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Posted on Harvard Business Review: September 8, 2011 2:27 PM
By Jeff Stibel
There is no shortage of ideas on how to fix the economy. Open any newspaper and the ideas proliferate with an air of desperation: cut corporate taxes, increase personal taxes, decrease government spending, increase government spending, deregulate, re-regulate, ad nauseum. In this debate, everyone is an expert: economists, professors, politicians, news commentators, your father-in-law, my father-in-law, even Homer Simpson.
While I don’t have the credentials of many of the experts (nor do I anticipate being a father-in-law for another 20 years), I do know a few things about making decisions. Most importantly, the answer to most problems is usually simple. In this case, we need to think small to create big results.
Forget the deficit, monetary policy, stimuli, stock markets, corporations, taxes — that stuff makes my head spin (and apparently the economy as well). Instead of the typical measures for boosting the economy, we need to focus on small business growth. Small businesses constitute the majority of our GDP and have historically been the source of most new job creation.
In contrast, large businesses do not create jobs in the volume or manner needed to stimulate the economy. While large businesses are thriving with record profits, they now constitute their own economy, increasingly disconnected from the economy of the rest of the country. Large businesses are not spending, they are not creating jobs; they are returning profits and dividends. This is resulting in a concentration of wealth and purchasing power into an ever-smaller number of hands. The net effect is to drain purchasing power (demand) from broad segments of the economy where it is needed most.
Conversely, small businesses are struggling for capital, are not seeing increased demand, and are consequently not generating the jobs we need to start a recovery. Until small businesses begin to grow, we will continue to see an overall economy bifurcated by an expanding corporate sector and a struggling small business sector. Absent small business investment, we will not get out of this recession.
Much has been made of a corporate tax cut, but that cut should be targeted to small businesses. Reducing Microsoft’s taxes by $100 million dollars does little to create new jobs; cutting the same $100 million in taxes from a thousand neighborhood shops would fuel an epic job spurt.
A program to incentivize banks to provide increased capital at lower rates to small businesses is desperately needed. To align incentives, however, it must be done right. Banks aren’t looking for cheaper capital; they are looking for lower risk. (Cost of capital is passed on to the businesses borrowing the money so it is not a huge factor for lenders.) Thus, the government must find a way to reduce the risk for the banks while reducing the cost of capital for the businesses. The opposite was done in 2008 and we saw banks hoard record amounts of cash, loaned at cheap rates by the government.
A small business lending program could be created through a combination of tax incentives for banks that lend to small businesses and the expansion of programs that provide insurance against default. With record low interest rates, small businesses would have broad access to cheap capital.
We also need to face the stark reality of income inequality as an exasperating factor in the economy’s decline. These disparities are growing at an alarming rate and have been accelerating throughout the recession. An economy that derives 70% of its GDP from consumer spending cannot sustain stable growth when average consumers don’t have money to spend.
Unbalanced growth — growth derived primarily from one segment of the population — inevitably collapses upon itself. From 2000 – 2009, overall GDP grew by 17.8% while average household net worth dropped by 4% when adjusted for inflation. At the same time, the richest individuals and corporations grew net worth by record amounts. This incongruity between rising economic growth and decreased household income is even more remarkable considering there was record low inflation.
Long-term, stable growth cannot be truly sustainable if it is also massively unequal.
Imagine a structurally sound house with a roof (GDP) supported by 4 walls (demand). Then increase the weight of the roof by 17.8% (GDP growth) and decrease the strength of 3 of the supporting walls by 4% (consumer spending). One does not need to be an engineer to see that such a roof will collapse.
While our GDP has risen, consumer purchasing power has declined in relative terms and can no longer support steady growth absent external interventions (government spending, rising exports). So while we clearly need policies that are pro-growth, we also need growth to be reasonably equitable if it is to be self-perpetuating. Otherwise we are trying to grow the size and weight of a roof (GDP) upon walls of insufficient strength.
Growing our small business sector will go a long way towards restoring purchasing power to broad segments of our economy. Small businesses employ more than half of all our citizens and create opportunities for the poor and middle class to increase wealth. This is the simplest and most sustainable way to produce jobs, generate demand, and promote growth.
While there is no shortage of ideas for growing the economy, none of these ideas can produce sustainable economic or job growth unless they focus on small businesses. If we want big results, it is time to think small.
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