When it comes to job creation, start-ups matter most

America's entrepreneurial climate is in decline. Here's how to bring it back.

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A prevailing belief among policymakers is that small businesses are the principal engine of U.S. job growth.

In reality, it’s new businesses – not small businesses – that account for the lion’s share of job creation.

According to the Kauffman Foundation, start-ups account for nearly all of the net new jobs created, generating an average of 1.5 million jobs a year.

“Most young businesses start out small, so there’s obviously overlap,” says Kauffman Foundation policy director Jason Wiens. Nevertheless, he says, “small businesses don’t have significant impact on job growth when you account for age.”

In fact, between 1988 and 2011, companies more than five years old – regardless of size – tended to destroy more jobs than they created. The following chart from the Kauffman Foundation demonstrates this phenomenon:

Credit: Kauffman Foundation

Credit: Kauffman Foundation

This doesn’t mean, of course, that policymakers should abandon their commitments to support small business. Firms with fewer than 50 employees still account for 95 percent of U.S. companies, and small businesses play a vital and vibrant role in the nation’s economic ecosystem.

But it does suggest that policymakers should pay equal attention to encouraging the birth of new firms – especially since the rate of start-up formation has been steadily waning over the last 30 years.

In the late 1970s, start-ups – new firms less than a year old – comprised as much as 16 percent of all firms. But by 2011, start-ups as a share of all firms were down to 8 percent.

Kick-starting job growth means reversing this slow-motion decline in entrepreneurship. Among some ways to do this:

(1) Eliminate unnecessary licensing requirements.

According to the Kauffman Foundation’s research, state occupational licensing requirements now cover nearly 30 percent of all U.S. workers. Licensing fees are an attractive source of revenue for states, Wiens says, but these requirements can also dampen entrepreneurship.

“People within an industry have an incentive to want to be licensed,” Wiens said. “It limits the supply of people providing whatever services they are providing and reduces competition.” According to scholars such as Morris Kleiner, some states even require florists to be licensed.

(2) Simplify taxes.

A recent survey of small businesses by Thumbtack.com found that it’s not the amount of taxes small businesses pay that is burdensome but the complexity.

Current law, for example, requires many small businesses to pay quarterly estimated taxes to the IRS – a requirement that makes little sense for start-ups, which may have uncertain revenue or lack the cash flow to pay taxes every three months.

Rep. Scott Peters (CA-52) recently introduced legislation that would exempt many small business start-ups from quarterly tax filing requirements in their first two years (see our April 2014 piece on this idea here).

(3) Welcome immigrants.

According to the Kauffman Foundation, more than 40 percent of Fortune 500 companies were founded by an immigrant or by the child of immigrants. Immigrants are also twice as likely as native-born Americans to start a business, and more than a quarter of new entrepreneurs in 2012 were immigrants.

But despite this track record of entrepreneurial success, current law still limits the number of “H-1B” visas to high-skilled immigrants to 65,000 a year – a limit that in 2014 was reached in less than a week after federal officials began accepting applications.

Jobs and the economy will no doubt remain at the top of the political and economic agenda for some time to come, and among the many matters left unfinished when Congress left Washington before the 2014 elections were tax and immigration reform.

But it’s increasingly clear that the nation can’t afford further delay. If America fails to rebuild its entrepreneurial climate with policies that help launch many more new businesses in the future, long-term economic stagnation may be inevitable.

Anne Kim is Editor of Republic 3.0.

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