5 Ways the British Can Build an Entrepreneurial State - And What the U.S. Can Learn
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Industrial policy is back on the agenda, not least due to the leaked letter this week by Vince Cable to the Prime Minister asking for a growth policy with a more "compelling vision" of the future. This is good news so long as the discussion moves beyond the fear about "picking winners". There is no point in talking about innovation, if economic policies focused on austerity prevent key investments which can increase productivity and human capital.
There are five strategies that could drive a visionary industrial growth policy for the UK.
1. Do something different
As Keynes wrote in 1926 in The End of Laissez Faire, "The important thing for government is not to do things which individuals are doing already, and to do them a little better or a little worse; but to do those things which at present are not done at all."
His key insight was that private business investment is volatile and pro-cyclical: too much during booms and too little during busts. To avoid recessions turning into depressions, government needs to focus on counter-cyclical policies -- the opposite of what is happening today. But the focus on "doing something different" is not just about counter-cyclical measures. It is also about the need for government to focus on policies that cause types of economic activity that would not have happened otherwise. Industrial policy is about making this happen in the areas of productivity enhancing investments that lead to growth and innovation.
2. Transform animal spirits into investment
Since investment is driven by "animal spirits" (the gut expectations that investors have on the future state of the economy), a key role of government is to get that investment moving. Large reductions in corporate tax rates did not increase investment in the 80s nor will they today (they simply change income distribution). Government-led investments that open up new technological and market opportunities will. This includes not only properly funding education and research infrastructures but also providing early financing for innovative firms, and new key technologies, which private venture capital has proven too risk averse to fund. Without the state there would have been no internet revolution, biotech revolution or nanotech revolution. Without the state, the green-tech revolution is still-born.
One of the failures of current UK policy is the assumption that firms want to grow, and all they need is a "nudge" in the right direction. While the Green Investment Bank is surely a positive development, it assumes that the willingness to invest is there and all that is needed is some co-financing. But "green" investment is currently confined to incremental areas, and the government is not stepping in to fill the gap. The UK's investment of £12.6 billion in this area in 2009/10 is, according to PIRC, "under 1 per cent of UK Gross Domestic Product; half of what South Korea currently invests in green technologies annually; and less than what the UK presently spend on furniture in a year".
3. Market making not market fixing
What I have called the "entrepreneurial state" is not about fixing markets but creating them. The state has acted in the past as catalyst, lead investor and creator (not just facilitator) of the knowledge economy. This requires far-sighted investments in technologies that are too risky for the private sector, such as offshore wind and carbon capture and storage. It also involves the creation of clear policy signals that increase business confidence in areas that are otherwise seen to be too high risk, such as feed-in tariffs for solar energy (recently cancelled in the UK causing even more uncertainty and less investment).