Shrinking US workforce triggers decline in business startups
Young US firms up to five years old account for most new job creation in the economy but the rate of formation of employer startups (firms that employ staff other than the founders) has both fallen sharply in recent decades while the number of employees per startup is also down. This is not good news for the economy and it's seen as partly reflecting a shrinkage in the US workforce.
The US civilian employment ratio was at 59.5% in December 2015 — a similar level as at the recession trough in June 2009 and the highest since mid-1984. Meanwhile the labour force participation rate in December was at 62.6%, 3.1% lower than in June 2009. The level in recent times has not been seen since 1977 and 1978 when increasing numbers of married women began joining the workforce.
The Bureau of Labour Statistics (BLS) says that the employment ratio is the proportion of the civilian noninstitutional population (excluding mainly 2.4m prisoners) aged 16 years and over that is employed. The labour participation rate is the labour force as a percentage of the civilian noninstitutional population — the labour force comprises the employed who work for at least 1 hour for pay in a week plus the unemployed who are available/ seeking work.
The employment ratio was 62.7% in Dec 2007 at the start of the recent recession and both the start and trough were determined by the Business Cycle Dating Committee. The labour force participation rate was at 66.0% in Dec 2007.
The headline US unemployment rate would have been 8.3% in December 2015 rather than 5% but for the contraction of the active working population since 2007.
The Kauffman Foundation, an American entrepreneurship think-tank, says the growth of the labour force remained relatively flat for approximately 20 years until declining markedly since the Great Recession. It says in respect of papers it cites that:
the authors contend that the slowing growth rate of the labour force had negative consequences for startups because the startup rate is particularly sensitive to the labour supply. However, this slowing rate does not affect incumbent firm dynamics. With a reduction in startups, there are fewer new jobs because new and young firms are responsible for the vast majority of all net new jobs. This tightening of the labour market in turn shifts employment into incumbent firms. Incumbent firms grow stronger as a result, and the economic environment for startups worsens.[ ]
Between 1987 and 2012, the share of mature firms (age 11+) increased from approximately one third of all firms to nearly half. Moreover, the employment share of mature firms increased from approximately 65% to 80% between the late 1970s and 2012. The authors find that the% of employment in startups falls in half, from 4% to 2%.
In 2011 economists John Haltiwanger, Ron Jarmin, and Javier Miranda in a paper Who Creates Jobs? Small vs. Large vs. Young, concluded that the younger companies are, the more jobs they create, regardless of their size.
"Firm startups account for only 3% of employment but almost 20% of gross job creation," the authors write. "[T]he fastest growing continuing firms are young firms under the age of five," the authors conclude.
In the study, which relies on data from the Census Bureau, the authors confirm that smaller companies created more jobs than larger companies during 1992-2005. But the importance of firm size depends very much on the assumptions one makes about the base year of the analysis, the number of employees used to define "small", and other factors. The real driver of disproportionate job growth, they found, is not small companies, but young companies. It is the startup firms that generate the surge of jobs that earlier research attributed to small companies.
The researchers say that businesses tend to create jobs in proportion to their importance in the economy. Thus, large mature firms — those more than ten years old and with more than 500 workers — employed about 45% of all private-sector workers and accounted for almost 40% of job creation and destruction in this study.
In 2014 in a Brookings Institution study, the authors noted that business dynamism is inherently disruptive; but it is also critical to long-run economic growth. Research has established that this process of “creative destruction” is essential to productivity gains by which more productive firms drive out less productive ones, new entrants disrupt incumbents, and workers are better matched with firms.
They noted that in 2012 there were 13.4m private sector jobs created or destroyed each quarter — that’s equivalent to one in eight private sector jobs. Despite all of that churning, only 600,000 net jobs were created each quarter during that same year. That’s equal to about half a per cent of private employment.
a dynamic economy constantly forces labour and capital to be put to better uses. But recent evidence points to a US economy that has steadily become less dynamic over time. Two measures used to gauge business dynamism are firm entry and job As Figure 1 shows, the firm entry rate — or firms less than one year old as a share of all firms — fell by nearly half in the 30-plus years between 1978 and 2011. The precipitous drop since 2006 is both noteworthy and disturbing.
The Kauffman Foundation has noted that companies less than one year old have created an average of 1.5m jobs per year over the past three decades and not only are there fewer new firms, but those startups that do exist are creating fewer jobs. The gross number of jobs created by new firms fell by more than 2m between 2005 and 2010 — see briefing note here.
Innovation at Big Tech falters
Michael Malone, author of the 2014 book 'The Intel Trinity: How Robert Noyce, Gordon Moore, and Andy Grove Built the World's Most Important Company,' wrote in The Wall Street Journal in that year that that big tech companies were increasingly reliant on startups for their innovation.
Also in 2014 a Kauffman report noted that:
In the early 2000s, entrepreneurial activity in the high-tech sector began declining sharply during what is well-known as the dot-com bust. Less well known is that the share of young firms in the high-tech sector has exhibited a more pronounced secular decline in the post-2002 period than in the rest of the economy. Consistent with that pattern, we have found that the pace of business dynamism, as measured by the pace of job reallocation, has declined in the high-tech sector in the post-2002 period at a pace that exceeds that of the overall economy.
Big tech companies, with large cash balances, are thus more reliant on tech startups at a time when the pace of creation has declined. Michael Malone noted in the Journal that after Facebook's acquisition of WhatsApp that:
Facebook, one of the most innovative companies of the past decade, now depends on purchasing the inventiveness of others. The company isn't alone. Look around Silicon Valley and it's hard to find established companies still devising their next products in-house. Seen anything new and big lately from Cisco, Yahoo or even Twitter?
Even Apple, tech's most innovative company under Steve Jobs, now seems to have slowed down with Tim Cook as CEO. During Jobs's tenure, the company produced three landmark products — the iPod, iPhone and iPad — in little more than eight years. Now, after four years, customers are growing impatient waiting for the rumored iWatch, which, if real, won't appear until at least autumn. Meanwhile, Apple has purchased nearly 30 companies.
Google, though it requires employees to spend part of their time inventing, has acquired more than 150 companies in its history, including drones and Boston Dynamics's robot cheetahs. Even Intel has been slogging along for the past few years.
Researchers say that more research is required to understand the declining business dynamism trend — demography is a factor as is for example the emergence of giant groups in retail e.g. Amazon, Wal Mart, Home Depot and others.