Finance, Risk and Growth
By Arnold Kling
Forbes Global: Finance is central to your view of creating wealth. Why is it so important?
Brenner: Because finance is what stops persistent mistakes. Competitive financial markets will not provide capital indefinitely to entrepreneurs whose ideas persistently lose money.
Finance also shows you why neoclassical economics is so wrong. Suppose, in the real world, you want to start a new business. For me to finance your business you must show me that you have something unique — otherwise I won’t finance you. Because only your uniqueness will give me a chance to cover the losses on all the other mistakes I will inevitably make. Neoclassical economics says entrepreneurs enter markets with homogenous products. But no one would ever finance a homogenous product.
Brenner was an early proponent of the view that trial-and-error learning produces economic growth, and of the view that entrepreneurial risk-taking is central to this process.
Brenner sees entrepreneurs as motivated by threats to their relative standing. For example, suppose that you have just been fired. You want to restore your position in society, and at this point you have nothing to lose by taking a risk.
Entrepreneurial risk-taking requires finance. In Brenner’s view, well-developed capital markets facilitate easy entry and exit for entrepreneurs. Without finance, entrepreneurs have ideas that cannot be implemented. As David Warsh put it,
According to Brenner, prosperity is the consequence of one thing and one thing only, he writes: “matching talent with capital, and holding both sides accountable.” When capital markets are open, he says, “so-called angels, venture capitalists, banks, investment banks, leveraged buy-out firms and asset-management firms make these matches, betting on the visions of entrepreneurs and managers” and keeping their feet to the fire.
When capital markets are closed, he says, governments, family members and criminal elements decide on the matches, with considerably less salubrious results.
My own decision to become an entrepreneur, when I started Homefair in 1994, somewhat fits Brenner’s model. My status was reduced at my employer, Freddie Mac, because a project that I had struggled for years to launch was taken away from me in a very insulting way just as it earned corporate approval. Also, as I became aware of the Internet, I felt that there would be opportunities there that, if ignored, would leave one even further behind. So I had the “little to lose, a lot to gain” mindset that Brenner associates with entrepreneurialism.
For Discussion. According to Brenner’s view, individuals and firms that have achieved their aspirations become complacent and risk-averse. This means that innovation is less likely to come from large, successful companies. It is easy to think of examples where large firms failed to implement innovations that seemingly were close at hand, such as Xerox’s failure to market the personal computer and networking inventions of its PARC geniuses. Are those typical stories, or man-bites-dog stories?