More Blame for Wall Street: It's Crushing Entrepreneurship

Wall Street's been blamed for a lot of things lately: the subprime mortgage crisis, then the wider banking crisis, the parlous state of the economy, and occasionally, the decline of Western Civilization. Now the Ewing Marion Kauffman Foundation has a new one: Wall Street is responsible for the suppression of innovation and a weakened state of entrepreneurship. "The financial services industry's steady rise has had a cannibalizing effect on entrepreneurship in the U.S. economy," writes Paul Kedrovsky, a senior fellow with the Kauffman Foundation.

Kedrovsky's thesis is pretty much guaranteed to raise hackles among that segment of Wall Street that has long claimed a role as the quintessential booster of entrepreneurship-without robust capital markets, where would entrepreneurs get the money to expand? What's entrepreneurship without the dream of the IPO? (We may be in the process of discovering the answer to that question, but that's a topic for another post). And isn't it unfair to blame Wall Street for suppressing innovation at the same time that it gets hammered for developing financial products that were so innovative that, although precious few understood them, they produced huge gains for some and ruinous losses for others?

That Sucking Sound
Kedrovsky's argument, stated in a paper called Financialization and Its Entrepreneurial Consequences, goes like this: The financial sector has become increasingly reliant on collateralized debt obligations. These financial instruments are so complex that the industry is forced to recruit heavily among master's and PhD graduates in math, physics, science and engineering, paying them five times what they would have made had they stayed in their own field. Kedrovsky says these graduates of the hard sciences are exactly the people who would otherwise start new high-growth businesses. But once they're properly ensconced on the Street, that's unlikely to happen. The result: U.S. entrepreneurship rates that have plateaued since 1990.

Kedrovsky and co-author Dane Stangler recognize that this is a tough argument to make. Lacking the data that would let them know exactly why a given group of people went to work on Wall Street instead of in labs, the paper is filled with words like "seems" and "might."Perhaps the most persuasive statistic comes from the Massachusetts Institute of Technology, where almost 25 percent of all graduates decamped to Wall Street after finishing their 2006 degrees, compared to just 18 percent in 2003. But post-crisis, that number dropped significantly. In 2009, only about 8 percent of MIT grads went to work in the financial sector.

Are these really our entrepreneurs?
The bigger question is whether or not these graduates-from MIT and other universities-really would have gone on to found world-beating startups. I can't answer this question any more definitively than Kedrovsky and Stangler. But a look at the Inc. 500 shows that there's a whole lot of innovation that comes from places other than MIT. Only 50 of the 2009 Inc 500 companies are in computer hardware, engineering, software or telecommunications. Another 48 are in IT services. And while sciences grads might not want to take the risk of starting a company after a comfortable career on Wall Street, you could just as easily argue that for those who are truly entrepreneurial, a few years on Wall Street would provide them with just the bankroll they need to get started.

Even if Kedrosky and Stangler are on to something, it seems a bit premature to be blaming the perceived weak state of U.S. entrepreneurship on Wall Street. Kauffman's own research shows that on average, future tech entrepreneurs with bachelor's degrees waited more than 16 years before starting their first company. Those with masters degrees took about 15 years, and it took PhD's a whopping 21 years to get around to it. So if Wall Street really is robbing us of great entrepreneurs, chances are it's way too soon to tell.

Do you think Wall Street is to blame for flat rates of entrepreneurship? What else might be the cause?

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