The slow-motion collapse of American entrepreneurship

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Washington Monthly
By: Barry C. Lynn and Lina Khan
July/August 2012

The slow-motion collapse of American entrepreneurship

For all its current economic woes," the Economist magazine recently asserted, "America remains a beacon of entrepreneurialism." That idea is at the heart of America's self-image. Both parties celebrate entrepreneurial small business as the fount of innovation and growth. Even if America no longer manufactures its own smartphones or computers, we cling to the idea that American entrepreneurs invent most of the new products and services that matter to the world.

Americans also view entrepreneurialism as a vital route to upward mobility--a way for average people to build wealth, in the form of a business venture that can be passed on to one's children or sold upon retirement. Whether it's the family farm or the local diner, small businesses have traditionally provided citizens not only with income but also with a place to teach kids the value of responsibility and hard work.

Then there's the role entrepreneurs play in creating jobs. One recent study by the Small Business Administration (SBA) showed that businesses with fewer than twenty employees were responsible for more than 97 percent of all new jobs between 1988 and 2004.

More broadly, Americans have traditionally seen entrepreneurship as a crucial measure of the nation's political vibrancy and liberty. We hold that the more independent citizens we have, the more widely power, responsibility, and voice will be distributed, and hence the stronger our democracy will be. The basic thinking here was best expressed by James Madison more than 200 years ago, when he wrote that the "greater the proportion" of citizens who are their own masters, "the more free, the more independent, and the more happy must be society itself."

Yet how much does this faith in the vigor of American entrepreneurialism stand up to scrutiny? To a casual news consumer, it might seem that it has never been easier to launch and grow a new venture. One highly publicized study claimed that the United States leads all major industrial economies in the percentage of the adult population engaged in entrepreneurial activity. "We are in the midst of the largest entrepreneurial surge this country has ever seen," a CNNMoney article tells us. Or, as the Council on Competitiveness has observed, "One of the critical drivers of America's economic dynamism and flexibility has been the strength of its entrepreneurial economy."

Last summer, however, a report by the Ewing Marion Kauffman Foundation exposed a big crack at the base of this widely held belief. "Even before the overall economy started its most recent downturn," the authors noted, the number of business births had already "peaked." Worse, with the onset of the Great Recession these numbers began to "plummet," with the number of new independent employers dropping 27 percent in only three years.

This spring Kauffman followed with a second report that was in many ways even more dire. Compared to a generation ago, the report said, it is now much harder to start a business in America and keep it running. In 1980 "young firms"--those less than five years old--accounted for almost half of all going concerns. By 2010, their share of the total had collapsed to less than 35 percent. And as the Kauffman authors made clear, this doesn't only mean less opportunity for America's entrepreneurs. It also means millions fewer jobs every year, and much less economic growth.

Inspired by Kauffman's report last summer, we set out to examine for ourselves the health of America's entrepreneurial economy. What we discovered is that the decline in entrepreneurship is even bigger and more systemic in nature than was clear from Kaufmann's work. America really is undergoing a radical change in the structure of our political economy. And yet this revolutionary shift of power, control, and wealth has remained all but unrecognized and unstudied by the mainstream media, Capitol Hill, the White House, state legislatures, and both party machines.

A good way to begin getting a sense of the magnitude of the drop-off in entrepreneurship--and its potential significance--is to examine the number of new "employer businesses" created every year, as compiled by the Census Bureau. The Census defines employer businesses as proprietorships, partnerships, and corporations that have at least one paid employee. In other words, we're not talking about the midlevel executive turned "consultant," not the nanny who pays taxes, not the part-time potter puttering around Etsy.

According to the Census Bureau's raw data, the total number of employer businesses has grown continuously over the last three decades. When we focus only on this one number, we get an image of slow and steady expansion in the ranks of entrepreneurs. Which is why this figure is used so often to buttress claims of the nation's entrepreneurial health.

The problem with this picture, however, is that it does not account for the fact that between 1977 (the first year the Census captured this "employer business" data) and 2009 the working-age population in the United States increased by seventy-five million people. If we adjust for this expansion, a much darker picture emerges. New business formation in America is revealed to have actually fallen dramatically over the last generation.

In 1977, Americans created more than thirty-five new employer businesses for every 10,000 citizens age sixteen and over. By 2009, however, Americans were annually creating fewer than eighteen such businesses, a 50 percent drop. While the Great Recession clearly cut into new business creation, the decline was clear well before 2007. The averages across decades capture that decline: between 1977 and 1989 Americans created more than twenty-seven new businesses for every 10,000 working-age citizens. This compares to fewer than twenty-five in the 1990s and around twenty-two in the 2000s. In and of itself, this decline in the number of new employer firms does not prove that the average American citizen is less able or less willing to launch a new business. A greater percentage of our entrepreneurially minded citizens might, for instance, be content to work as one-person operations. Indeed, in recent years we saw the rise of a new form of entrepreneurial hero--the self-employed "freelancer." In the well-known phrase coined by business guru Dan Pink in the late 1990s, America was to become a "free agent nation," in which individual citizens voluntarily choose the flexible work arrangements that come with solo gigs and short-time contract arrangements.

Here, too, we decided to test the common perception--repeated endlessly in the business press--against actual Census Bureau figures, once again adjusting for the growth in the working-age population. And here, too, we found that the official statistics contradicted the theory--at least as it applies to the population as a whole.

Data kept by the Small Business Administration, for instance, shows that the share of the working-age population that is self-employed has been declining since 1994. The share fell steadily until 2002, stayed level between 2003 and 2006, then began to drop again. Overall, between 1994 and 2009, the share declined nearly 25 percent.

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This page contains a single entry by CFED published on July 27, 2012 6:45 PM.

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