A healthy dynamic in job creation: Destruction

Steven Pearlstein
Columnist May 31, 2011

John Haltiwanger thinks he may have discovered one reason why the private sector is not creating more jobs this far into the so-called recovery, and if he’s right, it is cause for concern:

The U.S. economy has become less dynamic and entrepreneurial.

Steven Pearlstein is a business and economics columnist who writes about local, national and international topics. View Archive

Haltiwanger is a distinguished professor at the University of Maryland and one of the best economists around, particularly when it comes to the subject of job creation. A former chief economist at the Census Bureau, he’s constantly mining, aggregating and analyzing the data at the level of the individual firm. He’s also a straight shooter, without a trace of ideological bias, as far as I can tell.

For years now, Haltiwanger has been trying to set things straight on the question of which firms are creating jobs, most recently in a paper with the catchy title, “Job Creation and Firm Dynamics in the U.S.”

Haltiwanger starts out by noting that in an economy with about 110 million private sector jobs, firms create and destroy 15 to 17 million jobs in a typical year. This churning goes on in all industries and all sizes of firms — it even goes on within the same firm — and what drives it is the the constant shifting of work from the least productive firms and factories and stores to the more productive.

For many decades, the U.S. economy has been more effective at this process of “creative destruction” than almost any other country in the world. And what Haltiwanger and his collaborators have found over the years is that young firms — business startups and a small number of new firms that grow very quickly — have played an outsize role in that process. In job creation, it turns out, it is not size that matters but the age of the firm. Small businesses don’t create all the new jobs — young ones do.

In recent years, however, this entrepreneurial dynamism began to slow. Job creation and job destruction began their decline as far back as the 1990s, and continued right up to the Great Recession, when job destruction fell to its lowest level in 30 years, and job creation even more. The average business became older and larger.

Moreover, since the trough of the recession in 2009, Haltiwanger finds that the rate of overall job destruction has returned to the more normal levels before the recession, even as the rate of job creation remains near its historic low. The culprit, Haltiwanger suspects, has been the measurable slowdown in business startups and the unusually slow job growth among those all-important young and fast-growing firms.

Perhaps you’ve noticed that we are halfway through this column about job creation and I have yet to mention the Federal Reserve’s monetary policy or fiscal stimulus or the deficit or even taxes. The reason is pretty simple: It’s hard to draw a convincing connection between any of them and a decline in entrepreneurial dynamism that began more than a decade ago.

That doesn’t mean some won’t try. Conservatives will no doubt leap to the conclusion that concerns about future deficits and tax increases and expanded regulation of business weigh so heavily on entrepreneurs that they are reluctant to launch new firms or expand ones they have recently opened. Die-hard Keynesians, by contrast, will argue that if more fiscal and monetary stimulus had been used to generate higher levels of economic activity, there would be more economic activity and entrepreneurs would have regained the confidence to invest and hire.

Haltiwanger, however, suspects the roots of this problem are more microeconomic than macro. He’s still analyzing the data by industry, region and firm size, but one suspicion is that in the retail sector there has been a sustained and dramatic shift toward large national chains that makes it difficult for new firms to get a toehold in the market.

Another explanation is the credit crunch that followed the bursting of the credit bubble. Traditionally the biggest source of funding for new businesses, after all, are credit cards, home-equity loans and the savings of the entrepreneur’s relatives and friends. But starting in 2008, credit card companies began pulling back on credit lines to new businesses while banks tightened up on home-equity loans in response to rapidly declining home values. And with the sharp decline in the value of their homes and their 401(k)s, friends and family have been in no mood to take a flyer on new business ventures.

I’d also offer a geographic hypothesis. For years, much of the growth in the nation revolved around the movement of people and business from the Rustbelt to the Sunbelt. Before long, a self-reinforcing dynamic took hold where growth begot more growth. As big corporations moved work from Pennsylvania and Ohio, entrepreneurs saw the opportunity to provide the new factories with everything from parts to catering services. Small contractors sprang up to build houses for the employees of all those new ventures, followed by other firms to provide restaurant meals and yoga instruction to all the new inhabitants. Only when the bubble burst did it become clear that all that growth-induced growth had gotten way ahead of itself. The entrepreneurial activity, along with the explosive job growth, came to a sudden halt.

My guess is that the great Sunbelt migration is now ending. There are early signs that the next phase of growth will come in some of the older cities of the north, where wages and prices have been beaten down, along with much of the entrepreneurial instinct. It may take some time for that instinct to revive.

John Haltiwanger’s research reminds us ofJoseph Schumpeter’s great insight — that creating new jobs in more productive firms requires destroying nearly as many jobs in less productive ones. That process of creative destruction is never easy or automatic, and as we are discovering, can be short-circuited by asset bubbles and financial crises. One way to think about recessions is that they are the mechanism by which markets restore that necessary and healthy dynamic.

pearlstein@washpost.com

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