What’s Behind the State’s ‘Big Shrink’

Massachusetts has lagged behind the rest of the country in job creation since the 2001 recession. While the rest of the country grew, we shrank.
Two interlocking factors explain a significant portion of our stagnation — Massachusetts is failing to create new businesses at the same rate it did in the ’90s, and the new businesses we manage to create are much smaller in size. The Pioneer Institute’s latest study, “The Big Shrink,” seeks to understand how the dynamics of firm size have changed.
Average establishment size dropped from 16 employees in 1990 to 9.7 employees by 2007. This decline has several causes. Large establishments in Massachusetts are disappearing, particularly branches of more than 100 people. Headquarters have actually grown in average firm size over the period studied. Unfortunately, we lost an astounding 5,000 of them from 1990 to 2007.
The most important changes have occurred at stand-alone, single-location firms that make up the vast majority of establishments in the state. The number of stand-alone businesses has increased by almost 150,000 establishments over the 17-year period. But most of that growth is from single-person or non-employer service companies, particular business services. That has resulted in a drop of average firm size at stand-alone companies from 8.38 employees to 5.48.
To be sure, small businesses are crucial to the economy, and we should support them.  There’s also a case to be made that high-value-added service businesses are a durable source of employment that is strongly resistant to outsourcing. But a job-creation dynamic that results in fewer, smaller businesses is incompatible with long-term economic growth.
What is precluding Massachusetts establishments from growing and, in the process, hiring more people? Given that firm shrinkage is pervasive across industries, the answer may lie in the general business environment, as opposed to our current economic-development focus on specific industry niches. Put simply, we need a broad-based effort to address those factors that make the costs of growing and hiring outweigh the benefits. These costs include taxes, unemployment-insurance charges, and the legal and regulatory environments, to name a few factors other studies have highlighted. Massachusetts regularly falls below average in studies that rank states based on their tax and regulatory environments.
Relative to the rest of the U.S., Massachusetts’ inability, long-term, to grow jobs suggests that our economic policies are not effective. To create jobs requires that Massachusetts dramatically increase its rate of business creation and reverse the firm-size trend. Reigniting the Bay State’s job engine will require a systematic approach that takes into account the real dynamics of employment in this state and makes the Commonwealth an attractive place to start and grow businesses.

John Friar is the Pioneer Institute’s senior fellow on Jobs and the Economy and executive professor of Entrepreneurship and Innovation at Northeastern University’s College of Business Administration.

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