Family Firm Connections and Entrepreneurial Human Capital in the Process of Development

In this paper we present a new theory accounting for the heterogeneous impact of family firms on economic growth. We develop an overlapping generations model, where agents are heterogeneous in innate talent, and family firms have access to an additional source of managerial capital, family connections, which affects the incentives of the firms' owners to pass on the company within the family and invest in the entrepreneurial human capital of their heirs. Our theory predicts that family firms cluster into heterogeneous groups with different management practices, inducing, at the aggregate level, a misallocation of talent that affects economic growth and the evolution into either a dynamic or a stagnant society, depending on the productivity of family connections in doing business. This heterogeneity in management practices and entrepreneurial human capital explains the different contribution of family firms during industrialization, highlighting the many possible evolutionary patterns for the economy and long-run growth regimes. Consistent with the theory, we provide empirical evidence in favor of the importance of social connectivity among individuals for explaining the difference in management practices between family and non-family firms, and, in turn, the GDP per-capita across countries.