Institutions, private sector and growth

Traditional analyses of public policy on entrepreneurship focus on the effects of taxation, subsidies and governmental services such as entrepreneurial training and provision of social insurance, risk taking and occupational choice (Hyytinen and Takalo 2003).

Recent studies address roles of institutions and improvement of the business climate through the reforms and regimentations that constitute a major interest of the Doing Business programme. For Chemin (2009), for instance, a less developed legal system constitutes an obstacle to entrepreneurship; the weakness of the legal system reduces the incentive to start an activity because it limits the security of property rights, thus diminishing the possibilities to access credit. The improvement of the legal system is therefore fundamental for economic growth.

The judiciary may affect entrepreneurship through two mechanisms. First, efficient judiciaries that swiftly punish law violations may improve entrepreneurs’ confidence in their property rights. Johnson et al. (2000) show in a theoretical model that an improvement of the level of laws attracts more businesses towards the formal economy - this process can later be reinforced by a larger fiscal base. Second, the legal institutions can affect entrepreneurship through the credit markets. According to Bianco et al. (2005), a key function of courts in credit relationships is to force solvent borrowers to repay when they fail to do so spontaneously. The study explains that poor judicial enforcement increases opportunistic behaviour in borrowers. Anticipating that creditors will not be able to recover their loans easily and cheaply via courts, borrowers are more tempted to default. Creditors respond to this strategic behaviour by reducing credit availability.

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