What Happened To American Innovation? No More Startups Two economists, Edward Prescott and Lee Ohanian, argue in a WSJ op-ed piece that America's innovation engine stalled

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WASHINGTON – A sudden economic crisis, like the unprecedented financial meltdown of 2008, gets everybody’s attention. But a slow decline, like the one America has been experiencing since the end of the recession, can be rationalized and explained away. Indeed, those who sound the alarm are dismissed by the “optimists” as the doom and gloom crowd who cannot see that “the glass is half-full”, really.  

America is in decline

Well, as much as I want to count on America’s resilience and sometimes underestimated ability to bounce back, unless the current slow-growth-declinining-productivity-fewer start-ups trend is reversed, America will soon begin to look like France: a once vibrant economy that turned into a semi-impoverished, zero growth, welfare state.

What happened?

If you want a detailed picture of America’s economic predicament, read “Behind the Productivity Plunge: Fewer Startups”, a WSJ op-ed piece by Edward Prescott, (2004 Nobel Laureate in Economics) and Lee Ohanian, Professor of Economics at UCLA, (June 26, 2014).

In their comprehensive piece, the authors paint a worrisome picture of slower growth, much of it due to declining productivity. They believe that declining productivity is largely a consequence of fewer and fewer startups: minus 30% in 2011 compared with averages from the 1980s.

No startups, lower productivity

And here is the problem. Startups usually mean commercially viable innovation successfully brought to the market. Established companies are rarely engines of innovation because they are often prisoners of the technologies that gave them success in the first place. America’s superior economic performance has been made possible historically by its own version of high powered “creative destruction”.

New and better technologies replace older, less efficient ones at a rapid pace. However, to the extent that nothing new comes to the market, we just stick to the old stuff. And this means declining productivity and slower growth.

Well, if this is so, how do we create the incentives for more startups to be formed? Who knows really. Nobody, so far, managed to craft the right formula that would reliably yield a crop of good innovators that would bring new ideas to market, this way creating jobs and increasing overall productivity.

The way out

That said, Prescott and Ohanian give us their own recipe. They believe that America has created too many fiscal and regulatory impediments that objectively hamper the creation of new businesses. The solution?

“There are clear solutions to these problems —they write. Immigration reform that increases the pool of skilled workers and potential new entrepreneurs. Tax reform that reduces and equalizes marginal tax rates on capital income, including reducing the corporate income tax, which currently exceeds 40% in some states. Reforming Dodd-Frank to make it easier and cheaper for small business to obtain loans. Reducing the regulatory burdens on all businesses.” 

Would the implementation of these policy recommendations do it? May be. However, we shall not know this, because total political paralysis in Washington makes reforms virtually impossible.

Comprehensive immigration reform, a project that would include increasing the number of visas and work permits made available to highly skilled foreigners, is dead in the water.

Fiscal reform, proposed back in 2010, along with entitlement reform, by the “Debt Commission” co-chaired by Alan Simpson and Erskine Bowles, has no chance to happen because of irreconcilable differences between Democrats and Republicans.

Ditto for regulatory reform.

We could argue and speculate as to who is at fault here. Still, I would suggest that America’s success was founded on a shared belief in two equally important principles: genuine free markets, and real opportunity for all.

Overtime, with the best of intentions, policy makers have tried to “guide” markets so that they would work “better”, while they provided special aid to minorities and other groups deemed to lack enough opportunity.

As a result, we have a monstrous, incomprehensible tax code that privileges certain sectors at the expense of others, while penalizing US multinationals that make a lot of money abroad by taxing their foreign earnings. We have created a myriad of exemptions, subsidies and special treatment for this and that “deserving” group.

And finally we have an unmanageable, soon to become fiscally unsustainable, federal entitlements burden. The problem is that our entitlement systems were designed in a different era, with different demographics, and far fewer beneficiaries.

Can we fix this?

All these problems are fixable. But this would require common sense. Our prosperity is founded on broad-based growth. Growth happens because of enterprise led by people who want to take innovation to market. Without new enterprise we have stagnation. And with stagnation we have decline. Decline is not disaster or catastrophe. No, it is simply a downwards slope, characterized by diminished expectations and narrower horizons.

Just look at Europe. Still wealthy in many respects. But lacking real growth, drive, optimism and a sense of self-worth.

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