The Illusions of Entrepreneurship: The Costly Myths That Entrepreneurs, Investors, and Policy Makers Live By / Edition 1

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Overview

There are far more entrepreneurs than most people realize. But the failure rate of new businesses is disappointingly high, and the economic impact of most of them disappointingly low, suggesting that enthusiastic would-be entrepreneurs and their investors all too often operate under a false set of assumptions.

 

This book shows that the reality of entrepreneurship is decidedly different from the myths that have come to surround it. Scott Shane, a leading expert in entrepreneurial activity in the United States and other countries, draws on the data from extensive research to provide accurate, useful information about who becomes an entrepreneur and why, how businesses are started, which factors lead to success, and which predict a likely failure.

 

The Illusions of Entrepreneurship is an essential resource for everyone who has dreamed of starting a new business, for investors in start-ups, for policy makers attempting to facilitate the formation and survival of new businesses, and for researchers interested in the economic impact of entrepreneurial activity. Scott Shane offers research-based answers to these questions and many others:

·        Why do people start businesses?

·        What industries are popular for start-ups?

·        How many jobs do new businesses create?

·        How do entrepreneurs finance their start-ups?

·        What makes some locations and some countries more entrepreneurial than others?

·        What are the characteristics of the typical entrepreneur?

·        How well does the typical start-up perform?

·        What strategies contribute to the survival and profitability of new businesses over time?

 

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Editorial Reviews

Entrepreneur Magazine

"Business scholar Scott Shane debunks popular theories with research-based answers to questions such as why people start businesses, which industries are most popular for startups and what are the most common characteristics of the typical entrepreneur.”—Mark Henricks, Entrepreneur Magazine

— Mark Henricks

Inside Business

“The lessons in this book will perhaps save its readers a bundle of money that would otherwise be wasted on an ill-conceived business idea.”—Morgan Lewis Jr., Inside Business

— Morgan Lewis Jr.,

The Industry Standard

"The belief that the U.S. is a relative haven for small businesses is one of the many bubbles burst by Scott Shane. . . . While he''s busting myths, Shane also unveils weaknesses in common entrepreneur practices."—Mark Henricks, The Industry Standard

— Mark Henricks

Toronto Globe and Mail

“[This] book is important not just for clearing our minds of what''s erroneous but for reconsidering our public policy, which is based on the widespread feeling that startups are a magic bullet that will create a lot of jobs and generate innovation.”—Harvey Schachter, Toronto Globe and Mail

— Harvey Schachter

Wall Street Journal

"For its myth-busting findings and analytical
— Nick Schulz

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Product Details

  • ISBN-13: 9780300113310
  • Publisher: Yale University Press
  • Publication date: 1/28/2008
  • Edition description: New Edition
  • Edition number: 1
  • Pages: 224
  • Product dimensions: 9.50 (w) x 6.30 (h) x 0.76 (d)

Meet the Author

Scott A. Shane is A. Malachi Mixon III Professor of Entrepreneurial Studies, Weatherhead School of Management, Case Western Reserve University. He is the author or editor of eleven books and more than sixty scholarly articles on entrepreneurship and innovation management. He lives in Shaker Heights, OH.

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Read an Excerpt

The Illusions of Entrepreneurship
The Costly Myths That Entrepreneurs, Investors, and Policy Makers Live By
By Scott A. Shane
Yale University Press
Copyright © 2008 Yale University
All right reserved.

ISBN: 978-0-300-11331-0



Chapter One
America: Land of Entrepreneurship in an Entrepreneurial Era?

Suppose you're a policy maker interested in encouraging more people to become entrepreneurs, or you're thinking of becoming an entrepreneur yourself, or you're just an interested citizen who thinks start-ups are a good thing. You might want to understand some basic facts about entrepreneurship in America. Things like: Do Americans start a lot of companies? Are more people starting companies than used to? Why do some places have more start-ups than others? The answers to these questions will tell you where and when new companies are created and what factors affect their formation.

You soon realize that finding answers to these questions is pretty easy. Policy makers and entrepreneurs, investors and interested observers-they know the answers, and they're willing to tell you. They say that the world of big companies is over. More and more people are becoming entrepreneurs every year because people, fed up with a lack of job security and with a desire to do their own thing, are fleeing from the corporate world and starting businesses in ever-increasing numbers. In fact, your spin around the World Wide Web and your look in your local bookstore quickly tells you that:

· "Over the past decade or so, the emergence of a new entrepreneurial economy in America has begun. There has been significant growth in entrepreneurial start-ups and small businesses now are the engine of this economy." · "Observers comparing the U.S. economy to the economies of other countries often note that Americans seem much more willing to become entrepreneurs." · "We are in the midst of the largest entrepreneurial surge this country has ever seen."

Everyone seems to be giving the same answer, and so it seems it must be true. But a little voice inside is nagging you, asking where's the data that backs up these views? If everyone has the same answers, then surely you should be able to find the data to support them.

Unfortunately, the policy makers and the pundits, the entrepreneurs and the experts don't give you the data. In fact, everyone's so convinced that these experts are right that no one has bothered to check the data to see if their answers are correct. If you dug a little deeper and found the data, you'd be surprised. The commonly accepted answers to these questions turn out to be incorrect. The received wisdom about trends in business formation, about how entrepreneurial America is, and about what leads places to have a lot of start-ups is wrong.

Let's take a closer look.

The Number of Entrepreneurs Isn't Growing

The proportion of the U.S. population that is starting businesses isn't growing; in fact, it might be shrinking. The data show that the rate of entrepreneurship in this country has been flat or declining over the past twenty years. For example, the Survey of Consumer Finances, a survey administered every three years by the Federal Reserve's Board of Governors to a representative sample of American households, measures a snapshot of the finances of American households at a moment in time. The results show that the proportion of America households owning a business declined from 14.2 percent in 1983 to 11.5 percent in 2004.

But since so many people believe that this is the most entrepreneurial era in American history, you need to be really sure of the data before you give up the idea. Besides, business ownership might not be the right measure of entrepreneurial activity because it includes business owners who started their companies quite a while ago rather than just those people who are starting new businesses now.

Here is another measure: since the mid-1990s, Paul Reynolds, a business demographer and sociologist at Florida International University, has examined the number of people who are starting new businesses in the United States every year. Using data collected from a representative sample of people between the ages of 18 and 70, Reynolds measures something that he calls "total entrepreneurial activity," which combines the number people who are in the process of starting a business every year with people who own and manage a business started in the previous three-and-a-half years. Professor Reynolds's total entrepreneurial activity measure shows that entrepreneurial activity in this country was essentially constant from 1998 through 2006.

Unfortunately, Reynolds' data don't go back much further (he gathered data in a couple of other years but he used slightly different methods to gather them), so his measures can't be used to give us a long-term estimate of trends in new business formation in the United States. But we can look at other data to try to tease out the longer-term patterns.

The U.S. Small Business Administration (SBA) provides one source of data on this question. The SBA measures the number of new "employer firms" created every year. (An employer firm is a business that has at least one employee.) To use the SBA data on the number of new employer firms created every year to measure the rate of new business formation annually, we need to normalize it by dividing it by the U.S. population, which grows every year. Figure 1.1 shows the birth of new employer firms measured on a per capita basis. It reveals that the per capita rate of new employer business formation in the United States declined from 1990 to 1992, then rose until the mid-1990s, subsequently declined until 2002, and has since increased from the lows of that year.

But new employer businesses are only a small fraction (roughly 25 percent) of the new businesses founded in the United States because three-quarters of all new businesses have no employees. Therefore, we might want to look at another measure of entrepreneurship-self-employment-to confirm that start-up rates are not increasing over time. The Bureau of Labor Statistics and the Census Bureau measure how much of the labor force is self-employed every year through their Current Population Survey. This survey asks people to identify their status in the workforce as "out of the workforce," "wage employed," "unemployed," or "self-employed."

The statistical agencies actually measure two types of self-employment: unincorporated self-employment and incorporated self-employment. The former being people who are self-employed and who do not report that they run a corporation, the latter being self-employed owners of a corporation. Neither measure suggests that the rate of entrepreneurship is increasing in the United States. The rate of unincorporated self-employment was basically unchanged during the 1980s and first half of the 1990s and has been declining ever since (see figure 1.2).

However, these data do not take into account the 3 percent of the work force composed of self-employed people who run incorporated businesses and so might undercount enterpreneurs. To get an accurate picture of the self-employed, we also need to look at data on this group of people. When we put together the data on incorporated and unincorporated self-employed, the trend in self-employment appears to be flat: incorporated self-employment is on a slight upward trend, but that trend is largely offset by the downward trend in the unincorporated self-employed (see figure 1.3).

The Bureau of Labor Statistics has been gathering self-employment data annually using a similar methodology for the past couple of decades. Therefore, we can produce nice figures tracking the rate of self-employment annually over the 1980s and 1990s. This trend, however, is not new. If we go back to 1948, the first year for which we have annual data on the unincorporated nonagricultural self-employment rate, we can see that it was then 12 percent of the labor force, much higher than it is today. In fact, the nonagricultural self-employment rate in 2004 was 58 percent of what it was in 1948. Moreover, we can look at census data on self-employment going back to 1910. Economists who have looked at this historical data (which is less reliable than the data collected from 1948 to today) have found that the self-employment rate in the United States was much higher in 1910 than it was in 2004. In short, the rate of self-employment in the United States has been declining for many decades.

This declining rate is not unique to the United States. The story is the same in other Organization for Economic Cooperation and Development (OECD) countries (Australia, Austria, Belgium, Canada, Czech Republic, Denmark, Finland, France, Germany, Greece, Hungary, Iceland, Ireland, Italy, Japan, Korea, Luxembourg, Mexico, Netherlands, New Zealand, Norway, Poland, Portugal, Slovak Republic, Spain, Sweden, Switzerland, Turkey, United Kingdom, and the United States). The trends in self-employment rates from 1955 to 2002 go in a downward direction in all of the OECD countries except Portugal, New Zealand, and the United Kingdom.

A last bit of data looks at different cohorts of people-people who graduated from school in the same year-to see how their rate of self-employment changes over time. These cohort studies show virtually no movement in self-employment rates. For example, one careful study examined the National Graduates Survey in Canada. This survey polled a representative sample of college graduates in Canada who finished school in 1982, 1986, 1990, and 1995. The data indicate that the different cohorts all have the same likelihood of being self-employed at two and five years after graduation, despite the economic, political, and social changes that occurred in Canada between 1982 and 2000.

So what's the message here? Regardless of whether you measure entrepreneurship as people who are starting a business, new employer firms, or incorporated and unincorporated self-employment, there has been no trend toward increasing entrepreneurship in the United States (or most other developed nations) over the past twenty years. Contrary to the opinions of many people, we have not entered a more entrepreneurial era of history.

The United States Is Less Entrepreneurial Than You Think

Everyone says that the United States is one of the most entrepreneurial countries in the world-a place where a larger portion of the population starts or owns his own business than in virtually any other country in the world. Do the data agree?

They don't. For all the talk about how often Americans start businesses, we do it a lot less often than people in other countries. Measured by the rate at which people go to work for themselves, Turks are four times as likely as Americans to start their own businesses. Measured by the percentage of the working-age population in the process of starting a business or owning and operating a new business founded in the past three-and-a-half years, Peruvians are three-and-a-half times as likely as Americans to become entrepreneurs. In fact, whether we measure entrepreneurship by the percentage of the population that is self-employed or as the percentage of the population that is in the process of starting a new business, the United States is nowhere near the top group of nations. Don't believe me? Take a look at the data in table 1.1, which shows that the United States is close to the bottom of the pack of OECD countries on the rate of self-employment in both 1992 and 2002.

The United States is also in the bottom third of countries when measured by the number of young businesses per capita, the proportion of the population that owns and manages a business that has been in operation for at least three-and-a-half years (see table 1.2). Moreover, the United States is right in the middle of the countries when it comes to new business formation per capita, the proportion of the population that owns and manages a business that has been in operation for at least three months.

Clearly, the myth is wrong. Americans aren't among the most likely in the world to start businesses. Far from it.

Why Do Some Countries Have More Start-Ups Than Others?

The data clearly show that new business formation is much more common in some countries than in others. For example, at any given point in time, only about 3 percent of the working-age population in Japan is starting a business, while in Thailand almost three times as many people (20 percent of the working-age population) are starting a business.

Moreover, this isn't a one-year aberration. As we saw earlier for the United States, a country's rate of new business formation tends to change very little from year to year. That is, places that have a lot of people starting companies in one year tend to have a lot of people starting companies in the next year, whereas countries with few people starting companies at one point in time tend to have few people starting companies at other points in time.

Why is starting a company more common in some countries than in others? People have offered a lot of explanations. Some explanations focus on taxes, regulations, access to capital, legal systems, and property rights; others revolve around culture or attitudes. The French, for instance, are believed to be too interested in drinking wine and arguing about politics to start companies, while the Japanese are all just "salary men," too buttoned down to start their own businesses.

Although these things might matter, they aren't the primary explanation for why some countries have so many start-ups and others do not. If you leave all of the armchair experts' explanations aside and look at the data, you may be surprised. The key factor that explains the rate at which people start businesses is a country's wealth. But the direction of this relationship isn't the way people might expect: the wealthier a country is (the higher its per capita gross domestic product), the lower is its rate of self-employment, and the smaller the percentage of its working-age population that is in the process of starting a business or has recently started a business at a given point in time. In fact, data from the Global Entrepreneurship Monitor, a survey of new business formation by people between the ages of 18 and 68 in 44 countries from 2000 to 2004 indicates that developing countries have a much higher rate of new business creation than developed countries. For example, the percentage of the working-age population in Peru, Uganda, Ecuador and Venezuela starting businesses is more than twice that of the United States.

What's going on here? Why do richer countries have fewer people starting businesses than poorer ones? Economists have examined this question, and they have an answer. As countries become wealthier, the average wage paid to workers goes up. These wage increases encourage business owners to use machines to replace work that used to be done by hand. Capital (the machinery) is subject to greater economies of scale-the reduction in the cost of production that comes from generating things in higher volume-than labor. As a result, the increased use of capital leads companies to grow in size. For these companies to get bigger, people have to quit working for themselves and go to work for other people instead. This shift from self-employment to wage employment that occurs as countries get richer drives down the percentage of the population that is starting companies at any point in time.

Moreover, when countries get wealthier and real wages (wages net of the effects of inflation) rise, the opportunity cost of running your own business goes up because the amount of money that you could have earned working for someone else increases. This increased opportunity cost leads more people to go to work for others than was the case when real wages were lower. As a result, the proportion of the population starting companies decreases.

Finally, as countries get richer, they change where economic value is created; first from agriculture to manufacturing, and then from manufacturing to services. As the source of economic value shifts toward activities where self-employment is less common, like manufacturing, from activities where self-employment is more common, like agriculture, the proportion of people running their own businesses drops. In fact, the shift from a primarily agricultural economy to a more manufacturing-based one leads to a large reduction in the proportion of the population that works for itself because farmers usually run their own businesses, whereas manufacturing workers do not.

The data show that as countries reduce their reliance on agriculture as a source of economic value, the proportion of their population engaged in entrepreneurship-whether measured by self-employment or by starting a business at a point in time-goes down. For example, in the United States, the decline in the importance of agriculture to the overall economy led to a decline in the unincorporated self-employment rates from 12 percent in 1948 to 7.5 percent in 2003.

(Continues...)



Excerpted from The Illusions of Entrepreneurship by Scott A. Shane Copyright © 2008 by Yale University. Excerpted by permission.
All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.
Excerpts are provided by Dial-A-Book Inc. solely for the personal use of visitors to this web site.

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Table of Contents

Acknowledgments     ix
Introduction     1
America: Land of Entrepreneurship in an Entrepreneurial Era?     9
What Are Today's Entrepreneurial Industries?     30
Who Becomes an Entrepreneur?     40
What Does the Typical Start-Up Look Like?     64
How Are New Businesses Financed?     79
How Well Does the Typical Entrepreneur Do?     97
What Makes Some Entrepreneurs More Successful Than Others?     111
Why Don't Women Start More Companies?     125
Why Is Black Entrepreneurship So Rare?     135
How Valuable Is the Average Start-Up?     146
Conclusion     160
Notes     167
Index     201
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  • Anonymous

    Posted January 10, 2008

    A reviewer

    A really useful look at entrepreneurship. So many books on the subject are written as cookbooks. Shane helps thoughtful people look in-depth at the business of being an entrepreneur. He presents some really interesting new data about how entrepreneurship fits into the economy. He takes the reader through some hard facts about what it takes to be successful. And, his book is very readable. This is a must-read for VCs, academics and anyone interested in understanding the leap into entrepreneruship before they make it.

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  • Anonymous

    Posted November 29, 2010

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