Where Do Jobs Come From?
The sources of job growth in Iowa
By Peter Fisher

September 29, 2020
This report, including executive summary PDF

The role of small business, and new businesses in particular, in job creation has been the subject of research and debate for over 30 years. Here we take a new look at the question based on the results of a research project examining business dynamics in five states over a 22-year period. This project relies on the National Establishment Time Series (NETS), a database containing all business establishments that existed in a particular state at any time during the period 1992 through 2014. This allows us to identify all business establishments born in Iowa over this period and those moving into or out of the state, or dying. And it allows us to measure the employment in those establishments year by year. For comparative purposes, we include the combined results for the five states in the study: Iowa, California, Texas, Massachusetts and North Carolina.

Sources of Job Growth: Previous Research

The focus of state economic development policy on large firms and on attracting relocating establishments and new branch plants has remained despite evidence that entrepreneurial activity is, in the long run, the more important source of economic growth, while relocations are inconsequential. We know from previous research that relocations out-of-state account for a very small share of job losses, and moves into the state account for a very small share of job gains for most states.

The bulk of net job creation from one year to the next comes from the expansion of employment in existing firms less the contraction of jobs in those firms, and from firm births minus deaths. And it has long been acknowledged that small firms are the largest creators of jobs. This, it turns out, is entirely due to births of new small firms. Business startups in fact account for about 3 percent of total employment in the United States. The average net rate of job creation overall for the U.S. is about 2.2 percent, which means that the rest of the firms are destroying jobs at a higher rate than they are creating them. When examining start-up businesses, it is important to distinguish between “subsistence” entrepreneurs and “transformational” entrepreneurs. The former includes the many small proprietorships and partnerships started perhaps for lifestyle reasons, or as a second income, but with no intention of growing, or of even having employees. The transformational entrepreneurs, on the other hand, set out to innovate and grow. To some extent this is also a distinction between employer and non-employer businesses. In 2000, there were 5.4 million nonfarm businesses with employees, but 15.5 million non-employer businesses. Many of the latter are hobbies, secondary jobs, or part-time consulting arrangements for households whose primary income is wages and salaries. Most non-employer businesses never become employers.

The role of new firms in job creation is shaped by new firm survival rates. The rule of thumb used to be that about 50 percent of new businesses survive for five years or longer. However, recent research has found five-year survival rates ranging from 40 percent to 70 percent, depending on the time period and geographic area studied.

Our Research Results

definitions boxWe begin by describing what new Iowa businesses look like — what kinds of businesses are they? In order to shed light on the cost-effectiveness of alternative economic policies we then calculate the survival rates of businesses of different types — branch plants vs. single-establishment firms, existing firms vs. in-migrants vs. new enterprises.

We distinguish between employer and non-employer firms. We adopted a quite restrictive rule for classifying establishments as “presumed non-employers.” If they had only one or two employees in the year they were born in a state and in every subsequent year, they were classified as a non-employer firm.

We define business survival rates as the percent of business establishments born in or moving into Iowa that remain here three, five, 10 or 15 years later. Since job creation is the stated purpose of economic policy, we then examine “employment survival” — the fraction of the initial jobs created that remain in the state three, five, 10 or 15 years later. This measure takes into account not just how many businesses that started in, say, 2005, remain in the state in 2015, but how job growth or contraction in those surviving businesses affects the number of jobs in 2015. Finally, we analyze where jobs come from — whether through the birth of new independent firms, the formation of new branch plants, the in-migration of business establishments, or the growth of existing businesses.

Most New Business Establishments are Independent Firms

Table 1If we examine all of the business establishments new to the state — those starting up as new firms or as new branch plants, or those moving into the state (either as independent firms, branches or headquarters) — we find that the birth of standalone businesses accounts for the vast majority (Table 1). New branch plants accounted for just one in eight new establishments. The migration of business establishments into Iowa from 1992 to 2013 accounted for only 1.4 percent of all the new establishments over that period.

Relocating Branch Plants have the Lowest Survival Rates

We computed four establishment survival rates: the percent of establishments born in a state, or moving into it, over the period 1992 to 2013 that remained in the state two, five, 10, or 15 years later. For example, the group of establishments new to Iowa in 2005 represents the 2005 cohort, and their five-year survival rate shows the percent of those firms still active in Iowa in 2010. The table shows the five-year survival rates averaged over all possible cohorts for the study period.

Table 2Survival rates are a little higher in Iowa than in the five states overall (which are dominated by the experience of California and Texas). In the five states combined and in Iowa alone, branch plants moving into the state generally have the lowest survival rates, though it is important to remember that non-survivors include those that moved back out of the state as well as those that died. Such establishments may well be the most mobile to begin with, backed by the resources of a parent firm seeking greener pastures, and may lack the commitment to a place that characterizes at least some independent start-ups. In all cases, establishments born in a state have longer survival rates than those of the same kind moving into the state.

Branch plants that started up in a state, rather than relocated to it, had higher survival rates than independent firms both in Iowa and among the five states. This is not surprising. A new branch of an established multi-state firm has the resources, experience, and market share of the larger firm behind it. A brand new business is a much more risky venture and we should expect higher failure rates. In fact, since we are comparing a start-up venture with an expansion of an established firm, it is surprising that the differences aren’t larger.

Headquarters establishments had the longest survival. However, such establishments are few and a state economic development strategy cannot rely on them as a source of significant employment growth. The rare case of a major headquarters relocation is the exception, of course, but the bidding wars that ensue will price most places out of the running.

Considering Table 2, it may seem that a strategy focusing on the birth of new standalone businesses is unlikely to succeed as a way of increasing state jobs, given that only one in three such firms are still around 15 years later. But this would be the wrong conclusion to draw, as we will see when we turn to what we call “employment survival” and the bigger picture of where jobs come from.

Employment Survival is Higher than Establishment Survival

Because we are ultimately concerned with job creation, the next step is to examine the job creation history of new establishments over their lifetimes. So we ask how the rate of job survival, as opposed to establishment survival, varies by type of firm — single location, branch plant, or headquarters. That is, what percent of the initial jobs created by a cohort of new establishments remains two, five, 10 or 15 years later in the same state or locality?

Employment survival in year 10 for a cohort of establishments born in 1998, to take an example, is the total employment in the surviving firms as of 2008 compared to the total employment in that cohort in 1998 — the year those firms were born in Iowa. Some establishments will die (or move out) each year, while those that remain could grow or shrink. So employment in the surviving members of that cohort could be greater than or less than employment in all the firms in that cohort in the start-up year, 1998.

Rates of employment survival, as shown in Table 3, are much higher than establishment survival rates, reflecting the growth in employment of those establishments that do survive. Thus while on average only 36 percent of standalone firms born in the five states remained in the state 10 years later, employment in those remaining establishments was 53 percent of the total cohort employment in the year of birth.

While Table 2 showed that branch plants born in Iowa had substantially higher establishment survival rates than standalone firms, Table 3 shows that the employment survival rates were nearly identical. In both cases about three-fourths of the jobs remained after five years, and nearly half remained after 15 years. In other words, fewer standalone firms survived, but the ones that did experienced more rapid job growth, offsetting the death of establishments. For establishments moving into the state it was not possible to distinguish among types of establishment since the total number of moves was so small. Nonetheless, both in Iowa and among the five states, employment survival among in-migrants was higher — considering 10- and 15-year survival — than for establishments born in the state. For Iowa, it is best not to place too much weight on this finding in terms of future policy, however; the 107 percent 15-year job survival is probably attributable to a small subset of the 120 businesses moving into the state from 1992 to 1998 that were still there 15 years later. Which will succeed is difficult to predict.

Where Do Jobs Come from in the Long Run?

Much attention has been focused on the question of where jobs come from: births, in-migration, or the expansion of existing businesses, and from what kinds of establishments. While standalone firms and branch plants have similar experience in terms of the rate of job survival, as we have just seen, there are far more standalone firms born than branch plants. If we are looking at where jobs come from, we need to take that into account. Typically, researchers measure year-to-year changes in employment to address this question, and conclude that new small firms create the most jobs.

Here we consider a longer period of time: the 10 years from 2004 through 2014. Starting with total employment as of 2004, how did employment change over the succeeding 10 years as a result of births, deaths, expansions, contractions, in-migration, and outmigration? We measure the job gains from births and in-migration as all those jobs in establishments born in or moving into a state over the entire period, as long as they remained in the state at the end of the period. Now we are getting closer to what we need to know, taking into account establishment survival, job growth in the surviving establishments, and the relative contribution of different types of firms to overall job growth.

Since we are looking at all the components of employment growth, we need to consider jobs gained from births and moves in, and from expansions in existing firms, as well as jobs lost from deaths and moves out, and from contractions in existing firms. We define an employment change from a birth as the total employment in 2014 in establishments that were born in the state after 2004. Employment change from deaths is the 2004 employment in establishments that died in the state sometime between 2005 and 2014. Corresponding measures apply to moves into and out of the state. Employment gains or losses from continuing firms is defined as 2014 employment minus 2004 employment in businesses present in the state over the whole 10-year period.

Considering this longer period, the outsized role of establishment births remains, as shown in Table 4. Despite the higher job survival rates in establishments that move into a state compared to those born in the state (Table 3), the role of in-migration remains tiny: It accounts for just 2.3 percent of the job gains over the 10-year period. The net job change in establishments that continued throughout the period accounted for 7.4 percent of the gains, births 90.3 percent. Similarly, out-migration accounts for only 3 percent of the job losses.

The most striking result in Table 4 is that only standalone firms were net contributors of jobs. Branch plants and headquarters establishments accounted for more job losses through contractions, deaths, and out-migrations than job gains from expansions, births and immigrations. We also analyzed the sources of jobs retrospectively: Of all the jobs that exist in a state today, what share is found in establishments that have been in the state for a long time, vs. the shares found in establishments that were born in or moved into the state more recently? We consider the same time period, 2004-2014, and define births and moves as in the previous table.

In Table 5 the role of continuing establishments is much larger, reflecting the large number of jobs in establishments that reported the same employment in 2014 as in 2004. (In Table 4, because we focused only on job change, continuing establishments contributed only if they expanded or contracted.) Once again, however, the role of in-migration is negligible, just 1.2 percent of total employment in 2014 comes from establishments that moved into the state within the past decade. And again, the majority of jobs come from standalone firms, whether continuing or recent births.

The value of looking at the sources of employment over a longer period is that it reflects both the yearly incidence of births and in-migration, and the survival rates of those new establishments, since current employment reflects only those establishments that were born or moved in after 2004 and survived and remained in the state at least through 2014. The outsized role of establishment births, and indeed of firm births (standalone firms accounting for the largest percentage) persists when examined over this longer period.

Implications for State Policy

The outsized role of start-up firms in job expansion clearly remains when considering employment gains over a longer period rather than just year-to-year. The five states experienced net new job growth of about 3 million between 2004 and 2014. That growth came from 5 million net new jobs in standalone firms, offset by a net loss of 2 million jobs in branch plants and headquarters. Three-fourths of those 5 million jobs in standalone firms were from births, the rest from growth in existing firms. Migration’s contribution to net job growth was negative.

If state policy could affect one of the components of job growth, it would seem apparent that policy should be directed at increasing the formation of new firms. A 1-percent change in standalone firm births from 2004 to 2014 would have done as much to increase job growth as a 30 percent increase in jobs from in-migration of all kinds of establishments. Given the much larger potential for change, it is likely that a shift in focus towards the stimulation of entrepreneurial activity would produce more cost-effective state policy.

What can state and local governments do to support and encourage the growth of new independent businesses? Previous studies have identified a number of factors that contribute to increased entrepreneurial activity. Research is one. Many of the technological advances that have been important drivers in the private sector have their roots in public sector research and development, in research at public universities, and in government support of private research.

Education is another factor. A recent study of why some metropolitan regions have higher rates of business start-ups than others found that the most significant factor was the level of education; the higher the proportion of the population with a college degree, the higher the rate of new business formation. And income inequality plays a role; middle-class households account for the bulk of new business formations, and the rising inequality and lowered mobility that has characterized the U.S. in recent decades has been found to inhibit new business development.

Starting a new business is inherently risky. A number of state and local policies can reduce that risk and makes it easier for individuals and families to support themselves in the difficult early stages of a new venture. These include access to health insurance, policies to reduce student debt that can make it impossible to forego regular employment in order to start a business, and work supports such as child care assistance that make it possible for one of the adults in a family to become self-employed while the other works a regular job.

Finally, there are documented economic development benefits from entrepreneurial education at the secondary school and post-secondary education levels, and from entrepreneurial technical assistance programs.

A multipronged approach to making Iowa more supportive of entrepreneurs and new small businesses would be a wise investment in Iowa’s future.

[1] The five states are Iowa, California, Texas, Massachusetts and North Carolina. For a complete discussion of data sources, research method, and results for the other four states in the study, see Peter Fisher, Business Survival and the Fiscal Effects of State Incentive Policies. Report prepared for the Ewing Marion Kauffman Foundation. The Iowa Policy Project, November 2018.
[2] The five states are Iowa, California, Texas, Massachusetts and North Carolina. For a complete discussion of data sources, research method, and results for the other four states in the study, see Peter Fisher, Business Survival and the Fiscal Effects of State Incentive Policies. Report prepared for the Ewing Marion Kauffman Foundation. The Iowa Policy Project, November 2018.
[3] Jed Kolko, Business Relocation and Homegrown Jobs, Public Policy Institute of California, September 2010. Jed Kolko and David Newmark, Business Location Decisions and Employment Dynamics in California. The Public Policy Institute of California, 2007
[4] John Haltiwanger, Ron Jarmin, and Javier Miranda. Who Creates Jobs? Small vs. Large vs. Young. NBER working Paper 16300. Cambridge, MA: National Bureau of Eonomic Research, August 2010.
[5] Steven Davis et al. “Measuring the Dynamics of Young and Small Businesses: Integrating the Employer and Nonemployer Universes.” Chapter 9 in Timothy Dunne, J. Bradford Jensen, and Mark J. Roberts, editors, Producer Dynamics: New Evidence from Micro Data. University of Chicago Press, 2009.
[6] Brian Headd, Alfred Nucci and Richard Boden. “What Matters More: Business Exit Rates or Business Survival Rates?” U.S. Census Bureau, Business Dyamics Statistics Brief #4, 2010. Amy Knaup and Merissa Piazza: “Business Employment Dynamics Data: Survival and Longevity, II,” Monthly Labor Review, September, 2007, pp. 3-10. Knaup and Piazza drew on the Quarterly Census of Employment and Wages, which is the source of job data for the BDS. http://www.census.gov/ces/pdf/BDS_StatBrief4_Exit_Survival.pdf Tessa Conroy and Steven Deller. “Employment Growth in Wisconsin: Is it Younger or Older Businesses, Smaller or Larger?” Madison, WI: University of Wisconsin Extension, Center for Community and Economic Development. Li Yu, Peter Orazem, and Robert Jolly: “Why Do Rural Firms Live Longer?” Ames, IA: Iowa State University, Department of Economics, Working Paper No. 09013, December 2009.
[7] The two-year survival rates shown, for example, are an average over 20 cohorts, from those born in 1992 through those born in 2011. The 15-year survival rates, of necessity, are an average of only seven cohorts, those born from 1992 through 1998. Obviously, different cohorts experienced different economic conditions at critical periods in their histories. For example, we would expect the two and five-year survival rates for establishments born in 2008, the start of the Great Recession, to be significantly lower than for those born in 1992, the beginning of the nine-year expansion of the 1990s.
[8] The 2014 employment in establishments entering the state after 2004 represents job gains from in-migration, and the 2004 employment in establishments exiting the state after 2004 represents job loss from out-migration.
[9] For a summary, see Peter Fisher, “Innovation and Entrepreneurial Activity are Key to Economic Growth.” http://www.gradingstates.org/the-real-path-to-state-prosperity/innovation-and-entrepreneurial-activity-are-key-to-economic-growth/

Peter Fisher is Research Director of Common Good Iowa, a new organization built on a collective 50 years of experience of two respected Iowa organizations — the Child and Family Policy Center and the Iowa Policy Project. Learn more at www.commongoodiowa.org. Find reports from the previous organizations on their existing websites, www.iowapolicyproject.org, and www.cfpciowa.org.

This research was supported by a grant to the Iowa Policy Project from the Ewing Marion Kauffman Foundation of Kansas City, Missouri. We gratefully acknowledge their support. The complete report to the Kauffman Foundation covered five states in the study, Business Survival and the Fiscal Effects of State Incentive Policies.