Latin America and the Caribbean is a region of entrepreneurs. The share of business owners per capita is larger than in other regions at similar income levels. Still, according to a new World Bank report, “Latin American Entrepreneurs: Many Firms but Little Innovation,” the region’s future will depend on having more “transformational” entrepreneurs than it has today.
According to the report, nearly one of every three workers in the region is self-employed or a small employer and, contrary to popular belief, the share of formally registered firms is also comparably large. But few of these entrepreneurs ever hire workers. Most remain very small even after decades of operation.
“The fact that there are so many small firms may be a symptom of an unhealthy imbalance – too many firms with low growth potential and not enough of what we call ‘transformational’ entrepreneurs, who are essential to create quality jobs and boost productivity,” said Augusto de la Torre, Chief Economist for Latin America and the Caribbean at the World Bank, who presented the report at an event sponsored here today by The Wall Street Journal. “When we dig into this imbalance in the region we start to find an insufficient drive to innovate among large firms, who are precisely those that need to grow to generate good jobs.”
According to the report, successful entrepreneurs are individuals who transform ideas into profitable commercial enterprises — a process that requires a capacity to innovate, to introduce new products, and to explore new markets. Quality job creation is largely done by these entrepreneurs but with much less vigor in Latin America than elsewhere. Successful firms remain small in the region. Firms with 40 or more years in business employ about 110 employees in the region, whereas in East Asia they employ close to 170, in Eastern Europe around 220, and in high-income countries, 250.
The report finds that Latin America’s business reality is fraught by low innovation:
- Latin American firms introduce new products less frequently than firms in other developing regions. Countries such as Ecuador, Jamaica, Mexico and Venezuela introduce or develop new products at a rate that is less than half that of countries such as Thailand or Macedonia.
- With the exception of Brazil, which invests 1 percent of GDP in Research and Development (R&D), on average the region invests much less (below 0.5 percent), which is one third the level of China and one fourth the level of high income countries. What’s more, the government as opposed to the private sector does most of Latin America’s investment in this area.
- Not surprisingly the region is behind others when it comes to patents. In Bolivia, Paraguay, El Salvador, Honduras, Guatemala and Peru, the number of patents per one million people is less than one, much lower than it should be for their level of development.
- New World Bank sponsored research on management practices finds that firms that employ 100 people or more don’t use the most updated performance based talent management systems. The survey data also reveal that the proportion of family-owned firms (which, on average, tend to be less well managed than publicly traded companies) is almost twice as large in Latin America as in the United States.
Perhaps more surprising is that even Latin America’s largest firms suffer from this dearth of innovation, the report finds. Even in the region’s big exporting nations, such as Chile, Colombia or Mexico, firms export far less frequently than what may be expected given their level of development.
Multilatinas from the manufacturing sector invest on average a mere $0.06 per $1,000 of revenue on R&D. Meanwhile, multinationals invest $2 per $1000 in China and $2.6 per $1000 in high-income countries. Even affiliates of foreign multinational corporations in Latin America and the Caribbean tend to be less innovative.
In order to thrive, transformational entrepreneurs require favorable economic and institutional environments that enhance the expected returns of their innovative ideas. Strengthening human capital, encouraging competition, and improving intellectual property rights can help tip the scale.
In recent years, Latin American policy has focused on assisting small and medium size enterprises. But such efforts need to be also directed at new firms. It is a small subset of the young firms that tend to grow, the report argues.
Fortunately there are some promising developments. Export promotion agencies are helping export companies in several countries, while scientific advances have positively transformed agriculture in others. When pressed by competition, dynamic firms in the region explore new export markets. The emergence of multilatinas is a positive development with respect to previous decades.
“It is also encouraging to know that policy makers in the region are now far more able to focus efforts and resources to spur growth,” De la Torre said. “After years of addressing macro-financial weaknesses, they can now focus on building the foundations for productivity growth.”
Transformational entrepreneurs will be central to that effort and while there is no set ideal for how many a society needs, the fact is that Latin America’s future will depend on having many more.