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Risk and Uncertainty

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Handbook of Entrepreneurship Research

Part of the book series: International Handbook Series on Entrepreneurship ((IHSE,volume 5))

Abstract

Imagine that you have a brilliant idea for a new business. In fact, your experience and expertise lead you to believe that this is a sure-fire winner. You approach the bank with your idea and they only laugh. You also discover that venture capitalists require a very high interest rate (or equity stake) in order to fund your venture. What’s going on here? One explanation is that, because you are an entrepreneur, you are more willing than investors to undertake risk, that is, you are less risk averse. This is a long-standing argument in the literature on what makes an entrepreneur (Brockhaus 1980). An alternative explanation is that entrepreneurs seeking funding think they are selling US treasury bills while investors think they are being offered pre-Castro government bonds.

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Notes

  1. 1.

     See also Stewart et.al. (1999), and references therein. Empirical studies include Rees and Shah (1986) and Jennings, Cox, and Cooper (1994).

  2. 2.

     Fernando Alvarez, private communication.

  3. 3.

     See Casson (1982), Hebert and Link (1988) and Barreto (1989).

  4. 4.

     See Bates (1990) for an empirical investigation of the effect of investment in human capital on the willingness of investors to invest.

  5. 5.

     See Chandler, Galen, and Hanks (1998) for evidence that human capital and financial capital are partly substitutable.

  6. 6.

     The relationship between attention and risk preferences has also been addressed in March and Shapira (1987, 1992). Their analysis concerns how the focus of attention on aspects of the risky venture affect risk perceptions. Here, I suggest that the allocation of attention affects only the expected value of the venture.

  7. 7.

    Another analogy is useful is to imagine a juggler who is rewarded according to the number of plates he can spin on the tips of long sticks. As soon as one plate is spinning, he can set up another one. However, as he continues to set up additional spinning plates, the first one starts to wobble, threatening to fall. The choice the juggler faces is to either continue to set up new plates or to go back and try to respin old plates. New plates may or may not be balanced and current plates that have fallen may be broken.

  8. 8.

     For a more detailed description of these abilities see Gifford (1993).

  9. 9.

     In some cases, the returns to the venture are received only when it is liquidated (Gifford, 1997).

  10. 10.

     This problem is solvable as long as the one-period return to any venture is bounded. The number of projects is not bounded.

  11. 11.

     Assuming that all else is equal, if one distribution F(x) of a random variable x is a mean preserving spread of another distribution G(x), then these two distributions have the same expected value but F has a greater variance and so is more risky.

  12. 12.

     See Iyigun and Owen (1997) for a macroeconomic analysis of the effects on the economy of investments in human capital.

  13. 13.

     See Levy and Lazarovich-Porat (1995) for an empirical test of the effectiveness of such a “revelation mechanism.”

  14. 14.

     See Gifford (1997).

  15. 15.

     See Bester (1987) for an early paper explaining credit rationing with asymmetric information.

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Authors and Affiliations

  1. Department of Finance and Economics, Rutgers University, 111 Washington Street, Newark, NJ, 07102, USA

    Sharon Gifford

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  1. Sharon Gifford
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Correspondence to Sharon Gifford .

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Editors and Affiliations

  1. School of Public Policy, George Mason University, University Drive, Fairfax, 22030, USA

    Zoltan J. Acs

  2. Indiana University, Bloomington, 47405, USA

    David B. Audretsch

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Gifford, S. (2010). Risk and Uncertainty. In: Acs, Z., Audretsch, D. (eds) Handbook of Entrepreneurship Research. International Handbook Series on Entrepreneurship, vol 5. Springer, New York, NY. https://doi.org/10.1007/978-1-4419-1191-9_12

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