Thinking About Doing Business

By Simon Johnson

In class #1 of Entrepreneurship without Borders (at MIT Sloan) we discussed attitudes towards starting a new business.  In many countries, people want to become entrepreneurs, but they can access only limited types of opportunities.  Relatively small established elites, often with strong political connections, are able to mobilize the resources needed to build a company that can do well.  Class #2 focused on the details of the current situation in Portugal – the macroeconomy will presumably begin to improve and the basic enforceability of legal contracts seems fine, but we do yet see a breakthrough in companies being created by new entrepreneurs.  Below is a summary of the discussion in class #3.

The World Bank’s Doing Business indicators offer a rich set of data with many insights into the various barriers facing small and medium-sized business – as well as potential entrepreneurs.  These numbers provide a first-pass comparison across countries focused on (a) regulation, and (b) contract enforcement.

Singapore and Hong Kong are the impressive leaders of the pack (see Table 1.1 on page 3 of the executive summary of this report).  Countries can grow with an unfavorable environment, measured in this way, but this is more likely with a great deal of natural resources (e.g., offshore oil in Angola, ranked #172).  For most countries, it would be wise to look for a set of reforms that make it easier to do business.

Experience in Georgia since the mid-2000s is encouraging.  The government used the Doing Business indicators and related work to target their priorities – and made a great deal of progress, for example in terms of reducing the number of licenses required (for all kinds of activities) and creating a legal fast-track for applications (i.e., pay a premium and get your passport faster).

Regulatory simplification also makes it easier to reduce corruption – the available evidence (from Transparency International; see Appendix C, Table 1, “Bribery rates around the world”) is that Georgia made great progress on that front also.

More generally, some former communist countries have made significant headway in shedding their bureaucratic traditions.  There have also been impressive improvements in sub-Saharan Africa.

The cost and complexity of regulation may be easier to address than legal institutions (i.e., contract enforcement, insolvency regimes, credit information, legal rights of creditors, borrowers, shareholders).

Countries that rank surprisingly low, given their recent economic performance, in the Doing Business rankings include China and India.  In China, this may be an indication it is easier to do business with an official partner of some kind – being a purely private start-up is not always so easy.  And while India varies across sectors – e.g., software continues to be strong – there is plenty of onerous regulation for bricks-and-mortar businesses.

The Doing Business measures are not intended to pick up the size or nature of the opportunity for entrepreneurs.  Is there a big domestic market (e.g., China)?  Is there skilled labor – the talent – that wants to stay put and is available either at lower cost than elsewhere or otherwise better motivated (e.g., Indian software, complemented now by people who have been successful entrepreneurs in the US)?

Perhaps the most sensitive issue of all is labor regulation.  Entrepreneurs want to be able to hire people – and to fire them when they don’t perform or the business does not work out.  This does not sit well with existing labor law in some places – and it is a particularly contentious issue in peripheral Europe (although changes have been made in Portugal and other places).  The World Bank no longer emphasizes this reform – it is mentioned in the Doing Business report but not as part of the main indicators.

The Acemoglu perspective – which I share – is that longer-run institutions tend to predominate.  Reforms in the business environment are possible, and changes at the margin or in some exceptional countries can take place.  But it is hard to escape a long tradition of concentrated power in which only a few people get good opportunities.  And resistance to reform can also come from people in relatively protected positions – previously safe government jobs or regulated professions.

It is also very difficult to compensate people for any loss of power (or job security) as a result of reforms.  Even if they are offered compensation, such promises are not typically credible – once a group has given up power (or safe jobs), there is no incentive to actually provide the compensation.

The bigger question is: how much progress can you make with specific Doing Business-type reforms?  Does this change the political economy of a country – making it more pro-growth or creating broader opportunities for more people?

What kind of reforms just end up concentrating more power in fewer hands?

10 responses to “Thinking About Doing Business

  1. The American “exceptionalism” is the environment where being your own boss, getting rich thereof and having a macro institutional framework that breeds a mindset conducive to entreprneuship.
    However succes thereof is dependent on intellectual capital to spawn new goods and services so growth per Say’s Law which states that supply, meaning application of new technology, creates demand which creates growth when seized by innovative entrepreneurs. Witness the impact of new technologies eg computers. Intellectual capital means higher education especially in STEM subjects. Shortage of STEMs brakes growth.

  2. “Doing Business” must expand its horizons.

    It needs to look at the informal world of businesses, which in many countries is even more significant than the formal sector.

    And it need to look at other issues, like bank regulations, since there is no way you can be “making it more pro-growth or creating broader opportunities for more people” with regulators who allow banks to hold much less capital when financing the AAAristocracy than for instance when financing the entrepreneurs with no houses to offer as collateral.

    And if you ask me, the most important part and ignored part of Doing Business is… how does society view and support “risk-taking” in some countries a bankruptcy procedure is just an ordinary event, in other it shames you for life.

  3. Does anybody really believe that Rwanda is an easier place to do business than most of the OECD countries (http://www.doingbusiness.org/data/exploreeconomies/rwanda/)? The problem with Doing Business is that countries reverse-engineered the questions asked by the World Bank and implemented cosmetic reforms to improve their rankings rather than inplement real questios that change the balance of power between the elites and the common citizes, or between entrenched bureaucracies (which obviously have all the interest in creating a lot of red tap) and entrepeneurs.

  4. “Reverse engineering” Indeed, well said.

  5. You could learn more about ‘doing business’ by reading Howard Schultz’s ‘Pour Your Heart Into It’ than all the World Bank studies ever written.

  6. http://www.pbs.org/newshour/bb/entertainment/july-dec13/burningman_09-13.html

    Need a plan for beating the swords back into ploughshares….something besides “extreme expression” with fire :-)

  7. Pleeeeze don’t cry……. “Former U.S. Treasury Secretary Larry Summers has removed his name for chair of the Federal Reserve, the Wall Street Journal reported on Sunday.

    According to the Wall Street Journal, Summers notified President Barack Obama on Sunday via phone call, and sent a letter shortly after.

    “I have reluctantly concluded that any possible confirmation process for me would be acrimonious and would not serve the interest of the Federal Reserve, the Administration or, ultimately, the interests of the nation’s ongoing economic recovery,” Summers said in the letter. This story is developing.”

    http://www.huffingtonpost.com/2013/09/15/larry-summers-fed-chair_n_3931476.html?utm_hp_ref=business

  8. Stock futures soar as Summers exits Fed race: http://tr.im/4dtls

  9. Simon

    Georgia

    Implemented low level corruption reforms, aimed at police, this is one of the most important reforms, because it frees up the people to live, without undue daily stress of the police. Without constant viewing of associated power structures in negative lights. Actually, throughout the low-level bureaucracy all forms of corruption have been seemingly eradicated. Again, this supports citizens view of the system and increases harmony, reduces dissonance.

    Yet, they still hold higher levels of mistrust for senior leadership, more generally, and believe large corruption prevails. It takes time for trust to return to a society that goes through what Georgia has gone through; the communist, unstable era when people gave up their buildings at gun-point, early post-communist, banking ponzi schemes where all lost everything.

    Now it is much easier to do all sorts of bureaucratic tasks; often electronically. Lessening the face of the bureaucracy, and potential for corruption.

    Problem is with ICT’s and expectations, the financial world got ahead of the real world, asset values got ahead of the real economy. In Georgia credit is available, but the costs of real property are already to high Actually in most of the developing world this is the case, and Georgia is on the lower end of that excess. Assets relative to peoples wages, in addition to cronyism, cycle the potential of the real economy lower and limit avenues for entrepreneurship.

    Returning to Georgia, lovely country to visit.
    Get a mix of old and new.

    Churches dot the lovely landscape. Mountains, Rivers, Pastures.
    Easy to drive side to side.
    Little decrepit/decaying soviet villages (not as bad as Siberia), where 52% OF THE POPULATION reside, the older people.

    Great Wine and Vodka; an interesting short break for the unique local cuisine. Easy to visit if not requiring tours, and like seeing the normal, a bit different.

    Landscapes astound.