2.1 The determinants of entrepreneurship
An individual will become an entrepreneur provided that the perceived benefits of such an undertaking are higher than the expected costs. Unfortunately, researchers rarely observe decision making directly, so a “second-best” solution is to proxy such costs and benefits using various individual and environmental factors. For instance, more risk-loving individuals may have higher perceived returns to entrepreneurship, while starting a business in a rural area may be regarded as costly, due to higher transportation costs or lower market size.
The relative importance of various factors may be different at different stages of entrepreneurship, which can be regarded as a multi-stage selection process (Eckhardt and Ciuchta 2008). Entrepreneurs draw from an initial pool of opportunities with varying characteristics, following which further selection, either internal (by the entrepreneur) or external (by other market participants), takes place. Local factors that generate entrepreneurial opportunities may thus be crucial in the initial entrepreneurial stage, and less important in subsequent stages.
Alternatively, localities with distinct economic, political and cultural characteristics may not produce the same type of entrepreneur. In the transition region, Estrin et al. 2006 examine the different types of entrepreneurs associated with each stage of the transition process. In the first stage with extreme uncertainty, no market structure and only informal networks, there is place only for Kirznerian entrepreneurs. While the spotlight in the literature has been on the glorious Schumpeterian entrepreneur who brings about “creative destruction” (Schumpeter 1934), Kirzner 1973 argues that opportunities do not arise from new information, but from differential access to existing information. A Kirznerian opportunity is more common, less innovative and reinforces established business practices.
In the second stage, the price mechanism starts slowly functioning as a conveyor of information. But it is only in the third stage - the development of which has stalled in many transition countries - that more developed market institutions and property rights create the necessary environment for the existence of Schumpeterian entrepreneurs. Progression from stage to stage is not automatic and the initial Kirznerian entrepreneurship can become entrenched.
As a result, these two conflicting views of entrepreneurship lead to very different expectations of its determinants. A Kirznerian entrepreneur, unlike his Schumpeterian counter-part, is deeply tied to his environment, due to its generating capacity of opportunities. As a result, characteristics of the entrepreneur’s locality, such as diversity, may be particularly important.
In the rest of this section, we discuss in more detail the mechanisms through which diversity may affect the costs and benefits associated with the decision to become an entrepreneur. We close by examining how social capital may affect the relationship between diversity and entrepreneurship.
2.2 The role of (religious) diversity
Diversity can affect entrepreneurship through at least two potentially opposing channels. At the firm or group level, heterogeneity could lead to better decision-making and positive outcomes. For instance, diverse groups are likely to have access to non-overlapping information sets and various skills relevant to a particular task (Lazear 1999). Moreover, exposure to different views can lead to creativity and innovation (Hong and Page 2001). On the other hand, diversity may breed conflicts and poor outcomes. According to the social characterization view, people categorize themselves and others based on similarities and differences, which leads to the distinction between insiders and outsiders (Williams and O’Reilly 1998). In-group members may be more trusted, which implies that homogeneous groups have fewer conflicts, are more committed and can better impose sanctions and enforce contracts (Fearon and Laitin 1996).3
As discussed in the introduction, diversity can have similar opposing effects in the cross-country setting as well. Diversity can lead to more conflict, less growth and less trust, but it can also spur productivity, output and economic development. The inability of diverse societies to agree on public good provision documented in the literature (Alesina et al. 1999) may be overcome with the provision of more but equally efficient private goods. In addition, diversity may be more likely to have a positive effect for more advanced societies, as opposed to poor economies.
Separating these effects of diversity is challenging from both a substantive and empirical point of view. Conceptually, diversity may capture language, ethnic and religious differences, among others. In this paper, we focus on religious diversity for several reasons. First, defining diversity precisely is important, as not all types of diversity may affect entrepreneurship in the same way. Second, religious identity is arguably less imprecise as compared to ethnicity or language: even if a person can be multi-lingual or multi-ethnic, one can rarely be a member of multiple religious group. As a result, endogenous reporting of religious affiliation may be less likely, as compared to ethnicity or language. Moreover, even though communist governments suppressed religious practise, religious cleavages have been important in the region both historically (during the times of the Ottoman empire) as well as more recently (during the civil wars in former Yugoslavia, Kosovo and Tajikistan, among others). Even so, we replicate our analysis below with a language diversity measure and obtain similar results (Unfortunately, we cannot do the same for ethnicity, as due to the open-ended nature of the survey question, ethnicity data is missing for a very large number of observations).
Our expectation is that, in the transition region context, the positive effects of religious diversity on entrepreneurship are likely to dominate. Despite the salience of religious divisions, faith-based conflict has been circumscribed to several countries only, while in most places peaceful co-existence has been the norm. Moreover, strong income growth in many transition countries may have provided additional incentives to harness the benefits, rather than costs, of diversity. Alternatively, it is also possible that some of diversity’s negative consequences, such as higher likelihood of conflict or labor discrimination, provide niche markets for business starters. For example, individuals excluded from government employment may be more likely to set up successful businesses, while post-conflict reconstruction may create demand for entrepreneurs’ services.
2.3 Social capital
The individual and environmental determinants of entrepreneurship discussed at the beginning of this section may not exist in isolation. For instance, social capital has been found to be a key driver of entrepreneurial behavior, as it allows access to information through social networks (Burt 1992). Information is sticky, so contact to the person holding it may be important (Von Hippel 1994). Social capital may also matter when market information is ambiguous and not a clear guide to behavior, as networks can replace information (Bourdieu and Wacquant 1992). As a result, entrepreneurs with social capital may be better equipped to take advantage of the positive effects of diversity.
Social capital can arise from different types of structures. Coleman 1994 argue for the benefits of closed, dense networks, where everybody is connected to everybody. In such a network, frequent contact not only leads to exchange of information, but also to trust as collective sanctions can be easily imposed and reputation can arise. Therefore, closure increases the risk of cooperation. In contrast, Burt 1992, argues that structural holes in a network increase the benefits of cooperation, as those who bridge these holes obtain a competitive advantage, due to the different information which each group carries. The broker between two groups gets early access to new information and achieves entrepreneurial control over the flow of information.4
In short, the social capital of a group may increase with the network density inside the group and as well as with weak ties to outside groups. We expect that a community that is religiously diverse can benefit from both of these advantages. On the one hand, religious groups are densely connected within. Religion’s function, according to evolutionary theorists, is to offer selective advantage at the group level by promoting cooperative behavior within the group (Norenzayan and Shariff 2008). Moreover, each additional religious group creates additional structural holes in the community that offer potential for bridging to entrepreneurial individuals with social capital. Therefore, religious diversity could harness both the benefits of closure around a particular religion and the bridging advantages among different groups.
This discussion leads us to three hypotheses which we will test in the remainder of the paper:
H1: The two stages of entrepreneurship, Trial and Startup, are affected differently by individual and environmental factors.
H2: Religious diversity is positively associated with entrepreneurship (either Trial, Startup or both).
H3: Religious diversity in a community is particularly beneficial to entrepreneurs with social capital.