The Entrepreneurial State: Debunking Public vs Private Sector Myths has been critically well-received in the UK by such publications as the Economist and the Financial Times and stands as a refreshing new take and counterpoint to today’s rather stale debates on the economic role of government.
On the one hand, the right celebrates private sector entrepreneurship and so-called free markets as the only sure road to prosperity. The private sector led “creative destruction” process is seen as the key source of capitalist dynamism and growth. On the other hand, progressives tend to stress the role of the state as a needed regulator of economic activity, as a Keynesian backstop to stable growth, and as a vehicle for achieving a fairer distribution of income and wealth. Proponents of a more active government role in the economy are often portrayed by the right as enemies of a successful economy.
In her important new book, Mariana Mazzucato -a Professor of Economics at the University of Sussex- attacks the conventional view that the role of the state should be largely confined to promoting free markets, correcting market failures, and maintaining a low spending, pro free enterprise climate to facilitate private sector entrepreneurship. However, she goes far beyond progressive advocacy of occasional Keynesian interventionism to counter recessions and support for redistributive policies. She argues that state entrepreneurship plays a pivotal role in successful modern economies which has been neglected and, indeed, “hidden in plain sight”.
In a nutshell, she agrees with the famous Austrian economist Joseph Schumpeter that innovation is key to a dynamic capitalism, with the twist that the state is absolutely central to creating a dynamic, innovative – and environmentally sustainable – economy.
It has long been recognized by economists that state support for research and development is important given the fact that the social benefits exceed costs, and that private returns to investment in basic scientific research are highly uncertain and may be very hard to capture. Mazzucato goes several giant steps further in arguing that the most radical and ground-changing new technologies – such as information and communications technologies, new breakthrough drugs, and nanotechnology - are the result of far-sighted investments by a risk-taking, innovative state which “picks winners”, quite contrary to the conventional wisdom, and invests heavily in them.
The state also plays a major role in creating the necessary conditions for widespread adoption and diffusion of system-changing new technologies by a largely risk-averse private sector with mainly short-term horizons. The entrepreneurial state plays a major role, not just in financing and diffusing innovation, but also in shaping and creating new markets so as to bring about major changes of entire economic systems.
Mazzucato details at length the key role played by the US government and its agencies, especially DARPA (the Defence Advance Research Project Agency) and agencies funded by the Department of Energy, in anticipating and developing major new technologies such as the internet and nanotechnology. This was done first through funding of basic research in public labs and universities, and then through a planned transfer of knowledge through grants and subsidies to a much more risk-averse private sector. While venture capital has played a significant role in the development of US advanced technology firms, it is argued that they will not invest in research with truly unknown payoffs, and indeed usually invest only at a relatively late stage of development when the potential for a big commercial payoff is becoming much more clear.
For example, the research behind most breakthrough new pharmaceutical drugs takes place in publicly funded labs, while private sector research and development is mostly focused on later-stage development of new drugs for the market through clinical trials, as well development of “me too” close relatives of already known compounds. Private sector research in the pharmaceutical industry is much more limited in scale than is commonly believed, and is declining as a result of recent pressures on firms to maximize short-term financial returns.
In a particularly telling chapter, “The State Behind the iPhone”, Mazzucato shows that almost all of the basic technological breakthroughs embodied in Apple’s iconic products such as the iPod, iPad and iPhone are the result of decades of US federal government financed innovation. The major new technologies supported by the government, mainly for defence purposes, and incorporated into Apple products include microprocessors, micro hard drives, liquid crystal displays, lithium-ion batteries, the internet, HTTP and HTML protocols, click wheels, multi-touch screens and cellular networks. Apple itself invests relatively little in basic research. To be sure, Apple contributed a lot in terms of integrating these new technologies into beautifully designed and engineered products which are avidly sought by consumers, but the phenomenal success of the company is based upon much more than the widely applauded technological and entrepreneurial savvy of Steve Jobs. The federal government also made equity investments in Apple in its early years, and the public sector contributed a major share of the company’s early market for computers.
Mazzucato also paints in the darker side of Apple success. Not only did the US government get very little direct benefit for major taxpayer investments in the new technology basic building-blocks of Apple products, the US economy benefits surprisingly little from those initial investments in terms of jobs. Apple jobs in the US outside of the corporate head office are mainly in sales. The sophisticated major components inside its products are mainly purchased from foreign manufacturers in South Korea, Taiwan and Japan, while final assembly is contracted out to Foxconn using very low wage labour in China. In 2011, Apples’s top 9 executives earned $441 Million, the equivalent of the annual earnings of 95,000 Foxconn assembly workers. Further, Apple is shown to minimize its corporate taxes through adroit use of foreign subsidiaries. In short, the entrepreneurial US state was a big factor behind Apple’s success, but the myth that only private sector entrepreneurship creates wealth has stood in the way of US taxpayers being fairly rewarded.
In a close examination of the development of new clean energy technologies, especially wind and solar power, Mazzucato underlines the importance of the entrepreneurial state in building major new industries which are a key part of the needed transition to a low carbon, sustainable economy. She shows how state investment in basic research was fundamental to the development of wind and solar power technologies for commercial application and, more importantly, shows how the state set the stage for widespread adoption of these new technologies and displacement of dirtier forms of energy such as coal power in Germany and China. Companies producing wind and solar power have benefitted from cheap, long-term finance as well as “demand creation” policies such as initially high feed-in prices which support the realization of economies of scale. The path forward has been made clear to all of the major players in energy markets, including by imposing regulations, implementing the principle of polluter pay, and creating incentives for change.
In the US and UK, by contrast, the adoption and scaling-up of new energy technologies has been much slower because of inconsistent government support. There has been public investment in research and some use of subsidies, but no long-term, multi-layered plan for a radically changed energy sector. The basic conclusion is that major transformations in energy production can only take place if the state is active in orchestrating that change and intervening in multiple ways, from basic research, to subsidies, to cheap finance, to market-making.
As Mazzucato puts it, the state has to push, and not just nudge.
The Entrepreneurial State is a forceful reminder to progressives that we can and should talk with conviction and enthusiasm, not just about redistribution, but also about the vital role of government in creating a highly productive, innovative and sustainable economy. Markets and companies have an important role to play, but the private sector is often short-sighted and risk averse and has to be pushed in the right direction as part of a long-term vision. Our economic and environmental future demands a much more balanced approach.
A shorter version of this review first appeared in the Globe and Mail's Economy Lab.