Regulation, Innovation and Investment: Important Points from New AEP Study

By at 3 April, 2024, 8:07 am

by Raymond J. Keating –

Economic growth is dependent upon entrepreneurship, private investment and innovation. This foundational point too often is ignored or forgotten by elected officials and their appointees.

The American Edge Project’s new study, titled “American Innovation Under Siege: Venture Capital Data Reveal Risks From Rising Global Regulatory Overreach,” provides an important, comparative reminder. Specifically, AEP examines the regulatory environment in the U.S., Europe and China, and their effects on innovation and technological progress.

The study gets at the state of innovation and technological development via PitchBook data on venture capital investment. That makes sense as such funding is vital to entrepreneurship and business growth. As noted in the study, “A thriving venture industry is a key factor in U.S. economic and innovation success, with one study finding that 43 percent of the public U.S. companies founded between 1979 and 2013 were VC-backed, and they accounted for 82 percent of the total R&D of new public companies.”

AEP’s stated purpose for this study is to “shed light on the critical intersection of innovation and regulation.” It is further explained: “Our investigation uses venture capital (VC) data to trace the contours of dealmaking, value creation, and broader trends across the United States, China, Europe, and various U.S. states. This analysis provides policymakers at all levels with an understanding of how the venture ecosystem has historically propelled the U.S. economy forward and potential regulatory threats that loom on the horizon.”

As for China, the extremes of governmental risks and uncertainties were noted:

“From 2018 to 2019, venture dealmaking in China fell precipitously due to a political crackdown in multiple aspects, prioritizing certain sectors. Some investment firms are still trying to emphasize the positive, but in reality, the pullback has been significant, especially in critical technologies such as AI or quantum computing. Moreover, fundraising by Chinese venture firms remains very low, which bodes poorly for private capital stores to fund startups in the future. It is hard to overstate how much the Chinese government’s crackdown has also cost the Chinese economy thus far, with an estimated $6 trillion wiped out in Chinese and Hong Kong equities… The year 2019 saw a drop from a previous high of over 7,000 venture deals to 5,461, for $78.3 billion in aggregate. In 2018, foreign participation in venture dealmaking in China was nearly equivalent to that of the United States in terms of deal value, at $69.0 billion and $76.1 billion, respectively, far outstripping that of Europe. However, since then, foreign investors have been much more active in the United States and Europe than in China. This is due in large part to ongoing geopolitical tensions, with the recent exacerbation attributable to the crackdown by the Chinese government on companies’ innovation in financial technology, education technology, and other sectors. Although the Chinese government has recently tried to push a rhetorical shift, in the past year alone more than 12 executives have gone missing or been detained.”

As for Europe, it was summed up:

“Its innovation ecosystem is hampered by regulations like the General Data Protection Regulation (GDPR) and the Digital Markets Act (DMA), leading to reduced startup investments and keeping venture activity behind the U.S. Since 2018, the GDPR has cut investments, and the DMA could impose $50 billion in costs, potentially pushing 16 percent of European firms to Chinese tech and slowing R&D with fines.”

It also was noted:

“Due to a slower start in codifying rules around venture investing for limited partnerships, plus turn-of-the-millennium changes in regulations and recent tightening of antitrust measures, European venture activity has never been able to grow to the level of U.S. venture activity as a result, despite similar foundational factors of research hubs and plenty of accessible capital.”

United States VC Dominates Globally

According to AEP, the good news for the U.S. was: “Thanks to a regulatory environment conductive to growth, in 2021, the U.S. showcased its robust VC landscape with 19,000 deals amounting to $350 billion. This was double the combined contributions of China and Europe, and led to a surge of innovation.”

What about the bad news, or potentially bad news?

Mainly, it’s about expanding regulatory burdens: “A growing wave of regulatory actions and proposals at federal and state levels threatens domestic tech industry growth and innovation. These include antitrust legislation/litigation, aggressive Federal Trade Commission (FTC) and Department of Justice (DOJ) enforcement, restrictions on mergers and acquisitions (M&A), European-style state regulations, restrictions on artificial intelligence (AI), and more.”

U.S. Regulatory Action and Government Intrusion Threaten VC Activity

Indeed, AEP’s list of potential regulatory woes is, to say the least, deeply troubling for U.S. entrepreneurship, investment, innovation and growth. Consider just these few points:

• “In recent years, Congress considered several antitrust bills that would have restricted competition and investment in the tech industry, with one analysis pegging the cost to small business sellers to be at least $500 billion in lost sales over five years, the equivalent of a 5.2 percent tax. Today, various legislative proposals could chill innovation, including a bill to create a new federal agency to regulate the tech sector in a comprehensive manner.”

• “The Federal Trade Commission (FTC) and Department of Justice (DOJ) issued new merger guidelines that seek to rewrite decades of antitrust policy by declaring structural presumptions against certain mergers and by downplaying their possible benefits.”

• “The FTC and DOJ have brought antitrust challenges, often based on very aggressive if not speculative theories, against companies in the defense, healthcare, and tech sectors. Though most of these suits have failed, in some instances they have caused U.S. companies to walk away from deals, including vertical mergers in critical industries, that in the past likely would have closed with few problems.”

Current regulatory burdens and looming increases point to real problems in terms of raising costs and reducing incentives for starting up, building and investing in businesses that are vital to innovation and growth.

The lesson should be clear to all policymakers: Stop looking for ways to undermine U.S. entrepreneurs, investors, businesses and their employees via increased regulation; and instead, undertake a comprehensive agenda of regulatory relief and reform.

Indeed, U.S. tax and regulatory policies should make America the most attractive place to invest on the planet. If that were the case, and as underscored in the AEP report, it would be good news for U.S. economic, income, employment and startup growth.

Raymond J. Keating is chief economist for the Small Business & Entrepreneurship Council. His latest books on the economy are The Weekly Economist: 52 Quick Reads to Help You Think Like an Economist, The Weekly Economist II: 52 More Quick Reads to Help You Think Like an Economist and The Weekly Economist III: Another 52 Quick Reads to Help You Think Like an Economist.


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