Is entrepeneurship dying in the US? And, if so, why?

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More US businesses closing than opening, says Brookings Institute report
This Washington Post graph shows the results on a state-by-state level, indicating no correlation with tax levels.
This Washington Post graph shows the results on a state-by-state level, indicating no correlation with tax levels.

A recent Brookings Institute report, which shows the number of businesses closing compared to the number opening in the U.S. has inverted for the first time since 1978, has attracted significant media attention, as well as observations from several bloggers including Imagine founder Patrick King.

The Brookings press release quoting the study by Ian Hathaway and Robert E. Litan, says:

Business dynamism is the process by which firms continually are born, fail, expand, and contract, as some jobs are created, others are destroyed, and others still are turned over. Research has firmly established that this dynamic process is vital to productivity and sustained economic growth. Entrepreneurs play a critical role in this process, and in net job creation.

But recent research shows that dynamism is slowing down. Business churning and new firm formations have been on a persistent decline during the last few decades, and the pace of net job creation has been subdued. This decline has been documented across a broad range of sectors in the U.S. economy, even in high-tech.

Here, the geographic aspects of business dynamism are analyzed. In particular, we look at how these trends have applied to the states and metropolitan areas throughout the United States. In short, we confirm that the previously documented declines in business dynamism in the U.S. overall are a pervasive force throughout the country geographically.

More US businesses closing than opening, says Brookings Institute report

In fact, we show that dynamism has declined in all fifty states and in all but a handful of the more than three hundred and sixty U.S. metropolitan areas during the last three decades. Moreover, the performance of business dynamism across the states and metros has become increasingly similar over time. In other words, the national decline in business dynamism has been a widely shared experience.

While the reasons explaining this decline are still unknown, if it persists, it implies a continuation of slow growth for the indefinite future, unless for equally unknown reasons or by virtue of entrepreneurship enhancing policies (such as liberalized entry of high-skilled immigrants), these trends are reversed.

Washington Post graphics editor Christopher Ingraham dug into the data and could find no correlation between this apparent business decline and taxation.

I mapped the state data below. While all states showed steep drops in new firms, New York stands out for its much smaller decline in the share of new companies than other states — only 18 percent, compared with the 50-state average of 47.2 percent. Illinois, Texas, New Jersey and Missouri round out the top five.

At the other end, Alaska had the largest drop in new business, at 61 percent. Hawaii, Vermont, New Mexico and Wyoming rounded out the bottom five. Teasing out the causes of the overall decline or the variation between states is difficult; the authors stressed to me that their data don’t answer the questions of why or how just yet. But they will be looking into that in the months ahead.

No immediate pattern emerges from the state-level geography, but one thing is worth nothing. For kicks I tried to correlate the drops in new businesses in each state with the states’ scores on the Tax Foundation’s 2014 State Business Tax Climate Index. There was no significant relationship one way or the other. For example, New York, which showed the lowest decrease in new businesses, actually scored dead last in the Tax Foundation’s ranking. Wyoming had one of the largest declines, even though it ranked first in the Tax Foundation’s report.

At the very least, the Brookings findings strongly suggest that when it comes to luring new businesses to a given state, there are a lot more factors at play than straightforward calculations of corporate tax rates.

So what is going on here?

I don’t have any easy answers — and am loath to draw conclusions based on a cursory reading of the original report and some related news articles describing the study. However, if some explanation cannot be discovered, this news may have seriously negative long-term implications for the U.S. economy.

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