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Household Inequality, Entrepreneurial Dynamism, and Corporate Financing

Journal: Review of Financial Studies

Date: 20210501

Author: Braggion, Fabio; Dwarkasing, Mintra; Ongena, Steven

Abstract:
Economic theories posit conflicting hypotheses on how wealth inequality affects entrepreneurial dynamism. We investigate the impact of wealth inequality on business dynamics by constructing local measures of household wealth inequality based on financial rents, home equity, and 1880 farmland. We then identify the effect of wealth inequality on entrepreneurship by instrumenting it with land distribution under the 1862 Homestead Act. Wealth inequality decreases firm entry and exit, and the proportion of high-tech businesses across metropolitan statistical areas. Wealth inequality also lowers the supply of public goods, such as education. Growth in income per capita consequently lags.

Link: Google Scholar

Key Findings

Wealth Inequality Reduces Business Formation

A one-standard-deviation increase in MSA-level wealth inequality leads to approximately 12% decline in new establishments' entry and exit per capita

Impact on High-Tech Business

Higher wealth inequality is associated with lower proportion of high-tech establishments and reduced venture capital investment, with up to 30% reduction in high-tech presence

Public Goods Channel

More unequal MSAs show reduced public good provision, including 15-20% lower school funding from local sources and less efficient judiciary systems

Business Formation and Wealth Inequality

  • Wealth inequality significantly decreases firm entry by 8.7-9.8%
  • Effect remains robust across different measures of inequality
  • Impact is consistent for both entry and exit rates

High-Tech Activity and Venture Capital Investment

  • 30% reduction in high-tech establishment presence
  • 39-57% decline in venture capital investment per capita
  • Lower proportion of employment in high-tech sectors

Public Goods and Local Institutions

  • 15-20% decrease in local school revenue contribution
  • 22% increase in time to verdict in civil trials
  • 32% increase in violent crimes per capita

Contribution and Implications

  • First comprehensive study linking local wealth inequality to reduced entrepreneurial dynamism through public goods channel
  • Demonstrates how wealth inequality impacts local institutions and business formation
  • Suggests policy focus should be on wealth rather than income inequality to preserve entrepreneurial dynamism

Data Sources

  • Business formation effects based on Table 2 regression results showing impact on establishment entry and exit
  • High-tech and venture capital analysis derived from Table 4 showing sectoral impacts
  • Public goods channel visualized using data from Table 6 on local institutions and public services