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Entreprenomics: Entrepreneurship, Economic Growth and Policy

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Entreprenomics: Entrepreneurship, Economic Growth and Policy

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Introduction. In his Theory of Economic Development, Schumpeter (1934) emphasizes the role of the entrepreneur as prime cause of economic development. He describes how the innovating entrepreneur challenges incumbent firms by introducing new inventions that make current technologies and products obsolete, thus driving them out of the market. This process of creative destruction is the main characteristic of what has been called the Schumpeter Mark I regime. Schumpeter developed his ideas during the first decades of the 20th century when small businesses were considered a vehicle for entrepreneurship and a source of employment and income, setting the stage as defined in Chapter 1. However, the economies of scale and scope present in production, distribution, management, and R&D dictated increasing firm size from the 1930s onward (Chandler, 1990). Moreover, the growing level of economic development, together with high price elasticities stimulating price competition, favored large-scale production. The increasing presence and role of large enterprises in the economy during this period is well documented (Audretsch, Thurik, Verheul, and Wennekers, 2002a). The importance of small business seemed to fade. At the same time it was recognized that the small business sector needed protection for social and political reasons, but not on the grounds of economic efficiency (Audretsch and Thurik, 2000). In the years following the Second World War large firms had not yet gained the powerful position of the 1960s and 1970s and small businesses were still the main suppliers of employment and hence of social and political stability (Thurik and Wennekers, 2004).
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Entreprenomics: entrepreneurship, economic growth and policy
Roy Thurik
Centre for Advanced Small Business Economics (CASBEC) at Erasmus University Rotterdam; EIM
Business and Policy Research (a Panteia company), Zoetermeer; Max Planck Institute of Economics, Jena;
and Free University Amsterdam
Abstract: Entrepreneurship has emerged as an important element in the organization of economies. This
emergence did not occur simultaneously in all developed countries. Differences in growth rates are often
attributed to differences in the speed with which countries embrace entrepreneurial energy. This led to the
political mandate to promote entrepreneurship. Hence, a clear and organized view is needed of what the
determinants and consequences of entrepreneurship are. The present contribution tries to provide this
view. Entrepreneurship, its drivers and its consequences can be best understood using the model of the En-
trepreneurial Economy which explains the functioning of the modern economy. This functioning of the
economy provides the basis for an Entrepreneurship Policy Framework in which determinants of entre-
preneurship and the ways of public intervention are the essential elements.
Version: September 2007, prepared forEntrepreneurship, Growth and Public Policy edited by D.B.
Audretsch and R. Strom (Cambridge University Press).
File name: 10 Ringberg CUP Thurik v6.doc
Save date: 9/4/2007 1:02 PM
JEL-code: L53, M13, O11, O40
Keywords: entrepreneurship, small firms, economic growth, economic development, policy
Acknowledgement: the author would like to thank David Audretsch, Philipp Koellinger, Adam Lederer
and the participants of the Kauffman-Max Planck Conference on Entrepreneurship and Economic Growth
(Ringberg Castle, Rottach Egern, 8-9 May 2006) for comments. The present paper is an extended version
of his introduction at this conference calledEntrepreneurship and economic growth: a wrap up. It also
draws upon earlier or related work such as Audretsch, Thurik, Verheul and Wennekers (2002), Thurik and
Wennekers (2004), Audretsch and Thurik (2004), Carree and Thurik (2006b) and Audretsch, Grilo and
Thurik (2007). It received financial assistance from the Ewing Marion Kauffman Foundation. The views
expressed are those of the author.
Correspondence:
Roy Thurik:
Chair and director, Centre for Advanced Small Business Economics (CASBEC),
Erasmus School of Economics,
Erasmus University Rotterdam,
P.O. Box 1738, 3000 DR Rotterdam,
the Netherlands,
Tel. +31 10 4082232,
E-mail thurik@few.eur.nl,
Website http://www.thurik.com
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1. Introduction
In his Theory of Economic Development, Schumpeter (1934) emphasizes the role of the en-
trepreneur as prime cause of economic development. He describes how the innovating entrepre-
neur challenges incumbent firms by introducing new inventions that make current technologies
and products obsolete thus driving them out of the market. This process of creative destruction is
the main characteristic of what has been called the Schumpeter Mark I regime. Schumpeter de-
veloped his ideas during the first decades of the 20th century when small businesses were consid-
ered a vehicle for entrepreneurship and a source of employment and income.
However, the economies of scale and scope present in production, distribution, manage-
ment and R&D dictated increasing firm size from the 1930s onwards (Chandler, 1990). More-
over, the growing level of economic development, together with high price elasticities stimulating
price competition, favored large scale production. The increasing presence and role of large en-
terprises in the economy during this period is well documented (Audretsch, Thurik, Verheul and
Wennekers, 2002). The importance of small business seemed to fade. At the same time it was
recognized that the small business sector needed protection for social and political reasons, but
not on the grounds of economic efficiency (Audretsch and Thurik, 2000).
In the years following the Second World War large firms had not yet gained the powerful
position of the 1960s and 1970s and small businesses were still the main supplier of employment
and hence of social and political stability (Thurik and Wennekers, 2004). Scholars, such as Bell
(1960), Chandler (1977 and 1990), Galbraith (1956) and Schumpeter (1942), were convinced that
the future was in the hands of large corporations and that small business would fade away as the
victim of its own inefficiencies. In their classic work, Berle and Means (1932) investigated the
then modern firm with its increasing size and role and with its hierarchy of management and its
typical divide between management and control. The United States policy response to the rise of
large corporations was aimed at a careful support of the small business sector for social and po-
litical reasons. The influence of the Great Depression emphasized this support. The passage of the
Robinson-Patman Act (providing some measure of protection to small independent retailers and
their independent suppliers from unfair competition from vertically integrated, multi-location
chain stores) and the creation of the United States Small Business Administration (and a number
of predecessor agencies) were aimed at protecting less efficient small businesses and maintaining
their viability. These policy responses are typical for a Schumpeter Mark II regime. In Capital-
ism, Socialism and Democracy, Schumpeter (1942) focuses on innovative activities by large and
established firms. He describes how large firms outperform their smaller counterparts in the in-
novation and appropriation process through a strong positive feedback loop from innovation to
increased R&D activities. This process of creative accumulation is the main characteristic of the
Schumpeter Mark II regime.
In the last twenty years of the 20th century, the joint effect of globalization and the ICT
revolutions drastically reduced the cost of shifting both capital and information out of the high-
cost locations of Europe and North America into low-cost locations around the world. Economic
activity in a high-cost location is no longer compatible with routinized tasks. Rather, globaliza-
tion has shifted the comparative advantage of high-cost locations to knowledge-based activities
which cannot be transferred around the globe without significant cost. Knowledge as an input
into economic activity is inherently different from the more traditional inputs such as land, capital
and labor. It is characterized by high uncertainty, high asymmetries across people and is costly to
transact. The response to a trend establishing knowledge as the main source of comparative ad-
vantage is the re-emergence of the Entrepreneurial Economy. In Audretsch and Thurik (2001 and
2004) the two Schumpeterian regimes are used in the framework of two broad concepts of eco-
3
nomic organization: the Managed and the Entrepreneurial Economies. They introduce the con-
cept of the Managed Economy that flourished for most of the last century. It was based on rela-
tive certainty in outputs, which consisted mainly of manufactured products and which were
brought forward by the traditional inputs of labor, capital and land. They contrast it to the model
of the Entrepreneurial Economy based upon entirely different elements such as flexibility, turbu-
lence, diversity, creativity and novelty, and new forms of linkages and clustering.
Entrepreneurship has emerged as an important element in the organization of economies. It
has re-emerged from an era where mainstream thinking dictated a future where ever bigger or-
ganizational hierarchies would dominate. This emergence did not occur simultaneously in all de-
veloped countries. Differences in growth perspectives are often attributed to differences in the
speed countries evolve from the Managed Economy to the Entrepreneurial Economy. The recog-
nition that entrepreneurship helps fostering growth led to the political mandate to promote entre-
preneurship. Hence, a clear and organized view is needed of what the determinants of entrepre-
neurship are. Entrepreneurship, its drivers and its consequences can be best understood using the
model of the Entrepreneurial Economy which explains the functioning of the modern economy.
This functioning of the economy should provide the basis for an Entrepreneurship Policy
Framework in which determinants of entrepreneurship and the ways of public intervention are the
essential elements.
The study of the role of entrepreneurship in the modern economy I label Entreprenomics.
The field is rooted in economics but has a distinctly eclectic flavor (Thurik, Wennekers and Uh-
laner, 2002; Wennekers, Uhlaner and Thurik, 2002; Audretsch and Thurik, 2004). It has the vivid
interest of policy makers. Often, it attempts to introduce the variable entrepreneurship what-
ever that may be in subfields of economics like labor economics, economics of growth and
economic development, industrial organization, enterprise policy, applied micro, and business
economics, among others.
The purpose of the present contribution is to provide such an Entrepreneurship Policy
Framework. It describes the Managed Economy and the emergence of the Entrepreneurial Econ-
omy in terms of data and conceptual material in section two. The models of the Managed and the
Entrepreneurial Economy are compared in section three, distinguishing between different groups
of characteristics, including underlying forces, external environment characteristics, internal or
firm characteristics and policy characteristics. In section four the focus is on the links between
entrepreneurship and growth, while section five tries to provide an account of why Europe re-
acted slower to the challenges of the Entrepreneurial Economy then the United States. The policy
guidelines are in section six, where on the basis on an Entrepreneurship Policy Framework six
channels of policy interventions to foster entrepreneurship and to bridge the gap between the
Managed Economy to the Entrepreneurial Economy are proposed. These channels will be linked
to the fourteen dimensions of the Entrepreneurial Economy described in section three. Section
seven contains some concluding remarks.
2. The era of the managed economy and the emergence of the entre-
preneurial one
The large enterprise was clearly the dominant form of organization until the 1980s. Not
surprisingly, Robert Solow (1956) suspected capital and labor as the main sources of growth,
which in his later empirical work appeared to be the case only to a limited degree and which led
to the introduction of the Solow residual. Capital and labor, however, were factors best utilized
in large scale production. Also, the increasing level of transaction costs (Coase, 1937) incurred in
large-scale production demanded increasing firm size. Statistical evidence, gathered from both
Europe and North America, points towards an increasing presence and role of large enterprises in
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the economy in this period (Caves, 1982; Brock and Evans, 1989; Teece, 1993). This was the era
of mass production when economies of scale seemed to be the decisive factor in dictating effi-
ciency. This was the world described by John Kenneth Galbraith (1956) in his theory of counter-
vailing 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 Econ-
omy (Audretsch and Thurik, 2001).
Large firms dominated this economy while small firms and entrepreneurship were viewed
as a luxury. They were viewed as something Western countries needed to ensure decentralized
decision making, obtained at the unfortunate cost of efficiency. A generation of scholars has in-
vestigated this perceived trade-off between economic efficiency on the one hand and political and
economic decentralization on the other (Williamson, 1968). These scholars have produced a large
number of studies focusing mainly on three questions: (i) What are the gains to size in general
and large-scale production in particular? (ii) What are the economic and welfare implications of
an oligopolistic market structure? and (iii) What are the public policy implications?
Many stylized facts were discovered about the role of small business in the post-war econo-
mies of North America and Western Europe. Four of these stylized facts will be mentioned here:
Small businesses are generally less efficient than their larger counterparts. Studies from the
United States in the 1960s and 1970s revealed that small businesses produced at lower levels of
efficiency than larger firms (Weiss, 1976 and Pratten, 1971). Small businesses are characterized
by lower levels of employee compensation. Empirical evidence from both North America and
Europe found a systematic and positive relationship between employee compensation and firm
size (Brown, Hamilton and Medoff, 1990; Brown and Medoff, 1989). Small businesses are only
marginally involved in innovative activity. Based on R&D measures, small businesses accounted
for only a small amount of innovative activity (Chandler, 1990; Scherer, 1991; Acs and
Audretsch, 1990; Audretsch, 1995). The relative importance of small businesses is declining over
time in both North America and Europe (Scherer, 1991).
Given the careful documentation that large-scale production was driving out entrepreneur-
ship, it came as a surprise when scholars first began to document that the alleged inevitable de-
mise of small business began to reverse itself in the 1970s. Loveman and Sengenberger (1991)
and Acs and Audretsch (1993) carried out analyses examining the re-emergence of small business
and entrepreneurship in North America and Europe with two major findings emerging. First, the
relative importance of small business varies largely across countries, and, secondly, in most
European countries and North America the importance of small business increased since the mid-
1970s.
Acs and Audretsch (1993) were among the first to provide systematic data showing the in-
creasing importance of small businesses. They show that the employment share in manufacturing
of small firms in the Netherlands increased from 68.3 percent in 1978 to 71.8 percent in 1986. In
the United Kingdom this share increased from 30.1 percent in 1979 to 39.9 percent in 1986; in
(Western) Germany from 54.8 percent in 1970 to 57.9 percent by 1987; in Portugal from 68.3
percent in 1982 to 71.8 percent in 1986; in the North of Italy from 44.3 percent in 1981 to 55.2
percent in 1987, and in the South of Italy from 61.4 percent in 1981 to 68.4 percent in 1987. A
study by EIM (2002) documents how the relative importance of small firms in 19 European coun-
tries, measured in terms of employment shares, has continued to increase between 1988 and
2001. See Figure 1 for the development of the self-employment rates (business owners per work-
force) in a selection of OECD countries taken from van Stel (2005). Some U-shape can be ob-
served for these countries when the reversal happened in the early eighties. This trough marks the
beginning of what Audretch and Thurik (2001) call the Entrepreneurial Economy. Recently, the
upward trend of the self-employment leveled off in such countries as the UK, Belgium, Spain and
Portugal (van Stel, 2005). In the UK this may be due to policy measures favoring incumbent
businesses over start-ups (Thurik, 2003). In Belgium this may be due to the high level of eco-
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nomic development and to the shake out of industries that are in a more advanced stage than else-
where in the area of modern OECD countries. In Spain it may be explained by the relatively high
start-up costs (Verheul, van Stel, Thurik and Urbano, 2006). In Portugal consolidation and
shake-out occurred in some markets leading to a reduction in the business ownership rate as the
economy became more integrated into the EU market (Baptista and Thurik, 2006).
Figure 1: Self-employment rates (business owners per workforce) in six OECD countries
0,06
0,07
0,08
0,09
0,10
0,11
0,12
0,13
0,14
0,15
1972
1974
1976
1978
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
Belgium
Germany
The Netherlands
Spain
United Kingdom
New Zealand
Source: Compendia 2004.2; see also van Stel (2005).
As the empirical evidence documenting the re-emergence of small businesses increased,
scholars began to look for explanations and to develop theoretical underpinnings. Acs and
Audretsch (1993) as well as Carlsson (1992) provide evidence of manufacturing industries in
many countries. Carlsson advances two explanations for the shift toward smallness. The first
deals with fundamental changes in the world economy from the 1970s onwards which relate to
the intensification of global competition, the increase in the degree of uncertainty and the growth
in market fragmentation. The second explanation deals with the introduction of flexible automa-
tion that effected a shift from large to smaller firms. The pervasiveness of changes in the world
economy, and in the direction of technological progress, resulted in a structural shift affecting the
economies of all industrialized countries. Piore and Sable (1984) argue that the instability of
markets in the 1970s resulted in the demise of mass production and promoted flexible specializa-
tion. This fundamental change in the path of technological development led to the occurrence of
vast diseconomies of scale. In other words: the level of transaction costs fell dramatically.
Brock and Evans (1989) show that this trend away from large firms has been economy-
wide at least for the United States and provide four additional reasons why it has occurred: the
increase of labor supply, particularly in the higher education levels, leading to lower real wages;
changes in consumer tastes; relaxation of (entry and labor market) regulations; and the fact that
the economic world went through a period of creative destruction. Loveman and Sengenberger
(1991) point at two additional trends of industrial restructuring: that of horizontal and vertical dis-
integration (the breaking up of large plants and businesses) and that of the formation of new busi-
ness communities. These intermediate forms of market coordination thrive owing to declining
costs of transaction and exploit the virtues of learning and selection. Furthermore, they emphasize
the role of public and private policies promoting the small business sector. Audretsch and Thurik
(2000) suggest that the shift towards the knowledge based economy is the driving force behind
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the shift from large to smaller businesses. Also, this economy works best when the inherent un-
certainties and asymmetries of knowledge creation are absorbed by groups of small firms rather
than by one dominant firm (Audretsch and Thurik, 2001 and 2004). Carree and Thurik (2003) try
to explain to transition from increasing average firm size to decreasing firm size in a framework
of ten key mechanisms, such as scale, scope, experience, organization, transportation, market
size, adjustment, effectiveness, control and culture. The former four obstruct declining firm size
while the latter six promote it. Overseeing all these sources, one may conclude that the re-
emergence of small businesses is largely a consequence of new technological opportunities en-
abled by the information-technology revolution.
While entrepreneurs undertake a definitive action, i.e., they start a new business, this action
can not be viewed in a vacuum devoid of context. Entrepreneurship is shaped by a portfolio of
forces and factors, including legal and institutional as well as social factors (Audretsch, Thurik,
Verheul and Wennekers, 2002). The present paper will devote particular attention to the policy
component in this portfolio. See Audretsch, Grilo and Thurik (2007) for some remarks on the
economic rationale of public intervention.
3. Contrasting the entrepreneurial and managed models
The era of the Managed Economy was driven out with the emergence of the Entrepreneu-
rial Economy. This suggests two contrasting models with important but different roles of entre-
preneurship. While both the Managed Economy and the Entrepreneurial Economy models strive
to explain how economic growth occurs, the foundations of said growth vary substantially. In the
Managed Economy, economic growth happens through stability, specialization, homogeneity,
scale, certainty and predictably, while flexibility, turbulence, diversity, novelty, innovation, link-
ages and clustering drive the Entrepreneurial Economy (Audretsch and Thurik, 2004). The mod-
els distinguish between different groups of characteristics, including underlying forces, external
environment characteristics, internal or firm characteristics and policy characteristics. These
forces are contrasted in Table 1.
The term model may suggest that different economic laws are valid in the Managed
Economy and the Entrepreneurial Economy. But the laws have not changed: what changed was
the framework. The technology by the ubiquitous application of information technologies and the
political context marked the end of the cold war and lowered of trade barriers. Table 1 also pro-
vides a column called Channels of government intervention. These six channels, described be-
low, refer to six distinct ways in which policies can facilitate or discourage entrepreneurship. The
column indicates which channel influences which dimension of the Entrepreneurial Economy.
The first group of characteristics contrasts the forces underlying the models of the Entre-
preneurial and Managed Economy: localization versus globalization; change versus continuity;
and jobs with high wages versus jobs or high wages. The second group of characteristics con-
trasts the external environment characteristics of the models of the Managed and the Entrepre-
neurial Economy. Turbulence, diversity and heterogeneity are central to the model of the Entre-
preneurial Economy. By contrast, stability, specialization and homogeneity are the cornerstones
in the model of the Managed Economy. The third group of characteristics contrasts firm behavior
of the models of the Managed and the Entrepreneurial Economy: control versus motivation; firm
transaction versus market exchange; competition and cooperation as substitutes versus comple-
ments; and scale versus flexibility. The final group of contrasting dimensions of the models of the
Entrepreneurial Economy and the Managed Economy refers to government policy, including
whether the goals of policy is enabling versus constraining, the target of policy works with inputs
versus outputs, the locus of policy is local versus national and financing policy supports entrepre-
neurs versus incumbents.
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Table 1 Fourteen dimensions of the difference between the model of the Entrepreneurial
and the Managed Economy and the channels of government intervention
Cat
e
gory
Entrepr
o
nomy
Managed Ec
o
nomy
Channel of gvt intervent
i
on
Underlying forces
Localization Globalization G2
Change Continuity G1
Jobs with high wages Jobs or high wages G1, G5, G6
External environment
Turbulence Stability G5, G6
Diversity Specialization G5, G6
Heterogeneity Homogeneity G3, G4
How firms function
Motivation Control G4
Market exchange Firm transaction G6
Competition with cooperation Competition or cooperation G6
Flexibility Scale G5, G6
Government policy
Enabling Constraining G4, G6
Input targeting Output targeting G3, G5
Local locus National locus G2
Entrepreneurs Incumbents G5
Source: Audretsch and Thurik (2004).
The fourteen dimensions describing the difference between the models of the Entrepreneu-
rial and Managed Economy are discussed in detail in Audretsch and Thurik (2004). Building
upon Audretsch and Thurik (2001), these contrasting models provide a lens through which eco-
nomic events can be interpreted and policy formulated. Using the wrong lens leads to the wrong
policy choice. For example, under the model of the Managed Economy firm failure is viewed
negatively, representing a drain on societys resources. In the model of the Managed Economy re-
sources are not invested in high-risk ventures. In the model of the Entrepreneurial Economy firm
failure is viewed differently. It is seen as an experiment, an attempt to go in a new direction in an
inherently risky environment (Wennekers and Thurik, 1999). An externality of failure is learning.
In the model of the Entrepreneurial Economy the process of searching for new ideas is accompa-
nied by failure. Similarly, the virtues of long-term relationships, stability and continuity under the
model of the Managed Economy give way to flexibility, change, and turbulence in the model of
the Entrepreneurial Economy. What is a liability in the model of the Managed Economy is, in
some cases, a virtue in the Entrepreneurial Economy model.
4. Consequences of entrepreneurship
While, the switch from a Managed Economy regime to one of an Entrepreneurial Economy
has been the subject of a multitude of investigations, the consequences of this regime change are
yet another area of research. Acs (1992) began the discussion in an intuitive fashion. He claimed
that small firms play an important role in the economy by serving as agents of change with their
entrepreneurial action that generates innovative activity, stimulates industry evolution and creates
many new jobs. Acs and Audretsch (1990) were the first to evaluate the new role of smallness in
8
the process of innovative activities. Baumol (1993) looked at the role of entrepreneurial activities
and its possible effects. After these initial forays a huge amount of research developed showing
the often positive relationship between smallness, entrepreneurship or a related indicator and any
dimension of economic performance (Carree and Thurik, 2003 and 2006a).
Since the last decade of the 20th Century, small, and particularly new, businesses are seen
more than ever as a vehicle for entrepreneurship, contributing not just to employment and social
and political stability but also to innovative and competitive power (Wennekers and Thurik,
1999). The focus shifted from small businesses as a social good that should be maintained at an
economic cost to small businesses as a vehicle for entrepreneurship and economic growth. Bau-
mol was one of the first to justify the re-introduction of the entrepreneur into mainstream eco-
nomics thinking after its virtual removal in the first few decades after the Second World War
(Baumol, 1968). Indeed, recent econometric evidence suggests that entrepreneurship is a vital de-
terminant of economic growth (Carree and Thurik, 1999; Audretsch and Fritsch, 2002;
Audretsch, Carree, van Stel and Thurik, 2002; Carree, van Stel, Thurik and Wennekers, 2002 and
2007; Audretsch and Keilbach, 2004; Thurik, Carree, van Stel and Audretsch 2008; van Stel, Car-
ree and Thurik, 2005). According to Audretsch, Carree, van Stel and Thurik (2002), a lack of en-
trepreneurship will lead to reduced economic growth. The positive link between entrepreneurship
and economic growth has now been verified across a wide spectrum of units of observation,
spanning the establishment, the enterprise, the industry, the region, and the country (Carree and
Thurik, 2003).
Below three options are provided to better understand this positive link between entrepre-
neurship and economic growth. All three consist of three main arguments. The first is the shift
from the Managed Economy to the Entrepreneurial Economy view (Audretsch and Thurik,
2001) with its empirical support. The second is the historical view of entrepreneurial roles (Car-
ree and Thurik, 2003) and the third the entrepreneurial capital view (Audretsch and Thurik, 2004;
Audretsch and Keilbach, 2004; Audretsch, Keilbach and Lehman, 2006).
The shift from the Managed Economy to the Entrepreneurial Economy has many conse-
quences. The most important is the changing and growing role of entrepreneurship and small
firms as drivers of growth. The role of smallness in the process of innovative activities is investi-
gated extensively by Acs and Audretsch (1990) and Audretsch (1995). A discussion of the rela-
tion between the role of small firms and industry dynamics can be found in Audretsch (1995).
Foelster (2000) and Acs and Armington (2004) are among the many studies showing the job gen-
eration effect of entrepreneurship. An alternative and wide view of the impact of the regime
change is that of the institutional change that makes the difference between high and low per-
formance. For example, Saxenian (1990 and 1994) attributes the superior performance of Silicon
Valley to a high capacity for promoting entrepreneurship.
The roles of innovations, of the job generation process and of institutional environments are
examples of why the Entrepreneurial Economy works differently from the Managed Economy.
Using Global Entrepreneurship Monitor (GEM) data and a model controlling for several alterna-
tive drivers of growth, van Stel, Carree and Thurik (2005) find that entrepreneurial activity af-
fects economic growth, but that this effect depends upon the level of per capita income in that en-
trepreneurship has a negative impact on GDP growth for developing countries and a positive one
for developed countries. In other words: entrepreneurship has a different role in the Managed
Economy versus the Entrepreneurial Economy. Using worked up OECD data of 23 developed
countries data Carree, van Stel, Thurik and Wennekers (2002) show that there is some evidence
of a U-shaped relation between economic development and the rate of entrepreneurship (business
owners per workforce). This evidence is weaker in their 2007 update (Carree, van Stel, Thurik
and Wennekers, 2007). They suggest that a Schumpetarian Regime Switch occurred. Piore and
Sabel (1984) call it an Industrial Divide while Jensen (1993) refers to the Third Industrial
9
Revolution. After economic regime change, whatever it is called, there is a positive relation be-
tween entrepreneurship and economic development.
Carree and Thurik (2003) focus on three entrepreneurial roles, emphasized by Schumpeter,
Kirzner and Knight, respectively. The first is the role of innovator. Schumpeter was the econo-
mist who has most prominently drawn attention to the innovating entrepreneur who carries out
new combinations we call enterprise; the individuals whose function it is to carry them out we
call entrepreneurs (Schumpeter 1934, p. 74). The second is the role of perceiving profit opportu-
nities labeled Kirznerian (or neo-Austrian) entrepreneurship (Kirzner, 1997). The third role is that
of assuming the risk associated with uncertainty labeled Knightian entrepreneurship or neo-
classical entrepreneurship (Shane, 2000). In the neo-classical framework, entrepreneurship is
explained by fundamental attributes of people (like taste” for uncertainty). When an individual
introduces a new product or starts a new firm, this can be interpreted as an entrepreneurial act in
terms of at least one of the three types of entrepreneurship. The individual is an innovator, has
found a previously undiscovered profit opportunity and takes the risk that the product or venture
may turn out to be a failure. A lack of entrepreneurial activity or alertness is therefore directly
connected to low rates of innovation, unused profit opportunities and risk-averse attitudes. These
are important barriers preventing healthy economic development.
Audretsch and Thurik (2004) have a different approach and distinguish three ways in which
entrepreneurial capital affects growth. See also Audretsch, Keilbach and Lehman (2006). The
first way is by creating knowledge spillovers. Romer (1986), Lucas (1988, 1993) and Grossman
and Helpman (1991) established that knowledge spillovers help drive economic growth. Insight
into the process of knowledge spillovers is important, especially since a policy implication com-
monly drawn from new economic growth theory is that, due to the increasing role of knowledge
and the resulting increasing returns, knowledge generators, such as R&D, should be publicly sup-
ported. The literature identifying the creation of knowledge spillover mechanisms (the way
knowledge is transmitted across firms and individuals) is underdeveloped. However, entrepre-
neurship is an important area where some of the transmission mechanisms have been identified.
Cohen and Levinthal (1989) suggest that firms develop the capacity to adapt new technology and
ideas developed in other firms and are therefore able to appropriate some of the returns accruing
to investments in new knowledge made externally, i.e., outside their own organization. Audretsch
(1995) proposes a shift in the unit of observation away from exogenously assumed firms towards
individuals, such as scientists, engineers or other knowledge workers. When the focus is shifted
from the firm to the individual as the relevant unit of observation, the appropriability issue re-
mains, but the question becomes: how can economic agents with a given endowment of new
knowledge best appropriate the returns from that knowledge? In this spillover process, where a
knowledge worker may exit the firm or university in order to create a new company, the knowl-
edge production function is reversed. Knowledge is exogenous and embodied in a worker and the
firm is created endogenously through the workers effort to appropriate the value of his knowl-
edge by way of innovative activity. Hence, entrepreneurship serves as a mechanism by which
knowledge spills over to a new firm in which it is commercialized.
The second way in which entrepreneurship capital generates economic growth is through
augmenting the number of enterprises and increasing competition. Jacobs (1969) and Porter
(1990) argue that competition is more conducive to knowledge externalities than local monopo-
lies. With local competition Jacobs (1969) is not referring to competition within product markets
as traditionally envisioned by the industrial organization literature, but rather to the competition
for new ideas embodied in economic agents. Not only does an increase in the number of firms
enhance the competition for new ideas, but greater competition across firms also facilitates the
entry of new firms specializing in a particular new product niche. This is because the necessary
complementary inputs are more likely available from small specialist niche firms than from large,
vertically integrated producers. Glaeser, Kallal, Scheinman and Shleifer (1992) as well as
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Feldman and Audretsch (1999) found empirical evidence supporting the hypothesis that an in-
crease in competition within a city, as measured by the number of enterprises, is accompanied by
higher growth performance of that city. Van Stel and Nieuwenhuijsen (2004) found that this
competition effect may prevail in particular for manufacturing industries.
A third way in which entrepreneurship capital generates economic output is by providing
diversity among firms (Cohen and Klepper, 1992). Not only does entrepreneurship capital gener-
ate a greater number of firms, it also increases the variety of firms in a geographic space. There
has been a series of theoretical arguments suggesting that the degree of diversity, as opposed to
homogeneity, will influence the growth potential of a geographic environment. The basis for link-
ing diversity to economic performance is provided by Jacobs (1969), who argues that the most
important sources of knowledge spillovers are external to the industry in which the firm operates
and that cities are a source of considerable innovation because here the diversity of knowledge
sources is greatest (Audretsch and Feldman, 1996; Jaffe, Trajtenberg and Henderson, 1993). Ac-
cording to Jacobs it is the exchange of complementary knowledge across diverse firms and eco-
nomic agents that yields an important return on new economic knowledge. In her view, the geo-
graphic environment is essential for promoting knowledge externalities which lead to innovative
activity and subsequent economic growth. In this environment, entrepreneurship capital can con-
tribute to growth by injecting diversity and serving as a conduit for knowledge spillovers, leading
to increased competition. The Entrepreneurial Economy is characterized by a high reliance on
this third role of entrepreneurship capital because it serves as basis for the first two roles.
5. The response of Europe
Thus, while entrepreneurship has always mattered to policy makers, the way in which it has
mattered has drastically changed. Audretsch and Thurik observe that entrepreneurship has
emerged as the engine of economic and social development throughout the world (2004, p. 144).
Confronted with increasing concerns over unemployment, job creation, economic growth and in-
ternational competitiveness in global markets, policy makers have responded to this new evi-
dence with a new mandate promoting new businesses creation, i.e., entrepreneurship (Reynolds,
Hay, Bygrave, Camp and Autio, 2000). Initially, European policy makers were relatively slow to
recognize these links but since the mid-1990s have rapidly built momentum in crafting appropri-
ate approaches (EIM/ENSR, 1993 through 1997 as well as Audretsch, Thurik, Verheul and Wen-
nekers, 2002). Yet, without a clear and organized view of where and how entrepreneurship mani-
fests itself, policy makers do not know how to promote it. This explains the variation in their re-
sponses (European Commission, 2000 and 2001 and Audretsch, Thurik, Verheul and Wennekers,
2002). The so-called Green Paper on Entrepreneurship of the European Commission (European
Commission, 2003) was the first EU document extolling the virtues of entrepreneurship as the
most important driver in the economy and paving the way for Union-wide stimulation programs.
Currently, it is deeply embedded in current European policy that the creativity and independence
of entrepreneurs contribute to higher levels of economic activity. Indeed, the challenge for the
European Union is to identify the key factors for building a climate in which entrepreneurial ini-
tiative and business activities can thrive. Policy measures should seek to boost the Unions levels
of entrepreneurship, adopting the most appropriate approach for producing more entrepreneurs
and for getting more firms to grow (European Commission, 2003, p. 9).
It is generally believed that the United States has been much quicker to absorb the merits of
entrepreneurship than Europe based upon the different growth rates of the United States when
compared to European nations over the last twenty years. Indeed, the European countries have
been relatively slow to follow suit. Clearly, the European response varied across countries. Nev-
ertheless, by and large five distinct stages can be discerned of the evolution of the European
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stance towards the Entrepreneurial Econo