Understanding the Link Between Law, Innovation, and Growth
Robert E. Litan, Ph.D.
Vice President, Research and Policy, Ewing Marion Kauffman Foundation
It is widely understood that the "rule of law" is essential for economies to
grow, and thus for living standards of their populations to advance. In turn, it
also is widely recognized that growth is best achieved through continued
innovation: the development of new products, new services, and new ways of doing
things that make a society more productive.
But how much law, and what kinds of law, are essential for innovation and
growth? And what laws or legal institutions may inhibit both?
We know some answers to these questions but are far from knowing them all.
For example, we do know that certain elements of a legal infrastructure are
essential to promote economic activity generally and innovation in
particular:
- Individuals will not save and firms will not invest without clear property
rights, enforced if necessary by an impartial judicial system, in the interest
of profits they earn on these investments.
- Entrepreneurs and their firms must have some rights to—or rewards for—new,
commercially useful knowledge they develop. At the same time, any such rights
should not be too broad, or else they will discourage others from coming up with
commercially useful ideas on their own.
- Individuals and firms are unlikely to conduct business with third parties
they don't know unless an institution or body they trust recognizes and enforces
their contracts.
- Banks and other financial institutions will not lend without well-defined
rights to the collateral backing their loans.
- Companies cannot attract outside investors—and thus may not be able to
grow—unless the liability of shareholders is limited to the size of their
stockholdings.
- Similarly, individuals and institutions are more likely to invest in
financial instruments that can be easily and are readily traded. Exchanges (once
physical, increasingly virtual) must exist to facilitate such trading, as must
investor-relevant rules requiring disclosure of accurate and timely
information.
These are just a few of the legal propositions that are now widely understood
to foster economic progress. But there is still much that we do not know about
precisely which laws and legal institutions best promote innovation and
growth.
To help find out, the Kauffman Foundation has launched an ambitious,
long-term initiative to fund research in this important area by leading legal
and economic scholars. We also hope to encourage a new generation of legal
scholars to devote their energies and talents to helping us understand what
changes in law and legal institutions might accelerate growth.
Fortunately, this initiative is not writing on a blank slate. Thanks to
several decades of funding by other foundations and to a growing body of
literature on "law and economics," a generation of lawyers, judges, and many
elected officials with a legal background understand the importance of legal
rules maximizing wealth at any point in time for any given society. The insights
from this ample body of work—not only legal scholarship, but a broad range of
judicial opinions, statutes, and rules—will help us understand how such rules
can and should also promote the growth of societies' wealth over time.
At Kauffman, we expect the "Law, Innovation, and Growth" research initiative
to touch on a broad number of legal subjects—contracts, property (including
intellectual property), torts (accident law), antitrust, tax, labor, civil (and
perhaps criminal) procedure, and even constitutional law, to name a few.
Ideally, as we work to understand how law and legal institutions affect each of
these specific legal areas, scholars one day may also develop broad or
"synthetic" themes that cut across all of them.
Policymakers in all branches and at all levels of government should find this
scholarship to be of interest. But it should interest us as citizens, too. Even
small annual differences in economies' growth rates, over time, can dramatically
affect future per capita incomes and living standards. Ideally, the research
findings and scholarship that emerge from our initiative will help contribute to
such a beneficent outcome for U.S. citizens, and hopefully for populations
around the world.
