Small Business Is Contributing More to Economic Growth and Job Creation

Happy cafe workers

By William Dunkelberg

The Small Business half of the economy has clawed its way back to a somewhat normal level of economic activity according to the National Federation of Independent Business (NFIB) monthly surveys. The NFIB’s Index of Small Business Optimism has just reached its 42 year average, taking years to regain its footing after the official end of the Great Recession in June, 2009. The recovery of the small business sector did not follow the usual pattern, an early surge in optimism, hiring and spending, tapering over the expansion toward the average. There was no surge this time, just plodding, sometimes erratic, improvement over 6 years.

Large firms have followed a different path, driven by strong growth in exports and expanding overseas business (output produced there but not counted in our GDP, although providing profits for the international firms). Indeed, the valuation of these firms has reached record levels yet the growth in domestic output is shrinking (first quarter real GDP growth is negative). Over the past 20 years, the ratio of Fortune 500 revenues to GDP have risen over 10 percentage points to over 70%. Viewing the economy as a large corporation with many divisions, it is clear that investors think that the large firm division is doing very well.

This view is supported by the anemic growth of the economy in the recovery, averaging a little more than 2% growth, which was the average of anemic growth in the small business division and strong growth from the large firms. For large firms, prospects are fading because several of our major trading partners are either in recession (Western Europe) or experiencing slower growth. This means that exports are slowing along with sales at foreign subsidiaries that produce and sell output in foreign countries and provide profits to our large firms.

Population growth provides fundamental support for growth in the small business sector. With three million additions each year, the demand for services grows (more haircuts etc.) and this demand is to a large degree met by small businesses. For the first few years of the recovery (12 quarters), the small business sector was shrinking, terminations far exceeded new starts and millions of jobs were destroyed. Few new firms were needed to serve (or house) the expanding population. As the excess capacity in housing and small businesses was worked off and the population grew, economic activity picked up in the small business sector, increasing its contribution to growth.

That said, the outlook for economic growth is not especially encouraging. Our large global firms face many issues, weak growth or recession for many customer countries (that don’t have population growth), weaker export demand, a strong dollar and political instability to name a few. Small business faces an equally challenging future, with the management team in Washington D.C. worried about climate change and income redistribution. Positive action on small business top concerns (health care costs, energy costs, compliance costs, uncertainty about government economic policy and tax code reform) seems unlikely for the next two years. Large firms are not spending their cash and profits domestically, buying shares back from shareholders who aren’t spending more. Consumer sentiment is weak, savings high. In the April NFIB survey of its 350,000 member firms, more owners expect business conditions to be worse than today than expect improvement. Only 13% think the current period is a good time to expand, half of the rate typically observed in a growing economy. The NFIB Index of Small Business Optimism (based on 10 questions) is still below its pre-recession average. So the private sector will prevail over the headwinds it faces (too many from government), but it will continue to be slow going.

Source: Forbes
Click HERE for original post.
About the author: William Dunkelberg is the Chief Economist for the National Federation of Independent Business and is a Forbes contributor.