Recent Research: Business Churning Enhances U.S. Productivity and Employment Growth

New establishments are responsible for one-third of annual employment creation in the U.S. and have higher measures of productivity when compared to mature surviving establishments, according to a report released last week by the Kaufmann Foundation. Turmoil and Growth: Young Business, Economic Churning, and Productivity Gains, written by Steven Davis of the University of Chicago, John Haltiwanger of the University of Maryland, and Ron Jarmin of the U.S. Census Bureau, sheds light on recent research examining the "churning" process - the continual entry and exit of companies in the national economy.

Looking at U.S. employment rates from 1977 to 2005, the average annual increase in new jobs was almost 18 percent, while the annual decrease in jobs was about 15 percent. In both job creation and destruction, business churning was responsible for roughly one-third of employment change, the rest coming from expansion or contraction within existing locations.

The authors also found among surviving establishments, younger companies grow faster than older companies in terms of employment. In their first year of existence, employment growth at surviving locations is 18 percent, steadily declining over the years such that average employment growth around year five is about 6 percent. For establishments that leave the market, employment losses peak at the second year of their existence, at an average decline of about 17 percent. In short, younger businesses experience high job growth when they survive and high job losses when they fail.

In terms of productivity, establishments less than five years old are, as a whole, 3 percent more productive than the baseline of surviving mature establishments. Compared to this same baseline of mature survivors, the mature companies exiting the market are 27 percent less productive, and establishments less than five years old are 32 percent less productive. The volatile nature of less productive establishments dropping out and newer more productive establishments surviving creates an overall more productive national economy.

The report calls for additional tracking of businesses with no employees, a group the authors argue is often neglected in business studies. They report 75 percent of all U.S. businesses are non-employer businesses, whose sole proprietors represent 7 percent of total employment, generating 4 percent of total U.S. revenues. Additionally, one-quarter of new employer businesses started out as these non-employer businesses in their genesis. As these non-employer companies develop into revenue-generating established companies, it is important to follow their progress before they begin to hire employees.

Turmoil and Growth: Young Business, Economic Churning, and Productivity Gains is available at: http://www.kauffman.org/items.cfm?itemID=1082