Encouraging Entrepreneurship in Portugal and Beyond

Rafael Marchante/Reuters A window display advertised a sale at a shoe store in downtown Lisbon this week. Barriers to business entry and growth remain an issue in Portugal and other European economies.

Simon Johnson, former chief economist of the International Monetary Fund, is the Ronald A. Kurtz Professor of Entrepreneurship at the M.I.T. Sloan School of Management and co-author of “White House Burning: The Founding Fathers, Our National Debt, and Why It Matters to You.”

The richest parts of Europe today are doing well, and the less well-off parts have undeniable potential for further convergence toward the levels of technology, organization of companies and productivity levels common in northern Europe. We witnessed some impressive economic improvements over the last 20 years as Eastern Europe left behind its communist system, in part because of the creation of dynamic new companies (as in Poland) and in part as a result of investments by foreign companies (as in Hungary). But the extent of north-south productivity convergence within Europe has proved disappointing since the formation of the euro area in the late 1990s.

Southern peripheral Europe is now in the midst of a serious economic crisis, precipitated by the realization that sovereign debt may actually be quite risky. The immediate financial-market pressure receded last year when the European Central Bank indicated that it would intervene to keep yields (interest rates on government debt) at manageable levels, but there is still the critical question of when growth will return - and what rate of growth is sustainable in the medium term.

Does economic crisis of this type lead to more entrepreneurship, in a form that will put these economies onto a stronger growth path? Or does the contraction of credit and pressure on consumers and companies mean that it is much harder for a business to get started?

Portugal is a good place to look for some specific answers, and perhaps for clues to what may happen more broadly in Europe.

By some measures, Portugal is making good progress in terms of stabilizing its economy and getting public debt under control. A presentation in April by Vítor Gaspar, then finance minister, made a strong case that Portugal is on the mend - and should be seen more like Ireland than like Greece. Certainly the budget picture has improved and growth in the second quarter was better than expected.

But any macroeconomic recovery requires either existing companies to grow or new ones to form - this is what creates jobs. In terms of individual stories there are definitely some positive signs - including from recent coverage of companies that are increasing exports, in part because domestic market prospects are not strong.

And there are broader indications that corporate performance is gradually recovering across the board. Large investment projects are unlikely to face bureaucratic obstacles, although the overall level of political uncertainty remains an issue (and Mr. Gaspar resigned in July).

For smaller companies, numerous discouraging barriers to entry and growth remain, and the Portuguese government has not made it a priority to address these. For example, legal barriers still protect regulated professions, such as lawyers, doctors and pharmacists, despite the authorities’ commitment to push for all kinds of what is known as “structural reform.”

The World Bank’s Doing Business indicators provide a useful window into some of the concrete issues. Obtaining construction permits is a big problem (measured relative to other countries in this extensive database). And access to credit in Portugal is dismal, according to these measures â€" credit access worsened from 2012 to 2013 (Portugal’s rank fell to 104th in the world from 97th). This is not just the crisis; the available indications are that it was also hard to obtain credit before the government’s finances were viewed as problematic.

To be fair, the basic enforcement of contracts in Portugal is good (22nd in the world, according to the World Bank) - collecting on a bad debt or enforcing a noncompete clause in an employment contract is not much harder than in London or New York. And while there may be some corruption involved in real estate transactions, it does not seem endemic in all areas of economic activity.

Still, something more should be done - and not just in Portugal. The prospects for a rapid recovery in Italy also do not look good, if you focus on the potential for new business growth.

The broader picture is that the euro has not depreciated, so the incentive to export is more muted and the ability to compete against imports on the basis of price is less than in some crises (for example, what happened in parts of Asia after the 1997-98 crisis there or in Argentina after the currency board collapsed in early 2002).

Economists like to talk about restoring price competitiveness. But this is code for cutting wages, which is never popular politically. Portugal is no exception, although there has been an impressive decline in annual compensation (and labor costs) that on average is around 10 percent, in part through not paying the so-called 13th month bonus.

The best hope in peripheral Europe is the creation of companies and the expansion of companies that are currently small. Cutting regulation and red tape would be enormously helpful. Making it easier for companies to go out of business would also make sense; start-ups need to be able to fail in a clean and relatively painless way when things do not go well. Simplifying the tax system would also help.

I’m not in favor of having the government try to pick winners - or even, once fiscal order is restored, putting government money into any kind of venture fund or providing tax breaks or subsidies for particular sectors. This kind of policy has gone wrong in Portugal (and many other places) in the past.

But there must be broader ways for the government to make it easier to commercialize technology developed in universities. And matching big international companies with pockets of technology â€" for example, biotechnology research related to agriculture â€" could make sense. Fostering these activities does not necessarily require a significant capital outlay.

In January 2012, Peter Boone and I were pessimistic about the macroeconomic outlook in the euro area; I’m glad that our worst-case scenarios have not materialized. In part, the European Central Bank has been able to signal support for troubled governments without actually having to commit a great deal of additional credit.

We do not know how long it will be possible to sustain this policy - and eventually countries like Portugal must find their way back to growth. But in the decade before the crisis, Portuguese growth was anemic - around 1 percent per year (see Mr. Gaspar’s presentation, above).

Portugal has lots of talented, energetic people, as well as some strong engineering schools and outstanding physical infrastructure. The weather and the food are excellent. This is a friendly place where contracts can be enforced.

On the current trajectory, more and more smart young Portuguese people are likely to emigrate, for example to Northern Europe.

What would it take to move Portugal to a higher medium-term growth rate - and for aspiring entrepreneurs to want to build a business there?