By Gonzalo Schwarz
This article originally appeared on Medium, November 6, 2017.
The best known definition of the American Dream is by James Truslow Adams in his book The Epic of America:
… that dream of a land in which life should be better and richer and fuller for every man, with opportunity for each according to his ability or achievement. … It is not a dream of motor cars and high wages merely, but a dream of a social order in which each man and each woman shall be able to attain to the fullest stature of which they are innately capable, and be recognized by others for what they are, regardless of the fortuitous circumstances of birth or position.
During these highly partisan times, there is a shared recognition that the richer and fuller component of that American dream — upward economic mobility — is not what it once was.
One of the key structural issues that needs to be discussed — and is often the most overlooked in academic and policy circles on economic mobility — is the importance and power of entrepreneurship to enable the American Dream. The mantel of poverty reduction needs to go back to the entrepreneurs as it was entrepreneurship and wealth creation that reduced poverty all around the world in the last few centuries.
Research on economic mobility from economist Raj Chetty and his colleagues at the Equality of Opportunity Project has shown that absolute economic mobility — how many children have higher incomes than their parents did at the same age — went from 90 percent for the 1940s generation to 50 percent for the generation born in the 1980s. Our own research shows that the number for the 80s generation is closer to 73 percent, but that doesn’t change the fact that absolute economic mobility has at the very least stagnated. There is an urgent need to boost upward mobility to help those at the bottom of the income ladder escape and remain out of poverty.
Meanwhile, we have seen a decline in both economic mobility and entrepreneurial dynamism since the 1960s and 70s. These issues should go hand in hand as part of any bipartisan discussion to lift the barriers that stand in the way of people trying to climb the income ladder.
Part of the reason why this might not be the case is the separation of economics from any meaningful teachings on entrepreneurship as described by a thought-provoking article by Nobel Laureate economist Ronald Coase. There are three key topics that reinforce the link between economic mobility and entrepreneurship which need to be explored in more detail in both the literature and in popular narratives on the American Dream.
One of the undeniable facts is that entrepreneurship leads to more opportunities for economic mobility. As research points out, entrepreneurs whose businesses survive for more than five years have higher incomes than their peers who are just wage earners, but more importantly, entrepreneurship and innovation lead to job creation and a wider array of “vehicles” for people to climb the income ladder. The Economic Innovation Group (EIG) reports “new businesses are responsible for nearly all the net new jobs in the U.S. economy.” According to their research, these businesses added 2.9 million net new jobs on average every year between 1992 and 2014, when incumbent companies older than one year “actually shed more workers than they hire in most years.”
Additionally, research from the EIG clearly links the data from their Distressed Communities Index to the economic mobility data from Chetty et al. The index includes key sub variables related to entrepreneurship, such as change in business establishments and change in employment, showing a relationship between these factors.
Exacerbating this fact, there has been a steep decline in the rates of business dynamism in the United States. Business dynamism is the process by which firms continually enter and exit the market as they expand and contract, and jobs are created and destroyed. As the EIG reports, the rate of new business formation or firm entry has plummeted by half since the late 1970s while the rate of business closings or firm exit has remained practically unchanged on average. The Kauffman Foundation confirms this fact as startup density — the number of startup firms per 1,000 firm population — has declined from 165 startups in 1977 to 85 in 2016. Ian Hathaway and Robert E. Litan have also clearly shown this trend in a paper for the Brookings Institution. As they rightly assert: “Research has firmly established that this dynamic process is vital to productivity and sustained economic growth. Entrepreneurs play a critical role in this process, and in net job creation.”
Is the ecosystem for entrepreneurship in the United States more burdensome for startups and business in general than it was in the past? The decline in dynamism and issues like occupational licensing, in which one in four occupations require a license compared to one in 20 back in the 1950s, might suggest so.
On the international front, the data also supports the case for better ecosystems for entrepreneurs that enable more economic mobility. An overlooked fact is that countries that have less inequality and more economic mobility also have excellent ecosystems for entrepreneurship. According to research on economic mobility by academics such as Miles Corak and Markus Jantti, Denmark, Finland, Norway, and Sweden have some of the lowest inequality and highest economic mobility levels in the world. Contrary to the clichéd accounts of high income tax rates and generous welfare systems, it can be said that these countries thrive because of their entrepreneurial ecosystems. They all excel in international indices such as the Doing Business Index, the Global Competitiveness Index, and the Global Innovation Index. It’s also no surprise that these four Scandinavian countries have better institutions and less corruption as evidenced by their top four ranking in the Rule of Law Index. All of these factors reinforce and strengthen the ecosystem for entrepreneurship.
More research is certainly needed, but a sound ecosystem for entrepreneurship, the decline of business dynamism, and economic mobility are clearly connected. In order to rekindle the American Dream of upward mobility, we need to recognize that an ecosystem for entrepreneurship matters. And it matters most for people at the bottom of the income ladder.
A Culture of Entrepreneurship
A second, less-widely held perspective is the importance role of a culture of entrepreneurship. Economic historians like Deirdre McCloskey and Joel Mokyr have done extensive research into the role of culture, rhetoric, and institutions in economic development. Their research contends that what preceded the great industrial revolution and gave way to our modern economy were institutional and cultural changes that affected how we viewed entrepreneurship, innovation, and value creation. Entrepreneurship, trade, and the commercial society have been around for thousands of years across the globe. The essence of what changed is our perception on how noble, virtuous, or dignified we thought it was to engage in those vocations. Essentially, it was a rhetorical and cultural change about how we appreciate the role of entrepreneurship in society that brought about the industrial revolution.
There is a need for people, and mostly entrepreneurs themselves, to recognize the impact that their work has on society as a whole and, most importantly, the poor. I believe we are currently stuck in a mindset of expecting entrepreneurs to virtue signal their support for various causes including income inequality. It seems like the richer component of the American Dream has become frowned upon. You can see this in conversations when we demand entrepreneurs to do more for society by paying their “fair share,” providing higher wages, or offering paid leave benefits. This undervalues their already immense contributions to society as well as leading to ignoring the effect of how doing “more for society” could impact the success of their ventures by creating further barriers to entrepreneurship. A message to entrepreneurs: Being proud of your value creation and fueling an appreciation for entrepreneurship would do more to help the poor than anything else.
Ensuring that everyone has a fair shot at the American Dream should be the key policy priority. If we really want to help the poor and less advantaged in our society, we need to continue fostering and boosting the culture of entrepreneurship that underpins the history of the country and the American Dream. That culture will flourish when entrepreneurs recognize and take pride in their contributions to society and convey their stories and barriers on their road to success. No shortcuts, just hard work and grit within an ecosystem of entrepreneurship that empowers people to thrive, overcome barriers and achieve their own versions of the American Dream.