[House Hearing, 113 Congress]
[From the U.S. Government Publishing Office]
THE DECLINE IN BUSINESS FORMATION:
IMPLICATIONS FOR ENTREPRENEURSHIP AND THE ECONOMY
=======================================================================
HEARING
before the
SUBCOMMITTEE ON CONTRACTING AND WORKFORCE
OF THE
COMMITTEE ON SMALL BUSINESS
UNITED STATES
HOUSE OF REPRESENTATIVES
ONE HUNDRED THIRTEENTH CONGRESS
SECOND SESSION
__________
HEARING HELD
SEPTEMBER 11, 2014
__________
[GRAPHIC] [TIFF OMITTED]
Small Business Committee Document Number 113-082
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HOUSE COMMITTEE ON SMALL BUSINESS
SAM GRAVES, Missouri, Chairman
STEVE CHABOT, Ohio
STEVE KING, Iowa
MIKE COFFMAN, Colorado
BLAINE LUETKEMEYER, Missouri
MICK MULVANEY, South Carolina
SCOTT TIPTON, Colorado
JAIME HERRERA BEUTLER, Washington
RICHARD HANNA, New York
TIM HUELSKAMP, Kansas
DAVID SCHWEIKERT, Arizona
KERRY BENTIVOLIO, Michigan
CHRIS COLLINS, New York
TOM RICE, South Carolina
NYDIA VELAZQUEZ, New York, Ranking Member
KURT SCHRADER, Oregon
YVETTE CLARKE, New York
JUDY CHU, California
JANICE HAHN, California
DONALD PAYNE, JR., New Jersey
GRACE MENG, New York
BRAD SCHNEIDER, Illinois
RON BARBER, Arizona
ANN McLANE KUSTER, New Hampshire
PATRICK MURPHY, Florida
Lori Salley, Staff Director
Paul Sass Deputy Staff Director
Barry Pineles, Chief Counsel
Michael Day, Minority Staff Director
C O N T E N T S
OPENING STATEMENTS
Page
Hon. Richard Hanna............................................... 1
Hon. Grace Meng.................................................. 2
WITNESSES
Mr. Jonathan Ortmans, Senior Fellow, Kauffman Foundation,
Washington, DC................................................. 3
Mr. John Dearie, Executive Vice President, Financial Services
Forum, Washington, DC.......................................... 5
Mr. Chad Moutray, Chief Economist, National Association of
Manufacturers, Washington, DC.................................. 7
Dr. John Deskins, Director and Associate Professor, Bureau of
Business and Economic Research, College of Business &
Economics, West Virginia University, Morgantown, WV............ 9
APPENDIX
Prepared Statements:
Mr. Jonathan Ortmans, Senior Fellow, Kauffman Foundation,
Washington, DC............................................. 17
Mr. John Dearie, Executive Vice President, Financial Services
Forum, Washington, DC...................................... 22
Mr. Chad Moutray, Chief Economist, National Association of
Manufacturers, Washington, DC.............................. 102
Dr. John Deskins, Director and Associate Professor, Bureau of
Business and Economic Research, College of Business &
Economics, West Virginia University, Morgantown, WV........ 109
Questions for the Record:
None.
Answers for the Record:
None.
Additional Material for the Record:
None.
THE DECLINE IN BUSINESS FORMATION:
IMPLICATIONS FOR ENTREPRENEURSHIP AND THE ECONOMY
----------
THURSDAY, SEPTEMBER 11, 2013
House of Representatives,
Committee on Small Business,
Subcommittee on Contracting and Workforce,
Washington, DC.
The Subcommittee met, pursuant to call, at 10:00 a.m., in
Room 2360, Rayburn House Office Building. Hon. Richard Hanna
[chairman of the subcommittee] presiding.
Present: Representatives Hanna, Tipton, Chu, and Meng.
Chairman HANNA. Good morning, everybody. Thank you for
being here, and again, I apologize. In addition to that, there
is a classified briefing at 11 o'clock, so we will do our best.
Certainly, everyone here will get a chance to speak on this
important issue. And I have read all your testimony. I
prepared, but I will kind of work this through a little bit. So
I appreciate your indulgence.
According to economists, the Great Recession ended in 2009,
yet five years later we are still struggling to see any signs
of robust lasting economic growth in our economy. The
nonpartisan Congressional Budget Office estimates a long-term
average annual growth rate of 2.2 percent, a substantial
decrease from the pace that existed between 1948 and 2007,
which averaged 3.4 percent. We have all heard various reasons
for the causes of the United States, lackluster rebound,
excessive regulation, complex tax code, and a workforce
shortage to name a few. We have also heard several solutions
and frequently have looked for small businesses to lead the way
to greater prosperity. Small firms are the catalyst for job
creation, creating more than half of the net new jobs between
1993 and 2013. Even more noteworthy are the contribution of new
firms which offer the best opportunity for growth. However, as
economists have examined America's stagnant economy, a
disturbing new trend has emerged. Fewer new businesses are
being created each year than the year before. According to a
recent report from the Federal Reserve Bank of Cleveland in
1978, Americans created 12 new firms for every existing firm,
but in 2011, this dropped to almost half, to 6.2 new firms per
existing businesses. Even more starting, economic research
suggests that while the Great Recession exacerbated this drop,
the decline has actually been occurring for over 30 years. This
downturn not only has a dramatic negative impact on our
economy, but also signals that entrepreneurship may not be as
strong and vibrant in America as it has historically been or
certainly how we would like it to be.
Today we are here to learn more about what this decline in
new business creation means for the American economy and what
we might do to reverse this trend.
I would like to thank all of our witnesses for being here
today, and I yield to Ranking Member Meng for her opening
statement.
Ms. MENG. Thank you, Mr. Chairman. Thank you to our
witnesses for all being here today.
In this Committee, we frequently talk about how small
businesses are central to job creation. A more accurate
assessment might be that new small businesses are vital to job
growth. It is indisputable that small businesses are a big
employer in the U.S. However, it is a subset of these companies
that create the bulk of new jobs. Several analyses that while
90 percent of companies employ less than 19 workers, the
strongest correlation to job creation is not size so much as
age. Forty percent of small business job creation stems from
new businesses, even though new firms represent only 10 percent
of small firm employment. Likewise, older, more established
forms account for two-thirds of small business employment, but
they create less than one-third of new jobs.
In short, as this Committee looks to accelerate economic
growth and job creation, we would be wise to focus on newer
firms that are seeking to grow quickly. Not only do these firms
create employment opportunities, but they often innovate the
new products and services that keep our economy competitive
internationally. Given the outsized importance new enterprises
play in job growth and competitiveness, it is disturbing to see
long-term reductions in the rate of new business creation. Last
year, we saw 38,000 fewer business owners per month than in
2012. This reduction remained constant throughout all
demographic groups, from women to minorities, veterans and
immigrants. There was a decided drop in new business formation.
Certainly, some of this recent reduction can be attributed
to job market improvements. When Americans are able to secure
well-paying jobs elsewhere, there is less incentive to pursue
the relatively risky path of entrepreneurship. Nonetheless, we
would be shortsighted to ignore longer term trends that suggest
a reduction in new business formation. In the three decades
between 1978 and 2011, the percentage of firms less than one
year old fell by half, suggesting that reductions in business
creation are not a short-term anomaly. If our nation is to
remain an economic leader, we must maintain the entrepreneurial
spirit that has long defined us. From a public policy
perspective, this means pursuing a number of strategies that
can help more Americans launch new enterprises.
Access to capital is a perennial challenge for most
startups. Traditional debt financing remains difficult for
small firms to secure. I hope this Committee can work together
to ensure government guaranteed loans backed by the SBA,
including micro financing, are widely available. Likewise,
equity financing must remain an option, whether it is through
crowdfunding, private venture capital, or the Small Business
Investment Company Program.
Just as capital is critical for a new enterprise, so, too,
is knowledge and know-how. In that regard, technical assistance
and entrepreneurial development programs can provide valuable
help to fledgling businesses. It is incumbent on this Committee
and all of Congress to provide adequate resources for SBA
initiatives that provide this type of counseling.
Mr. Chairman, one of the pillars of the American economy
has always been a robust, thriving sense of entrepreneurship.
As long as our nation continues creating new businesses, we can
expect future job growth and greater economic opportunity for
all Americans. In that regard, I look forward to hearing from
our witnesses about the state of new business creation and what
can be done to help more Americans launch their own
enterprises.
Thank you, and I yield back.
Chairman HANNA. Thank you. If Committee Members have an
opening statement prepared, I ask that they submit it for the
record. You all have five minutes. Relax, we will be flexible
about that. The yellow light means what every other yellow
light in the world means.
Our first witness today is Jonathan Ortmans, who serves as
a senior fellow at the Kauffman Foundation. In his capacity, he
advises the Foundation on global entrepreneurship and brings
important research findings to the attention of policymakers.
Mr. Ortmans, you may begin. And thank you.
STATEMENTS OF JONATHAN ORTMANS, SENIOR FELLOW, KAUFFMAN
FOUNDATION; JOHN DEARIE, EXECUTIVE VICE PRESIDENT, FINANCIAL
SERVICES FORUM; CHAD MOUTRAY, CHIEF ECONOMIST, NATIONAL
ASSOCIATION OF MANUFACTURERS; JOHN DESKINS, DIRECTOR AND
ASSOCIATE PROFESSOR, BUREAU OF BUSINESS AND ECONOMIC RESEARCH,
COLLEGE OF BUSINESS AND ECONOMICS, WEST VIRGINIA
STATEMENT OF JONATHAN ORTMANS
Mr. ORTMANS. Chairman Hanna and Ranking Member Meng, thank
you so much. And Members of the Committee, thank you for this
opportunity to testify about a troublesome trend in
entrepreneurship, indeed the declining rate of new business
creation.
As the world's largest private foundation focused on the
study and promotion of entrepreneurship, the Ewing Mary
Kauffman Foundation has been at the center of this issue for
some time. Our financial commitments to data collection helped
to uncover this trend, and our research has illuminated not
only some possible explanations for the decline, but also ways
in which public policy can create an environment more conducive
to business formation and growth.
New business creation is crucial to a healthy, vibrant
economy for two primary reasons. Obviously job creation, but
also innovation. Contrary to popular rhetoric, it is not small
businesses but rather new and young businesses that drive new
job creation. Nearly all net new jobs are created by new and
young companies. Similarly, startups are responsible for a
disproportionate share of innovative activity, which creates
not just wealth for the entrepreneur, but I think more
importantly, rising standards of living for all.
These twin functions of entrepreneurship comprise the core
of the United States' economic preeminence. It is therefore why
we should be concerned that we are witnesses this declining
business creation rate, which threatens that position. In the
late 1970s, about 15 percent of businesses were new. In 2011,
that number hovered around 8 percent. And since 2000, even high
growth entrepreneurship has been in decline, surprising us all,
as epitomized by a slowdown in the technology industry.
Although some of the declining share is natural as the
economy ages, the trend has been accelerated by lower entry
rates of new firms coupled with higher exit rates of young
firms. This declining business dynamism has been taking place
for decades across all sectors, raising serious concerns with
regards to unemployment and lackluster wage growth.
Despite this discouraging picture, there are reasons that
we could be more optimistic. Although the best data on
entrepreneurship is presently only available through 2011,
early indicators point toward a full recovery of the business
startup rate from the effects of the Great Recession.
I should also note that it is only recent that in
Washington, D.C., we have been articulating that it is going to
require a different policy toolbox to deal with accelerating
rates of new firm formation as opposed to the more generic
broader question we faced in years past as to how do we support
small businesses more broadly.
And looking more long term, there are some other reasons
for us to be optimistic. The demographic winds are changing.
Over the next 20 years, we will have more people than ever in
their 30s and 40s. This is really important. The average age of
U.S.-born tech entrepreneurs is 39 years old. The peak age for
entrepreneurship and this new generation of new entrepreneurs
will also have unprecedented numbers and types of education and
training resources available to them, which should make for a
stronger entrepreneurial ecosystem.
We are also seeing an explosion of other kinds of programs
and efforts, especially at the state and local level. There is
an enormous amount of work going on to create more healthy
entrepreneurial ecosystems that is relatively new and something
that we cannot yet measure the effect and impact that they are
having on the ability and the willingness of individual
Americans to take a risk and form new firms.
Finally, entrepreneurs of every stripe will have access to
new forms of finance. As was mentioned in the opening
statements, crowdfunding remains in its infancy, but several
platforms have shown both strong growth and potential for the
future. These developments hold promise in reversing the long-
term decline of business creation, but the extent of their
impact will depend upon good public policy.
While more Americans will be entering the peak age for
entrepreneurship, this same age group is increasingly burdened
by student loan debt, which may discourage potential
entrepreneurs from starting a business. Debt and delayed work
opportunities must be addressed so that younger Americans are
financially able to engage in entrepreneurship.
Other policy tools also exist. First among them, the
creation of visa for immigrant entrepreneurs that allows
foreign job creators to start and operate businesses in
America. As we know, immigrants are more likely to found
businesses than natives, and these businesses have generally
more innovations than the average native-founded business.
The creation of a startup visa would have an immediate
impact on business creation and growth.
Congress should also examine the role of regulatory
accumulation and the role it may play in depressing
entrepreneurial activity. We should be looking at new says of
avoiding the, for example, superfluous licensing regulations
that can unnecessarily reduce competition. The declining
business creation rate is deserving of policymakers' attention
because of new and young firms disproportionate role in job
creation and innovation.
We, at the Kauffman Foundation, will continue to do our
part in terms of exploring the reasons for this decline, and
ways in which it might be mitigated and reversed. And, in fact,
I am pleased to tell you that in early 2016, we plan to unveil
a new entrepreneurial growth agenda which will identify ways
the United States can attain a new faster growing and more
broad-based entrepreneurial economy.
While there are reasons to be optimistic about the future
business creation, rates are unlikely to rebound without the
support of good public policy, and therefore, I greatly
appreciate the opportunity today to testify before you. Thank
you.
Chairman HANNA. Thank you, Mr. Ortmans.
Our second witness today is John Dearie, who serves as
Executive Vice President for Policy at the Financial Services
Forum. Prior to joining the Forum in 2001, he spent nine years
at the Federal Reserve Bank in New York. Recently, he
coauthored a book, Where the Jobs Are, a book that examines the
very issues we are talking about today.
Thank you for being here, Mr. Dearie. You may begin.
STATEMENT OF JOHN DEARIE
Mr. DEARIE. Thank you, Mr. Chairman, and Ranking Member
Meng.
In the interest of our limited time, and because your
opening statements and Mr. Ortmans' statement I think makes
clear that we all understand the nature of the problem, I am
going to dispense with my written script and just tell you a
bit in just a couple of minutes about the project that that was
the basis of the book and that I think will be very helpful to
you as you consider policy solutions to this very, very
important problem.
I should say that my background, as you just indicated, is
in financial and economic policy. The importance of new
businesses, both to job creation and as Mr. Ortmans made clear
very importantly to innovation. And the reason why that is
important is, of course, innovation drives productivity, which
drives economic growth.
So from the standpoint of both job creation and economic
growth, new businesses are really where the action is and is
why this hearing and your work is so important.
A colleague of mine and I at the Financial Services Forum
learned about the importance of new businesses and the secular
decline in new businesses and entrepreneurship in the spring of
2011, we were terribly concerned about this in the context and
the weak recovery, and wanted to figure out why is this
happening? The obvious question is why is this happening?
After considering a number of investigative alternatives,
we decided in the end that perhaps the best way to figure out
what was going on with the nation's entrepreneurs was to get
out of Washington, D.C. and go talk to them.
So with that in mind, we organized roundtables with
entrepreneurs in 12 cities across the United States. We picked
those cities very carefully, not only to cover the geographic
expense of the country--obviously, you do not want to do all
the roundtables east of the Mississippi--and also, to cover the
industrial diversity of the economy. As you are aware, certain
cities and regions tend to be associated with certain industry
sectors, and so we picked our cities very carefully to get a
really good cross section of both the geographic expanse of the
country as well as the industrial diversity of the economy.
As you can imagine, those roundtables were absolutely
fascinating, and I would say that perhaps the most remarkable
takeaway for us, and certainly from the standpoint of potential
policy solutions for you all to consider--and we were quite
surprised by this because it was our expectation that we would
hear different things at the different roundtables. It is a
very big country after all, a very industrially diverse
economy. The startup scene in, say, Cambridge, Massachusetts is
really different than the startup scene in Columbus, Ohio, or
Orlando, Florida, or Seattle, all these other places we went,
and yet, we realized that we were hearing, you know, with some
differences in regional emphasis you might say, but we were
hearing the same half dozen or so major themes everywhere we
went in terms of what is in their way. And in their own words I
will just run through these very quickly. We have the jobs, and
we need to fill them in order to grow. We cannot find enough
people that have the skills that we need. Our immigration
policies are blocking our ability to attract and retain the
world's best talent and we need them. Access to capital for
startups is even more difficult in the wake of a financial
crisis. Overregulation is killing us. Tax complexity and
uncertainty is diverting far too much attention away from our
new businesses, and finally, and with apologies, there is far
too much economic uncertainty and it is Washington's fault.
We recorded all of our conversations which gave us the
opportunity to transcribe those discussions so we could go back
and read them over and over again and really get to understand
what the entrepreneurs were telling us and to pull out
consistent themes. We subsequently, as I mentioned, wrote
``Where the Jobs Are'' and in that book we propose 30 specific
policy proposals based on what the entrepreneurs told us they
need, and they are all in my written testimony. I think what is
of unique value to those proposals is because they are all
based on what the entrepreneurs told us they need. In fact,
many of them came right from the entrepreneurs themselves, who
in the course of our roundtable said, you know, it would be
really great if the government would do X, and Courtney and I
would look across the table at each other and nod and write it
down.
So I commend those proposals to you. I am happy to answer
any questions about them or anything else that we did on our
summer road trip. Thank you.
Chairman HANNA. Thank you. So there is nothing new under
the sun. Thank you.
Our third witness today is Mr. Chad Moutray. Mr. Moutray is
the chief economist for the National Association of
Manufacturers. Previously, Mr. Moutray was the chief economist
and director of economic research for the Office of Advocacy
for the Small Business Administration from 2002 to 2010.
Thank you very much for being here. You may begin.
STATEMENT OF CHAD MOUTRAY
Mr. MOUTRAY. Thank you, Chairman Hanna, Ranking Member
Meng, and thank you for the opportunity to testify on the issue
of business formation and policies that can help increase the
overall economic activity. I will be taking these issues as you
might imagine from a manufacturing perspective.
The National Association of Manufacturers is the largest
industrial trade association and voice for more than 12 million
men and women who make things in America. The NAM is committed
to achieving a policy agenda that helps manufacturers grow and
create jobs. Manufacturers very much appreciate your interest
in and supporting the manufacturing economy.
Manufacturing activity has seen a resurgence since the end
of the recession, and manufacturers mostly are upbeat about the
coming months in the next few years. Yet, they are also
frustrated with the overall slowness of the recent recovery,
making business leaders more cautious in their assessments than
they might otherwise be. A number of downsize risks, of course,
exist in the coming months, including geopolitical events as
you well know, the prospect of rising interest rates, and
softness in several key export markets. At the same time,
manufacturers of all sizes and in a wide swath of industries,
have expressed concern about skills-gap shortages.
The mostly positive outlook stands in contrast to the
decline in business formation rates which is the basis of this
hearing. The number of manufacturers has also fallen
dramatically over the past decade from 354,498 establishments
in 2000 to 295,643 establishments in 2011, the most recent year
that there was data. The rate of manufacturing establishment
startups has also declined according to the business employment
dynamics data from the BLS, off from 2.25 percent of all
establishments in 1995 to 1.45 percent in 2013. In terms of raw
numbers, there were roughly 8,000 manufacturing startups per
quarter in 1995, with around 5,000 per quarter in 2011-2013
timeframe. It is also clear that closures have exceeded
startups in the sector in since at least 1999. At least part of
this trend could be explained by the tremendous consolidation
that has taken place in the manufacturing sector, yet the trend
rate for manufacturers is significant, mostly because it
mirrors other data as much as you have heard already.
In addition, a number of factors might help explain the
reduced business formation rates. First and foremost, economic
growth has been much slower more recently. Real GDP growth
averaged 3.8 percent in the 1990s. While the sector experienced
modest growth after the 2001 recession, the economy grew by an
average of 2.7 percent between 2002 and 2007. Since the Great
Recession of 2007 and 2009, real GDP growth has averaged just
2.2 percent as you just mentioned.
Indeed, the consensus forecast for 2015 is for roughly 3
percent growth, but if that is true, it would be the first year
since 2005 that we would have had a three in front of our GDP
growth figures.
This more sluggish economic activity likely serves as a
disincentive for new business creation or for existing firms
potentially dissuading investments and new capital spending or
in hiring. Along those lines, nonresidential fixed investment
also has increased at a much slower pace, down from an average
of 8.6 percent in the 1990s to a 5.4 percent and 5.1 percent
respectively in the 2003-2007, and 2010-2013 timeframes.
Employment growth has also decelerated.
One must look at a number of business environment
conditions really as a possible source that also might
discourage business formation. Indeed, economic and political
uncertainty, the need for comprehensive tax return, rising
health insurance costs and rising regulatory burdens have often
been cited as possible factors for explaining reduced business
activity, and we can spend a lot of time talking about each one
of those elements but I am going to talk about regulations.
Yesterday, the NAM released a study on total federal
regulatory compliance costs by Mark Crain and Nicole Crain.
This analysis update of the author's prior work for the Office
of Advocacy at the SBA where I used to be the chief economist
as you mentioned. This report found that businesses spent
$2.028 trillion to comply with federal regulations in 2012.
More recently, compliance costs for businesses in the United
States averaged $9,991 per employee in 2012, with manufacturers
incurring a per employee cost of nearly double that amount,
$19,564 per employee. Small manufacturers with less than 50
employees spent a whopping $34,671 per employee, illustrating
the massive burden that we are placing on many of these small
businesses and manufacturers.
Manufacturers believe that regulation is critical to the
protection of worker safety, public health, and our
environment. At the same time, our regulatory system is in need
of improvement. We need smarter regulations that minimize
unnecessary burdens and better balance benefits and costs,
eliminating redundancies wherever possible. Regulations are
allowed to accumulate with no real effort to evaluate or clean
up the outdated or obsolete rules already on the books. It is
imperative that policymakers and regulators understand the
cumulative burdens that these rules are placing on businesses
and enact policies that minimize those costs that do not
contribute to the realization of regulatory objectives.
The Crane and Crane report also illustrates how regulatory
relief can be an economic development issue. In a survey
conducted by these authors, 85 percent of manufacturers
responded that they would invest more in the business, both in
their workers and in capital equipment, if their compliance
costs could be lessened even a little. These business leaders
hope that policymakers look at the larger regulatory landscape
before imposing new burdens that will stifle growth and
dissuade investments.
In conclusion, Chairman Hanna, Ranking Member Meng, and
other members of the Subcommittee, thank you for your
leadership on this issue and for holding this hearing. Falling
business formation rates are a challenge and one that is worthy
of your attention.
Chairman HANNA. Thank you.
I yield to Ranking Member Meng to introduce our next
witness.
Ms. MENG. Thank you, Mr. Chairman.
Dr. John Deskins is the director of the Bureau of Business
and Economic Research and associate professor of Economics at
West Virginia University. His recent research has focused on
small business growth, U.S. state economic development efforts,
and government tax and expenditure policy. His work has
appeared in journals, including Small Business Economics,
Public Finance Review, and Economic Development Quarterly,
amongst others. He holds a Ph.D. in Economics from the
University of Tennessee.
Thanks for being here.
STATEMENT OF JOHN DESKINS
Mr. DESKINS. Chairman Hanna, Ranking Member Meng, and
Members of the Committee, thank you so much for inviting me
today to discuss the very important role that small businesses
play in our economy.
Numerous statistics from the Small Business Administration
and other sources suggest that small businesses do, indeed,
play a vital role in our economy. For instance, as we know
already, statistics based on standard SBA definitions indicate
that small firms represent the large majority of firms in the
nation. Small firms employ around half the total U.S. private
sector workforce and small firms have historically accounted
for more than half of the net job creation in the U.S.
Furthermore, economic research has demonstrated the importance
of small business to economic growth using advanced statistical
methods. Recent research has rigorously demonstrated that new
business formation is not simply correlated with a good
economic, but is indeed a key driver of economic growth.
My own co-authored research has found that small business
establishment berths are the single largest determinant of
output in employment growth at the U.S. state level. This
suggests that fostering an environment that is fertile for
small business formation and growth is likely to be more
fruitful than many of the simpler policy levers that officials
often look toward. Research has found that new firms are more
likely to promote economic growth as a result of innovation
compared to existing firms, and research has also shown that
new firms often increase competitive pressure on existing
firms, forcing those existing firms to be more competitive,
thereby creating a broader economic benefit for society.
As the term small business and entrepreneurship are
somewhat vague notions, research has also refined our
understanding of the specific types of small businesses that
are most effective in promoting economic growth. Here, as has
been mentioned before, the key finding is that new firms are
most important to economic prosperity, not necessarily small
firms. However, new business formation rates in the U.S. have
suffered during recent years, and it stands to reason that this
decline is a significant concern as it relates to innovation
and long-run economic growth. It is imperative that public
policy is structured to be conducive to small business
formation to help ensure that our economy remains healthy and
innovative in the long run.
Fortunately, a large literature has developed that examines
the ways in which public policy affects small business
activity. This research has investigated the question using a
variety of data--survey data, tax return data, aggregated
data--and at multiple levels--national, state, and local. The
literature has investigated a variety of tax and expenditure
policies, such as various income tax rate measures and tax
credits, as well as nonrate policies, such as depreciation
policy and the deductibility of health insurance premiums.
Some important findings from this literature are as
follows. Federal income tax rates and credits do matter.
Research has convincingly shown that a relatively more
favorable tax policy towards the self-employed compared to wage
and salary workers does increase self-employment. A sample of
findings in this area is as follows. A lower average tax rate
for self-employment income relative to that of wage and salary
income has been shown to encourage the transition to self-
employment. Higher expected marginal income tax rates faced by
the self-employed have been shown to shorten spells of self-
employment, and correspondingly, increases in the expected
marginal income tax rate for wage and salary income relatively
speaking increases length of self-employment. Further, spending
on research and development is positively influenced by tax
credits towards small business.
Other tax policies, aside from rates, are also found to
matter in recent research. For instance, research has shown
that greater deductibility of health insurance premiums for
federal income tax purposes does reduce exit from self-
employment. However, it is important to remember that tax
avoidance and tax evasion are often more pronounced for the
self-employed. Research has shown that evasion and avoidance
are likely to be one of the drivers behind the transitions into
self-employment. Indeed, entry into self-employment may
actually be high when marginal rates in general are high,
driven by the potential to evade or avoid taxes, and all
together this implies that the policymakers should be mindful
of the potential for inefficient tax avoidance or illegal tax
evasion when crafting policy towards small business.
Policymakers must also be mindful, however, that some of
the identified behavioral effects that I mentioned before,
while they are readily apparent, they are oftentimes small in
magnitude. In contrast of these findings, some research has
failed to identify any relationship between other elements of
public policy and small business activity. For example, recent
research has failed to identify that more favorable
depreciation rules towards small business has been effective in
promoting small business activity.
Thank you again for the invitation. I look forward to your
comments.
Chairman HANNA. Thank you very much.
Mr. Dearie, I want to ask anybody here actually, one of the
things we talk about a lot is the skills gap, which for me
directly relates to our immigration policy and our lack of
dealing with it directly, particularly with highly skilled
individuals who have other options now. At one time their
options were much more limited. They can go back to a number of
places that welcomed them more clearly and more easily than we
do. And I want to talk to you about risk, but visas for the
highly skilled, anybody here can confirm or deny or push back
in any way you like, but I would like to hear your opinion.
Mr. DEARIE. A couple of quick comments. First of all, very
quickly on your comment about there is nothing new under the
sun yet, I take your point well that none of the things that we
heard from entrepreneurs around the country are terribly
shocking in terms of the problems, but the fact that we heard
it everywhere we went at individual, unrelated roundtables I
think underscores that these really are the problems. And one
of them is the one that you speak to in terms of the skills gap
and its relationship to our policies with regard to
immigration. I know that there is a lot of debate about the
skills gap. I have talked with folks here in Washington who
absolutely deny it because they say that if there were a skills
gap you would see it showing up in wage data and it is not
showing up in wage data. I think there are reasons, or at least
some reasons why it is not showing up. One is, and we heard
this at roundtables all across the country, so many of the
skills these days that the small businesses and entrepreneurs
need are highly commoditized or they are commoditizable. It is
very easy to outsource, for example, coding assignments. And
when entrepreneurs cannot find local talent, it is very easy to
outsource that work somewhere else. And so therefore, there is
not upper pressure on wages.
With regard to the importance of more foreign-born talent,
our recommendation in the book is to eliminate the cap on H-1B
visas. Keep the criteria. The criteria are very, very
important, but as you know, Mr. Chairman, we have about 85,000
H-1Bs this year. All of the openings for H-1B visas were taken
up within five days of them becoming available this year. It is
clear that we need many, many more, and the problem is that
when you limit something, you make the price higher, and too
often, startups that have the least amount of cash and
resources to get foreign-born talent by way of H-1B visas are
shut out of the process.
Chairman HANNA. Well, thank you. We have--go ahead, Mr.
Ortmans, I am sorry.
Mr. ORTMANS. Well, I just have a couple of very quick
comments. I think the most important thing we have got to
remember is that new firms are not necessarily founded by
individuals. They are founded by teams. So we are not, you
know, this is not an idea that you let all these foreigners
into the country who, you know, it is all people from outside
the United States. So they bring talent to a founding team,
which I think is really important for us to remember. And we
obviously did a study at the Kauffman Foundation that showed
that actually this is such a small number of people we are
talking about giving some kind of startup visa to, the they are
obviously not job creators, and this is really hard for, I
think, the average citizen to understand. I mean, our study
showed that after 10 years, certainly one of the proposals for
a startup visa would create 1.6 million jobs. So I do not think
there is any evidence to show there is any kind of crowding out
hypothesis as far as the declining rates.
Chairman HANNA. In the interest of time I am going to turn
to Ranking Member Meng.
Ms. MENG. Thank you.
I am curious that it is often talked about that students
graduating with relevant majors are not graduating with the
skills that employers are seeking. Are there efforts that
entrepreneurs or associations representing these small
businesses are making to communicate with colleges and
universities on what the industry needs are and how academic
institutions can change their curriculums to address the skills
gap?
Mr. MOUTRAY. So, yes. Certainly from the manufacturing
perspective, this is something we hear almost universally
across all sectors. We actually have a workforce taskforce that
is meeting right now led by many of our CEOs from our member
companies. It is something that our manufacturing institute is
very devoted to, and I think that one of the things that we are
trying to do is to get our manufactures to meet with
educational institutions and their state and local economic
development entities to try to proactively come up with
curricula that will meet the needs of manufacturers.
I was just at a manufacturer down in Virginia Beach about a
month ago, and because of the lack of workers in their area,
they actually have a high school camp where they invite in high
schoolers to come in, and that is really one of the sources
that they have for new talent. But it shows you the extent to
which many manufacturers have had to become proactive because
they are not seeing the educational institutions meet those
needs. But we are seeing shortages in welders, mechanics,
engineers, et cetera across the board.
Mr. DEARIE. And if I could just add very quickly a very
important point that I think you will take a lot of interest to
underscore what Chad just said, the manufacturing and business
community is very eager to have input into curricula and to be
involved in solving this problem. Where the resistance is is in
the education establishment, so I think that is a very, very
important point, and pressure has to be put where it
appropriately is put in order to get that increased cooperation
between the business community manufacturing and our education
establishments.
Mr. DESKINS. Being from a university, could I comment on
that as well briefly?
We understand that universities, we are oftentimes slow to
move to respond to the needs of the new economy, but I think
some universities are moving, albeit slowly, to make sure that
our curricula are better suited to the needs. I would point
towards internships. Colleges and universities need to do a lot
more to promote internships for students to ensure that they
have at least one internship before they graduate so they have
that real-world experience in addition to the college
classroom, and also experiential learning programs. A lot of
times we have programs that are moving more towards projects
that students work on that are in conjunction with the local
business community. So I think businesses, colleges, are doing
better, but they can do even more to promote experiential
learning and internships because those are crucial to making
sure that the skills that we teach are the right skills.
Ms. MENG. And student loan debt actually is a growing
problem in the United States. How big of a deterrent do you
believe that this burden is to entrepreneurship and any
possible solutions, like loan forgiveness programs? Anyone can
answer.
Mr. DEARIE. We heard about this problem at virtually every
roundtable that we conducted. And the way that it impacts
entrepreneurs is that kids who are graduating from school who
might be highly inclined to join a startup and are very, very
talented and those startups desperately need, cannot afford to
because they are carrying a huge student debt that they have to
pay off, and so they go to an established company instead.
We offer a couple of ideas for dealing with this,
particularly in the context of trying to focus on our
increasing need for STEM graduates, and one of the ideas is to
think about a federal tax credit that if you are a graduate,
you graduated with an undergraduate or graduate degree in STEM,
that you get a federal tax credit, that that can be applied in
increments over the course of five years to reducing your
taxable income to make it easier to deal with your student
debt.
Ms. MENG. Thank you, and I yield back.
Chairman HANNA. Thank you.
Mr. Tipton?
Mr. TIPTON. Thank you, Mr. Chairman. And thank the panel
for taking the time to be here.
Mr. Dearie, I probably could have saved you a lot of money
in terms of your research going out. I went out to our
district, a lot of rural communities, small businesses that are
out there. We heard the exact same stories during this month of
August, frankly, over the last two years as we traveled through
the district, and real frustration from our small business
community in terms of opportunities to be able to create jobs
and new startups as well just with the challenges that we face.
I certainly took no offense, and I do not think anyone here
probably did when you were talking about uncertainty coming out
of Washington and trying to be able to actually address that
overregulation.
Do you have some suggestions in terms of we have actually
passed a bill with some bipartisan support out of the House of
Representatives called the REINS Act, to be able to put
Congress back into those regulatory authorities because I am a
small businessman. Incredibly frustrating when we have to be
able to have the proverbial act of Congress vote through the
House or vote through the Senate a presidential signature to be
able to resend something that we never voted on. And we all
know that we need rules and regulations. Do you have some
thoughts on being able to simplify that? You know, we have had
174,000 new pages added, 4,000 new regs are in the pipeline. I
think Mr. Moutray noted we have got over $2 trillion regulatory
costs, and that is just the federal end of the world. There are
state costs, county costs, city costs that are literally
crippling our ability to get this economy moving considering we
have got the lowest labor participation rate in the last 36
years.
Mr. DEARIE. That is quite right. And the study that Chad's
group put out yesterday is only the most recent confirmation
that we have a problem. The government is very, very good by
its nature at putting out regulations. It is not very good on a
regular basis going back, streamlining existing regulations,
getting rid of regulations that are no longer appropriate, et
cetera.
I think in addition to the REINS Act, I will call your
attention to a piece of legislation--and forgive me, I do not
remember all the details. I will get it to you, but I believe
it is called the Regulatory Improvement Act. I know that
Congressman Mulvaney was a cosponsor. I cannot remember the
other cosponsor, but I will get it to you. It is based on an
idea that came out of all places--and I say that with great
respect, but it just is not the kind of place you tend to
associate with an effort to reduce regulation. The Progressive
Policy Institute, and specifically Mike Mandel, an economist
there who has spent a lot of time thinking about the impact on
businesses of just the buildup over time of regulation. Even if
every single one of the regulations passed was appropriate and
needed, the sheer buildup over time, he likens it to pebbles in
a stream or barnacles on the bottom of the boat. It erodes the
productive capacity of the economy, and he suggested a
mechanism based on the BRAC Commission, the Base Closing and,
you know, whatever the words are, that that model would prove
to be very, very effective in terms of eliminating excess
capacity in our military base system, and he applies the same
idea, the same principles to a regular committee, you know,
sort of a Blue Ribbon panel of experts that would take on a
specific aspect of our regulatory code on a regular basis, a
scoop of the pebbles as he calls it, conduct public hearings of
stakeholders, et cetera, et cetera, and then make
recommendations in terms of streamlining, elimination,
combining, et cetera, that would be submitted to Congress for
an up or down vote. And he believes that that would be very
effective. I think it would be very effective. It is a wildly
intriguing idea. It has been submitted. That bill has been
dropped. And as I said, I will get the details to you because I
think it holds great potential.
Chairman HANNA. Great. And I appreciate that. As a small
business guy, I had a pretty simple principle I tried to live
by. You know, if it does not work, stop doing it. If it is
broken, fix it. If it is in the way, get it out of the way in
to be able to get the economy moving.
Mr. Deskins, you are an economist, and one of the deep
concerns that I certainly have in my district is we have some
of the lower per capital incomes, save Aspen and a couple of
our resort areas in my district. When we are talking about
these $2 trillion in regulatory costs, businesses pass those
costs on, do they not?
Mr. DESKINS. Of course. Those costs have to flow through. I
mean, businesses do not pay taxes; people pay taxes as the
famous saying goes. So either the consumers are going to pay,
the owners are going to pay, or the employees are going to pay
fundamentally. I agree with what Mr. Dearie said a second ago,
that regulatory policy is complex, and I would add my piece of
that is tax policy is complex, and I think we would find that,
you know, especially given the issue that I discussed with
evasion and avoidance with small businesses when there is a
lack of third-party reporting, I think if we could simplify the
tax system, if we could, just from a very broad perspective,
simplify the tax system as well as the regulatory system, if we
could just reduce the number of exemptions, deductions, and
credits that have crept into the system over the last few
decades, I think it would help in terms of compliance burden.
It would help in terms of the opportunities for evasion and
avoidance, and it would also help in terms of overall
efficiency if we could combine a broadening of the tax base
with lower rates as well. I could not agree more.
Mr. TIPTON. And if I may, Mr. Chairman, just a little bit
of a follow-up to that because this seems to me to be a double-
edge sword. In your testimony, and I noted your comment that
taxes do matter, but we are talking about the tax code. When we
start talking about $2 trillion in regulatory costs, we are
virtually having taxation via regulation. This is impacting
moms and dads that are trying to be able to buy clothes for
their kids to be able to go back to school. It is showing up in
higher prices in terms of the marketplace and stifling
innovation. Is that accurate?
Mr. DESKINS. I think it is accurate. I think that we have a
lot of room for improving the overall system. Just over time,
as Mr. Dearie said, we are good at adding new regulations to
target specific issues that pop up, but after regulations
accumulate over decades, it is really hard to look back and to
streamline the broader system as far as regulatory policy goes
or as far as tax policy goes. So I am always advocating for a
simpler, more streamlined system that has broader bases and
lower rates.
Mr. TIPTON. Thank you. I am out of time. I yield back, Mr.
Chairman.
Chairman HANNA. Thank you very much.
Thank you, everyone, for being here. I think what we have
seen here is a long statement of something that is very seldom
correct, and that is that the commonly accepted wisdom is
actually correct here; that regulation, the skills gap, over
burden, an accumulated list of rules and regulations that
actually kills the very thing that it is trying to protect;
that in an effort to have some control over every outcome, we
actually ruin every outcome in some small way.
I do believe that people should be able to capitalize their
education in STEM; that is if businesses can do that with their
biggest capital investment, why should not individuals? So I
appreciate that comment and I personally support that.
College debt. It is interesting because if you have
$100,000 in debt, it is scary to try to open a business on top
of that. So I think that is worth looking at, and I appreciate
everybody's comments today.
Boy, I wish we had more time. We have a hearing, or rather
a closed hearing with all the members of Congress at 11
o'clock. If there are no further comments, I want to thank
everybody again. I ask unanimous consent that members have five
business days to submit statements and supporting materials.
Without objection, so ordered.
Thank you all again.
[Whereupon, at 10:56 a.m., the Subcommittee was adjourned.]
A P P E N D I X
[GRAPHIC] [TIFF OMITTED]
Testimony before the Committee on Small Business, Subcommittee
on Contracting and Workforce
Hearing Title:
``The Decline in Business Formation: Implications for
Entrepreneurship and the Economy''
John Deskins, Ph.D.
September 11, 2014
Mr. Chairman and Members of the Committee, I am John
Deskins, and I serve as Director of the Bureau of Business &
Economic Research and as Associate Professor of Economics at
West Virginia University. Thank you for inviting me to appear
before you today to discuss the role of small business in the
United States economy.
Numerous statistics from the U.S. Small Business
Administration and other sources suggest that small businesses
play a vital role in our economy. For instance, statistics
based on standard SBA definitions indicate t hat small firms
represent the large majority of firms in the nation; small
firms employ around half of the total U.S. private sector
workforce; and small firms have historically accounted for more
than half of net job creation in the U.S.\1\
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\1\ United States Small Business Administration, Office of
Advocacy. ``Frequently Asked Questions.'' 2014.
Further, academic research has demonstrated the importance
of small business to economic growth using advanced statistical
methods. Recent research has rigorously demonstrated that new
business formation is not simply correlated with a growing
economy, but is indeed a key driver of economic growth.\2\
---------------------------------------------------------------------------
\2\ See Acs, Zoltan, and Catherine Armington, ``Employment Growth
and Entrepreneurial Activity in Cities.'' Regional Studies, 38(8),
2004.
My own co-authored research has found that small business
establishment births are the single largest determinant of
output and employment growth at the US state level.\3\ This
research suggests that fostering an environment that is fertile
for small business formation and growth is likely to be more
fruitful than manipulating many of the simpler policy levers
that officials often look toward.
---------------------------------------------------------------------------
\3\ Bruce, Donald, John A. Deskins, Brian C. Hill, and Jonathan C.
Rork. ``(Small) Business Activity and State Economic Growth: Does Size
Matter?'' Regional Studies, 43(2).
Research has found that new firms are more likely to
promote economic growth as a result of innovation, compared to
existing firms. Research has also shown that new firms often
increase competitive pressures for existing firms, forcing
existing firms to be more competitive, thereby creating a
broader economic benefit for society.\4\
---------------------------------------------------------------------------
\4\ Disney, R., J. Haskel, and Y. Heden. ``Restructuring and
productivity growth in UK manufacturing.'' Economic Journal, 113, 2003.
As the terms ``small business'' and ``entrepreneurship''
are somewhat vague notions, research has also refined our
understanding of the specific types of small business that are
most effective in promoting economic growth. Here a key finding
is that young firms are most important for long-run economic
prosperity, not necessarily small firms.\5\
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\5\ See Haltiwanger, John C., Ron S. Jarmin, and Javier Miranda.
``Who Creates Jobs? Small vs. Large vs. Young.'' National Bureau of
Economic Research, August 2010.
However, new business formation rates in the U.S. have
suffered during recent years \6\ and it stands to reason that
this decline is a significant concern as it relates to
innovation and long-run economic growth.
---------------------------------------------------------------------------
\6\ United States Small Business Administration, Office of
Advocacy. ``Frequently Asked Questions.'' 2014.
It is imperative that public policy is structured to be
conducive to small business formation to help ensure that our
economy remains innovative and as healthy as possible in the
---------------------------------------------------------------------------
long-run.
Fortunately a large literature has developed that examines
the ways in which public policy affects small business
activity. I will use the remainder of my remarks to comment on
the findings of this literature.
This research has investigated the question using a variety
of data--survey data, tax return data, and aggregated data--and
at multiple levels--national, state, local. The literature has
investigated a variety of tax and expenditure policies, such as
various income tax rate measures and tax credits, as well as
non-rate policies, such as depreciation policy or health
insurance deductibility.
Some important findings from the more recent literature
relating to how public policy affects small business are as
follows:
Federal income tax rates and credits do
matter. Research has convincingly shown that relatively
more favorable tax policy toward the self-employed,
compared to wage and salary workers, increases self-
employment. A sample of findings is as follows:
A lower average tax rate for self-
employment income, relative to that of wage and
salary income, has been shown to encourage the
transition to self-employment.\7\
---------------------------------------------------------------------------
\7\ Bruce, Donald. ``Effects of the United States tax system on
transitions into self-employment.'' Labour Economics, 7, 2000: 545-574.
Higher expected marginal income tax rates
faced by the self-employed have been shown to
shorten spells of self-employment.
Correspondingly, increases in expected marginal
income tax rates for wage and salary income
lengthen spells of self-employment.\8\
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\8\ Gurley-Calvez, Tami, and Donald Bruce. ``Do Tax Cuts Promote
Entrepreneurial Longevity?'' National Tax Journal, 61(2), 2008.
Spending on research and development is
positively influenced by tax credits toward
small business.\9\
---------------------------------------------------------------------------
\9\ See Gale, William, and Samuel Brown, ``Small Business,
Innovations, and Tax Policy: A Review,'' Tax Policy Center, April,
2013, for a discussion of this issue.
Other tax policies are also found to matter
in recent research. For instance, research has shown
that greater deductibility of health insurance premiums
for federal income tax purposes likely reduces exits
from self-employment.\10\
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\10\ Gurley, Calvez, Tami. ``Tax-Based Health Insurance Reforms.''
Contemporary Economic Policy, 29(3), 2011.
It is believed that tax avoidance and
evasion opportunities are often more pronounced for the
self-employed. Research has shown that evasion and
avoidance are likely drivers of the transition into
self-employment. Indeed, entry into self-employment may
actually be high when marginal rates in general are
high, driven by the potential to evade or avoid
taxes.\11\ Overall this implies that policymakers
should be mindful of the potential for inefficient tax
avoidance activities and illegal tax evasion when
crafting tax policy toward small business.
---------------------------------------------------------------------------
\11\ See Bruce, Donald. ``Effects of the United States tax system
on transitions into self-employment.'' Labour Economics, 7, 2000: 545-
574, for suggestive evidence to this effect.
Policymakers must also be mindful, however,
that some of the identified behavioral effects, while
---------------------------------------------------------------------------
readily apparent, are considered small in magnitude.
In contrast to these findings, some research
has failed to identify any relationship between other
elements of policy. For instance, recent research has
failed to identify any evidence that more favorable
depreciation rules and capital expensing policies
promote small business activity.\12\
---------------------------------------------------------------------------
\12\ Bruce, Donald, John Deskins, and Tami Gurley-Calvez.
``Depreciation Rules and Small Business Longevity.'' Journal of
Entrepreneurship and Public Policy, 3(1), 2014.
Several elements of U.S. state tax policy
have also been identified to affect small business
activity in states.\13\ Although magnitudes here are
often small as well.
---------------------------------------------------------------------------
\13\ Bruce, Donald, and John Deskins. ``Can state tax policies be
used to promote entrepreneurial activity?'' Small Business Economics,
38(4), 2012.
There are many important questions that remain in the
literature. Even the most basic question of what is a ``small
business'' is not met with universal agreement. Additionally,
research needs to investigate further how much of the apparent
change in small business activity in response to tax policy is
a real behavioral response versus a change in less economically
---------------------------------------------------------------------------
substantive tax reporting behavior.