Saturday, February 24, 2007

Why We Need Income Inequality

Almost 18 months ago, I wrote a post agreeing with and summarizing Paul Graham's essay on why attacking income inequality would kill the market for startups. Here's the essentials:

"Economic inequality" is one of those terms which "frames" a debate. After all, who can be against "equality?"

Yet Paul shows in with clear, inevitable logic that trying to get rid of economic inequality kills startups.

Here's the chain:
Get rid of income equality ==> Take money from the rich
Take money from the rich ==> Decrease the willingness to take risks
Decrease the willingness to take risks ==> Kill startups
Kill startups ==> Decrease growth in new technology and new jobs

Almost 18 months later, an anonymous commenter wrote:

If wealth is distributed to all people in a more equitable manner, it does [not] follow that it will kill start-ups.

While the willingness to take risk may decrease some for the once-ultrarich, the once-poor willingness to take risk may increase. Those who have been struggling to make ends meet will have more security and the fina[n]cial ability to follow their dreams. The difference may be that the way start-ups would begin would change.

Furthermore, it is not necessary for startups to begin with a large amount of money.

The logic is full of holes... be more wary of accepting an argument because it is well presented.

I was a bit miffed, not just because someone was implying that I wasn't using my reasoning faculties, but also because the person commented anonymously, preventing me from starting a dialogue.

So if you are out there, anonymous commenter, here is my response:

There are two key flaws in his or her argument (for the sake of brevity, I'll use the male pronoun for the rest of this comment.

1) He argues that wealth increases the propensity to take risks, and that because the effect of this is higher at the low end of the income scale, lowering inequality by taking from the rich and giving to the poor will increase startup activity.

The problem here is that the key impact that wealth has on startups is the motivation that potential wealth provides, not the capability that actual wealth provides.

Entrepreneurs start companies dreaming of building the next Google and becoming a billionaire. They don't create breakthrough companies because of a desire for a comfortable salary.

It's certainly true that being poor makes it nearly impossible to take the risk of starting a company (though many have done so anyways). But it's even more true that without the prospect of phenomenal success, few would go through the incredible stress and heartache of starting a company.

2) He argues that Graham's argument is false because startups don't need a lot of money to begin. Again, he seems to have missed the point. Steve Jobs and Steve Wozniak didn't need a lot of money to start Apple. Sergey Brin and Larry Page were poor grad students when they started Google. Ditto for Jerry Yang and Dave Filo of Yahoo.The point is that if we took away the outrageous rewards of success, simple supply and demand will dictate that people will gravitate instead towards safer, lower-variance jobs.

If startups didn't offer the prospect of incredible wealth, as a responsible family man, I'd have to take a job as a consultant (and make $500K+ per year) or on Wall Street (and make $1MM+ per year). It would be economic suicide to be an entrepreneur. As it is, it's still a pretty shaky decision, but one I'm willing to live with!

9 comments:

Kai said...

Chris: good points, but I would make a meta observation that arguing with socialists on the internet is a waste of time. :)

They cannot grasp the entrepreneur mindset - the combination of moxie, ambition and focused will it takes to work whatever advantages is in one's own command to get to where one needs to go.

The foolish assumption that just GIVING poor people more resources will increase their propensity to be entrepreneurs reflects that ignorance. For God's Sake, Please Stop the Aid! is an impassioned plea from an African economist who argues that is precisely BECAUSE of handouts from the First World that is keeping Africa down, addicted to rattling a tin cup at the rest of the world instead of building its own infrastructure and industry.

Put it this way: Would you rather be a millionaire in Ghana, or $85k/year graphic designer in Palo Alto?

Zoli Erdos said...

Actually this isn't only about startups, but markets in general. Redistributing wealth kills the economy - I've seen it .. lived it.. having grown up in the part of the world where they tried it, and we know it lead to economic collapse.

paul king said...

I'll add that there's people like me who have terrible spending habbits (most necessary, but none the less).

Re-distribution of wealth wouldn't solve those people's problems. It would only give them more to spend and as a result, within a short time, they would be right back in the same place, having never learned to save or invest.

How many sudden millionaires - or even more - people who suddenly get a settlement of thousands of dollars - blow through that money within a few months and are right back where they were before they received it? Thousands or more a year.

And don't tell me "educating" these type people will change everything... it won't. Only they can change their habbits.

paul king said...

And only I can remember habit is spelled with one "b"... geez.

Alex G said...

Devil's Advocate:

There are obviously other reasons besides money to start companies. The amount of companies started up in a society where incomes were closer together depends on how valuable those non-monetary rewards are. For instance, you can imagine a sort of gift economy emerging if the average income was higher enough, and it might be that people would start companies for the prestige, sense of accomplishment in a probably boring world, or perhaps even mate selection.

Not that I'm disagreeing with you, overall.

Richard Voda said...

I do not think that driving force for becoming entrepreneur is to become a billionaire. I would say it's a motivation to create, solve, accomplish something. The money is just the reflection of success/a meassure . I think Google/Yahoo founders did not think of billions when started the business. They saw the opportuntity rather than money. The best would be to ask them.:)

Chris said...

I definitely agree that money is not the sole motivation for starting a company. Far from it. I always tell entrepreneurs that if they want to get rich, there are far easier ways to do it.

But I do believe that were we to take away the rewards for entrepreneurship, we'd have a lot fewer entrepreneurs.

And just ask Larry and Sergey if they want to give up their 767.

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