Forget What You've Been Told: Who Really Creates Jobs

America is knee-deep in problems. Too much debt. Crazy banks. A broken tax system. Dysfunctional legislatures. Wacky energy policies.

What we do have going for us, unquestionably, is a culture of innovative entrepreneurs. It's the best in the world, easily. I don't think that's biased or nationalist. The U.S. has fostered the most innovative companies in the world for at least the last century. Fact.

But our culture of entrepreneurialism may not be what you think.

Take self-employment. Going out on your own is seen as a hallmark of innovation. Across the globe, however, the U.S. has one of the lowest rates of self-employment:

Source: Center for Economic and Policy Research.

Not only does the U.S. rank near last, but the opposite of what most would expect seems true: Countries with the highest rates of self-employment form a who's-who of economic misery, while countries with the lowest rates of self-employment tend to have strong, stable economies.

The same conundrum holds for small businesses, which are also seen as a stamp of innovation. Among large nations, the U.S. has one of the lowest shares of employment in small businesses in areas like manufacturing, technology, and research and development -- a third lower than the U.K.

What's going on?

You've surely heard the drumbeat that says small businesses are the key to job growth. It's the mantra of both political parties. And it makes sense: Small businesses are the most eager to expand, so they surely must create the most jobs.

But it isn't quite that simple. The majority of new jobs don't necessarily come from small businesses. They come from new businesses.

As The Economist writer Greg Ip points out, "Small companies destroy just as many jobs as they create; they aren't disproportionate job creators." Meanwhile, a study by the Kauffman Foundation found that from "1980-2005, nearly all net job creation in the United States occurred in firms less than five years old." Furthermore, "If one excludes startups, an analysis of the 2007 Census data shows that young firms (defined as one to five years old) still account for roughly two-thirds of job creation, averaging nearly four new jobs per firm per year. Of the overall 12 million new jobs added in 2007, young firms were responsible for the creation of nearly 8 million of those jobs."

True, most young businesses are small. But most small businesses aren't young. That's where most trip in the argument that small businesses are the key to job growth. If jobs are the priority, the target for policymakers should not be size, but age and innovation. This is why so many are concerned with the pathetic state of the U.S. Patent Office. David Kappos, the Patent Office's director, was asked last year how many jobs he reckoned were being held back by patent backlogs. "Millions" he replied.

There's more to the job conundrum. A surprisingly small number of companies create almost all the new jobs. Economist David Birch calls these companies gazelles, in contrast to elephants, which employ many people, but don't create many new jobs, and mice, which employ few people and create few new jobs. Greece may have more self-employed entrepreneurs than America, but the majority are mice, working in agriculture and street-vendor shops that rarely, if ever, grow.

Birch's findings on the American job market are staggering. Gazelles, which make up around 4% of firms, create as much as 70% of new jobs. During some periods, gazelles created more jobs than the entire economy, as all other firms shed more jobs than gazelles created. Another characteristic of gazelles: They're very young.

Examples of gazelles are companies like Google (Nasdaq: GOOG  ) , Facebook, Groupon, and Netflix (Nasdaq: NFLX  ) . These aren't small businesses by any definition. They are, however, young, and incredibly innovative. They're the kind of companies that create jobs -- nearly all the new jobs in America. America might not have the most entrepreneurs. We don't have the most small businesses. What we have is a culture conducive to breeding gazelles. And that, thankfully, is the key to job growth.

This doesn't mean there's no room for improvement. Our employment situation is a mess (or did you already know that?). The Kauffman Foundation sums this all up nicely:  

Virtually all of the attention among policymakers and the media has focused on the waiting game by larger firms, currently reluctant to take back employees they dismissed, and unwilling so far to begin hiring new employees again … This attention is misplaced. The overwhelming source of new jobs is new firms. The key implication for policymakers concerned about restarting America’s job engine, therefore, is to begin paying more attention to removing roadblocks to entrepreneurs who will lead us out of our current (well-founded) pessimism about jobs and sustain economic expansion over the longer run. This much-needed shift in focus cannot come soon enough.

Check back every Tuesday and Friday for Morgan Housel's columns on finance and economics.

Fool contributor Morgan Housel doesn't own shares in any of the companies mentioned in this article. Follow him on Twitter @TMFHousel. Google is a Motley Fool Inside Value recommendation. Google is a Motley Fool Rule Breakers pick. Netflix is a Motley Fool Stock Advisor recommendations. Alpha Newsletter Account, LLC has bought puts on Netflix. The Fool owns shares of Google. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (26) | Recommend This Article (76)

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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 29, 2011, at 5:33 PM, MyDonkey wrote:

    "...lead us out of our current (well-founded) pessimism about jobs and sustain economic expansion over the longer run."

    Economic expansion (i.e. growth) is not sustainable over the long run.

  • Report this Comment On April 29, 2011, at 6:10 PM, techrod wrote:

    Not sure what I've learnt here. New companies - "gazelles' create jobs, but not not necessarily the self-employed. Is this wisdom or insight or just the obvious?

  • Report this Comment On April 29, 2011, at 8:32 PM, TMFBreakerRob wrote:

    Just another one of your outstanding articles, Morgan! I thought it was great...and had never seen as good a connection between jobs and young/innovative companies as you wrote.

    You should get an award! Oh wait....you just got one, didn't you? ;) Well done...again.

  • Report this Comment On April 29, 2011, at 9:04 PM, TMFHousel wrote:

    Rob, thank you!

  • Report this Comment On April 29, 2011, at 10:10 PM, devoish wrote:

    I'm going to send your work to "myth busters".

    Best wishes,

    Steven

  • Report this Comment On April 30, 2011, at 3:03 AM, CaptainWidget wrote:

    Jobs are pointless unless they add value to society. The unemployment/self employment statistics are useless without looking at their net effect on increasing domestic product.

    Some jobs will increase productive value of their company greatly (like a Google programmer) while other jobs will increase value only minimally (like a union laborer). Some will destroy value (like a government union recycling sorter). There's no way of knowing the value of said employee until the company gets going. This is why people talking about "employment policy" baffles me. If the smartest entrepreneurs with their own money on the line aren't certain if their company will be successful or not, what makes anyone think the government will be able to tell for sure.

    Sure, you can make "policy" to create jobs. Everyone gets a shovel. Half dig holes, half fill in holes. But there's no "policy" that will be successful at creating value, unless that policy is "fair market prices for products and voluntary employment prodcedures". Presuming that the comptroller will predict the most efficient jobs, and then attempting to offer incentives to entrepreneurs to move into that field is ridiculous. All it does is changes the real market prices and creates false pricing signals to other entrepreneurs.

    I can't tell what exactly you're advocating in the article however (if anything) but I did see a lot of talk on jobs policy, so I thought my point warranted mention.

  • Report this Comment On April 30, 2011, at 8:52 AM, David369 wrote:

    So uh, the bottom line is that things are a mess and the government isn't helping. I'd say send this to every member of Congress but even if they read it and decided to be proactive about it they would take about a year to pass a bill that would not help.

    What we need is Trump for President. No, wait, that wouldn't work either. He'd just fire everybody and then we'd have more unemployment.

  • Report this Comment On April 30, 2011, at 11:18 AM, whereaminow wrote:

    There are only two ways to create a job.

    The first is value-adding-production. Facebook may be big now, but its size is a result of its ability to produce something people value. Big or small, white or black, left or right, if you add value you will create jobs. I don't know of any economist of any ideological stripe that views small firms as being betting job creators than large firms. Small firms are usually small for a reason: they aren't as good. If they were, they'd become large.

    But I think it has more to do with dumbed-down political debate. Many people feel that freedom to compete is being reduced in America, making it harder for a small firms to become the next big firm. Not impossible. But a lot harder. Translate that to political speak = support small firms because they create jobs. Politicians and their posses are stupid. If they weren't, they wouldn't be in politics. I guess that's just the way it is.

    The second way to produce a job is, of course, by force. The Greeks have a long history of relying on this method. America does not. Thankfully. Though as each election cycle passes it seems we become more dependent on force and less confident that we will help ourselves through value adding production.

    Remember that force can also be used to keep the playing field "equitable." The Greeks appear to have perfected the art of keeping everyone perfectly equally miserable.

    David in Qatar

  • Report this Comment On April 30, 2011, at 2:18 PM, mracz425 wrote:

    Very Good article.

  • Report this Comment On April 30, 2011, at 3:29 PM, deckdawg wrote:

    Morgan, what are some ideas about how obstacles might be removed? The patent office seems to be a problem. How about obstacles to raising capital in the public markets? I'm concerned about this as an investor...I want innovative young companies to be able to launch IPOs so that I can share in their success. Another issue (which was a main concern of Adam Smith) is the iron clad law that incumbents (existing businesses, guilds, and their political friends) are going to do their best to manipulate the environment to smother the innovators. (key words - Microsoft, Wisconsin, Boeing & South Carolina, Hedge Funds shifting donations to Republicans, ethanol subsidies). Obviously the US has been doing something right for the last 200 years. Our fathers reacted to over-powerful monopolies with anti-trust laws. We're seeing some current reaction to over-powerful public unions. Do you have some ideas on what could be done?

  • Report this Comment On April 30, 2011, at 4:24 PM, ynotc wrote:

    "The key implication for policymakers concerned about restarting America’s job engine, therefore, is to begin paying more attention to removing roadblocks to entrepreneurs ..."

    Morgan, This is a common comment on posts about your articles and yet in some of your articles you defend the idea that regulation and taxes are not the problem.

    If you truly beleive the conclusion quoted above, you will be shifting your opinion in future articles.

  • Report this Comment On April 30, 2011, at 4:41 PM, TMFHousel wrote:

    ^ I don't buy the argument that all taxes or all regulations are either good or bad in the same way I don't think every day can be classified as either sunny or snowy.

    Certain parts of the economy need strong regulation, particularly securities markets, while others are drastically overencumbered. Taxes should be at a level consistent with covering the services society demands, and the burden should be distributed in an equitable way, so one group isn't penalized compared with another.

    No shifting of opinions here.

    Morgan

  • Report this Comment On May 01, 2011, at 2:26 AM, CaptainWidget wrote:

    <<Certain parts of the economy need strong regulation...>>

    Who gets to decide which parts need regulation, and how do you decide how much is enough? What's the proper ratio of risk to reward in these vital industries, and again, who gets to decide? This is the paradox of the government. Give it an inch and it will take the freedom of every human being involved.

    Why is government regulation more necessary than government enforcement? And if guidelines must be set, why not let private companies decide what are the necessary guidelines?

    In a high liability industry the government could simply mandate adequate insurance and bonding to cover any potential losses and then just let the insurance companies compete for regulation. They get better price signals, and will be able to give better risk/reward ratios to the companies than the government ever will manage.

  • Report this Comment On May 01, 2011, at 8:47 AM, Tygered wrote:

    Another great article. I would like to know why there is such a backlog at the patent office. Perhaps in a future article you can go into that more. Lord knows we need new gadgets and new ways of doing things.

    thanks.

  • Report this Comment On May 01, 2011, at 4:15 PM, benthalus wrote:

    @CaptainWidget

    Government regulation and government enforcement aren't separate issues. The former is useless without the latter.

    The reason we don't let some private industries decide on what guidelines are necessary is the inherent conflict of interest. Companies are designed by law to make money, by whatever means they deem most effective. Government is designed by law to protect the welfare of the individuals and the society they create.

    Removing the regulations on the financial sector and letting them self-regulate did a stellar job of protecting our social and economic stability

    Lax regulations on deep sea oil drilling did wonders for the physical and economic health of the inhabitants of the Gulf Coast.

    Chinese toy companies avoiding our regulations are doing an excellent job of protecting our children.

  • Report this Comment On May 01, 2011, at 6:39 PM, CaptainWidget wrote:

    There were plenty of regulations to enforce any of the disasters you mentioned. The problem was lack of enforcement. Banking regulations were in place to prevent predatory lending, but the enforcement was overlooked (perhaps purposefully) by the government to enforce some arbitrary mandate of getting more American's into their own homes.

    There were plenty of Federal inspectors who signed off on bad pressure tests and the faulty cement to caused the BP oil well to explode. No amount of regulation will prevent someone from failing to do their job.

    We have more regulations in nearly every business sector than at any point in the history of the US. Is putting more rules on paper really helping anything. What these companies need are reliable, MARKET PRICED risk/reward ratios to their actions. The only way to get a real market price on risk/reward is to sell that premium on the market. That's what insurance and bonds are for.

    In my mind if you can get insured by a 3rd party for 100% of the liability your business creates, then the government is likely going to be an impediment to any further public safety.

  • Report this Comment On May 02, 2011, at 9:50 AM, VoiceintheCrowd wrote:

    Outstanding analysis, but it leaves me hanging at the end--the conclusion seemed inconclusive. We want to shift a policy focus from "small business" to "new business," but I'm having trouble envisioning what that would look like.

    You mention the incredible backlog at the PTO. That's definitely a problem, but it might be unrelated to difficulties faced by new businesses. Not all new businesses are IP-heavy, and many older, larger businesses (your "elephants") are IP-heavy.

    At least one commenter mentioned obstacles to raising capital in America, which I take to be an oblique (or not so oblique) reference to Sarbanes-Oxley. That one is probably worth examining, particularly since the heavy regulatory obstacles to going and staying public would be the most burdensome to "gazelles," as a category. Obviously, it didn't stop Google, Netflix, and Amazon from going or staying public, but other firms closer to the bubble of going public very likely aren't doing so due to the increased difficulty of raising capital in the equity markets; there was a dramatic drop-off in IPOs in the USA after SarbOx passed, if I recall.

    Other than that, I'm not sure what issues new companies specifically face that older companies don't, or that older companies don't face as strongly, that are issues that public policy could address.

  • Report this Comment On May 03, 2011, at 8:32 AM, dvjac wrote:

    I disagree and it is why I am not a Republican. Regardless of where you occupy one of the tiers of business the product is ultimately for the consumer.

    Therefore, consumers i.e. workers create their own jobs with their purchases. I am not taking anything away from the risk born by the business.

    But, how can a business profit by reducing wages of consumers who buy their very products, in a general sense. If new business creates jobs it is because of new markets of consumers. It is a fine balance and the entire premise is contradictory. Business depressing wages for profit has baffled me for over 60 years.

    Workers and consumers just want higher wages to buy more "stuff" and create more jobs and business opportunity.

  • Report this Comment On May 03, 2011, at 12:22 PM, IBJAMMIN wrote:

    The solution is obvious. If you consider what type of government we have, i.e. the best money can buy, the Gazelles just have do the most lobbying! The Congress and most state and local governments usually do the bidding of whoever gives them the most money in campaign contributions. The Gazelles could lobby for an expanded Patent Office with faster processing of patent grants for example. They could follow the lead of other lobbyists and just right up the bills they want passed and give them to their favorite Congressman. Sad to say, but that's how it is currently done.

  • Report this Comment On May 04, 2011, at 10:30 AM, dunkmaster wrote:

    I am amused by the number of people who want to add their "knowledge" about jobs to this post...It think the point is clear....what you THINK you know about jobs is more likely to be an urban myth...it's as if some of these idiots did not even read the article.

    what I have learned is that we need to reduce the taxes and hiring burdens on NEW inovative startup companies not the rich sitting in arm chairs smoking cuban cigars and funneling money to the mindless (idea-less) drones in the tea party.

  • Report this Comment On May 06, 2011, at 12:08 PM, Harley117 wrote:

    McDonald's is slated to add 50K jobs

  • Report this Comment On May 06, 2011, at 12:15 PM, RLoder wrote:

    Love the chart, my hunch is that the US is at the bottom is because we don't have universial health coverage which reduces risk taking by individiuals to start a new business (which is good and bad). No health insurance or the cost of health insurance scares many from going on their own unless a spouse can cover.

    The top countries are probably there because of individuals need to create their own job because their economies are in the crapper and in the case of Greece tax cheeting is probably easier on a small scale therefore more profitable to be a lone ranger (also less regulation if you are ignoring the laws).

  • Report this Comment On May 06, 2011, at 9:33 PM, critter88 wrote:

    Morgan, enjoyed the article. While this is a complex topic, many of our elected officials don't understand even the simple principles and dynamics. Let me digress in order to make my point - in the past two or three decades, politicians and special interests groups have used the tax law to push their social and political agenda. Between 1984 and 2011, our tax law has grown from 26,300 pages to 72,536 pages! This is costing the country hundreds of billions of dollars to comply with these increasingly complex rules. Yes, they produce millions of accounting jobs but as other readers noted, jobs that don't add value aren't worth that much in the long-term.

    The country has dished out billions in tax incentives for renewable investments, mostly solar and wind, but the jobs created are predominantly overseas (e.g., solar panels made in China, wind turbines made in Korea, wind blades made in India). The so-called "green jobs" tend to be low paying, such as hiring unskilled labor to bolt the solar panels together, while the higher skilled engineering and manufacturing jobs are overseas.

  • Report this Comment On May 10, 2011, at 6:52 AM, jonesericr wrote:

    On the technology side of the patent issue I believe it's the patent squatters. These are firms that make there money by buying up patents and then suing any company that dares to produce a product similar to the one they hold the patten on. They are also known as patent trolls and do the same thing as domain name squatters/trolls. Hold on to it and then try and get as much money out of it when someone wants it.

    Patents should last long enough for the inventor(s) to reap the reward but not long enough to prevent innovation of a new product.

    As for the creation of new jobs I believe he is correct that it will come from new/young businesses because the current established ones are sitting on the cash, and working the current employees who don't wish to be unemployed.

    This is a view of the US employment problem seen from Japan. What I read in the paper, hear on news podcasts and news from friends in the states.

    I was in the 2001 dot com bomb and can empathize with those unemployed now.

    ej

  • Report this Comment On June 12, 2011, at 9:43 PM, JohnSteinsvold wrote:

    An Alternative to Capitalism (which we need here in the USA)

    Several decades ago, Margaret Thatcher claimed: "There is no alternative". She was referring to capitalism. Today, this negative attitude still persists.

    I would like to offer an alternative to capitalism for the American people to consider. Please click on the following link. It will take you to an essay titled: "Home of the Brave?" which was published by the Athenaeum Library of Philosophy:

    http://evans-experientialism.freewebspace.com/steinsvold.htm

    John Steinsvold

    I think the person who takes a job in order to live - that is to say, for the money - has turned himself into a slave.

    --Joseph Campbell

  • Report this Comment On January 05, 2012, at 11:00 PM, dav1b wrote:

    Excellent article.

    "Gazelles, which make up around 4% of firms, create as much as 70% of new jobs."

    Just doing some fact checking.. can you source this statistic?

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