Why the government will struggle to deliver a Silicon Valley for Britain

Josh Lerner is Jacob H. Schiff professor at Harvard Business School, and the author of The Architecture of Innovation.

THE UK has a desperate need for growth. But while many of the means of reaching this goal – tax reform, for instance – are controversial, the need for innovation is widely accepted. Economic evidence clearly demonstrates that a key driver of growth is the development and adoption of innovative products and services.

A natural question would be to ask what government can do to boost high-potential ventures and their financiers. When we look at the world’s great hubs of entrepreneurial activity – Silicon Valley, Singapore, Tel Aviv, and Bangalore – the stamp of the state is unmistakable. But for each effective intervention, there are hundreds of disappointments.

You might conclude that state support is a casino – making bets, with few guarantees of an attractive return. The truth, however, is more subtle. When you examine abandoned efforts to promote entrepreneurial activity, failure was mostly predictable. These efforts had a shared set of flaws in their design, and were doomed from the start.

This can be understood by unpicking the rationale behind government efforts to stimulate entrepreneurship. This rests on two pillars. First, technological innovation spurs economic growth. Second, academic research has highlighted the role of entrepreneurship and venture capital in stimulating innovation. They have a set of tools that are well-suited to the task of nurturing high risk new ideas. If that were all there was to it, there would be a compelling case for public involvement. But the case for intervention rests on a third leg: the argument that governments can effectively promote entrepreneurship and venture capital. This is a much shakier assumption.

Yes, entrepreneurial markets have features that suggest there is a role for government in encouraging their evolution. Put simply, it is easier to be a start-up founder if there are ten other entrepreneurs nearby. Here, government can play a role as a catalyst.

But there are two major problems. First, governments simply get it wrong: allocating funds and support in an inept or counter-productive manner. There is also the problem of regulatory capture. Private and public sector entities often organise to capture subsidies handed out by the public sector. Programmes geared towards helping nascent enterprises may end up boosting cronies of the nation’s rulers.

So how can you overcome this? Crucially, it’s necessary to ensure that entrepreneurship is itself an attractive option. Often, in their eagerness to get to the fun part of handing out money, public leaders neglect the importance of setting the table, or creating a favourable environment.

Such efforts have several dimensions. Ensuring that ideas can move easily from universities and government laboratories is important. And Britain is doing a lot to encourage this. But many entrepreneurs come from corporate positions, not academia. And Studies have documented that the attractiveness of entrepreneurial activity for these individuals is sensitive to tax policy. Education is also critical. Creating training opportunities for mid-career professionals can pay dividends.

This doesn’t mean that government can’t intervene directly in the entrepreneurial process. But these efforts must be designed thoughtfully – to be sensitive to the market’s dictates. Governments must avoid the pitfalls that befall many public initiatives. One common problem is to ignore the realities of the entrepreneurial process. Many initiatives are abandoned after a few years, for instance. The programmes’ authors apparently do not understand that initiatives take years to bear fruit. Some add requirements that seem reasonable from a public policy perspective, but run counter to the nature of business. In other cases, programmes are too tiny to have any impact or so large they swamp already-existing funds.

But most frequently, governments create programmes that ignore what the market can support. Far too often, officials seek to encourage funding in industries or regions where private interest simply doesn’t exist. Whether driven by political considerations or hubris, the result is waste. The only effective way to solve this is by demanding that credible private sector players provide matching funds. Only in cooperation with private initiative can public support for entrepreneurship work.

Josh Lerner is Jacob H Schiff professor at Harvard Business School, and the author of The Architecture of Innovation.

City A.M.'s Opinion pages are a place for thought-provoking opinions and views. These are not necessarily shared by City A.M.

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