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September 08, 2010



In my opinion, the public choice argument is more relevant. Seeking out investment opportunities is a process of exploring the unknown rather than just a matter of exploiting the known. The very process of seeding new firms will help us ferret out new sources of growth.

I'm not a fan of nationalised finance but in a second-best world, it can easily provide better results than crony-capitalist finance. You could argue that the German banking system is essentially a quasi-nationalised system dedicated to financing the Mittelstand at reasonable rates. In the long run however, the absence of market discipline can lead to crippling losses in the banking sector but we have that already with the TBTF problem and the resultant moral hazard right?

Luis Enrique

This is very similar to Dani Rodrik's ideas about economic growth as a discovery process, and how experimentation (in the sense of entrepreneurial activity) has big externalities, hence there is a case for state subsidy of it. I'm not sure how he proposes actually doing it, to avoid 'capture' of the process that turns it into the antithesis of evolution (protection of incumbents / politically favored).

Your second objection also raises the question of what a non-capitalist economy would do next, if there are no worthwhile investment opportunities.

Niklas Smith

The point is simple. One legitimate role of the state is to act a little like a venture capitalist, helping new firms get started, and thus giving market forces - selection - more material to work upon. The state, then, can facilitate a healthy market economy.

It's not that simple. It's not just financing that is a scarce resource, but also skilled employees and capital equipment - in fact everything in the economy is by definition scarce (if any resource is in unlimited abundance it will have no price because everyone can have as much as they want).

If a new firm gets started with backing from Labour's Green Investment Bank, it needs employees and equipment. These skilled people and complicated capital goods will then not be available for another company (either a start-up or an existing company), which raises their price until more appear. This is a form of "crowding out" that is a much more real risk at the moment than "crowding out" of investment funds (which as you quite rightly say few people are willing to take risks with at the moment).

In other words, state venture-capital financing is not a free lunch.

Niklas Smith

Sorry, tried to put the first paragraph in italics as it's a quote from your post...

Tim Worstall

The first objection is the one that resonates with me. Imagine, say, Caroline Lucas in charge of such a program. The woman who really does believe that lowering labour productivity is a good idea.

Or look at how such funds have historically been doled out. For every Sheffield Forgemasters which arguably should have been funded (note the arguably) we've had innumerable Rovers and the like which shouldn't have been.

The theory fails when it meets the actual politicians we have or are likely to get.


What can the state do better than private companies?

Things there can only be one of and we would not trust a private company to do

Things there can only be one of
- Define what the time is
- Record who we are
- Write the rules by which we live

Things we do not trust a private company to do
- Enforce the rules by which we live

Most other things are a luxury and we seem to have forgotten that.


Is the state not already acting in such a role, if, as is commonly argued, it is implicitly guaranteeing the creditors of the major banks?

Luis Enrique

Can anyone think of a simple 'rule' based method of doing this, that would be immune to the problems of relying on, say, Caroline Lucas's "judgment"?

We already do things like subsidize training and consulting (advice) and maybe premises for start-ups ... is there anywhere in the tax code, or any other 'price' that could be changed to encourage experimentation?

(NB is it obvious that financing costs are a "constraint" as portrayed here? If the real cost of capital is x, then we don't want projects that generate a return of less than x to be funded, so "constraining" funding to projects with that expected return is not a constraint in the sense of something that should be removed. Clearly there are things like transaction costs and differences between private and social returns that complicate this story, but I don't think you can call "killing some business plans before they are born" (i.e. those with expected return

Adam Bell

I think the key to making this idea work is by reducing the levers of influence the State has over the process, while still capturing the idea that there's a role for the State in relieving financial constraints.

You could do this by changing the role of an investment bank to an entity that underwrites private venture capital invested in start-ups, removing any risk attached to investment and making the only cost of finance the opportunity cost of not moving your money elsewhere. Of course, the public choice issue raises its head again in terms of which projects the State chooses to underwrite in this manner. One could avoid this by instituting a certification scheme for venture capitalists self-administered by the sector, intended to exclude firms with too high an attached risk. Certified firms could then apply for investment underwriting, with a statutory requirement for acceptance based on the State entity's funds.

Luis Enrique


are you suggesting something like state insurance of venture capitalists? Interesting idea ... that would lower cost of capital from VCs ... but what are chance of left wing embracing an idea that sounds like subsidizing VCs?

Adam Bell


You could, if you wished, make it sector-specific - call it a 'Green Fund' or similar. That would retain an element of State control while ensuring that the state does not directly pick 'winning' firms.

Luis Enrique

... although aren't VCs big enough to insure themselves just through diversification ... not sure how much difference state insurance would make

Andy B

How about subsidising firms (both established ones and start ups) through lower corporation tax rates than our foreign competitors?

Also, having worked on many mis-managed governmental projects I would like to suggest that any company who goes over budget by 10-20% of the initial estimate for public works should be blacklisted from an approved suppliers list for ten years.

Andy B.


Aren't you in danger here, chris, of seeking a role for the state, when it manifestly fails in everything it ever does?


I’m not sure the argument that the state should step in as a venture capitalist because it can raise funding cheaper has much validity, since surely even if the state were lending it would be sensible for it to price its funding according to the risk of each investment. I also have my doubts as to the ability to make the right investment decisions, mainly because it has little past track record of being able to do so and I somehow doubt that politicians and civil servants possess the actual skills to do so. However, where I do think there is a role for the State is in employing measures that address the current weaknesses in the market framework with regard to providing equity finance. In recent years that market has been dominated by a herd like mentality where the herd is looking for short term returns, often through structures which are set up with tax efficiency in mind and the aim was to generate gains through playing around with asset stripping and leverage rather than doing anything which was economically useful. And those charged with corporate governance of this framework just haven’t performed their job, largely because they are drawn from the same class of people who have been engaged in such short term plundering. A few well thought out changes with regard to taxes, regulatory capital and governance requirements in the area of private equity and venture capital would probably have a lot more positive impact than setting up a nationalised Investment Bank could ever achieve.


@Jackart: which is why the RAF lost the Battle of Britain, 70 years ago today - but fortunately, because the Wehrmacht was also a state agency, its attempt to follow up by invading Britain failed. Silly boy.

@Tim: it's got to be a better idea than letting Fred Goodwin have at it again...in fact, this is a fundamentally stupid argument. The whole point of the traditional argument against central planning is that it wouldn't work, whoever you put in charge, because managerialism is flawed in itself. You bet the GOS PLAN entrance exam was a bastard.


I fear the implications are very serious. The developed economies employ only the best, brightest and most energetic - the rest have little to offer the economy. This is a natural consequence of globalisation. Worse still, science has failed to deliver economy-boosting inventions - perhaps science faces the law of diminishing returns.

The UK govt is useless at investing in jobs for the reasons stated above. So, selective breeding is one answer, but in my town, opening hairdresser's shops seems to be the thing.


the government as a venture capitalist?
god help us.


"How about subsidising firms (both established ones and start ups) through lower corporation tax rates than our foreign competitors?"

Don't we already do that? Anyway, lower corporation tax rates are a very inefficient form of subsidy, as they apply to all businesses, new, old, successful or failing. Still, I read comments on blogs every day calling for business tax cuts - at least here we can admit it's a form of subsidy without getting into an argument :)


consider a numerate graduate considering career choices. Should they a) go into a career such as accountancy, or medicine, where demand is just about guaranteed? Or b) try their luck in a career where there is no commitment from government, and firms can come and go with no constraint? If the government doesn't signal its commitment to an industry then its clearly a risk to go into it.

Now consider a large corporation that requires skilled people. Should they base their operations in a country where there is limited supply of skilled staff? Or one where government is guaranteeing a supply of skilled staff?

The Canadian government has recently set up a Risk Institute to bolster the position of Toronto as a leading financial centre. Do you think they should have cut taxes instead?

... so its about signalling commitment to particular industries.

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