Article originally appearing in print and later online at The Economist.
THE spirit of enterprise is infectious on the 14th floor of One Marina Park Drive. People from more than 100 start-up companies squeeze inside, working cheek by jowl to turn their ideas into successful businesses. There is no time to admire the magnificent views of Boston harbour.
They are an eclectic bunch: Locately scours credit card data to provide retailers with information about what else their customers are buying. Two cubicles away is Casa Couture, which makes expandable shoes which it says are ideal for pregnant women and fast-growing children. Nearby is Invup, which runs an online service helping big companies manage their do-gooding. Then there is Abroad101, which assists Americans wanting to study overseas; Her Campus, a newspaper and marketing firm targeting female students; ArtVenue, which matches artists with empty display space; OsmoPure, which makes water filters for poor countries, and so on.
They have been brought together by MassChallenge, a competition to find potential “high impact” start-ups and help them grow faster. The aim is to restore America's reputation as the world's most enterprising nation.
The rapid rise of social-media firms, such as Facebook, Twitter and Groupon, can give a falsely rosy impression of American enterprise. The data suggest that lately the country's entrepreneurial growth-engine has been misfiring—which is alarming given the role it has played in creating employment. According to research funded by the charitable Kauffman Foundation, in 1980-2005 firms less than five years old created 40m net new jobs—equivalent to 100% of the net new jobs created in the entire American private sector. Alas, this magnificent hiring machine is sputtering. In the past three years—ie, roughly since the financial crisis of 2008—the number of new companies formed each year fell by nearly a quarter, and with it the rate of job creation by start-ups: from 3m new jobs a year on average to 2.3m in 2009. Had the rate of job creation remained what it was in 2007, there would now be nearly 2m more people employed in America.
Hitting the accelerator
While some of this slowdown may be cyclical, there is a growing belief that the “ecosystem” in which entrepreneurs work can be improved. Hence events such as MassChallenge, which was launched in 2009 with a mixture of personal and corporate backing and a grant from the state of Massachusetts. It selects around 125 finalists to spend three months in its “accelerator”, where they get free working space, help from mentors, networking with investors and the encouragement of working alongside others facing similar challenges. Up to 20 winners are then chosen to share a $1m prize.
John Harthorne, a co-founder of MassChallenge, wants to improve on the typical Silicon Valley model of incubating start-ups. Venture capitalists insist that the start-ups they help surrender equity; MassChallenge does not. This makes it easier to attract broader support and voluntary help from businesses, and allows non-profit start-ups to take part. Helping such firms grow is an extremely cost-effective way to create jobs, argues Mr Harthorne; the first class of finalists have already hired over 500 more people than the 330 they began with. “This is where the jobs are, not at General Motors. It is about creating new companies, new industries, not propping up behemoths,” he says.
Such claims are taken increasingly seriously by policymakers. Earlier this year President Barack Obama launched a campaign supported by leading entrepreneurs ranging from Steve Case, the co-founder of AOL, to Fred Smith, the founder of FedEx, and Magic Johnson, a basketball star turned property developer. On September 13th, the Startup America Partnership declared itself officially open and invited firms under five years old to register for free support services donated by 25 large companies. This support is worth a startling $730m, Startup America claims. On October 11th, a task force comprising several members of Mr Obama's advisory Jobs Council (including Mr Case, Sheryl Sandberg, a top executive at Facebook, and John Doerr, a venture capitalist), will advise the president on policy changes they think will help. These are expected to include making it easier for foreign entrepreneurs to obtain visas, and easing regulations that make it hard for start-ups to raise money.
Mr Case argues that the government and its partners should focus attention and resources on the minority of start-ups that have the potential to grow rapidly; the so-called “gazelles”. In the past, policy has promoted start-ups and small businesses in general. Yet the vast majority of these firms are never likely to create original ideas or many new jobs.
A new study published by the Brookings Institution, a think-tank, called “What do small businesses do?”, finds that: “While most aggregate employment growth may come from small (new) firms growing big, the vast majority of small (new) firms do not grow.” In 2004-08, 60% of all new firms studied did not add even one employee; 90% added fewer than five and 97% added fewer than ten.
Plenty of start-ups have no ambition to grow. Many restaurateurs are content with one restaurant; many plumbers are happy to plumb alone. Many online businesses, far from aspiring to be the next Facebook, are part-time affairs run by parents who want to pick up their children at 3pm. In surveys three-quarters of the owners of new businesses said they wanted to keep their firm small, with no more than ten employees and a median of 3-4, according to the study. Around half said that an important part of their decision to start a firm was that they wanted to be their own boss, and live a more balanced, flexible life.
The study recommends that public resources currently aimed at small firms in general, such as those deployed by America's Small Business Administration, should be concentrated on the gazelles. Success is far from guaranteed. The government has a lousy record of picking winners, as voters were reminded when Solyndra, a green energy firm for which the government guaranteed $535m in loans, went bust in August.
Mr Case is also keen to find ways to make it easier for gazelles to raise money from the stockmarket. This has grown increasingly difficult, partly because of the recession and partly because stricter governance and accounting rules, such as those included in the Sarbanes-Oxley Act of 2002, make it much costlier to become a public company.
In 2008 and 2009 there were fewer initial public offerings of firms backed by venture capitalists than in any year since 1985. Medium-sized firms find the regulatory barriers daunting: the proportion of IPOs worth less than $50m has plunged to 20% in the past decade from 80% in the 1990s. This matters, because according to the National Venture Capital Association over 90% of job creation by venture-backed firms occurs after they go public. If the government can make it easier for small firms to go public, the likes of OsmoPure, Casa Couture and Abroad101 will perhaps do so. And then they may go on the hiring spree America so badly needs.