What the Declining Number of Employer Startups Really Means





employer startups

Since 2008, the number of employer businesses going under has exceeded the number of employer businesses being founded, driving down the stock of American employers. Combined with the 49 percent decline in the per capita rate of formation of new employees that occurred between 1977 and 2012, this trend has some observers worried.

Jim Clifton, the CEO of Gallup, argued in a recent article that the recent pattern is America’s “single most serious economic problem” and that “economy is never truly coming back unless we reverse the birth and death trends.”

While I agree with Mr. Clifton and others that the three-decade long decline in the new employer creation rate is distressing, I believe that the problem it reveals is more subtle than his article lets on. Taken in conjunction with other data, the decline in the rate of employer firm formation indicates primarily that American business owners are becoming less willing to hire others.

Americans aren’t reducing the rate at which they run businesses. Contrary to the pattern suggested by data on the birth of employer businesses, the rate of ownership of businesses without employees has been rising over time. Between 1997 and 2012, the number of American businesses without employees increased 76 percent, five times faster than the 15 percent increase in the population, Census data show.

Because of the rise in non-employers, there were nearly twice as many businesses per capita in the United States in 2011 than there were in 1980, Internal Revenue Service (IRS) data reveal. Moreover, both the fraction of American income tax returns with business income (or loss) and the share of individual tax returns with the self-employment tax deduction have increased over the past two decades, IRS statistics indicate.

Income from business ownership has gone up over the past 25 years. According to the Federal Reserve’s Survey of Consumer Finances, the share of Americans’ before-tax family income generated from business ownership rose a non-trivial amount between 1989 and 2013. In addition, IRS data show that the average net income of pass through entities – sole proprietorships, partnerships and sub chapter S corporations – more than doubled between 1980 and 2010, when measured in inflation-adjusted terms, and that “entrepreneurial income” increased from 5.4 percent of Americans’ taxable income in 1977 to 8.5 percent in 2011.

Even the number of employer businesses per thousand Americans didn’t start to decline until very recently, remaining largely steady between 1987 and 2007. The period of stability suggests that the rate at which employer firms were started and failed remained in rough balance for 20 years. While the Great Recession triggered a rise in failures of employer businesses and a decline in employer start-ups, in 2011 the per capita number of employers remained higher than it was in the late 1970s and early 1980s.

New employer firm formation is down primarily because American business owners have shifted from running businesses with employees to operating companies without them. As the figure above shows, the portion of businesses with employees in 2011 was a little more than half what it was in 1980.

The decline in the rate of formation of new employers is troubling, not because it signals the death knell of American entrepreneurship, but because it shows that American entrepreneurs are playing a smaller role in creating jobs than they once did.

Source: Created from data from the U.S. Census and the Internal Revenue Service.

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Scott Shane


Scott Shane Scott Shane is A. Malachi Mixon III, Professor of Entrepreneurial Studies at Case Western Reserve University. He is the author of nine books, including Fool's Gold: The Truth Behind Angel Investing in America ; Illusions of Entrepreneurship: and The Costly Myths that Entrepreneurs, Investors, and Policy Makers Live By.

4 Reactions

  1. First, the amount of regulation and paperwork required to employ someone is extremely burdensome. That “cost” is most acutely felt by a small business making that first hire because it’s not spread out over multiple employees. That is a huge dis-incentive to hiring (I should know, I hired someone last year and it was a pain. When he left I didn’t replace him.)

    Second, you have the rise of the contractors, as evidenced on the extremes by companies like Uber. If I can get someone to help me and the only requirement for me is to file a 1099 at the end of the year, that’s much easier than actually employing them.

    • Aira Bongco

      Right. Some small businesses are even more comfortable hiring contractors than real employees where they have to do paperwork and pay some fees.

  2. Scott, thanks for clearing up a puzzle for me. I think you are right, the lack of “employee” startups is one of the biggest economic challenges of the decade. However, having employees make business challenges even greater, and there is lots of literature out there that recommends the use of outside contractors. It’s less expensive and the regulatory hurdles are avoided.

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