Dear Friends,
It seems to me, the barriers to starting a small business have never been higher, as evidenced by the dearth of small businesses that are starting up. This is critical because the economic potential of any economy is a factor of the number and quality of small businesses that start in a given time period. That is because small businesses are the engine of economic growth, both by being the font of innovation, which begins the Schumpeterian cycle of economic growth and as the biggest job creator there is. If the economic cycle is stopped real economic growth stops too. Economies cannot grow organically without innovation, big businesses are not innovative nor is government. Universities can help by advancing science, but if those advances cannot be implemented, the economy cannot get a boost from even the most amazing scientific advance. Without robust job growth wages stagnate and decline, lowering economic overall demand and demand for innovative products, as well as our standard of living. The trend bodes ill for our children’s economic well being.
The economic cycle as explained by Schumpeter is a three phase system… creation, implementation and destruction, Schumpeter’s creative destruction. First an entrepreneur comes up with an innovation, for a new product, an new way of organizing business or a new way of manufacturing. This innovation starts the upswing of the cycle. The new idea is implemented creating demand for labor, plant and capital to exploit it. As the idea is implemented the economy grows dramatically. Once the idea has been fully utilized, the old products and ways of organizing business become obsolete… and so go bankrupt. As they go bankrupt the economy goes into recession, lowering the cost of capital, plant and labor opening the way for a new entrepreneur to innovate starting the cycle again.
Small businesses create all new jobs. Clearly, those who innovate and those who work for innovators, by definition, have no experience. After all it is new. So, people who have little experience get pulled in to work at those new businesses, creating opportunities for new workers and laid off workers. The extra demand for labor drives up the cost of wages via the supply demand equation. Wages for everyone goes up driving up demand for everything… especially the new product, (if that is the source of the innovative part of the cycle). If older companies want to retain their best workers those older firms must provide competing wages. Ford famously said he wanted to pay his workers enough to buy one of his cars. To him, paying more in labor was a small price to pay when that investment paid such huge dividends, by driving up demand for his product. In other words he made less per unit but made more in the end because he sold many more units.
When the economic cycle of innovation, expansion and destruction is tripped up, an economy cannot expand organically and in fact shrinks in real terms. This stagnation can be covered up by money printing, government spending and Enron accounting but sooner or later the chickens must come home to roost. The largest and most destructive recessions and depressions have been a result of this in action. The Great Depression started as a recession, but morphed into a depression by Hoover and FDR’s policies, that short circuited small business creation. The Great Depression would have never ended if not for the death of FDR and his policies crushing small businesses in favor of corporations. Obama’s policies have all but stopped small business creation, resulting in the present depression, one that only in the history books to be written, will be named and recognized.
Think about it, with all the legal and bureaucratic red tape today throughout the West, would you start a small business? The legal cost alone, simply to get permission from the government to start a lemonade stand, is nearly insurmountable. Today the cost of capital is at an all time low even as the availability of capital to start a small business is dried up. Cheap money via the Federal Reserve’s printing press only goes to government and corporations. Government spends that money to artificially gin economic growth and corporations are using it to buy back stock, thereby enriching upper management at cost to shareholders, employees and customers. None of the “cheap” money is going to innovators. Meanwhile, plant and equipment is getting more expensive every day, raising the bar for starting a small business.
While stopping small business creation damages the interests of the people… it advances the interests of the elite. CEOs can pad their plentiful income by artificially boosting their stock price in the short term, by borrowing money and spending it to buy back their stock, corporations face less competition from innovators making the job of the new class much cushier, government cronies get huge political contributions to keep the gravy train running, and corporations get to lower their labor costs because of the drop in demand for labor. This lack of demand for labor or is exemplified by the dismal percentage of people still in the labor force. Crushing small business start ups is a win win for the elite and a loose loose for the rest of us. Of course, it is the elite that make policy and we that must live the effects of those policies, for better or worse. Now you know the whole story… the economic truth the elite will don’t want you hear.
Sincerely,
John Pepin
