Entrepreneurship and jobs: Think small
The role of informal entrepreneurship needs to be scaled up and not down, as it doesn’t look like the formal sector can address India’s employment challenge
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Nearly one million new workers will join the labour force every month in India for the next two decades. This is equivalent to the entire population of Sweden joining the labour force in India every year. The pace at which India creates new jobs will determine whether its demographic trend turns into a dividend or a disaster.
Our understanding of what can be done to accelerate the pace of job creation is still evolving. The experience of the US and other developed economies has shown that there is a strong link between entrepreneurship and jobs. Entrepreneurship helps allocate resources efficiently, strengthens competition among firms, supports innovation and new product designs, and promotes trade growth through product variety. Perhaps most important for policymakers, high rates of local entrepreneurship are linked to stronger subsequent job growth.
Multiple studies have examined the role of entrepreneurship in job creation in advanced economies, but there is very little empirical evidence for India. This lack of research hampers the effectiveness of policy efforts to promote job growth through entrepreneurship. We examined the link between entrepreneurship and jobs, in some 900 districts in India, in both manufacturing and services. Within these two industry groups, we also compared the formal and informal sectors (Ejaz Ghani, William R. Kerr and Stephen D. O’Connell, Who Creates Jobs?, World Bank).
India’s economic geography in entrepreneurship is still evolving, unlike in the US where it has matured. At such an early point, and with industrial structures not entrenched, local policies and traits have profound and lasting impacts by shaping where industries plant their roots.
Just like in the US, jobs in India are created by small firms. The two most consistent factors that predict the entry of new firms in any district in India are human infrastructure and physical infrastructure. These patterns are true for both manufacturing and services. This relationship is much stronger in India than that found for the US.
Higher education in a local area increases the supply of entrepreneurs and increases the talent available to entrepreneurs for staffing their companies. Investment in people is an easy call for policymakers. Likewise, local areas must provide adequate electricity, roads, telecom, and water/sanitation facilities. Entrepreneurs are especially dependent upon these public goods. Identifying these attributes and acting upon them is essential to accelerate the pace of job creation.
Unfortunately, entrepreneurship rates in India continue to remain low for its stage of development. Many policy observers have observed that India’s manufacturing sector is underdeveloped relative to economies of similar size, and stronger entrepreneurship will help close these gaps. This will also help move people out of subsistence entrepreneurship and into entrepreneurship in the formal sector. This reallocation will help close India’s productivity gap.
There are several policy levers that can be used to promote start-ups and entrepreneurial growth. Instead of being preoccupied with firm chasing—attracting large firms from other locations—policymakers should shift their focus to improving physical and human infrastructure and encouraging entrepreneurship in their communities. Small is beautiful in job creation.
There are well-understood limits to the pace at which countries can accumulate physical capital, but the limitations on the speed with which the gap in knowledge can be closed are less clear. Because of the strong link between education and entrepreneurship, policymakers should remove any constraints that restrict the growth in the quality and quantity of local colleges and educational institutions.
Along with education, physical infrastructure is also essential to supporting a modern economy. Goods and services cannot be produced and delivered without roads, electricity, and telecommunication. And moving people is as important, if not more important, as moving goods. Investing more in roads, railways, bridges and schools should be an integral part of any jobs agenda. If this is important in the current US context, the role of both infrastructure and education in job creation is even more fundamental in developing countries, where there’s much more to be done than in the US and other advanced economies.
There is no magic formula or one-size-fits-all solution for making cities more enterprising. While there is widespread agreement that entrepreneurship is critical for structural transformation and growth, there is less agreement about what drives entrepreneurship or what government policies encourage and incubate new economic enterprises. Most of the policy research on entrepreneurship has been in the developed world, but even that is just beginning to focus on the causes of entrepreneurial differences across space. Policymakers in the developing world want to better understand the connections between entrepreneurship and growth and how this has an impact on jobs and growth.
The phenomenon of growing informality in the face of rapid growth and urbanization is a relatively new phenomenon. Our understanding of the nature of agglomeration externalities and how they play out for formal and informal enterprises is still at an early stage. The precise reasons for productivity in the informal sector being lower than in the formal sector are still not well understood, especially if agglomeration benefits are much stronger in informal than in formal enterprises.
Perhaps the GST (goods and services tax) reform could bring informal enterprises into the fiscal net so that they can contribute to the services needed for them to flourish. Policy measures to support informal entrepreneurs to create more jobs are also essential. The role of informal entrepreneurship needs to be scaled up and not down, given that it does not look as though job creation in the formal sector has been or is likely to be vigorous enough to meet the employment challenges of India in the next two decades.
Ejaz Ghani is lead economist at the World Bank.