Stats on new business starts may be sending wrong signal

While new business starts this year are outpacing last year’s rate, those numbers may not signal an increase in entrepreneurship as some press coverage is implying. Business formation statistics from the U.S. Census Bureau released yesterday showed a dramatic 77 percent increase in business applications for the third quarter of the year over the second, but a closer look at those applications reveals that many may not survive.

The Business Application Series describe the business applications for tax IDs as indicated by applications for an Employer Identification Number (EIN). Those numbers are broken out into different series, with those that have a high propensity of turning into businesses with payroll termed High-Propensity Business Applications (HBA). They include applications for a corporate entity; that indicate they are hiring employees, purchasing a business or changing organizational type; that provide a first wages-paid date; or that have a NAICS code in manufacturing, retail stores, health care, or restaurants/food service. Overall, the HBA applications comprised just over a third of the total applications in the third quarter.

Policymakers should be cautioned from taking comfort in the sudden jump in new business incorporations or requests for EINs as a reversal in the decline the U.S. has seen in recent years in the rate of entrepreneurship. These new companies may be temporary moves for recently unemployed people rather than permanent job creating forces.

A recent story in the Wall Street Journal notes that many of the new businesses “won’t pan out,” and that business applications are not growing at the pace needed to keep up with a projected loss of 700,000 firms this year.