92 years of economic insights for Indiana

The IBR is a publication of the Indiana Business Research Center at IU's Kelley School of Business

The long view: Fostering Indiana’s innovation and entrepreneurship

Director of Economic Analysis, Indiana Business Research Center, Kelley School of Business, Indiana University

Research Associate, Indiana Business Research Center, Kelley School of Business, Indiana University

In July 2016, Governor Mike Pence announced a new $1 billion initiative for promoting Hoosier innovation and entrepreneurship. This ambitious initiative follows in the wake of the recent Regional Cities Initiative, in which seven major regions in Indiana competed for three $42 million quality-of-life and workforce attraction investments.1

It is no secret that Pence’s administration prides itself in the story of Indiana’s positive economic growth since he took office in 2012. Between 2013 and 2016, the unemployment rate fell from 8.4 percent to 5 percent, for example, and employment grew 10 percent from the end of 2012 until the summer of 2016.2 Many have heralded Indiana as a key player in the grand rebirth of Midwest manufacturing since the height of the Great Recession in 2008. Indiana ranks highly among states with the highest number of manufacturing jobs.3 These initiatives are a clear sign that Indiana is taking great strides to capitalize on this economic momentum.

The Hoosier state is certainly not alone in this endeavor. Startup activity, a vital indicator of economic growth, has risen significantly in dozens of major metropolitan areas since 2015.4 However, the sheer scale of the Indiana Regional Cities Initiative and the innovation-entrepreneurship bill is quite unmatched elsewhere. Economic development agencies are taking a keen interest in attracting young and ambitious talent to accelerate startup growth. Funding for venture capital, business incubators and industrial parks has become standard operating procedure in a majority of economic development districts. It is difficult to escape, and not be slightly envious of, the endless stream of enviable business statistics coming from high-growth regions, such as Austin, San Antonio, Seattle, Denver, Boston and San Francisco.

Public officials, when formulating economic development strategies, often heed the advice of high-profile business leaders and internalize bold claims, such as that “democracy only works in a growing economy,” which the current President of Y Combinator—the behemoth tech incubator responsible for startups like Airbnb, Reddit, and Dropbox—made in a warning to other entrepreneurs in the Bay Area.5

In actuality, the majority of interested parties probably do not maintain such a grim philosophy; however, there appears a heightened sense of urgency and determination behind these two government actions.

What is an entrepreneurial ecosystem?

What would an entrepreneurial ecosystem look like in Indiana? How can the state spur greater economic growth? An entrepreneurial ecosystem, as described in the Ewing Marion Kauffman Foundation report, is the complex system of infrastructure, resources and human capital that drives innovation. It is measured by four distinct characteristics: density, fluidity, connectivity and diversity.6 Let’s examine these concepts one at a time.

To measure the density of an area’s entrepreneurial vibrancy, one can look at several figures that describe the makeup of businesses and startups. These figures include, but are not limited to, the number of new firms per 1,000 people, the share of employment in new firms and high-growth sector density. Ideally, one can interpret these figures to garner an idea of the relative density of entrepreneurs in a given area.

Our second characteristic, fluidity, is concerned with how entrepreneurs move between businesses and firms in an area. Some economists place a high value on the ability of workers to sort and re-sort themselves into optimum employment. Furthermore, a natural byproduct of such worker allocation is an increase in the sharing of ideas, which in turn produces more entrepreneurial activity. The Kauffman Foundation report suggests using an area’s population flux, rates of labor market reallocation and the density of high-growth firms to describe this fluidity.

Next, there is a great deal of importance placed on the connectivity of a particular ecosystem. This concept encompasses how businesses and startups connect to, and draw inspiration from, others. One facet of this is the network of educational programs, resources and support organizations available in an area. Innovation thrives in a densely linked business network, and having a diverse array of resources at the disposal of new firms and startups will ultimately beget an increasingly diverse entrepreneurial environment. Also related to connectivity is the quantity of spin-off businesses generated as a result of entrepreneurial activity. Startups and ideas that are robust enough to spawn further generations are a telltale sign of strong connectivity. A third measure to take into account is the presence of active “dealmakers” in a business network. These individuals utilize their substantial business ties, personal assets and social capital to initiate and broker exchanges between businesses, as well as aiding in the creation of new startups.

The final characteristic factored into this diagnosis is diversity, both in a business and demographic sense. First and foremost, we apply this concept to industry diversity. That the proverbial eggs should not all be in the same basket is important when describing a healthy entrepreneurial ecosystem. In addition, population diversity—and more specifically immigrant diversity—can be a great boon to startup growth. Immigrant populations historically start new businesses at significantly higher rates than their domestic counterparts. To foster startup growth, regional governments should make efforts to welcome and encourage immigrants to settle in the area. Finally, economic mobility plays a vital role in determining the effectiveness of an ecosystem. A more traditional statistic used in measuring the health of an economy, high mobility indicates ample opportunities for workers to improve their economic status—and it is often new businesses and startups that supply these opportunities.

With this detailed template in hand, the next question is this: Do the newly passed Regional Cities Initiative and innovation-entrepreneurship bill address any or all of the aspects that define a flourishing entrepreneurial ecosystem? In the next section, we attempt to answer this question.

How does Indiana rank?

Our first task is to evaluate the density of Indiana’s business climate. Right off the bat, the startup density in Indiana shows room for improvement, ranking 21st among the 25 larger states, with a rate of 63.5 startups per 1,000 firms.7 Low startup density is a common theme among Midwestern states, which occupy the bottom five ranks. Only Illinois (13th) and Michigan (18th) do better than Indiana in this category. Herein lies the underlying motivation behind the state innovation investments: Indiana needs to accelerate its economic growth, and funding startups is the key.

In addition, it is well-established that almost all net job creation occurs in new-and-young firms (defined as firms less than five years old).8 However, Indiana also struggles in this respect, ranking 41st out of 51 states (including the District of Columbia) in 2014, with a new-and-young firm share of only 24.0 percent (see Figure 1).9

Figure 1: New-and-young firms as a percent of total firms

graph

Note: The new-and-young grouping is defined as firms less than five years old.
Source: Indiana Business Research Center

The state is taking a holistic approach to tackling these issues. The innovation-entrepreneurship bill allocates funding that facilitates startup growth in every step of the complex life cycle. For example, $500 million of the $1 billion plan is being poured directly into funding early-stage and mid-market (i.e., annual revenue between $50 million and $1 billion) companies in Indiana. They are also expecting investment partners to match state funds one-to-one, for an additional $500 million. This is in combination with an allocation of $300 million ($30 million annually over a 10-year period) for 21Fund venture capital programs. Consistent funding can be a source of great anxiety for new firms, and these measures seek to partially ease this burden.

Continuing on, the Regional Cities Initiative is providing three regions in Indiana $42 million apiece for development projects aimed at attracting new residents. More specifically, each region that competed for funding submitted a detailed plan outlining quality-of-life and workforce attraction investments in hopes of bringing in an influx of skilled workers. Ultimately, the three regions selected were North Central, Northeast and Southwest Indiana. Aside from the $42 million direct investment, the Indiana Economic Development Corporation successfully reaped an additional $188 million in back taxes, $126 million of which is being set aside for these Regional Cities projects.10

The benefits of such a large workforce-attraction investment play right into this concept of fluidity. Ideally, the quality-of-life improvements in the South Bend, Fort Wayne and Evansville areas will successfully draw skilled individuals from areas both within Indiana and outside the state. This will ideally lead to population increases, as people are drawn to new amenities, such as the $40 million Skyline Tower in Fort Wayne, the Health Fitness Aquatics and Community Center in Elkhart or the $110 million Tropicana Evansville entertainment facility. These investments are substantial and show the desire of state and regional developers to reshape these areas’ images into ones of great opportunity and prosperity.

What steps can the state take to improve connectivity? The more traditional approach to improving connectivity is through business incubators and research institutions, and investment plans in Indiana are no exception. $100 million of the $1 billion innovation-entrepreneurship bill—including an additional $100 million in matched funding—are being set aside exclusively for innovation education at research and higher education institutes. Indiana already boasts an impressive number of high-tech entrepreneur support organizations, including TechPoint, AgriNovus Indiana, BioCrossroads, Conexus and Energy Systems Network. Going further, investments will be made in cross-sector groups, such as the Institute for Advanced Composites Manufacturing Innovation, OrthoWorx, 16 Tech and the Indiana Biosciences Research Institute. This list may bode well for the future of Hoosier startups. Other funded organizations, such as the Purdue Foundry Accelerator, have strong ties to research universities in the state. The presence of such a great number of support institutions suggests great potential for innovation and idea sharing, and it will be up to investors and development officials to capitalize fully on this opportunity.

One important connectivity factor is having an active group of “dealmakers” who champion new talent and facilitate business exchanges. Economic developers should make an effort to spotlight these types of individuals. The celebration of innovation leaders is already an old practice in tech hubs like the Bay Area, where people such as Steve Jobs, Marc Andreessen, Mark Zuckerberg, Elon Musk or Peter Thiel have transcended into national celebrities. Obviously, comparisons to Silicon Valley should be made with caution, but seeking out personas as symbols of Indiana innovation is, nonetheless, a worthwhile endeavor.

Lastly, how does the entrepreneurial ecosystem in Indiana measure up in terms of its diversity? Economically speaking, Indiana is above the curve.11 Manufacturing and high-tech industries top the list of Indiana’s largest clusters, with automobiles, life sciences, transportation, information technology and research as the top five.12 These are all high-growth sectors, providing the economy of Indiana genuine potential for rapid expansion.

Furthermore, the state would be wise to reach out to and attract immigrants. At least two-fifths of startups in Silicon Valley between 2006 and 2012 had at least one nonnative founding member.13 Foreign-born workers have been shown to start businesses at approximately twice the rate of nonimmigrants. As of 2014 though, Indiana’s immigrant population only stands at 4.8 percent, compared to the national average of 13.3 percent.14 As we have experienced recently, there are several politically sensitive considerations when contemplating increasing immigration. Just the same, foreign talent is, arguably, a keystone of American entrepreneurship and, as a result, the state can take measures to be more welcoming of immigrants.

Industry and population diversity cannot be the only consideration in this matter, however. Improving economic mobility is essential to ensuring the optimal growth of industry in Indiana. The Harvard University Equality of Opportunity Project indicates only five of 17 commuting regions in the state have an economic mobility index above the median. Many social factors are largely responsible. Educational attainment (both of the individual and of their parents) and household makeup are primary determinants of economic mobility.15 Additionally, there are considerable obstacles for potentially increasing one’s economic status along racial lines.16

Access to affordable higher education is a key consideration in this regard, and not strictly from four-year institutions. Middle-skill employment (e.g., clerical or health care workers) that requires various types of licensing and certification is the fastest-growing type of employment in the United States. Workforce development, with a focus on aiding lower-income individuals gain access to training and licensing for these types of employment opportunities, could be essential for equitable growth.17

Consequences of growth

The Regional Cities Initiative and the innovation-entrepreneurship bill could prime the pump for Indiana’s startup growth. As with many dramatic social and economic changes though, there can be unforeseen negative consequences. Gentrification, such as the displacement of lower-income families due to inflated living costs, has its downsides. Regions such as San Francisco, Denver, Austin and New York are grappling with the social costs of their economic renewal in traditionally ethnic enclaves.

Even Indianapolis is coming to terms with its quickly changing landscape. Some residents are pursuing novel approaches to renewal that are balanced and can serve all. For example, local artists—often a driving factor in improving a city’s quality-of-life prior to rapid commercialization—have taken measures that provides lower-income individuals an equity stake in affordable housing, providing a secure residence going forward.18

Booming startup growth can have other potentially detrimental consequences. A somewhat unexpected phenomenon in high-growth areas is entrepreneurial burnout.19 It is often difficult for innovators to come to terms with the fact that the majority of startup firms will fail. Highly competitive business environments can exert an immense amount of pressure on individuals who are seeking their fortune by founding a startup. Even successful entrepreneurs will admit that failure is part of the process. For this reason, business incubators can play a vital role by increasing the speed of failed ventures and ensuring that the good ideas make it to market quickly.

Conclusion

The Hoosier economy could be standing on the springboard for entrepreneurial expansion. The state government has taken action to re-envision the economic future through the two innovation and quality-of-life funding bills. Many experts agree that state interventions can be indispensable for catalyzing entrepreneurship.20 It is encouraging that the state is taking action because there is much at stake. States with “one-legged economic stools” have suffered greatly when that one leg gets kicked out from under them. West Virginia, for example, is suffering an ongoing opiate crisis (the effects of which Indiana has not escaped either), which has been linked to the erosion of the job market and stagnation of their traditional industries.21

Coordinating massive innovation investments can be a delicate operation. The entrepreneurial ecosystem, in which density, fluidity, connectivity and diversity all fill equally important roles, is not created and nurtured by any one singular intervention. Cautionary tales abound where investments were not well allocated. For example, in Las Vegas, Zappos CEO Tony Hsieh invested $350 million to turn a section of downtown into an entrepreneurial hub. However, five years later, the project has provided few dividends. Hsieh cites a lack of foot traffic, resulting from a lack of quality-of-life amenities, as well as a failure to facilitate the exchange of ideas among those who drive innovation.

Thankfully, Indiana legislators have done well to address the many facets of encouraging startup formation and economic development. There remain areas for improvement, such as attracting more immigrant populations to the state, or providing additional social services and workforce development opportunities for at-risk and lower-income individuals. Hoosiers have a reason to be optimistic though about the future of Indiana’s entrepreneurial ecosystem. Perhaps, in the not-too-distant future, Indianapolis, South Bend and Evansville will join the ranks of the “best cities” in America.

Notes

  1. One may access data profiles for the seven regions using the STATS Indiana InDepth Profiles. Simply select a “Regional Cities” area via the region drop-down box.
  2. Eric Morath, “Mike Pence, Donald Trump’s VP Pick, Can Tout Job Gains and Economic Growth in Indiana,” The Wall Street Journal, July 16, 2016.
  3. Based on U.S. Bureau of Labor Statistics data.
  4. Arnobio Morelix, Robert W. Fairlie, Joshua Russell and E.J. Reedy, 2015 Kauffman Index of Startup Activity: Metropolitan Area and City Trends, Ewing Marion Kaufmann Foundation, 2015.
  5. Tad Friend, “Sam Altman’s Manifest Destiny,” The New Yorker, October 10, 2016.

  6. Dane Stangler and Jordan Bell-Masterson, Measuring an Entrepreneurial Ecosystem, Ewing Marion Kauffman Foundation, March 2015.
  7. Arnobio Morelix, Robert W. Fairlie, E.J. Reedy and Joshua Russell, 2016 Kauffman Index of Startup Activity: State Trends, Ewing Marion Kaufmann Foundation, 2016.
  8. Jason Wiens and Christ Jackson, “The Importance of Young Firms for Economic Growth,” Entrepreneurship Policy Digest, September 9, 2015.
  9. U.S. Census Bureau Business Dynamics Statistics
  10. Indiana Department of Revenue
  11. “Key Economic Sectors in Indiana: State Overview,” Ball State University Center for Business and Economic Research, July 2014.
  12. “Top 5 Industries in Indiana: Which Parts of the Economy Are Strongest?” Newsmax, April 5, 2015, www.newsmax.com/FastFeatures/industries-indiana-economy/2015/04/05/id/636527/.
  13. Ted Hesson, “Why American Cities Are Fighting to Attract Immigrants,” The Atlantic, July 21, 2015.
  14. Migration Policy Institute

  15. Donald Schneider, “A Guide to Understanding International Comparisons of Economic Mobility,” The Heritage Foundation, July 29, 2013.
  16. Julia B. Isaacs, “Economic Mobility of Black and White Families,” Brookings Institution, November 13, 2007.
  17. Ron Haskins, “A Key to Increasing Economic Mobility,” Brookings Institution, August 26, 2015.
  18. Cara Courage, “Why Indianapolis Is a Test Case for a Fairer Form of Gentrification,” The Guardian, August 21, 2015.
  19. Laura Entis, “Burnout, Anxiety and Emptiness: Founders Open Up about the Dark Side of Entrepreneurship,” Fortune, October 6, 2016.
  20. Mariana Mazzucato, The Entrepreneurial State—Debunking Public vs. Private Sector Myths (London: Anthem Press, 2013).
  21. Harrison Jacobs, “Here’s Why the Opioid Epidemic Is So Bad in West Virginia—The State with the Highest Overdose Rate in the U.S.,” Business Insider, May 1, 2016.