Small Business and Job Creation: It’s Not What You Think

October 18th, 2011 at 2:50 pm

I’m not entirely sure what point Scott Shane is making here in rebuttal to an earlier post, but a) if he’s questioning the importance of surviving startups in net job creation, I disagree, and b) the key point is to better understand the poorly understood relationship between firm size and job creation.

The conventional wisdom that small firms are the engine of job creation isn’t supported by the data once you control for some key factors, especially firm age.  And it is here that the role of startups becomes clear.

The best work on this comes from this paper by Haltiwanger, Jarmin, and Miranda (HJM).  Here’s their key figure, which shows rates of net job growth across firm size, adding various controls.

Source: Haltiwanger, Jarmin, Miranda (2010); link above.

The line marked “Base Year Size” supports the conventional wisdom, showing high rates of net job growth for small firms and low rates for larger ones.  But once the researchers control for two key factors—regression to the mean and firm age—that relationship flips (“Current (Avg) Size with Age Controls”).

 “Regression to the mean” is about the gravitational pull of the mean value in statistics.  In this context, the largest firms tend to be getting smaller and the smallest firms tend to grow.  HJM control for that by averaging firm size over time.

Regarding firm age, the big story here is that startups—which can only grow at first but which also have high death rates—play an important role in these dynamics.  They’re small at first, and many perish—about 40% of the startups’ jobs are lost through firm death after five years.  But if they survive, they will generate significant job growth (HJM: “conditional on survival, young firms grow more rapidly than their more mature counterparts”).

This finding and the flip of the lines in the figure when the proper controls are applied have important policy implications.  Once we account for the startup effects, small businesses, per se, are not the engines of job growth they claim to be. 

As I noted here, they need and deserve help given their size, credit constraints, and lack of scale economies. But we’d be better off in terms of job growth if we listened less to their conservative lobbyists constant patter on tax cuts and deregulation, and thought more about clearing the way for startups.

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5 comments in reply to "Small Business and Job Creation: It’s Not What You Think"

  1. Jonathan says:

    Hey Jared,
    Not sure if you saw this either but Joe Nocera also made the claim about small businesses in his latest op-ed. You should e-mail him and get a correction considering your a bigger name than me!

  2. jack says:

    Paul Graham has a nice piece on startups and failure. This is focused on the tech side of things. It’s only somewhat related to this post, but it does kind of tie with service exports industry as well.

  3. John says:

    “But we’d be better off in terms of job growth if we listened less to their conservative lobbyists constant patter on tax cuts and deregulation, and thought more about clearing the way for startups.”

    You must be mad! Conservatives care nothing for small business, they are the puppets of the multi-nationals in DC now. Yes both parties are corrupt, but the larger issue is big business lobby. Why has no one made the point that it doesnt have to be regulated or de-regulated? In this environment a place to start would be to deregulate and give tons of breaks and capital options to any business under 50 employees. All small business can not be on the same play ground of the plundering multi-nationals and survive. Make it cheap and easy to get into a startup and let the big boys pay their way, as they should.

  4. Jeri Vespoli says:

    Yes, let’s clear the way for startups.

    And if we also significantly improve their resources (beyond the current non-profit and private investment support for high growth ‘gazelles’), maybe they will not subsequently destroy jobs, and instead become a part of the continuing firm net job creation numbers. Maybe we should also increase the resources of large firms. Oh, wait, we’ve tried that.

    With bootstrap financing, shoestring budgets, and human resources of 1-20, microbusinesses (twenty-one million non-employers included) are responsible for over 35% of the workforce. (2008 data

    We should absolutely clear the way for more startups to start UP. And, I would venture that more research and much-improved resources for microbusinesses (not just ‘gazelles’), would yield a higher job creation ROI than our other ongoing experiments.