Business Startups: Why Entrepreneurs Didn't Start Up in 2009 and Why That's Likely to Change

Submitted on March 23, 2011 - 1:07pm
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Today we’re talking about newly released data from the U.S. Census Bureau on new business starts, why new business startups dropped off so much in 2009, and the wide array of policy responses that have been deployed to boost entreprenuership going forward.  

Let me first talk about the data behind these results – an impressive data set that the U.S. Census Bureau has developed through its Business Dynamics Statistics (BDS) program that can be used to answer a host of vital questions about the dynamic nature of the U.S. economy.  Questions like: How important are new businesses in the job creation process?  How many jobs are gained from expanding businesses?  How many are lost from existing businesses?  How many new employer businesses start each year?  How do these results vary over time, by sector, and by state?  The BDS provides basic data on the universe of employer businesses (that is, businesses that have employees and not the self-employed) over time.  The beauty of the BDS is that it is based on data that are already housed at Census and leverages existing resources to provide a rich set of new information about the U.S. economy.  (I wish more people knew just how much information about the U.S. economy comes from the Census Bureau.) 

Back to the results.  The BDS can be used to address many interesting questions.  Today, I’m going to focus solely on new business formation.  Why?  Because recent research has shown the importance of new business formation to job creation.1   Second, because entreprenuership plays such an important role in our dynamic economy, examining what the BDS tells us about new businesses is one way to get our heads around the significance of entrepreneurship.

Figure 1: Business Startups in the U.S. Private Sector, 1980-2009

Figure 1 above contains two time series on new business startups (again, these businesses do not include the self-employed).  The first series (the blue line) shows the number of new businesses formed each year, and the second series (the red line) shows the new business startup rate (new businesses as a percentage of all businesses).  Over time, the number of businesses has increased, so looking at just the number of new businesses alone can be a little misleading.  Here we see a sharp drop in entrepreneurship in the United States in 2009 in both the number of new business startups and the rate of new business startups, though these declines began back in 2006.  Most people don’t realize that the startup rate for new businesses has been on a downward trend over the past several decades.  Why this rate has trended down over time is a question that hasn’t received as much attention as it should, but I’ll postpone that discussion for another day.

Focusing on 2009, we see that both the number and rate of new business startups dropped precipitously.  Why did the new business startup rate drop so much?  There are two reasons that are often cited – a supply story and a demand story – both of which no doubt reduced the number of new business startups, but it is difficult to assess which factor had a larger effect.  The first, the supply story, says that budding entrepreneurs had a harder time accessing credit in 2009, so they may have wanted to open a new business, but didn’t have the money to do so.  Bank lending standards certainly tightened from March 2008 to March 2009.2   The second, the demand story, says that because of the poor economy, likely entrepreneurs decided not to open a business.  Why start a new business when the economy is at the trough of the greatest economic downturn since the Great Depression?   As I said, both reasons undoubtedly played a role. 
 
The question then arises: How do we reverse this decline in the rate of new business formation? Any policy responses should address the two main reasons for the drop in new business startups I mentioned above. Let’s explore this further.  On the supply/financing side, the Obama Administration has worked feverishly to get the financial markets working again, and today, by a wide variety of measures, financial markets have been repaired.  Additionally, taxes for small businesses have been cut numerous times (17), and the Small Business Jobs Act of 2010 increased financing opportunities for new and small businesses.  On the demand side, the administration has enacted a number of policies to encourage entrepreneurship, the most recent of which was the Middle Class Tax Relief Act of 2010 – recall that immediately after this legislation was signed, private economic forecasters significantly boosted their GDP forecasts for 2011 (please write me if you would like to see the data behind this). 
 
Perhaps as important as these measures has been a broadside of other policies aimed at assisting entrepreneurs more generally.  They include:   
 
  • Startup America. A collaborative effort to promote high-growth entrepreneurship across the country by coordinating efforts between the public and private sectors to dramatically increase both the number of businesses that are created each year as well as the likelihood those businesses will prosper.  For more information on Startup America visit:  http://www.whitehouse.gov/issues/startup-america.   

  • Patent Reform.  Hey, if it takes 3 years to get a patent, then new and small businesses are going to have a hard time getting a foothold in the market.  Reform that enables the U.S. Patent and Trademark Office to hire more patent examiners and update its IT system will help to dramatically reduce the backlog of patents and speed up the patent process.  Additionally, as applicants prioritize their applications through the three-track system, the most valuable patents will come to market more quickly, helping companies secure capital and get off the ground.

  • Research and Experimentation (R&E) Tax Credit.  Entrepreneurs are innovative, and a simplified and permanent R&E Tax Credit will provide greater incentives to innovate.  The current system is too unpredictable (it has expired at least 8 times and has been extended at least 14 times) and complicated. 

  • Affordable Care Act.  One hidden barrier to entrepreneurship is the fact that starting your own business means you may have to offer health insurance.  By allowing individuals to maintain their existing health insurance, the Affordable Care Act removes this barrier by making it easier for Americans to start and join new businesses without fear of losing their health care coverage.3

  • The Office of Innovation & Entrepreneurship (OIE):  First announced in 2009, the OIE was created within the U.S. Department of Commerce to unleash and maximize the economic potential of new ideas by removing barriers to entrepreneurship and fostering the development of high-growth, innovation-based businesses. The President’s National Advisory Council on Innovation and Entrepreneurship (NACIE) was also established to engage in a regular dialogue with the entrepreneurship and small business communities and advise the administration on policy. 

From day one, the Obama administration has recognized the challenges facing U.S. businesses and entrepreneurs and focused on creating an environment that encourages private sector innovation and job creation. In the last 30 years, nearly all net new jobs were created by startups, and they will continue to play a critical role in America’s economic future.

~Mark Doms, Chief Economist, U.S. Department of Commerce

March 23, 2011

 

 

  • 1. Haltiwanger, John, Ron S. Jarmin, and Javier Miranda (2010), “Who Creates Jobs? Small vs. Large vs. Young,” Center for Economic Studies Working Paper 10-17.
  • 2. For some interesting statistics on the sources of capital for new business startups, see: Robb, Alicia, and David Robinson. "The Capital Structure Decisions of Nascent Firms," Ewing Marion Kauffman Foundation, November 2008
  • 3. See Fairlie, Rob, Kanika Kapur and Susan Gates, “Is Employer-Based Health Insurance a Barrier to Entrepreneurship?” Journal of Health Economics, (forthcoming).