Government "investing in small businesses" is a crock.

A recent press announcement reported that Scottish Enterprise, the main economic development agency funded by the Scottish Government, has  £15.2 million investment in Aquamarine, a wave energy company that went bankrupt last year, following a £16.3 million investment in Pelamis, another wave energy company, which was biggest write-off in the agency’s 25 year history.

One thing you can guarantee is that if the government has to fund it, it’s not worth funding.

To most people the idea of Government giving grants to small businesses is relatively benign. I mean, why not give the little guy a leg up to compete with the big boys?

Well because this attitude belies a basic lack of understanding of market forces and the role of the investor on a free market.

The purpose of an investor is to try to predict – from all of the potential projects and producers they can possibly choose from – which ideas are most likely to be successful. Consumers have to make choices over what to buy with their limited resources out of literally every product that is available to them, so what they buy is a pretty good indication of what they value. Managing to guess correctly what people are going to want in the future is no easy feat, and doing it well really is providing an invaluable service by limiting waste through overproduction of things people don’t want, and the allocation of resources to promote advancements which people decide, of their free volition, improve their lives.

If an investor chooses wisely then they will receive a more generous a return on their investment, if they choose poorly they forfeit their outlay. This means that people who make good decisions with financial resources become more wealthy and have more resources to invest in projects, while those who make bad decisions will soon find themselves out of pocket with less capital to squander on wasteful investments. In this way the market has a natural mechanism for allocating resources to good custodians of those resources: people who excel at spotting a good idea.

It’s a beautiful system because the only way investors can grow their wealth is by making it available to the community. If they decide to spend it instead it goes to someone else, if they hide it under a mattress their wealth will stagnate, and if they save it in a bank someone else will lend it out on their behalf.

Government simply does not have “skin in the game” and therefore is likely to allocate money along political lines rather than those which serve the preferences of average individuals.

There remains a prevalent belief that the enlightened self-interest of investors who stand to gain from investing will be insufficient to inspire the rich to part with their money, and so there is a necessary role for Government to step in as an investor. This, in fact, was one of the central doctrines of John Maynard Keynes who believed that markets, left to their own devices, were likely to suffer from a chronic lack of investment as-such because they were inherently unstable, and so there was really no rational basis for making investments in long term projects. I would contend that if entrepreneurs who do have “skin in the game” are unwilling to risk their hard-earned pennies on a potential failure then the government certainly has no place playing poker with the hard-earned pounds of the tax payer. More could be said, but a further discussion of Keynes (and his errors) will have to wait as it goes without the remit of this article.

Fundamentally, the idea that small business will always be at the mercy of large conglomerates is largely a leftie myth. Yes, in several ways big business has the advantage – they can buy inputs in bulk for cheaper giving them economies of scale, they can avail themselves of large advertising campaigns, they can (regrettably) lobby the government for special privileges, contracts and unearned advantages, and may have other privileges, but they are at a disadvantage in at least one important respect. The larger a company is the more difficult it is for any one individual or group of individuals to keep a handle on all the relevant information necessary for making good decisions in the interests of the entire body. Large organisations tend to chunk down into smaller bodies of up to 150 people, and then these bodies have to be coordinated from the top down. Because of this, some areas of the body are likely to be running more inefficiently than others, and changing the protocols of production over a mass scale may be slow, and slower still the larger scale the production is. Picture the relative difficult in changing the course of an oil tanker as opposed to a number of smaller, more agile crafts. Small agile businesses – which may not be able to compete with Goliath competitors as a whole – can still chip away at sections of their markets by being more in touch with consumer preferences on the ground. They can cater to niche preferences with personalised services and superior, custom-made products, while Goliaths produce standardised products for mass consumption. A good selection of Davids and Goliaths will give consumers the best choice. A large company may be in many markets, while a David only needs to monitor a few, and can monitor them with precise clarity owing to the small scale of their operations. A number of Davids can chip away at a Goliath from all angles and even bring him down if he gets too complacent.

Sometimes people worry that large corporations will just buy out successful small businesses to prevent this from ever happening, but even those worries are misplaced. If David has a great product, and Goliath has a large infrastructure and access to larger markets, absorbing David’s product into his company can only help a far greater number of people get access to whatever advancement might otherwise remain a niche product.

All this is not to say that there is nothing government can do to even the playing-field for start-ups. There are many ways the Government can help small businesses compete with large established conglomerates, and in doing so help increase the number and quality of option available to consumers, but these do not involve handing out tax payer money to pet projects. Making it easy for small businesses to hire people without too much (or any) form filling and bureaucracy will save them time and money consulting experts, simplifying the tax code will stop them having to employ expensive accountants, and stripping back the regulatory structure so that rules are intuitive and easy to comply with will save a heap on lawyers. Big businesses can afford to have these employees on staff, small businesses often cannot.

When anyone can start selling and hiring the moment they have an idea for an innovative new business we will soon see a renaissance of people “pulling themselves up by the bootstraps.”
Source: Seeing Not Seen

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