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Cutting Anti-entrepreneurial Red Tape through Smart Regulation

on August 17, 2009 Source: Policy Dialogue on Entrepreneurship

As with any politically loaded term, any attempt at honestdiscussion of ‘regulation’ risks getting caught up in a web ofassumptions and intellectual shortcuts.  One common fallacy is to putgovernment regulation (e.g. patent laws, health care, tax complianceregulations, etc.) on one end of a continuum in which innovation andentrepreneurship are the opposite policy preference. However, judgingby the discussion at the National Academy of Public Administration(NAPA) conference on regulation and innovation,a new approach seems to be emerging in innovation discussions: that thefreedom to innovate is not governed by how much or how littleregulation innovators face, but how smart it is. 

Entrepreneurs,the drivers of the economic recovery, have the most to gain from asmart, sensible regulatory environment because their ventures tend tobe smaller in size, and thus often bear a disproportionate cost of regulation.Small firms do not have the large legal and compliance staffs of largercompanies, and therefore find compliance to be more difficult andexpensive.

Unfortunately, not all federal regulatory statutes currently require the agencies that set rules to satisfy a benefit-cost and a cost-effectiveness test beforeissuing those rules. As a result, government might be “over-correcting”market failures, hurting entrepreneurship and thereby impairingeconomic growth. For example, strict regulations currently govern thecommercialization of new technologies developed in any of thegovernment’s laboratories.

Our leaders should pay particularattention to “market-like” or of market-assisted regulation approachesto regulation (e.g., using tradable pollution permits) whereverpossible. Regulation that utilizes market-oriented approaches ratherthan direct controls is often more cost-effective because it enlists competitive pressures for social purposes,according to an Office of Management and Budget study. Further, thevarious government levels should work together to establish a clearinghouse of benefit and cost information on rules.

Ofcourse, another critical feature of innovation-friendly regulation isavoiding ‘industry capture.’  All too often the structure of regulationprivilege large, established firms as they seek to raise barriersagainst up and coming competitors. Arti Rai from Duke University notedthe dilemma: “innovation comes disproportionately from small firms, yetthey lack the ability to influence agencies.” 

The regulation of entry is a critical issue. Cross-country evidence showsthat regulation plays a critical role in the individual decision tostart a new business. The same research showed that even individualswho have business skills and social connections are less likely toengage in new entrepreneurial activity when entry regulation is morestringent.

A regulatory approach that that recognizes theinnovating role of small startup enterprises throughout the economy canenhance productivity and competitiveness by increasing innovation andtechnological diffusion. If there was ever a time to ‘get smart’ onregulation and innovation, it is certainly now.


JonathanOrtmans is a senior fellow at the Kauffman Foundation where he focuseson public policies to promote entrepreneurship in the U.S. and aroundthe world. In addition, he serves as president of the Public ForumInstitute, a non-partisan organization dedicated to fostering dialogueon important policy issues.

Category:  Red Tape 

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