Economic Growth and the Optimal Level of Entrepreneurship

• We estimate the “growth penalty” of deviating from the entrepreneurship optimal level.
• We account for heterogeneity among developing and developed countries.
• Developing countries have too few entrepreneurs, and greater entrepreneurship increases growth.
• Growth in high-income countries does not suffer from a suboptimal entrepreneurial activity.
• The growth penalty varies with the R&D capability and access to venture capital in a country.

SummaryUsing data from the Global Entrepreneurship Monitor (GEM), we examine data from developed and developing countries to estimate the “growth penalty” over 2003–11 when a country’s entrepreneurship deviates from its optimal level. We account for heterogeneity among countries in the optimal entrepreneurship rate, in the growth penalty from deviating from that optimum, and in other factors affecting growth. Notwithstanding that developing countries have more of their population running nascent small firms than in developed countries, a marginal increase in the entrepreneurship rate in developing countries has a positive effect on growth. On the contrary, in developed countries, there is no evident growth penalty. Supplemental results suggest that is because in developed countries as a whole, entrepreneurship is now close to its optimal level, whereas in developing countries the optimal rates of entrepreneurship are much higher. We also explore how the growth penalty varies with characteristics of the country, allowing us to test theories regarding the relationship between entrepreneurship and growth. We show that higher levels of R&D capability decrease the growth penalty of having too few entrepreneurs, suggesting that entrepreneurship and R&D are substitutes. Availability of venture capital also increases the growth penalty, but only in developing countries, where our data on venture capital best proxy its availability to start-ups.