Unemployment and America’s competitive advantage is discussed in an article by Phin Upham.
To paraphrase Tolstoy, All employed people are employed for different reasons, but all unemployed people are unemployed for only one reason: a bad economy. As unemployment hovers around 9% in the United States, the highest since 1983 – when it reached 10.8% – and underemployment around 15%, we focus on this all too human tragedy. While some herald the recovery is here, unemployment, often a lagging indicator, continues to decline. Examining the unemployment dynamics of the last few recessions from the perspective of big business and small business in the US reveal some of the causes of unemployment and may help us understand the path of the eventual employment recovery – and perhaps also help us figure out when our unemployed friends can start paying for their own drinks again.
It is a shibboleth of the US economy that more than any other major economy in the world the American economy, as a consequence of being the freest and most entrepreneurial, is built on small businesses, entrepreneurs, and risk taking. Indeed, this seems to be one of the few things that both Republicans and Democrats agree on:
– “We honor the entrepreneurs and small business owners who are the engine of our economy… Our nations success depends on America’s small business and entrepreneurs” – President Barack Obama
– “Small business is where national prosperity begins… Small businesses such as Main Street retailers, entrepreneurs, independent contractors, and direct sellers create most of the country’s new jobs.” – Republican Party Platform
Recent work by the OECD sheds light on the dynamics of big business and small business sectors of developed countries. Data collected by governments across the world suggests that the US has a relatively small business sector compared to other developed countries. A recent study places the US as second only to Luxembourg in how small a percent of GDP the United States’ small business sector is, well below European competitors. This holds no matter how you cut it, from focusing on manufacturing, by excluding farmers, or even looking at technology alone. The statistics suggest, contrary to expectations, that what America excels in in small businesses, rather, is not their number or size, but the ability to let them fail or scale into very large companies. The difficulty of this should not be underestimated and is among the central problems China’s fractured corporate markets struggle with today.
This holds even more true when we examine the value added by different sized businesses –statistically the US also has one of the lowest value add by small businesses in the world and, unexpectedly, statistically one of the highest value add by large companies. President Coolidge said “the business of the American people is business” – in the modern world, for better or worse, this seems to increasingly be big business.
On the other hand, examining the Global 400, a ranking of the largest public companies by market cap, we see how dominant the US is in large, global companies. Of the Global 500, the largest 500 public companies in the world, last year the US dominated the world with 140 companies, more than twice Japan who, with 68, has second place. If we were to excluding large oil and gas companies and national monopolies which are not truly global, the US has an even more dominant presence. The European Union as a whole rivals the US in aggregate. The US excels at large companies, a phenomena explored well by Alfred Chandler who studied the genesis of American big business in the early 19th century. A very underestimated factor is the cost of corruption which prevents firms in emerging markets from growing beyond immediate managerial supervision and prevents exactly the sort of managerial delegation and autonomy Chandler praises.
In keeping with these observations, it is useful to explore the different roles that large businesses and small businesses play in job creation. To do this we take the last three recessions and compare the contribution of large companies, defined as over 500 employees, with the contributions of small and medium sized firms (less than 500).
While the number of large and small firms has remained constant since 1990 in the US large firms have grown from about 41% of employment in 1990 to over 44%. Large firms (over 500 employees) make up 0.4% of companies and employ 30% of workers, while small firms are 99.6% of firms and employ 70% of workers.
The contribution of large and small firms to unemployment has changed radically since the 1990’s in the US. In the 1980 recession small firms contributed 80% of the job losses (and 60% of job gains in the subsequent recovery) while in the 2001 recession things flipped and large firms contributed almost 60% of the job losses (but only 40% of the subsequent job gains). The current recession has the same patterns as 2001 but exaggerated even further – large firms have contributed the majority of job losses as of Q4 2008. We expect that the large firms may continue to be the driver of economic gyration and dominate job losses and, increasingly, gains.
Graphs on employment from Jessica Helfand, Akbar Sadeghi, and David Talan, Employment dynamics: small and large firms over the business cycle, 2007
Studying the previous recessions we notice that the recovery since 2001 has been, from the perspective of the labor markets, a very odd one. Just as light is thought to be both a particle and a wave by physicists, unemployment is thought of as both a stock and a flow by economists. Beneath the 9.8% number lies the interesting, if elementary, observation that jobs are constantly being lost and gained that cancel each other out.
Economists usually argue that unemployment in a recession consists of companies downsizing in response to lower aggregate demand and a recovery means that they re-hire again as inventories are depleted, demand recovers, and they are short on staff again. This is indeed what happened in 1982, as we can see above, and most other recorded recessions, but the recovery of 2002 – 2004 violated this pattern. While the recession, led to the expected decline in new workers hired, in this case led by large firms which decreased hiring, and a simultaneous sharp increase in workers laid off, the recovery Q4 2001 (when the recession officially ended) meant only one quarter of growth in gross job gains before job gains continued once again to decline relentlessly from 2001 to 2007. This is particularly true of large firms which have continued to have anemic hiring (though with even less firing) over the last 5 years. Indeed, large firms have 1/3 less hiring and firing as a percent of employees as small firms – less turn over and more stability. And their rate of hiring actually declined significantly from 1998 to 2007.
Instead the recovery in unemployment in 2002-2006, and the tight labor markets of 2006 and 2007, were almost totally explained by decreases in the rate of job losses in large firms. Drops in rates of gross job losses exceeded the slowdown in gross job gains, creating net employment gains. To put it another way, the decrease in unemployment 2002 to 2007 in the US was due chiefly not to new business growth but to a sharp decline in businesses failures by large firms closing plants and the like. Seeing this as progress is rather bizarre, like saying a marriage got better because there were many fewer insults, and only a few less kisses.
The current recession has the odd characteristic of being much more the result of massively increased job losses while job gains have remained within (already low) ranges of the last few years. If this continues firms might simply stop hiring and forgo the expected, and hoped for, hiring spree.
The massive dominance of large firms in the US combined with systematic cyclically-stable stagnation in new job creation over the last 5 years, suggests that ceterus parabis the jobs future look unprecedentedly grave. If things continue as they have under the new paradigm, job recovery will consist largely of large firms job cutting decreasing while new hiring remains anemic.
Projecting forward, the gradual absorption of workers back into the economy will begin with large firms cutting job losses first and then small firms joining a year to a year in a half after the slowdown ends. If job losses went back to their lows such a process would involve absorption of the 8 million jobs lost from 2007 to 2009 and, including wealth lost, population increases and immigration, a total of perhaps 15 million jobs would need to be created – about 200 thousand new jobs created per month would accomplish this in a staggering 9 years and 300 thousand jobs created per month would accomplish this in perhaps 3 or 4 years. Unemployment would not return to “normal” 4.5% for a long, long time. Large firms, which seem to have taken a leadership role in employment, have more options than small ones are increasingly likely to rehire in emerging markets where growth occurs and work hours for those employed remain at decade lows – leaving plenty of internal slack. In summary – in a worst case scenario – which isn’t impossible by any measure – the job recovery may suffer a triple hex – it may well secularly lag the market recovery, it may well be secularly slow, and it may come in the form of jobs in large firms rather than new business. So you might have to get used to your best friend crashing on your couch.
Samuel Phineas Upham has a PhD in Applied Economics from the Wharton School (University of Pennsylvania). Phin is a Term Member of the Council on Foreign Relations. He can be reached at email@example.com.
 Measuring Entrepreneurship: A digest of indicators, OECD, 2008
 An International Comparison of Small Business Employment, John Schmitt and Nathan Lane, 2009
 Methodology and statistics from Jessica Helfand, Akbar Sadeghi, and David Talan, Employment dynamics: small and large firms over the business cycle, 2007
 Further, large firms employment peaked a year before the 2001 recession hit – in 1998 while small firm employment showed no such prescience. It is interesting to note that large firm employment in the 2008 recession also accelerated its decline a year before the recession hit – while again small business employment was steady. This is perhaps a useful leading indicator for potential trouble ahead.