, as
participation in the ICT revolution inevitably increases information flows outside of state
control, leading to the “Dictator’s dilemma” (Shultz, 1985), according to which authoritarian
regimes have to choose between ensuring economic growth and maintaining social control.
During the late eighties and early nineties, the Soviet system was no longer isolated
from the rest of the world. The international flow of e-mails provided Soviet intellectuals and
media with information from the West (Kedzie, 1997). Through access to new mass media
based on advanced ICT, Soviet citizens were able to see the advantages and opportunities of
capitalism. An increasing amount of information about the Western lifestyle became available
in the Soviet Union through ICT (Ganley, 1996). In particular, most members of the party-
state elite became aware of the gap between the way they lived under the socialist system and
the way their counterparts lived under the capitalist system (Kotz and Weir, 1997). Brown
(2009) calls them “within-system reformers”. Similarly, deeply rooted socialist beliefs were
undermined by most new media outlets that not only criticized the Soviet system but also
promoted views opposing socialism (Kotz and Weir, 1997). Furthermore, access to
information allowed the Soviet people to discover that much of what they had been taught
about Soviet history was false (Shane, 1994).
Because ICT allows people not only to be well informed but also to discover business
opportunities, its use became increasingly relevant in the West, while it began to produce
frustration under the Soviet system from the mid-eighties onwards. ICT was only accessible
to members of the party-state elite (Kedzie, 1997). Scientists, engineers and inventors who
were frustrated by the constraints of the Soviet system also became entrepreneurs in the
process, and in the early nineties, the new group of Soviet capitalists emerged, primarily from
the party-state elite (Kotz and Weir, 1997). Most of the available business opportunities at
that time were in domestic and international trading and financial speculation (Kotz and Weir,
1997). Such activities require effective connections and, as Kotz and Weir (1997) argue, the
party-state elite was expected to be the most likely group to have such connections.
Believing that communism and democracy could be made complementary, Mikhail
Gorbachev set in motion structural reform policies. These perestroika policies had three main
dimensions: glasnost or openness (less censorship and greater freedom of information and
thought); radical economic reform; and the democratization of political institutions. In part
perestroika failed because it was never really implemented (Boettke, 1993). Above we
contended that his economic reforms revolved around the absorption of ICT, that the use of
ICT is at odds with the control of information and the central planning methods and that their
use for entrepreneurial activities remained restricted to the (former) party-state elite.
5. Globalization
Although the shift from the managed to the entrepreneurial economy is partly
attributable to technological change, and in particular the advent of ICT, this is not the sole
factor or reason for the shift. A second factor involves the process of globalization. As with
all grand concepts, a definition of globalization is elusive and elicits criticism. The term is
generally connected to the (rapid increase of) free movement of goods, capital, people and
ideas around the globe. That domestic economies are globalizing is a cliché makes it no less
true. In fact, the shift in economic activity from a local or national sphere to an international
or global orientation ranks among the most vigorous changes shaping the current economic
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landscape (Dreher et al., 2008). The present section concerns two drivers of globalization and
one consequence for corporate organization, i.e., outsourcing activities of large companies,
that have affected the world economy over the last two decades (arrows labeled 5.1, 5.2 and
5.3 in Figure 1).
5.1. ICT and globalization
Globalization did not occur exogenously or independently with respect to ICT. Rather,
ICT itself facilitated the emergence of contemporary globalization (Castells, 1996;
Cairncross, 1997). The advent of the microprocessor, combined with its application in
telecommunications, has altered the economic meanings of national borders and distance. The
resulting new communication technologies triggered a virtual spatial revolution in terms of
the geography of production, with products like computers and mobile phones being invented,
designed, produced and marketed in completely different places. According to The Economist
(1995), “The death of distance as a determinant of the cost of communications will probably
be the single most important economic force shaping society in the first half of the next
century.” The telecommunications revolution has successfully reduced the cost of
transmitting information across geographic space to virtually zero. Moreover, the
microprocessor revolution has made it feasible for nearly everyone to participate in global
communications, via e.g. email, mobile telephony and internet phone services.
5.2. The demise of the communist system and the rise of globalization
Globalization would not have occurred to the degree that it has if the fundamental
changes were restricted to the advent of technological changes. It demanded a political
revolution in significant parts of the world to reap the full benefits from these technological
changes. During the Post-World War II period, most trade and economic investments were
confined to Europe and North America, and later, a few of the Asian countries, such as Japan
and the Asian Tigers. Trade with countries behind the iron curtain was restricted and in some
cases prohibited. Even trade with Japan and other Asian countries was highly regulated and
restricted. Similarly, investments in politically unstable countries in South America and the
Middle East resulted in episodes of national takeovers and confiscation where the foreign
investors lost their investments (Penrose et al., 1992). Such political instability rendered
foreign direct investment outside of Europe and North America particularly risky and of
limited value.
The fall of the Berlin Wall in 1989 and the subsequent downfall of communism was a
catalyst for stability and accessibility to parts of the world that had been inaccessible for
decades. The Soviet empire quickly vanished, along with its friendship prices and raw
material subsidies. Within a few years, it became possible not just to trade with but also to
invest in countries such as Hungary, the Czech Republic, Poland, and Slovenia, as well as
China and Vietnam. Moreover, also the non-communists part of the world became accessible
as a trading and investment partner after opening its economy in the early 1990s. As Thurow
(2002, pp. 25-26) noted, “As long as communism was believed to be a viable economic
system, there were limits to global capitalism whatever the technological imperatives.
Capitalism could not go completely global because much of the globe was beyond its reach.
Forty percent of humanity lived under communism.”
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5.3. Globalization and corporate reorganization
Although the most salient feature of globalization involves interactions and interfaces
among individuals across national boundaries, the more traditional measures of transnational
activity reflect an upward trend in global activities. These traditional measures include trade
(exports and imports), foreign direct investment (inward and outward), international capital
flows, and inter-country labor mobility. The overall trend in all of these measures has been
strongly positive. The world trade of goods and services increased five-fold between 1985 and
2007 and more than doubled since 1996 (OECD, 2008 and 2009). A specific manifestation of
globalization involves (inward) foreign direct investment, which has increased for all world
countries from an average of 0.5 trillion dollars in the last decade of the last century to 1.5
trillion in 2006 in real terms. The increase in global FDI was also not solely the result of
greater participation by countries previously excluded from the world economy. In the
European Union, (inward) FDI as a percentage of gross fixed capital formation increased
from an average of 12% for the last decade of the last century to 18% in 2006. For the US,
this percentage remained constant (7%), whereas for the UK, it nearly doubled from 18% to
34%. The stock of FDI for all world countries as a percentage of gross domestic product
increased from an average of 8% in the last decade of the last century to 25% in 2006
(UNCTAD, 2007). Offshoring, i.e., outsourcing across international borders, accounts for a
large share of the increase in global FDI. Both captive offshoring (moving activities abroad
but keeping them inside the company) and outsource offshoring (moving activities abroad to
firm outside the company) contribute to this increase (UNCTAD, 2004; EIM, 2009). A
combination of location, internationalization and ownership advantages (Agarwal and
Ramaswami, 1992) may explain whether and how outsourcing takes place. Cost reductions,
the availability and quality of input factors and growth potential are among the most
important drivers of offshoring (Nachum and Zaheer, 2005).
6. Corporate reorganization
The pressures of globalization and the ICT revolution led to waves of reorganizations
in the world of large corporations that provided the essence of the managed economy.
Corporate reorganization involves the changing internal and external organization of
corporations, demonstrated by for example increased outsourcing and offshoring, and
reorganized value chains. This has led to new business models of large corporations
(Brynjolfsson and Hitt, 2000), and more quantitatively, to downsizing of established
corporations and increases in the number of new firms. In this section we will focus on the
effects on entrepreneurial activities in 6.1 and knowledge-based activities in 6.2.
6.1. Corporate reorganization and entrepreneurship
Confronted with lower cost competition in foreign locations, many European and
North American firms resorted to substituting capital and technology for labor, reorganizing
the production chain towards subcontracting along with shifting (parts of) production to
lower-cost locations. This practice has resulted in waves of corporate downsizing throughout
Europe and North America. This substitution has generally preserved the viability of many of
the large corporations (Audretsch and Thurik, 1999). For example, between 1979 and 1995,
over 43 million jobs were lost in the United States as a result of corporate downsizing. This
number includes 25 million blue-collar jobs and 18 million white-collar jobs. Similarly, the
500 largest US manufacturing corporations cut nearly five million jobs between 1980 and
1993, or one-quarter of their work force. Although at its most intense in the late 1980s and
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early 1990s, this wave of corporate downsizing has continued (Burke and Cooper, 2000)
despite the obvious downsides (Dougherty and Bowman, 1995). Large firms have not only
reduced their employment in general but decreased R&D investments in particular, with small
firms increasing their share in total private R&D (Mowery, 2009). Reorganizing production
by subcontracting non-core activities is not just a large corporation phenomenon: a recent
study (EIM, 2009) shows that 17% of all small and medium-sized companies in the European
Union are engaged in subcontracting activities, and 7% are involved in international
subcontracting. This corporate reorganization opened up opportunities for spin-offs and new
roles for small firms (Klepper and Thompson, 2010).
Outward foreign direct investment from developed countries is a manifestation of
outsourcing and offshoring (Friedman, 2005), which corresponds to displaced employment in
the home country. The displaced employment of skilled workers provides an opportunity for
(nascent) entrepreneurs to redeploy those workers by creating value in a newly formed
organization. Numerous studies have documented the reduction of employment in mature and
traditional industries, which are outsourcing and offshoring production to lower cost countries
(Audretsch, 2007b; EIM, 2009). Similarly, a rich literature has documented the extent to
which entrepreneurial new firms are spawned from opportunities provided by displaced
workers (Thurik et al., 2008). Thus, as globalization spreads, employment tends to stop
increasing and even decreases in large, incumbent firms, generating entrepreneurial
opportunities for new firms and small firms.
6.2. Corporate reorganization into knowledge-based economic activity
As Thomas Friedman (2005) made popular in his book, The World is Flat, an
important implication from the impact of the twin horns of the ICT revolution and
globalization has been an erosion of firm competitiveness. Losses in firm competitiveness are
manifested by a tradeoff between concomitant declines in profitability and market share,
ceteris paribus. In terms of the labor market, the impact of the twin forces of the ICT
revolution and globalization trigger a tradeoff between wage levels and levels of employment
in high cost OECD countries, ceteris paribus (Mankiw and Swagel, 2006). Outsourcing of
lower value added economic activity to lower cost countries has been pervasive within the
OECD countries. For example, outsourcing in Germany has resulted in a shift away from
employment in lower skilled manufacturing production towards knowledge-based and higher
skilled economic activity (Zurner, 2010). Companies in Germany, such as Volkswagen have
increasingly shifted economic activity within Germany away from low-skilled manufacturing
towards knowledge-based economic activity. An important implication of this trend towards
reorganization is that the lower skilled workers find it more difficult to maintain or find work
in OECD countries, while knowledge-based workers enjoy a strong demand, resulting in a
divergence of unemployment rates between highly skilled and unskilled workers (Mankiw
and Swagel, 2006).
7. Knowledge production
The policy response to globalization, both in public policy debates and in the
economics literature, was to shift the source of competitiveness and growth away from
physical capital and towards knowledge and ideas. In the policy debates, this shift was made
clear in the Lisbon Mandate, and in the economics literature, it emerged as the critical factor
underlying economic growth in the new growth theory or models of endogenous growth
(Lucas, 1988; Romer, 1990). Endogenous growth theory assumes that an economy
automatically benefits from its investments in new knowledge. The notion is that knowledge
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behaves like a public good that an entire economy can use. Although Solow was credited with
suggesting that knowledge “falls like manna from heaven”, in the endogenous growth models,
knowledge can be interpreted as blowing over from the neighbor. This use by more than one
firm or economic agent is particularly conducive to economic growth.
In the knowledge production function approach (Griliches, 1979), firms exist
exogenously and then engage in the pursuit of new knowledge as an input into the process of
generating innovative activity. Knowledge as an input in a production function is inherently
different from the more traditional inputs of labor, capital, and land. Although the economic
value of the traditional inputs is relatively certain, knowledge is intrinsically uncertain, and its
potential value is asymmetric across economic agents (Audretsch et al., 2000).
Although there is, of course, a great deal of evidence that knowledge (R&D stock,
human capital) leads to growth, some countries seem to benefit from investments in new
knowledge to a greater extent than others. The knowledge spillover theory of
entrepreneurship provides insights into how investments in knowledge are a source of
entrepreneurial opportunities (Audretsch and Lehmann, 2005; Acs et al., 2009). The theory
starts from the assumption that, given constant individual characteristics, entrepreneurial
decisions are driven by the context, in particular by the knowledge intensity of the context.
Therefore, entrepreneurship is not only exogenously driven by individual characteristics, but
it is also driven by the endogenous response to opportunities created by the context
(Audretsch, 2007a; Acs et al., 2009; Acs et al., 2010). Due to the non-rivalrous nature of
knowledge as an asset, it may spill over such that the producers of knowledge are unable to
appropriate the entire value of their knowledge for themselves. These spillovers serve as a
source of opportunities for other firms and individuals seeking to start new businesses. The
knowledge spillover theory of entrepreneurship states that entrepreneurial activity is greater in
the presence of higher investments in knowledge. This argument is supported by Audretsch
and Lehmann (2005) and Kirchhoff et al. (2007), among others, who show that regions with
greater investments in new knowledge also have higher start-up rates. Block et al. (2013)
show that a high rate of entrepreneurship facilitates the process of turning knowledge into
new-to-the-market innovation but has no effect on the relationship between knowledge and
new-to-the-firm innovation.
8. Prosperity and entrepreneurship
In the sections above, we describe how the ICT revolution, together with globalization
as the governing principle of economic behavior and spurred on by the demise of the
communist system, led to expanded space for entrepreneurship through new organizational
structures and a greater emphasis on knowledge as a production factor. Both investments in
ICT (Mankiw et al., 1992; Jorgenson and Stiroh, 1999; Jorgenson, 2001) and globalization
(Dollar and Kraay, 2004; Crafts, 2004) are found to be drivers of economic growth, leading to
high levels of prosperity. Higher levels of prosperity lead to a more service-oriented economy
(Bryson et al., 1997), a differentiation in consumer demands (Piore and Sabel, 1984) and a
shift in occupational preferences (Uhlaner and Thurik, 2007). All three, independent of
organizational and knowledge-based restructuring, lead to increased room for
entrepreneurship. First, the increase in the service orientation of developed economies is due
to relatively high income elasticities of personal and social services combined with their
relatively low labor productivity. Second, the increase in individual wealth has led to a
growing differentiation of consumer preferences, and hence, business opportunities (Brock
and Evans, 1989). The advantages of low prices made possible by the exploitation of the scale
and scope of the typical multinational enterprise of the managed economy lost their meaning
in the face of consumers’ preference for variety. Third, the supply side of entrepreneurship is
12
influenced by the drivers of occupational choice. High levels of prosperity will give
prominence to immaterial motivations such as autonomy and self-realization. These
motivators are at the heart of entrepreneurial choice. It has been shown that, in spite of long
and intense working hours under a high level of uncertainty, the self-employed have higher
job-satisfaction levels than employees (Blanchflower and Oswald, 1998; Millan et al., 2011;
Lange, 2012).
9. Implications for public policy
Recognizing the ubiquitous nature of the shift from the managed to the entrepreneurial
economy leads us to rethink the appropriate policy response. This regime shift helped to
trigger an awakening in policy debates to promote entrepreneurship through
“entrepreneurship policy”. Governments, spanning the local, city, regional, national and even
supranational levels, such as the European Union, began a vigorous and targeted effort to spur
the startup and growth of new firms. An important implication of the present paper is that
focusing on entrepreneurship policy ignores the pervasiveness and prevalence of the forces
triggering the shift from the managed to the entrepreneurial economy. Given the
pervasiveness of this shift, promoting new firms or their post-entry performance is too narrow
of an interpretation of the appropriate policy response. Rather than develop an
entrepreneurship policy, the appropriate policy response is to develop policy for the
entrepreneurial economy. The impact of technological change and its many mediators on
entrepreneurship is so complex and pervasive that the policy implications are beyond those of
just creating entrepreneurship policy to supplement existing policy avenues. The ascendance
of entrepreneurship policy was certainly consistent with the characterization that the
entrepreneurial economy had superseded the managed economy. However, the identification
of the factors underlying why this shift actually occurred leads to a rethinking of the policy
conclusion. Rather than a narrow focus on promoting new firms and small firms, the
appropriate response of public policy should be to re-think the policy approach in a broad and
pervasive sense so that the focus is not on developing entrepreneurship policy but rather on
policy enabling dynamic capitalism, in which entrepreneurship plays a key role (Audretsch
and Thurik, 2000; 2001; Acs, 2006). This largely overlaps with Kirchhoff’s (1994) plea for
dynamic capitalism, which is self-renewing if properly supported by appropriate public
policy. He proposed a basic set of three guidelines for such a public policy (Kirchhoff, 1994,
pp. 199-206). First, government policies should remove barriers to entrepreneurial entry.
Second, government policies should facilitate the mobility of resources, especially labor and
capital. Third, government policies should open up the national economy to international
competition.
The difference between entrepreneurship policy and policy for the entrepreneurial
economy is that the former leaves most institutions and policies unchanged. The focus of
entrepreneurship policy is on creating instruments that will directly promote the startup of
new firms and the performance, typically in terms of growth and survival, of those
entrepreneurial new firms. This approach leaves most of the incumbent institutions and
policies that do not directly address new firms and their performance unchanged (see also
Bridge, 2010). By contrast, policy for an entrepreneurial economy leaves virtually no aspect
of institutions or policy unchanged. These aspects can be influenced through many channels
(Audretsch et al., 2007; Stam and Nooteboom, 2011). Figure 1, which attempts to capture the
essence of the many links between the advent of the ICT revolution and the emergence of
entrepreneurship as a central element in the modern economy, including the many mediating
effects, also implies that the policy implications are beyond those of creating entrepreneurship
policy with an exclusive focus on the promotion of new firms and small firms. Let us build on
13
Kirchhoff’s (1994) three guidelines for a policy for dynamic capitalism to propose
recommendations for a policy for an entrepreneurial economy.
9.1. Barriers to entry
Entry provides a threat to the market positions and ensuing profitability of incumbent
firms. The threat of entry, a central element in the theory of contestable of markets (Baumol et
al., 1982), is an important driver of investments in innovation by incumbents to stay ahead of
and prevent the entry of competitors. Government policies should reduce barriers to
entrepreneurial entry to stimulate incumbents to innovate and to allow newcomers to develop
and diffuse innovations. Traditionally, this approach involves the domain of competition
policy. Traditional competition policy has been pre-occupied with static efficiency and should
more explicitly account for dynamic efficiency (Audretsch et al., 2001), which allows for the
further development and diffusion of ICT, welfare-enhancing corporate reorganizations, and
knowledge production. Labor market regulations should also be re-evaluated in this context.
One poignant example is the enforcement of non-compete agreements, which prohibit
employees from using knowledge gained in one firm from leaving that firm and using this
knowledge in a competing firm. Although such agreements may have constituted sensible
public policy in the managed economy (e.g. in the US, Canada and most European countries)
by enhancing the ability of incumbent firms to appropriate costly investments, Samila and
Sorenson (2011) provide compelling empirical evidence showing that the enforcement of
non-compete agreements constrains (potentially) innovative entrepreneurs. Finally, the recent
revival of industrial policy (The Economist, 2010b) should also be received with suspicion,
especially when it reinforces the position of vested interests and/or creates additional barriers
for new entrants. These dangers are quite realistic: it is much easier to involve established
businesses in the process of designing industrial policy, than to involve (potential) new
entrants, with the intended or unintended effect that the previous are much better served by
industrial policies than the latter (see Nooteboom and Stam, 2008).
9.2. Resource mobility
The mobility of resources, especially the mobility of labor, is a necessary condition for
the recombination of resources (the essential process for innovation) and the diffusion of
useful innovations. Pension and social security schemes are often attached to particular
employers in a particular country, and in this way limit the mobility of employees between
established organizations and new firms. The design of these schemes made sense in a
managed economy in which employees were expected to spend most of their working life
with one or a few employers, but not in a highly flexible entrepreneurial economy. Pension
plans and health insurance should be designed as the property of the worker, not the
employer. Portable pension plans and health insurance enable the mobility of labor. In a
similar way, labor market regulation should enable the flexibility of labor, both within
organizations (internal flexibility, which is especially relevant for entrepreneurial employee
activity, see Stam et al., 2012) and between organizations (e.g. with making employment
protection legislation less strict; see Bosma et al., 2009; Autio, 2010). Of course, individual
preferences for financial and employment security should also be taken into account by
developing labor market institutions that cushion temporary unemployment and stimulate
investments in knowledge and skills that improve the job market positions of workers or the
chances of a successful entrepreneurial career. Another issue that was not central in Kirchhoff
(1994) but has gained prominence with the rise of globalization is policy that enables the
international migration of skilled labor. Immigration policy has been shown to be of major
14
relevance for high tech entrepreneurship and the growth of high tech clusters (Saxenian, 2006;
Gaonkar et al., 2010). This immigration policy should be designed not only to ease the
recruitment of high skilled labor by incumbents but also to enhance the creation of new firms
by these immigrants.
9.3. International competition
Perhaps government policies to isolate a domestic economy from foreign firms are
less prevalent at present than in the 1980s and 1990s. But, an equal international playing field
for established and new firms is still far from reality. However, such a market exchange
perspective misses the central point: a country that is unable to harness the forces of creative
destruction created by entrepreneurial activity, as Bruce Kirchhoff (1994) suggested, is likely
to suffer from reduced innovative activity and subsequently lower rates of economic growth
and employment creation. Sustaining prosperity in a global economy necessitates continued
discovery activities by entrepreneurs in new and established firms and the ability to scale up
promising activities. On the one hand, a country’s current competitive advantage is unlikely
to be its competitive advantage over 20 years. However, on the other hand, firms in a national
economy are more likely to be able to compete on international markets if they build on local
knowledge and skill bases. Discovering the best activities with which to compete on
international markets in the near future necessitates trial and error by ambitious entrepreneurs
to make new combinations of existing knowledge and skills (see Rodrik, 2007; Stam and
Nooteboom, 2011). For example, governments should not only fund the development of
knowledge at the scientific frontier, but should also stimulate the application of this
knowledge in practice. Every region and country should discover what it can and cannot
produce profitably based on its resident knowledge at the frontier of e.g. biomedical, material,
nano, or computer sciences. Institutions need to be adapted locally to scale up these activities
to further build and maintain these newly developed competitive advantages; at the same
time, policies should keep barriers to entry low and resource mobility sufficiently high to
prevent the occurrence of negative lock-ins.
Many of the institutions and policies created during the era of the managed economy
may actually constrain the application of knowledge developed in established organizations
and may serve as barriers to entrepreneurship in the entrepreneurial economy. Institutional
changes and policies should accommodate openness to entrepreneurial initiatives that cross
the borders of countries, knowledge institutes and firms. Policies for an entrepreneurial
economy should enable individuals to build and apply knowledge in new collectives, be they
firms, networks, or alliances, making use of new information and communication
technologies. We have provided several examples that highlight policies that may have made
sense in the managed economy but are absolutely counter-productive in the entrepreneurial
economy. As these examples suggest, only a fundamental rethinking of institutions and public
policy will provide an adequate re-alignment as the entrepreneurial economy of this century
replaces the managed economy of the previous century.
9.4. The contribution of Bruce Kirchhoff
A central theme and insight prevalent throughout Bruce Kirchhoff’s work was the
“belief that capitalist economies require new firm entry and growth to assure that innovation
does not become the mechanism of increased concentration of industrial activity. Creative
destruction is necessary to maintain capitalism” (Kirchhoff, 1989, p. 171). In his seminal
1989 paper, Kirchhoff clearly identified entrepreneurship as the driving force underlying
15
innovation and economic growth: “Entry and growth of new small firms may well be
indicative of creative destruction in contemporary capitalism” (p. 171). This paper has
extended the key elements of Bruce Kirchhoff’s thinking and ideas regarding the central role
of entrepreneurship and innovation by explaining how and why the entrepreneurial economy
has replaced the managed economy of previous generations. It was the gift and capacity to
link the smallest unit of analysis, entrepreneurship, to the largest unit of analysis,
macroeconomic performance and economic growth, that enabled Bruce Kirchhoff to provide
insights to both scholars and public policy alike, and these insights are perhaps even more
valid and prescient today than at the time of his writing.
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