Our readers may be interested in this excellent WSJ article, Too Risky for Venture Capitalists: Why proposals for a government bailout were roundly rejected. We should all take heart in the the fact that the venture capital community itself resoundingly opposed the notion of accepting a massive infusion of taxpayer money, especially Tom Friedman’s suggestion:
“You want to spend $20 billion of taxpayer money creating jobs?” Mr. Friedman wrote. “Fine. Call up the top 20 venture capital firms in America” and invest the money with them.
But I see three more reasons why those interested in technology policy should pay attention to this encouraging episode.
First, the groundswell of opposition seems to have been driven largely by the Internet, both as a vehicle for disseminating the bailout proposals and for voicing opposition to them:
Venture capitalists certainly agree that innovators and start-up companies, not bailed-out GMs or Chryslers, will create the new jobs. They rightly brag that almost 20% of U.S. gross domestic product is generated by companies built by venture capital, such as Intel, Apple and Google. Still, they almost universally panned the notion of taxpayer support. Their real-time rejection is an excellent example of how social media — here, the venture community dissecting a proposal online — can now quickly take down bad ideas.
Second, it should almost go without saying that venture capital is the fountainhead of innovation, especially the disruptive innovation that is constantly pushing the envelope of technology policy. A healthy VC sector is the bedrock of a dynamic, free and innovative economy. The VCs realize that this requires, more than anything else, avoiding the market distortions caused by government funding:
“The top venture firms don’t want, don’t need and are never going to take government money. The same is true of the top entrepreneurs,” Fred Wilson of New York’s Union Square Ventures wrote on his blog. “The worst firms, on the other hand, will gladly accept government money,” which would go to investors who can’t raise funds privately and to entrepreneurs whose ideas shouldn’t be funded. “It’s a problem of adverse selection….” The idea of direct government funding is also anathema because it would undermine market discipline. Pension funds, endowments and other institutional investors keep a close eye on how their invested money is doing. Venture firms can raise new funds only if their previous performance was good. Several venture capitalists pointed out the irony that government-funded venture capital could mean trading a credit bubble for another technology bubble. Artificially inflating the venture coffers through a government fund could risk repeating the debacle of 1999-2000, when too much money chased too few good ideas, resulting in the sharp deflation of the Internet bubble.
Third, the VC community’s response should serve as a lesson for other industries, but particularly high-tech industries, about how the government subsidies they find attractive today in a time of intense pressure on their bottom lines could ultimately harm them. Instead of jumping on bailout bandwagon, perhaps these industries ought to focus their lobbying efforts on some of the eminently sensible suggestions coming from the VC community, such as the following:
If policy makers want to help entrepreneurs and their investors, there’s no mystery about what’s needed. Immigration needs to be reopened. Venture capital is still available, but the U.S. is now a laggard in the other half of the equation, which is making sure the entrepreneur’s sweat, energy and risk-taking can ultimately pay off. Sarbanes-Oxley helped kill the market for public offerings, which had been a lucrative step for successful start-ups. Income taxes are going up, not down. And the U.S. capital gains tax rate of 15% contrasts with the 0% rate in Hong Kong, Singapore and even Germany, where there’s an understanding that these investments are made with income that’s already been taxed once.
I’ve warned about the dangers of subsidies to the high-tech industry, but I do recognize that the unintended consequences of subsidizing technological innovation may far outstrip those of subsidizing technological infrastructure, which is what the Obama administration seems to be focused on. Indeed, if one is going to spend taxpayer money on any subsidies in the name of “stimulus,” it’s difficult to think of a better way to spend that money than on promoting broadband deployment and adoption (however much of a myth it is that we are lagging behind the rest of the world in these areas).
Still, no matter how worthy the objective, all subsidies distort markets. Few do as much damage as those showered on industries particularly based on risk—e.g., venture capital and financial markets. But whatever these distortions, the Golden Rule still applies: he who has the gold, makes the rules! With government subsidies, come government controls.