Institutions have a decisive impact on the prevalence and nature of entrepreneurship. To date, the impact of institutions on (productive) entrepreneurship and the effects of entrepreneurship on economic growth have largely been investigated in isolation. In this paper, we bring together institutions, entrepreneurship, and economic growth using a parsimonious growth model in a 3SLS specification. In our first stage, we regress multiple measures of entrepreneurial activity on institutional proxies that are known to correlate with more productive forms of entrepreneurial activity. Using the fitted values of this first-stage regression as our proxy for productive entrepreneurship, we can then estimate a panel growth regression following Islam (1995) in a second stage. The third stage then optimizes the estimation of the two equations simultaneously. Our results show that productive entrepreneurship contributes to economic growth. In our set of proxies for institutional quality, financial stability, small government, and perceived start-up skills are the most important predictors of such productive entrepreneurship.

Introduction

In an entrepreneurial society (Audretsch 2007), institutions channel entrepreneurial talent towards productive entrepreneurship (Baumol 1990; Murphy et al. 1993). The term Bproductive entrepreneurship^ refers to Bany entrepreneurial activity that contributes directly or indirectly to net output of the economy or to the capacity to produce additional output^ (Baumol 1993, p. 30). The entrepreneur then organizes available resources such as labor, finance, and knowledge to generate output. And here institutions determine if, how, and under what conditions entrepreneurs can get access to these inputs. Productive entrepreneurship includes entrepreneurship that generates innovation and ultimately, aggregate economic growth (Baumol 2010). The complex of interacting, multilevel institutions supporting productive entrepreneurship, recently labeled the Entrepreneurial Ecosystem (cf. Stam 2015; Acs et al. 2017), is notoriously hard to analyze empirically. Both productive entrepreneurship and institutional quality are concepts that are easier to define in theory than to accurately measure empirically. Nevertheless, empirical work relating entrepreneurship to institutions or economic growth to entrepreneurship is abundant and a broad range of proxies for both concepts have been used with mixed results and success. Based on a recent review of the literature, Bjørnskov and Foss (2016) concluded that most papers estimate straightforward models introducing proxies for entrepreneurship in cross-country and panel data models explaining GDP per capita, output per worker, or GDP per capita growth. Evidence on income levels and productivity suggests that a positive relation with entrepreneurship exists, but these analyses suffer from endogeneity issues and possibly publication bias. Moreover, there is very little evidence on the impact of entrepreneurship on growth. This lack of clear-cut empirical results can be linked to the complexity of the relationship that may play out differently in different contexts and with different lags (Carree and Thurik 2008; Stam and Van Stel 2011). At the same time, the empirical literature to date is often based on measures that are too broad—including all kinds of necessity and replicative entrepreneurship (Santarelli and Vivarelli 2007; Shane 2009)—or too narrow—excluding entrepreneurial behavior within organizations (Stam 2013; Foss and Lyngsie 2014). Moreover, Bjørnskov and Foss (2016) observe that studies tend to ignore the theoretically relevant ways in which firms and entrepreneurs moderate the relationship between institutions and aggregate economic performance. Short of collecting better primary data, there are broadly three ways to handle the lack of precise, internationally comparable measures of entrepreneurship.