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Importance of Startup Businesses

By Chris Edwards, Cato Institute

This Cato study examined the role of startup businesses and the angel investors who fund them. It discussed how startups create jobs, generate innovations, and inject competition into markets.

Covering some of the same ground, a new piece in the Wall Street Journal by Christopher Mims discusses differences between large and small high‐​tech firms. Compared to large firms, small firms tend to have less bureaucracy, assume more risk, act more quickly, and may have better worker incentive structures.

The moment Noam Bardin, former chief executive of navigation app Waze, knew that life at a big company would be profoundly different from running a startup came soon after he sold his company to Google. ‘The first few weeks after the acquisition, we began dealing with the bewildering corporate bureaucracy,’ says Mr. Bardin. ‘What seems natural at a corporation—multiple approvers and meetings for each decision—is completely alien in the startup environment: make quick decisions, change them quickly if you are wrong.’

… big companies of every sort tend to give their employees incentives to be cautious rather than bold, to pursue overly complicated solutions rather than simple ones, and to seek promotions over serving the customer.

[The findings of a new study] show that when inventors join large firms, they get a pay bump, but they also produce fewer new innovations, relative to inventors hired by young firms.

… At big companies, people generate new ideas and get them in front of customers more slowly because of misaligned incentives, bureaucracy and institutional risk aversion, says Mr. Bardin. ‘The people who stay at a big company have to play the same games as everyone else, which means their innovative side doesn’t help them,’ he adds. ‘Their political side is what gets them promoted.’ People at big companies tend to have plenty of good ideas, he adds. The difficulty is with bringing them to fruition.

Both large and small businesses are crucial for a growing economy. We need an ecosystem, or spontaneous order, where both can thrive. What we don’t need is antitrust laws, which give policymakers the impossible task of central planning. What we don’t need is Federal Trade Commission chair Lina Khan deciding what sort of competition is “fair,” as she told Mims.

Rather, we need policymakers to avoid imposing barriers to startups and their financing. They should avoid regulatory burdens that hit small firms harder than large firms. They should repeal entry barriers such as occupational licensing and certificate of need laws. And they should cut America’s high capital gains taxes to support the flow of risk capital to startups.

More policy lessons for startups are discussed here and here.


Chris Edwards occupies the Kilts Family Chair in Fiscal Studies at Cato and is the editor of Down​siz​ing​Gov​ern​ment​.org.