The federal government has played an active role in financing new firms, particularly in high-technology industries, since the Soviet Union’s launch of the Sputnik satellite. In recent years, European and Asian nations and many U.S. states have adopted similar initiatives. Although these programs’ precise structures have differed, the efforts have been predicated on two shared assumptions: (1) that the private sector provides insufficient capital to new firms, and (2) that the government either can identify investments that ultimately will yield high social and/or private returns or can encourage effective financial intermediaries.1 In contrast to many forms of government intervention designed to boost economic growth, such as privatization programs, these claims have received little scrutiny by economists.
The neglect of these questions is unfortunate. Although the sums of money involved are modest relative to public expenditures on defense procurement or retiree benefits, these programs are very substantial when compared to contemporaneous private investments in new firms. Several examples, documented by Gompers and Lerner (1998b), underscore this point:
The Small Business Investment Company (SBIC) program led to the provision of more than $3 billion to young firms between 1958 and 1969, more than three times the total private venture capital investment during these years (Noone and Rubel, 1970).
In 1995, the sum of the equity financing provided through and guaranteed by public small business financing programs was $2.4 billion, more than 60 percent of the amount disbursed by traditional venture funds in that year. Perhaps more significant, the bulk of the public funds went to earlystage firms, which in the past decade had accounted for only about 30 percent of the disbursements by independent venture capital funds (Venture Economics, 1996).
Some of America’s most dynamic technology companies received support through the SBIC and the Small Business Innovation Research (SBIR) programs while the companies were still privately held entities, including Apple Computer, Chiron, Compaq, and Intel.
Public venture capital programs also have had a significant impact overseas: For example, Germany has created about 800 federal and state government financing programs for new firms over the past two decades, which provide the bulk of the financing for technology-intensive start-ups (OECD, 1995).
It is striking to note the similar emphasis on these rationales in, for instance, the statement of Senator John Sparkman (1958) upon passage of the Small Business Investment Act and the recent testimony of Dr. Mary Good (1995), Under Secretary for Technology at the U.S. Department of Commerce. The rationales for such programs are discussed in depth in a report from the U.S. Congressional Budget Office (1985).