Monday, January 3, 2011

Small Businesses Don’t Create Jobs – New Businesses Do!

Mark Zuckerberg at South by Southwest in 2008.Image via Wikipedia
How many times have you heard that small business creates the largest amount of jobs? You hear this all the time in the media. I am finding out that proposal is not really accurate. Even though the government thinks it can create jobs. More on that subject later. 

According to entrepreneur Peter Thiel, it's really new small business that creates jobs. Who is Peter Thiel? He happens to be the smart investor who in 2004 put up $500,000 dollars to finance a small business, run by Mark Zuckerberg, called "Facebook". 

Thiel says the misconception is only a urban legend and doesn't hold water. I am finding out that proposal is accurate. The real indication of whether a business is likely to create jobs is not how large a business it, but how old it is. 

This sort of make sense. New companies, by definition, tend to experience growth as they find their optimal, ongoing size. Once they reach maturity, whether it’s 20 employees or 20,000, they stop adding jobs so fast. And the smaller that number, the sooner the company is likely to reach it and quit hiring. And mature firms seldom enjoy significant bouts of growth. On the other hand, new companies also fail much more often than mature ones.

Conditional on survival, young firms grow more rapidly than their more mature counterparts. However, young firms have a much higher likelihood of exit so that the job destruction from exit is disproportionately high among young firms. More generally, young firms exhibit much more churning of jobs as evidenced by high rates of gross job creation and destruction.

Still, though, the study says young firms deliver more gross and net new jobs than older firms.

Obviously, this is a very big deal from a policy perspective. If we want to fight unemployment, it’s not very helpful to help small businesses in general. Instead, we should be promoting entrepreneurship and the birth of new businesses.

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