How Many Entrepreneurs Does It Take to Increase GDP?
Pundits, politicians and pollsters constantly talk about growing the economy and growing our way out the current economic recession. But what they are really talking about, at the most basic level, is growing the gross domestic product (GDP) of the United States.
For the last one hundred years, the U.S. economy has grown at about 3 percent a year. But what would our economy and our country look like if we could grow an extra one percent each year? What if we could move the needle from growing the economy at 3 percent a year to 4 percent? And, most importantly, how would you get there?
Robert Litan, the Vice President for Research and Policy at the Kauffman Foundation, recently released a study on this topic called "Inventive Billion Dollar Firms: A Faster Way to Grow" [pdf download]. Litan's research reveals that the U.S. economy would have to generate thirty to sixty inventive "home run" companies that grow to $1 billion in revenue each year to increase GDP. But how did he get to this number?
First, as any good economist would do, Litan makes a few assumptions and lays down a few ground rules. First, he admits that the $1 billion number is just an arbitrary threshold, but he states that if a company is to grow to that level, then it likely possesses social benefits that far outweigh just the private benefits generated by that company. In other words, highly innovative companies generate gains to society that vastly exceed the profits earned by the companies or entrepreneurs themselves. The spillover effects of a billion-dollar company greatly increase its ability to move GDP.
He defines these game-changing companies by their inventive nature. They "bring to the market something new -- a product, service or process -- that generates substantially more benefits to society as a whole than any single entrepreneur, inventor or firm can capture alone." These are not your usual mom and pop dry cleaners or restaurants.
Litan doesn't deny that our economy could get there through many "singles" and "doubles" (high-growth companies that never reach the $1 billion revenue threshold), but it would take longer for us to get there. Billion-dollar firms are a more efficient way to move GDP.
Finally, Litan does the math. Without going into the details, an additional 1 percent of the U.S. GDP of almost $15 trillion would be about $150 billion in output. Litan borrows a model from Yale economist William Nordhaus and, using several assumptions for the profit-to-sales ratio for these inventive companies, he arrives at his answer.
So what would a U.S. economy, humming at 4 percent, look like? How would our lives change if entrepreneurs could create thirty to sixty billion dollar firms each year?
First, GDP would double six years faster (eighteen years versus twenty-four years). When you factor in compounding, this extra one percent would cumulate over a century to produce about three times the level of GDP that would exist otherwise. This increase would dramatically lower poverty levels and reduce the debt of the United States government.
If our economy would have grown at 4 percent rather than three over the last century the average American would be three times as wealthy as we are now.
Could you imagine the average American income at $135,000 rather than today's level of about $45,000? Makes you want to get out and start a company, doesn't it?
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