Transcript provided by Kensho.



Nathan Hunt:  This is The Essential Podcast from S&P Global. My name is Nathan Hunt. The first time I drove down Sand Hill Road was in the late '90s coming back from a meeting with a technology company that was a client. I glanced at the understated building surrounded by understated landscaping and couldn't help but be surprised that this series of pretty office parks was the center of gravity for the all-powerful venture capital industry.

Since that time, venture capital has become a global agent of change and disruption, but those same leafy buildings are still of enormous importance.

My guest on the podcast today is Sebastian Mallaby, the Paul A. Volcker Senior Fellow for International Economics at the Council on Foreign Relations and the author of many wonderful books. His latest book is The Power Law: Venture Capital and the Making of the New Future.

Sebastian, welcome to the podcast.

Sebastian Mallaby:  Thanks, Nathan. It's great to be with you.

Nathan Hunt:  Let's start with the basics. What is the power law? And how does it apply to venture capital?

Sebastian Mallaby:  So the easiest way to start is to describe what the power law is not. It is not a normal distribution. And that's the kind one is familiar with. You plot all the observations of -- in a data set, and you get a bell curve because most of the observations cluster around the average one.

So a good example would be that the average height of an American man is 5 feet 10 inches.

And most American men are within 3 inches of that. It's pretty rare not to be. So if you think about a movie theater and there's an NBA star at the back who is 7 feet tall and he's bored by the movie, he walks out. The average of all men in the movie theater, how high they are, is not going to be affected by one 7-foot NBA star walking out because everybody else is clustering around this average. And so the outliers can be just ignored.

On the other hand, think about the wealth distribution for American citizens. You get some people who are way, way, way wealthier than everybody else. And so if at the back of the cinema, instead of the NBA star, you've got Jeff Bezos and he walks out, the average wealth per person in the movie theater is now going to crash.

And that's a parallel distribution, in other words, one where the unusual events in the tail of the distribution really affect the average.

That's what you get with venture capital. You get a portfolio of investments in startups, and probably 8 out of 10 are going to go nowhere in particular, right? The startup will fail or it will just about be able to liquidate and sell a few assets but basically will return nothing.

And then we've got 2 or something that really do well, and they didn't just do a bit well. There can be 10x the capital invested 20x, 30x, and that's a parallel effect where the outliers are dominating the result for the whole set.

Nathan Hunt:  One of the recent guests I've had on the podcast was Bill Janeway of Cambridge University. In his book Doing Capitalism in the Innovation Economy, Janeway talks about the 3-player game, meaning that innovation is the result of an interaction between governments, entrepreneurs and investors.

Although you have focused a lot on the last 2 and particularly investors in your book, you have some interesting things to say about the role of governments. Which governments do you think have been effective in supporting innovation?

Sebastian Mallaby:  So as a general matter, I think the role of governments is, first of all, to invest in basic science, the fundamental research that comes before any attempt to commercialize it and, along with that, to generally invest in the education of technologists. So K through 12 as well as university-level support, including national science fellowships for doctoral students and post-doctoral students, I think all of that is where the government is most effective.

And then there are some legal and tax things which are helpful. The limited liability partnership structure is one that I believe has helped Silicon Valley and the U.S. in general to be good at creating these investment partnerships, including venture capital partnerships.

And then there's one last thing I would highlight, which is that noncompete clauses are obstacle to effective innovation because start-ups typically raise money and they've got a 6-month runway or a 9-month runway before the money is going to run out. So if they raise the money and identify the perfect person to come and join the company but it's going to take that person 6 months to work out some noncompete with a previous employer, that's using up most of the runway right there before they even start. And that's a serious impediment to scaling tech start-ups. So I'd say those 3 buckets of things, tech education and basic science, tax and partnership structures and, finally, noncompete clauses.

Nathan Hunt:  One thing you didn't mention is direct investment in technology start-ups. When you think about a country like Singapore with their Temasek investment fund, do you think that they have been effective?

Sebastian Mallaby:  I think that government money directly into start-ups or government money sometimes being invested into private venture partnerships that then invest in startups, these things can be a good idea for a temporary period when you're trying to start from nothing in terms of a start-up ecosystem. I believe Israel is probably the most successful experiment in using that government sort of catalytic money to kickstart a venture capital business.

Israel is notable for doing this temporarily and then withdrawing government support because once you had done the first round of investment funds, so the way it worked was that the government said it would put money into private investment partnerships if they raise some private capital as well. And then once they did that and each of these private VC companies raised enough money invested, the first fund got decent returns, then they could go to private investors for the second fund and not need government support anymore because they had a track record by then.

I think that's a reasonable model. But I think it's actually more common for governments to overdo this direct support. For example, Europe has had enormous amounts of public money going into private venture capital partnerships such that governments are often the dominant LP, in other words, the dominant limited partner providing money to general partnerships that actually do the VC investing.

And when we do that and government money is obviously not as profit-seeking, not as tough, you tend to just lower the quality of startup that gets backed. And that means that average returns are not very good. And that deters private capital from flowing into venture capital. And so instead of crowding in private money as the Israelis did successfully, you can end up crowding out private money, and that's a bad idea.

Nathan Hunt:  Your book, The Power Law, is explicitly about the history of venture capital primarily in the U.S. But it also feels like a shadow history of innovation and capitalism in this country from the post-war period until today. While you were writing the book, were you aware how broad the canvas was becoming?

Sebastian Mallaby:  I began with the idea of writing history that would be focused very much on Silicon Valley. And I quickly understood that the comparison with Boston was going to be interesting and illuminating because in the early days of venture capital in the '60s and '70s, MIT and Boston and that whole area was actually a stronger technology center than the West Coast. And it was interesting to think about why the West Coast overtook Boston. And I make an argument that really it's because the venture capital companies on the West Coast were more go-getting, more risk-tolerating. And they just backed a better class of start-up than the ones in Boston.

But what I was not expecting until quite advanced in my research was that going to China would be so revelatory. I mean I went there with the idea of interviewing a good list of the top venture capital players in China because China has obviously built a start-up ecosystem that was rivaling the U.S., one, in size. And there were stories like Alibaba and Baidu and Tencent and Meituan and others that had really made it big.

I remember speaking to partner at Sequoia Capital who was telling me that the biggest hit in the Chinese portfolio has just surpassed Google as the most profitable investment Sequoia had ever made. So I mean my ears pricked up. I realized I couldn't ignore that scale of success, so I went to China.

But the revelation came when I realized that the way the digital economy got started in China was uncannily like the way it got started in Silicon Valley, I mean, separated by about 40 years or so, Silicon Valley getting going around 1960 and China around 2000. But the role of venture capital in both cases was central. It sort of reinforced my willingness to go with this argument that, as you say, Janeway and others have written about how there are multiple players in creating innovation. There's the government, there's the entrepreneurs, and then there's the venture capitalists. When you look at China and the Silicon Valley closely, I think the role of the venture capital has been hitherto underplayed. So it was going to China that really cemented that point of view for me.

Nathan Hunt:  I was fascinated in your book by the changing deference shown to founders over time. When you contrast the experiences of Leonard Bosack and Sandy Lerner, the founders of Cisco, with the experience of Mark Zuckerberg, it's pretty stark. I'm wondering if you can share how were each of these founders treated by VCs during their era.

Sebastian Mallaby:  In the mid-1980s, Sandy Lerner and Len Bosack were both technicians at Stanford University's computer services departments. So they were actually making the computers run for the academics. And they figured out that there was a problem. One of them, I think, was working in the business school and the other one maybe in the engineering department or something. And they couldn't send messages back and forth to each other because they were both on local area networks. But on separate ones, the business school's local area network couldn't talk to the engineering department's local area network.

And as myth has it, they wanted to send love notes to each other. They became the co-founders of Cisco, but they were also married at the time. So they would attempt to build a new kind of router that could link up 2 separate local area networks. And so it would be sort of a network of networks. And so they came up with this.

Len Bosack did most of the work, although he was helped by other people at Stanford. And they installed this, and it worked really well, and then they installed it all over the Stanford campus, so that all these different departments could be connected into one network of networks.

And then Sandy Lerner realized that you can make a company out of this. And so they could sell this product to all sorts of companies and other organizations that had the same problem of multiple balkanized local area networks. So they quit Stanford, and they set up Cisco. And they were trying to build this company.

And then they took a venture capital investment from Don Valentine of Sequoia. And right from the start, it was clear that Bosack and Lerner had created a brilliant product. They had the idea of starting a company. They were not terribly good at running the company. In fact, there were fistfights going on amidst the staff. Culture internally was terrible. Everybody would yell at each other.

And the whole thing may have been made more difficult by the fact that Sandy Lerner was a rare case in the 1980s of a CEO who is a woman. And I don't think that necessarily went terribly well with the male engineers. And so that probably made the internal culture more dysfunctional.

But in another event, when the venture capitalist came in, his view was this is a fantastic product. I'm sure I can make money from this product. I'm not sure that these founders know what they're doing, so I'm going to sideline them. I'm going to bring in a new Chief Executive whether they like it or not. And I'm going to bring in not only that, I'm going to bring in an entire new engineering team, an entire new management team. At one point, another of the venture capitalist from Sequoia was installed as the sort of interim head of manufacturing or engineering, one of those departments, and he put in his own people.

And so they basically sidelined the founders. And eventually, they fired the founders. And that was a story that was a bit extreme for the 1980s. But basically, the idea that venture capitalists might invest in your company and then take it away from you was not totally unheard of. And so that's the 1980s.

Now fast forward to 2005 when Facebook is the hottest company in Silicon Valley, and it's wanting to raise some capital but everybody is keen to invest. They have the temerity to show up at a meeting, again, at Sequoia as it happens. And Mark Zuckerberg shows up late for the meeting with Sequoia, and he's wearing pajamas. And then he presents a slide deck which is not about Facebook. It's about a side project he's got called Wirehog. And he's basically making fun of the VCs, and he presented this slide deck saying 10 Reasons Why You Should Not Invest in Wirehog. And the last reason is sort of because we showed up late in pajamas.

So it was just one elaborate kind of undergraduate prank that he was playing on Sequoia showing total disrespect. And so the whole relationship and the power game between the Cisco story in the 1980s, where the founders were fired by the VC, to the Facebook story 40 years later, when the VCs are being dissed by the young founder, it is quite a turnaround.

Nathan Hunt:  Back in the late '90s when I was working in San Francisco, John Doerr of Kleiner Perkins was a monumental figure. I was surprised to see that he didn't come off so well in your book particularly compared to his contemporaries like Doug Leone or Michael Moritz at Sequoia. You credit Doerr on lots of things, his whole keiretsu model, the hiring and promotion of women, a commitment to green tech. What do you think it was about him that led Kleiner Perkins under his leadership to fall out of the top tier of venture capital firms?

Sebastian Mallaby:  Well, just to sort of start just quickly with the good stuff, I mean he is one of the most brilliant, messianic and magnetic figures in Silicon Valley. He was described by one entrepreneur as having the emotional commitment of a priest combined with the energy of a race horse. And he really is a remarkable guy, so it's not a surprise that he had some amazing hits in his career going from Netscape, which kind of kicked off the Internet revolution, to then backing Amazon, backing Google. So let's just stipulate that he was a great investor.

And as of 2001, Kleiner Perkins had John Doerr ranked #3 in the world of all investors according to the Forbes Midas List. And then #1 investor in all the world was John Doerr's partner, Vinod Khosla, another very charismatic, strong-willed venture capitalist.

So Kleiner at that point, were the #1 and the #3 investor in the world, was basically the top VC partnership in the world. And what's amazing is if you look forward 20 years to 2021, you look at that same Forbes Midas List, there is only one Kleiner Perkins person in the top 100, and that's John Doerr at 77th.

So it goes from having #1 and #3 to having nobody in the top 70, and it's a remarkable decline. Why did it happen? Now I think it points out one of the key differentiators between great and durable venture partnerships and those that are not quite so durable. And that is the internal glue within the partners where we know among the partners. And the fact that VCs sometimes are collections of charismatic driven brilliant people who operate pretty much on an eat what you kill individualistic basis, and they go off and do their own deals. And then they meet up on Mondays for a partner's meeting, but most of the time, they're operating fairly much individually.

And I think that kind of partnership can break apart pretty easily. And what happened with Kleiner Perkins was that in the '90s when he was riding high, there was a sort of happy balance of personalities around the table, happy meaning that because there was both Vinod Khosla and John Doerr, and they were almost equally brilliant and equally successful, they could check and balance each other. If one of them have an idea and the other one did not agree with it, they could rein each other in on ideas that might not be so smart.

And then there are others around the table who were not quite as successful as investors, but they were important in terms of sort of guardians of the culture. They would spend the time on making sure that the support staff or others were properly looked after, that if there was a fight among 2 partners, there's somebody who would mediate. And they kind of just -- they were good guys, and they stood out for that culture.

And by the end of the 1990s and then the early 2000s, so much money had been made by Kleiner Perkins that they all have enough cash to go off and start their own venture partnerships, if that's that they preferred. And that's what happened. And all of a sudden, John Doerr was left there with 7 of his long-term allies gone. And he filled those empty seats either with sort of senior Valley figures who had been top salespeople at big Valley companies or had, had some sort of a star power-ish kind of late career profile to them or the one people who were sort of too young in their career to really stand up to him. So you had either experienced people but they were not train venture capitalists or you had young venture capitalists but they were young and they couldn't stand up to John either.

And so I think what happened is that the internal checks and balances on John Doerr's drive and vision fell away. And as a result, when he got enthusiastic about something such as climate technology, he went all in with no check and no balance and he did it too much. And others have suggested to me that maybe he was also what they call post-economic, which means so rich you don't care about making money. Perhaps that's why he was drawn into climate technology because it was about saving the planet and he was willing to risk that it just would lose money. Anyway, it did lose money.

And at the same time, as climate tech was going wrong and dragging down Kleiner Perkins' returns, there was this problem with the culture around the recruitment of women because gender had the right instinct, he wanted to have more women come into venture capital. He was married, by the way, to a very impressive engineer, a woman who had been at Intel in the '70s and, in fact, was the reason why John had moved all the way to California to try to persuade this wonderful woman engineer at Intel to marry him, and he succeeded in that. So there he is. He's made to a strong smart woman. He's got, I think, 2 daughters, if I remember right, who he loves and respects.

And he believes in advancing women. And I talked to several of these women that got hired by Kleiner Perkins, and they really liked John Doerr, and they were grateful and thankful that he bet on them and advanced their careers. But what happened was that John Doerr, being brilliant, messianic, visionary and so forth, is moving around at such a speed that he doesn't have time necessarily to focus on the internal glue of the partnership, that internal culture. And so women who joined Kleiner Perkins brought in by him, and then they would find that the other partners have not got the memo about a culture that was going to be supportive to women, instead of which the women were not respected, they were harassed, and it was a toxic climate for them. And that ended up in a sexual harassment suit. I should say that I think Kleiner, as I recall, got off, was found not guilty.

Nonetheless, there was a suit that did huge damage to Kleiner's reputation whilst all these green tech investments were going wrong. And that meant that Kleiner Perkins went from the top perch in Silicon Valley and Sand Hill Road to being kind of around the middle of the pack. So it shows you that path dependency is not absolute in venture capital.

Nathan Hunt:  I got the sense reading The Power Law that the early days of venture capital were about fundamental innovations, the semiconductor, the router, the personal computer. It's hard not to contrast that with the modern unicorn era of Uber or WeWork and find the present a bit wanting. Did you have a sense that the nature or degree of innovation had changed over the period of time that was covered in the book?

Sebastian Mallaby:  Well, I think the first thing to say is that software is a terrific thing. And just because tech companies were more about software from around the mid-90s, basically, the advent of the Internet changed the game. And all of a sudden, you could build these software companies on top of the Internet and have them scale extremely quickly, recruit tons of consumers, and it didn't take much capital to build software relative to building semiconductors or computers and say you could just, on a smaller capital base, generate enormous revenues and have an amazing return on capital.

And that's a good business model, but it also created great products that people love. And I wouldn't want to go back to a world without Google Search. So I think that there's nothing wrong with the fact that the 25 years or so from the flotation of Netscape in 1995 have been mostly about software eating the world. Of course, there's lots of examples where we used to have a hardware object like an alarm clock or a calculator, and now it's just a piece of code on our smartphones. That's terrific. I'm all for that. So I don't want to sort of diminish this era of software investing.

But what I would say is that it's created a bit of a tenure vision about what venture capital either is or should be or can be that it can only be about software. And I think that's wrong. I mean the only part of my book, as you say, shows that there's a whole pre-history of VCs backing semiconductor companies, personal computer companies, router companies like Cisco.

So it can be about hardware.

There's a biotech strand to venture capital, and that includes -- there's a pharmaceutical part of that, but there's also a sort of medical robotics side. There are new VC partnerships that are starting out with an explicit mandate to only do high tech or someone just called deep tech. And so that could be things like new kinds of nuclear power businesses, new batteries that make electric vehicles work, so there's quite a bit of hardware going on.

If you think about the most iconic figure in tech right now is Elon Musk, who has built a car company and a space company. So it's not true to say that venture capital is only about software. It can be about more, although I think the software in itself is pretty amazing.

Nathan Hunt:  I'd like to return to a point you made earlier. I have friends who work at venture capital firms in New York, in Oregon, Montana, but all of them would agree that the center of gravity for venture capital in the U.S. is in the Valley. What do you think are the cultural factors that have led to this West Coast dominance?

Sebastian Mallaby:  When I started my research, people would say to me that California is special because the gold rush of 1849 brought entrepreneurial people to the region. And that's where Levi jeans were first manufactured, and there was the sort of risk-taking Wild West entrepreneurship. And that, that gene pool sort of continues to exert an influence on modern Silicon Valley.

And I just think that's nonsense. I mean it's hard to disprove completely, but I will say that one of the features of Silicon Valley, of course, is that it's dominated by migrants, even migrants from other countries, which I think account for 2 out of 5 entrepreneurs, but also just people who graduate in computer science from either Carnegie Mellon or Champaign, Illinois, which has a great computer program. And the day after they graduate, they get in the car together and they drive to the Valley. So the idea that there's some kind of continuous gene pool thing just seems ridiculous.

And I think a broader cultural version of that story is not particularly -- I'm not a great believer that you sniff the air in some place, and the culture will change how you behave. What I do think and what I show through anecdote after anecdote in my book is that venture capital itself creates a different sort of culture around it because if you've got venture capital investors looking for deals and happy to write checks and they're rubbing shoulders with people who work at Hewlett Packard or Intel or some other established tech company, the people who are frustrated at their established tech company and who have an idea and who will find that their immediate boss at the established company is kind of distracted and doesn't want to listen to them about this new idea, there'll be a venture capitalist with them within the next sort of 24 hours saying, "Great idea. Why don't you just do your own company? I raise the money for you. It's easy."

And then the slightly fearful person at the big company, say it's Google or Apple or whatever, to change the example, says, "Yes, but I'm very comfortable at Google and Apple, and they're paying me very well. And if I go off by myself, it will be difficult. I have to have these people to work for me."

And the VC says, "Don't worry. I have a whole Rolodex for that. I'll help you to hire the first 3 people." And the would-be entrepreneur says, "Yes, but they've never heard of me, these people. They don't want to come to work for some start-up. It might fail." And the venture capitalist says, "Of course, it might fail, but that's fine. They're going to come and work because I'm going to tell them that if they come and work for the start-up and the startup fails, I'll get them another job at a different start-up because I'm funding several a year, and there's a big pipeline." So I think venture capital to the extent that people don't realize is a machine for manufacturing courage. It derisks entrepreneurship, and that changes the culture.

Nathan Hunt:  One of the lessons that I took from The Power Law was that VCs with the strongest cultures became the ones who established and maintained a leadership position over time. Did any of the firms that you look at impress you particularly in this regard?

Sebastian Mallaby:  Yes. Sequoia Capital impressed me particularly in that regard. I mean they've gone through -- arguably, they're about to go through their fourth leadership transition since their founding in 1972. And these transitions are often at a moment of peril because, as I was describing with John Doerr and Kleiner Perkins, if some people leave and the leadership team is changed, the chemistry within the partnership can go badly wrong.

Well, Sequoia has handled that because it's got such a strong culture. And what's more remarkable is that people leave the top position there without leaving Sequoia. They tend to hang around and remain as investors at Sequoia even though they're no longer called steward, which is the title they assigned to the top 1 or 2 people.

So it really is a very strong culture, and that's not by accident. I mean they work on it. So a good example of this is Roelof Botha, who's about to ascend to being the top person at Sequoia.

When he joined, he was, I think, around 30 years old, and he only had a track record as a brilliant person, top of his class at Stanford Business School, the Chief Financial Officer at the start-up PayPal, which was a big, big success story. So he came with an extremely strong profile. Otherwise, he wouldn't have been hired.

But nonetheless, he'd never been an investor before.

And Sequoia deliberately went out of its way to turn him into an investor. And that meant, for example, when he found the first deal he wanted to back, he partnered with an older Sequoia partner called Pierre Lamond, who said to him, "Look, Roelof, if you go on the Board of this company, you just brought to the partnership and it fails, and these start-ups, by the way, do fail, it would be a black mark on your resume. And it won't be a good start to your career as a VC. So what we're going to do is I'll go on the Board, you will come along with me, and you'll shadow me at all the meetings. And then after 2 or 3 years, if it seems like it's going to succeed, we're going to switch positions so that when it does do its IPO or gets acquired, then you get the halo effect. You get the Midas touch, and that will help you to do the next deals and to be regarded as a successful VC, and people will want you on the Board from the start next time you do the investment."

And so that was the deal they did. And that's a contrast with other venture capital partnerships where it's almost the opposite, where the senior partners who want the glory kind of steal deals off the plates of the younger ones and, therefore, never really give the younger ones a chance to develop into fully fledged investors who can take the place of the older ones. So generation transitions become really hard to engineer because you haven't brought along the younger group.

Nathan Hunt:  At the end of the book, you look at some of the common criticisms of the venture capital industry, including the absence of women and minorities. This immediately follows a chapter that tells the story of Uber. And I have to wonder, when you think of Benchmark Capital, which was so important in the early funding of Uber, this is a firm that hired people based in part on whether or not they were good at basketball and how aggressive they were on a hunting trip. Then this company ends up with somewhat out-of-control founder who exhibits some very stereotypically male behavior.

I can't help but think that it isn't a coincidence that Benchmark found itself in this situation. Was the proximity of the Uber story and the gender discussion in your book something you intended?

Sebastian Mallaby:  Not really. I mean I think you're making a good point about Benchmark's relationship with Uber and Travis Kalanick, and it probably is true that things would have played out differently if Benchmark had 6 women partners instead of 6 men partners. They might not have ever invested in Travis Kalanick's company because he might have given off a sort of bro vibe in the beginning, and maybe they wouldn't have gone for that.

So -- but who knows, right? We're the ones sort of speculating there. I mean the story I tell about Uber is a slightly different one, which is that the Board member from Benchmark, Bill Gurley, wanted to rain Kalanick in when he started to go off the rails. And he couldn't because later-stage investors had put in tons of money into Uber and diluted Benchmark's ownership and also allowed Travis Kalanick as the CEO to have super voting shares, which enabled him to basically control the Board.

And under those circumstances, the venture capitalist who in the older days, in the '80s and '90s, would have had the clout to basically stand up to the entrepreneur and say, "You need a Chief Legal Officer who can actually enforce some legal rules because we can't afford to have lawsuits against us. You need a Chief Financial Officer, who's really going to control the finances of your operation because we're all for innovation, but you're not going to innovate your way to a better financial culture. I mean that's -- we -- some areas of the business have to be conservative, law abiding and safe. And then go innovate on some other part of your business around the technology but not there."

And that's what Gurley was -- Bill Gurley was saying to Travis Kalanick, and he was being ignored. And so I think the Uber tragedy is more a case of changes in the industry having to do with growth capital investors who write big, big checks to unicorns, not caring enough about governance, just writing big checks and then behaving like passive investors as opposed to the traditional venture capital, which is you go on the Board and you exercise strong oversight, you guide the founder. And it's a partnership where you'd asked tough questions where, ultimately, you're going to back the Chief Executive because it's their company, but you are going to call them to a court. And on some things, you're going to insist that they put in safeguards. And in the end, the Benchmark investor Bill Gurley did manage to get Travis Kalanick fired, but it took time.

And basically, it's possible because Kalanick went so far off the rails that there were multiple scandals surrounding him. And so it became -- he was weakened sufficiently that even a minority shareholder could push him out. So I think it's less about gender than about the structure of the industry.

Nathan Hunt:  We could certainly do an entire podcast just on the topic of venture capital in China that you cover pretty extensively in your book. But I don't have time to cover all aspects of that. So I'd just like to ask one question, which is do you think that the recent actions of the Chinese government, specifically concerning Alibaba and the crackdown on the online tutoring industry, will have a chilling effect on the pace of innovation and investment in that market?

Sebastian Mallaby:  Yes, I do. I mean I like the one you said it's a chilling effect. In other words, there's no immediate freeze because that's not how innovation and venture capital work. There's a lot of kind of inbuilt momentum. You've got venture capitalists who have embedded themselves in China from way before this crackdown, and they hold a portfolio of excellent startups that can't just be sold on a dime. And so none of these investors who are driving the Chinese digital economy are going to pack up and leave. They would have to withdraw slowly over time. And who knows what the policy environment will be going forward.

So it's a chilling effect. It's not an immediate crisis for them. But I think that if policy remains a little bit capricious and sort of unpredictable clampdowns like the one on online tuition are followed by more such clampdowns. Then it has to be the case that venture capitalists are going to prefer to do deals in India or Europe or somewhere else because it's just such a big risk that you might back a set of companies that do really well. And right before you're about to realize a huge return, the government decides that it just doesn't like your industry anymore, and it effectively kills it overnight. I mean that's not the sort of risk you want to live with as an investor.

And there's a version of this argument that is there is, okay, because the government is quite clear that it says that it's happy for venture capitalists to going back certain sectors like semiconductors or like artificial intelligence. And if you stay within that guidance, the government won't clamp down or mess you about.

But it's a difficult promise to be sure about because the government might change its own mind. Plus, when government's direction is influencing capital allocation, you tend to wind up with a capital allocation that is not entirely influenced by to market signals and where the demand for products is most likely to be. And I think over time, that leads to a less productive digital economy.

Nathan Hunt:  The book, once again, is The Power Law: Venture Capital and the Making of the New Future. Sebastian, thank you so much for joining me today.

Sebastian Mallaby:  Nathan, it's been a pleasure. Thank you for having me.

Nathan Hunt:  The Essential Podcast is produced by Kurt Burger with assistance from Kyle May and Camille McManus. At S&P Global, we accelerate progress in the world by providing intelligence that is essential for companies, governments and individuals to make decisions with conviction.

From the majestic heights of 55 Water Street in Manhattan, I am Nathan Hunt. Thank you for listening.