Subsidize the Young!

Young companies, that is. I’ve been meaning to write on this subject since I read the journal article last month and John Robertson’s post at macroblog gives me an excuse to do so. The prevailing wisdom is that small companies are the engine of economic growth, doing most of the hiring. It ain’t necessarily so:

Economic research published last month by John Haltiwanger, Ron Jarmin, and Javier Miranda provides some compelling evidence on the relationship between firm size and job growth. It turns out that the age of a firm is important independent of its size. In particular, the paper finds no systematic relationship between net job growth rates and firm size after controlling for firm age. To quote from the paper’s abstract:

“There’s been a long, sometimes heated, debate on the role of firm size in employment growth. Despite skepticism in the academic community, the notion that growth is negatively related to firm size remains appealing to policymakers and small business advocates. The widespread and repeated claim from this community is that most new jobs are created by small businesses. … However, our main finding is that once we control for firm age there is no systematic relationship between firm size and growth. Our findings highlight the important role of business startups and young businesses in U.S. job creation. Business startups contribute substantially to both gross and net job creation. In addition, we find an ‘up or out’ dynamic of young firms. These findings imply that it is critical to control for and understand the role of firm age in explaining U.S. job creation.”

This finding doesn’t imply that firm size is irrelevant, but size matters mainly because, conditional on survival, young firms grow faster than older firms and tend to be small. In other words, because start-ups tend to be small, most of the truth to the popular perception that small businesses create the most jobs is driven by the contribution of start-ups to net job growth.

Companies tend to start out small and, if successful, may get bigger. That much is pretty obvious. But a little less obvious is that it isn’t small companies that are the engine of jobs but new companies.

And therein lies the rub. Old, established companies have learned to wield their wealth and positions to prevent upstarts from infringing on their turf. If we were more interested in economic growth and employment than in preserving the status quo however awful the status quo might be, it might well be that the best way to do that would be to put policies in place that encourage the formation of new companies. Policies that come to mind that would do that include greater regulatory certainty, abolition of corporate income taxes, and ending the current policy of propping up old, moribund companies.

Just say “No”!

6 comments… add one
  • Policies that come to mind that would do that include greater regulatory certainty, abolition of corporate income taxes, and ending the current policy of propping up old, moribund companies.

    Just say “No”!

    I have bad news for you, the President currently in office is Barrack Obama and his track record says he’ll do exactly the opposite.

    HTH, HAND.

  • Maxwell James Link

    I’m in favor ending the corporate income tax, but that’s irrelevant at best to young companies, many of which have negative income over their first years. Since under some legal structures the owners actually get a tax break in that case, it could actually be harmful.

    Similarly, regulatory certainty seems to me less important than regulatory complexity. New business owners frequently get overwhelmed by the complexity of the process – especially if they’re starting a C-corp and have never hired a lawyer before. LLCs are easier, but it’s still a complex and disorienting process that dissuades some people from ever starting out.

    But I fully agree that the many explicit and implicit policies that protect incumbent firms from competition are a net drain on job creation (if also to some degree on job destruction). It is difficult to ask workers to accept a more volatile economy, but it is possible to make the case that it would lead to a better world. Incidentally, one such policy that does support start-ups is net neutrality, which is currently under attack by industry incumbents.

  • Maxwell James:

    You’re right that abolishing the business income tax would only be helpful at the margins. However, dollars that are taxed away aren’t available for reinvestment and my experience with start-ups is that they are more likely to to use their profits for reinvestment than long-established companies are.

  • steve Link

    Delink health insurance from employment. SImplify incorporation so that you do not need a lawyer. Agree that there are other reasons to want to do away with corporate income taxes. This is not the reason. The taxes that are an annoyance and almost impossible to avoid, are the local business, disability and state taxes.

    Steve

  • Delink health insurance from employment.

    Never going to happen. You know that politically feasible thing again.

    SImplify incorporation so that you do not need a lawyer.

    Never going to happen, look at people in Congress, state legislatures, etc. and you’ll find many a lawyer. Again that politically feasible thing.

    Agree that there are other reasons to want to do away with corporate income taxes.

    What? No way. Let the rich get richer (and may would argue at the expense of the poor)? Sorry another politically dead horse.

    Bottom line is that there are some very serious obstacles in the way of stimulating an environment that fosters serious economic competition (business competition). The U.S. is a corporatist society now where government and business are inter-twined at almost every level now. You noted it yourself by linking to the Ritholz post a few days back. Big business doesn’t want a bunch of potential “young upstarts” making their life hard. So you put many hurdles in front of them and there you go, less competition.

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