TCS Daily

Against the Venture Capitals

By John E. Tamny - July 14, 2004 12:00 AM

In his 1981 classic, Wealth and Poverty, economist and future technologist George Gilder wrote that the "man who seeks assurance and certainty lives always in the past." He went on to point out that "certain knowledge, to the extent that it ever comes, is given us only after the moment of opportunity has passed."

What Gilder meant is what all good investors know, that chasing performance is usually a fool's game, with the late arrivals buying last year's winners, usually at a significant markup. From railroads to autos to computers, investors know that some of the biggest fortunes are made by those who see the future before it happens. While not all late arrivals will get burned, their desire for "certain" investments often means they're buying at the top of the market in sectors that by virtue of being "known," are rapidly being commoditized.

Latecomers to the Internet boom are the arguably the most recent victims of the above reality. Now it seems it's the turn of state and federal politicians to learn what their wizened citizens already know; the difference being that their losses will be paid for not by them, but by their very own taxpayers.

In March, Pennsylvania Governor Ed Rendell signed into law a $1.1 billion economic "stimulus" package that includes funding for the New Pennsylvania Venture Guarantee (NPVT). This program will reimburse top tier venture capital firms for 50% of their losses so long as those losses occur within Pennsylvania-based start-ups.

From an economics perspective, the NPVT program is a classic example of the false stimulus that French economist Fredric Bastiat warned us about in the 19th century. Indeed, where's the stimulus for Pennsylvanians if the funding for these types of programs is paid for with their tax dollars?

Worse, the arrogant underlying assumption behind the NPVT is that the state somehow has an expertise in the vetting of venture capital groups. Certainly they'll cite past performance, but any real investor once again knows that past performance should not be used as an indicator of future returns.

As for the supposedly cash-starved Pennsylvania companies that Rendell et. al. would like to see funded, where's the stimulus for long-term growth if market losers are being kept alive at the expense of future winners? The obvious response is that VCs wouldn't seek out market losers, and there lies the fallacy: while it's not Massachusetts or California, Pennsylvania is usually among the top 10 states for venture investments. Money already finds its way to Pennsylvania, meaning any extra money will at best fund unwanted opportunities, as the "good" opportunities will by virtue of efficient markets have already been found.

The obvious answer is that there might be some winners hidden among the rejected opportunities. Precisely. That there might be shows how uncertain venture (dictionary definition: an undertaking that is dangerous, daring, or of uncertain outcome) investing is. That it's wildly uncertain should make taxpayers all the more unhappy that their elected representatives have chosen to put money not their own at risk.

The NPVT will not enrich Pennsylvania, nor will it make the state more of a magnet for investment dollars. It will, however, help to burden the citizenry through the taxes levied to pay for government-sponsored ventures, not to mention the economic distortion that will result from as opposed to seeking its highest value, money flowing to essentially free opportunities. Has Ed Rendell ever heard of moral hazard?

In fairness to Rendell, his state is not the only one in which this is occurring. From Oregon to Ohio to Jeb Bush's Florida, states are using taxpayer dollars to invest in life science and biotech firms. Last fall President Bush signed a bill that will direct $4 billion of federal dollars into Nanotech, an area thought by many to be the "next big thing."

For all we know, Nanotech or biotech may be the future, but if so, enterprising investors will be the first to know, and with money at stake, will do a much better job of apportioning limited funds. For now, federal and state governments could be most helpful if they simply reduced income taxes and regulations. Both have strangled far more businesses than any government-directed stimulus package could ever hope to create.

Wayne Crews of the Competitive Enterprise Institute has written that "politicians have no innate ability to pick among competing technologies," and points out that if they did, "they'd be entrepreneurs themselves." Crews's words are particularly relevant in these times. Consider that in the past couple of years, market heavyweights such as Yahoo (search technology), Sony (the Walkman), and liquor giant Bacardi have missed by a mile opportunities met by Google, Apple Computer, and Grey Goose.

If people with money in the game can't consistently see the future, it's not hard to see that governments will be tragically bad stewards of public funds. That in mind, when politicians request taxpayer dollars to stimulate growth, in the words of policy commentator Tom Miller, they should be given "nanodollars."

John Tamny is based in Washington, DC and can be reached at


TCS Daily Archives