The Two-Speed Economy

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Large corporations have performed well during the recovery from the 2008 financial crisis, generating strong revenue growth, rising employment and robust wage growth. Small firms, in contrast, have suffered low rates of business formation and tepid employment growth. Employees of small firms have also seen significantly weaker wage growth than employees of large firms have enjoyed.

Perhaps the simplest and most economically significant demonstration of the challenges facing smaller firms is that the number of these businesses actually declined over the five years from the start of the crisis – the only such decline since the data became available in the late 1970s. The result is an estimated 600,000 “missing” small firms and six million jobs associated with these firms, as of 2012. Although it is unclear what percentage of these jobs were truly lost – as some might have been absorbed by large firms – this dynamic nevertheless represents a meaningful structural shift in the economy.

The most widely cited and perhaps the most likely explanation for much of the split that we observe between the performance of large and small businesses is the cumulative impact of the new regulations and related policy actions that have been taken since the crisis. We think this is the case for two principal reasons. First, by increasing capital requirements and imposing other restrictions on banks, new regulations have effectively increased the cost and reduced the availability of credit for small firms, which lack alternative sources of finance. Second, by tightening regulatory requirements across the broader economy – not just for banks – new regulations have raised the fixed costs of doing business. This is particularly challenging for the smaller firms that lack a sufficiently large revenue base over which to amortize the higher fixed costs. Cumulatively, new regulations have had a clear and meaningful impact on the relative competitiveness of small businesses. Read the full report.