Lost: $1 trillion

June 26, 2014

Today’s Wall Street Journal reports:  since 2005 productivity has declined 8% off its long-run trend, which has meant $1 trillion less in business output.  The reason?  Fewer start-ups.  From Behind the Productivity Plunge:  Fewer Start-ups

Lagging productivity growth is an enormous problem because virtually all of the increase in Americans’ standard of living is made possible by rising worker productivity. In our view, an important factor contributing to declining productivity growth is the large decline in the creation of new businesses. The creation rate of new businesses, as well as new plants built by existing firms, was about 30% lower in 2011 (the most recent year of data) compared with the annual average rate for the 1980s. (The data is the Census Bureau’s Business Dynamic Statistics.) The decline affected nearly all business sectors.

Steven Malanga coined the term startupicide – “suffocating regulations, inflated business taxes and fees, a lawsuit-friendly legal environment, and a political class uninterested in business concerns” – which gets sprayed on every business, large and small.  At the margins those factors clearly affect the viability of new businesses and new projects.  Here’s how we once put it, discussing just one of the four ingredients:

For Costco (one example) to build a new store, a 40% tax rate on the income will require much higher sales expectations for the store than if taxes were 30%, or 20%, or 0%.  It’s the same analysis regardless of who is making the investment decision: rich angel investor, venture capitalist, Fortune 500 CFO.  When taxes are higher, fewer stores get built and fewer companies get started.

The WSJ piece continues:

New businesses are critical for the U.S. economy to grow because a small fraction of today’s startups will become tomorrow’s economic heavyweights. Most of today’s workers are employed at older, established businesses, but the country cannot rely on existing companies to boost the economy. Businesses have a life cycle, in which even the largest and most successful reach a stage at which they stop expanding.

If history is any indication, many of today’s economic heavyweights will ultimately decline as new businesses take their place. Research by the Kaufman Foundation shows that only about half of the 1995 Fortune 500 firms remained on the list in 2010.

That’s the funny thing about those large companies:  they all have birthdays, either as start-ups themselves or as spin-offs from other companies (who were once start-ups).  Many of them are born during very bad times – as long as the entrepreneurial incentives, and entrepreneurial optimism, remain intact.

Over half the companies on the Fortune 500 were started during a recession or bear market.  The patents for the Television, Jukebox, and Nylon were granted during the greatest period of job destruction in our history:  The Great Depression.  (Although we can’t confirm any patent information on the chocolate chip cookie, it too was invented at the same time.)  This is precisely the creative destruction that makes our economy an engine of innovation and wealth creation.

That $1 trillion in forfeited economic output demonstrates that a growing economy, with plenty of opportunity, and no shortage of entrepreneurial activity (at start-ups and within firms) should not be taken for granted.

 

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