Viewpoint

Time to Cut Red Tape for Startups


For small business owners in the U.S., the cost of complying with government regulations is one of those ongoing problems that doesn't receive enough attention. Perhaps it's easy to overlook, given small employers' skyrocketing health-care costs and worries about tax increases. But research commissioned by the Office of Advocacy of the Small Business Administration reveals that the cost of complying with federal regulations is higher for small businesses than for midsize or large ones—45% higher on a per-employee basis, on average in 2004. For businesses with fewer than 20 workers, the cost of compliance is more than $7,600 per employee, compared with $5,300 for businesses with 500 or more employees. These numbers are of roughly the same magnitude as the employer share of employee health-care costs, which consulting and reinsurance firm Towers Perrin pegged at $5,760 in 2004 and $7,500 in 2009. So, on the basis of costs, regulatory compliance is a big issue for small businesses. More Regulation, Fewer StartupsRegulatory compliance also deters business formation. The World Bank's analysis of its 2008 entrepreneurship survey showed that countries with easier and less expensive procedures for registering new businesses have higher rates of new business creation, after accounting for differences in per capita income across countries. Simply put, countries that regulate business formation more heavily have fewer startups. Because policymakers believe that startups are beneficial for job creation, wealth generation, and a variety of other goals, their efforts to regulate the business creation process undermines the very objectives they seek to achieve. High levels of regulation also deter entrepreneurial ambitions. Analysis of data from the research program Global Entrepreneurship Monitor shows that a country's score on the World Bank's 2007 red tape index is negatively related to the share of business owners who expect to employ at least 20 people in five years. From these data, the 2007 GEM report concludes that "all other things being equal, the more onerous a country's new business regulations, and the more local experts perceive these regulations to be onerous, the lower the level of ambition among a country's entrepreneurs." U.S. Regulation GrowingThe evidence of the high cost of government regulations and the negative relationship between a country's level of regulation on new businesses and its rate of entrepreneurial activity are important because regulation on startups has been growing in the U.S. According to the GEM, the U.S. had more red tape related to starting a business in 2007 than it did in 2003, as measured by both the World Bank red tape index and the GEM expert red tape index. Moreover, Bruce Phillips and Holly Wade, writing in the lobbying group National Federation of Independent Business' publication Small Business Problems & Priorities, report that "unreasonable government regulations" ranked sixth among problems for small business owners in 2008, up from ninth in 2004, with 21% of respondents reporting this problem as critical. (The conclusions were based on a survey of the small business owners that make up the NFIB's membership.) Phillips and Wade also found that the federal government proposes about 150 new rules annually, with each added rule costing small businesses $100 million in compliance. Recently, there have been calls to help entrepreneurs navigate their way through the Great Recession. A host of different policy recommendations have been floated. But here's a simple one: Instead of imposing 150 new federal rules on entrepreneurs annually, let's try eliminating 150. After all, in his State of the Union address, the President said, "Our agenda must help small business owners and employees with relief from needless federal regulation." Oh wait, that was the previous President speaking in 2004. Maybe it's time that policymakers got back to thinking about reducing the cost of regulatory compliance as a way to stimulate economic growth and job creation.
Scott_shane
Scott Shane is the A. Malachi Mixon III Professor of Entrepreneurial Studies at Case Western Reserve University.

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