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Entrepreneurship and the Soul of the American Economy

John Dearie, Courtney Geduldig | 11/14/2013 |

Economists have long understood that innovation is the force principally responsible for propelling economic growth. Austrian-American economist Joseph Schumpeter pioneered the connection between innovation and economic development, defining innovation as "doing things differently in the realm of economic life" and characterizing innovation's role in driving economic progress as "a perennial gale of creative destruction." Later, economist Robert Solow demonstrated that more than half of economic growth cannot be attributed to increases in capital and labor, as most economists had previously theorized, but only to productivity-enhancing innovation.  For his work, Solow won the Nobel Prize in 1987.

Economists have also long understood that entrepreneurs and the businesses they launch are disproportionately responsible for "disruptive" innovationthe sort of radical, rock-the-establishment innovation that re-makes the economic landscape, propels productivity and economic growth, and creates opportunity, wealth, and jobs for millions. Existing businesses, heavily invested in establishment methodologies and arrangements, create value mostly through scale and incremental innovation. But most truly transformative innovations of the last centuryelectric service, the automobile, air travel, the telephone, air conditioning, the personal computer, various aspects of the Internet and the way that billions now use it, wireless communicationhave come from entrepreneurs.

We now know that entrepreneurs and the businesses they launch also account for all net new job creation. Recent research conducted by the Census Bureau has demonstrated that over the past three decades, businesses less than five years old accounted for 100 percent of net new job creation. Further analysis of the Census Bureau data by scholars at the Ewing Marion Kauffman Foundation found that all net new job creation in 23 of those 30 years came from businesses less than one year oldtrue "start-ups." New businesses, according to the research, create an average of three million new jobs annually, while existing firms of any age, type, or size shed a net average of about one million jobs each year, as some businesses fail and others automate, incorporate other technology, become more efficient, or otherwise reduce head-count.

But, alarmingly, after remaining remarkably consistent for decades, the number of new businesses launched each yearand the average number of new jobs created by each new firmhave declined significantly in recent years. In the year ending March of 2012, new businesses created 2.7 million new jobs, down 43 percent from the 4.7 million new jobs created by new businesses in 1999.

To find out why, we embarked on a remarkable summer road-trip, conducting roundtables with entrepreneurs in 12 cities across the United States, asking them: "What's in your way?"

Our summer on the road with American entrepreneurs made several critical realities vividly clear to us:

First, new businesses are extremely fragilea third fail by their second year, half by their fifth. And yet, those new businesses that survive tend to grow and create jobs at very rapid rates.

Second, the policy needs and priorities of new businesses are unique. Start-ups are different from existing businesses. The challenges they confront are different and their ability to successfully navigate those challenges is more limited.

Third, policymakers in Washington do not sufficiently understand or appreciate the unique nature, importance, vulnerability, and needs of start-ups. Focused on the priorities of either large corporations or the small business community, policymakers too often overlook and neglect the economy's true engine of innovation and job creation.

Finally, policy help for America's job creators is urgently needed. More than four and a half years after the end of the Great Recession, economic growth remains subpar and twenty-three million Americans remain either out of work, underemployed, or have left the workforce discouraged. Given the critical role they play in our nation's economy as the principal source of innovation, growth, and job creation, America's fragile new businesses need and deserve a comprehensive policy framework designed to cultivate and nurture new business formation, survival, and growth.

Fortunately, we now know what needs to be done. Our remarkable summer on the road meeting and listening to America's entrepreneurs revealed with unprecedented clarity and credibility the major obstacles undermining their ability to launch new businesses, grow those businesses, and create jobs. With those obstacles in mind, we've put together a game plan for unleashing the job-creating capacity of the entrepreneurial economy based on what American entrepreneurs told us they need:

*         Cultivate new business formation, survival, and growth by providing fragile start-ups substantial tax and regulatory relief during their critical first five years;

*         Rank all 50 states as to their regulatory friendliness to start-ups, with the metrics and rankings published online for easy use by entrepreneurs;

*         Create a Regulatory Improvement Commission (RIC), modeled on the Base Closure and Realignment Commission (BRAC) to serve as a procedural mechanism for the regular evaluation, simplification, consolidation, and elimination of selected existing regulations;

*         Incentivize badly needed workers with backgrounds in science, technology, engineering, and math (STEM) by awarding new graduates a $50,000 federal tax credit applied up to $10,000 per year during their initial five years of employment;

*         Launch an immediate dialogue between business and education leaders to ensure that K-12, college, and university curricula serve both the broad education needs of American students, as well as the skill needs of 21st century businesses;

*         Attract and retain the world's best talent by eliminating the arbitrary and self-defeating cap on H-1B visas, awarding green cards to all foreign-born graduates of American colleges and universities meeting security requirements who earn degrees in STEM fields, and by creating a "Start-Up" visa for foreign-born entrepreneurs;

*         Incentivize the formation and commitment of "angel" capitalwhich accounts for more than 80 percent of outside "seed" funding of start-upsby way of a 25 percent federal tax credit;

*         Help more young companies go public earliermore than 90 percent of new-business job creation occurs after their initial public offeringby restoring the economics of small cap IPOs, severely damaged by the decimalization of stock prices;

*         Raise government-funded R&D to its historical high of 2 percent of GDP;

*         Restore the commercial R&D tax credit to the most favorable in the worldand make the credit permanent; and,

*         Accelerate the growth of exports by negotiating trade agreements with the world's largest and fastest growing economies like China, Brazil, and India.

The details of our proposals can and should be debated, and no doubt we have overlooked important issues or underestimated certain political realities. But given that our recommendations respond directly and specifically to what our participating entrepreneurs told usindeed, a number of the recommendations were offered by the entrepreneurs themselvesthere is little doubt that the policy ideas offered, if implemented, would dramatically enhance the circumstances for new business formation, survival, and growth and, therefore, significantly accelerate economic growth and job creation.

 

John Dearie, Executive Vice President at the Financial Services Forum, and Courtney Geduldig, Vice President of Global Regulatory Affairs at Standard & Poor's, are co-authors of Where the Jobs Are: Entrepreneurship and the Soul of the American Economy, recently published by John Wiley & Sons. All proceeds of their book will be donated to various entrepreneurship incubators and accelerators across the nation.


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