Small Is Not New, Big Is Not Always Better

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An economic narrative is beginning to take hold that because most small business owners have no plans for bringing new ideas to market or growing their companies, the U.S. economy will only come roaring back if it's large established companies start spending the roughly $2 trillion in cash they are sitting on.

This narrative has been revived in a paper published in the fall issue of Brookings Papers on Economic Activity by two economists from the University of Chicago, Erik Hurst and Benjamin Pugsley.

​Hurst and Pugsley are right to question the growth potential of the small business sector taken as a whole. But their paper and its implicit endorsement of bigness is being misconstrued by a growing number of commentators.

​As a significant body of research has shown, it is not small business that drives the creation of new jobs or even major productivity advances, but new business.

Indeed, firms less than five years old accounted for virtually all net new jobs created between 1980 and the beginning of the recession. Equally important, the major disruptive innovations that characterize much of modern life as we know it — the automobile, the airplane, air conditioning, the computer, the personal computer, much computer software and Internet search — all were brought to us by new businesses launched by entrepreneurs.

The recent death of Steve Jobs should remind us of the power of the entrepreneur: although Apple

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[AAPL  Loading...      ()   ] has grown to be one of the largest companies in the world, measured by market capitalization, it did so because it rehired its founder-entrepreneur to turn it around. None of the revolutionary innovations that followed – the ipod, the iphone, and the ipad – would have happened without Steve Jobs, the entrepreneur, at the helm.

This is not to denigrate the important role of large, well established firms that collectively employ almost half the labor force and that account for most of the productivity gains in the economy, achieved through incremental improvements in products and production methods year in and year out. But taken as a whole firms over five years old have not accounted for net new job creation over the past three decades, in large part because of their productivity gains. By the same logic, neither the public nor policy makers should look to them for the job resurgence that our economy so desperately needs.

And we must do so in a world that is catching entrepreneurial fever. Next week, the world will witness the fourth annual Global Entrepreneurship Week, an event launched with just two countries — the United States and Great Britain in 2008 — and which now will have programs sponsored in more than 120. It is expected that tens of millions of people from around the world will participate in events that celebrate the importance and power of entrepreneurship to change the lives of the next generation, and in the process, the world.

Entrepreneurs who bring new products, services and production methods to market are critical not only for bringing us the next big breakthroughs that materially advance living standards, but because their very success is key to exciting the animal spirits that drive consumer and business confidence. Big businesses are sitting on all that cash precisely because that confidence is lacking, and so why should they spend the money?

Over the summer, the Kauffman Foundation released a model “Startup Act” to re-energize America’s entrepreneurial engine. Several ideas in that Act – including expanded immigration rights for foreign entrepreneurs and tax incentives for long-held investments in new companies – were recently included in a list of recommendations from the President’s Jobs Council. There is growing interest in startup legislation in the Congress.

But more startups alone will not solve America’s long-term economic problems. As Erik Brynjolffson and Andrew McAfee argue in a new book, one reason why firms are reluctant to hire is precisely because technological change — heavily driven, I would argue, by new firms themselves — is outpacing the skills of our work force. Our entire educational system needs an infusion of entrepreneurship in the curriculum so that our workers can keep up with the change is coming not just from entrepreneurs here, but increasingly from around the world. Global Entrepreneurship Week should thus remind us of the critical importance of entrepreneurial thinking in all economies, while keeping our eye on the balls that matter, the new firms that bring really big new ideas to market.

Robert Litan is vice president of Research and Policy at the Kauffman Foundation and a senior fellow at the Brookings Institution.

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