Public Policy, Economics and Entrepreneurship: December 2009 Archives

Belmont MBA alum Joe Ormont sent along an analysis of small business lending from CFO.com.  Its conclusion:  "Despite the lip service paid to the importance of small businesses, efforts to ease their credit woes have come up short.

Although I do think credit is and will become an important small business issue, I hear very few small business owners identifying tight credit as their primary concern at the current time.  The need to cut taxes?  I hear about that every day from business owners.  That seems to clearly be their preferred method of getting money into their bank accounts to help grow their businesses.  One of the parents of a soon-to-be alum of our graduate program -- an entrepreneur himself -- cornered me last night and made me promise to talk about the need for tax cuts and tax reform.  He didn't have to twist my arm too hard on that one!

But hang on to your wallets.  None other than Alan Greenspan has set the table for even higher tax rates than Washington has already been talking about.  In testimony to the Senate Committee on Homeland Security -- oh, good...now higher taxes are part of homeland security -- he warned that bi-partisan action must be taken to stem the swelling deficits.  If you wade your way through the Greenspan-speak, you see that it means he wants higher taxes to trim the deficit and ease the credit crisis.   

I had the pleasure once again to talk with Barbara Weltman from Build Your Business radio show.  This time she wanted to know my thoughts on small business and the economy.

Listen to segment 1.

Listen to segment 2.

My friend and fellow blogger Barry Moltz has a new blog he is writing for Chicago Now website (from the Chicago Tribune) called It's a Small Business World.  He has a post at his new site on his top ten small business trends of the past decade.

As always, Barry provides brings an upbeat voice to the forces that have shaped small business.  His list includes trends related to how we work and new ways small businesses can compete.

While all of his trends are good ones, here are the top 10 small business trends from my alter ego, Professor Gloom:

1. Washington is looking to small business owners to pay for expanding government programs through higher income tax rates.
2. Washington is looking to add new taxes that will impact small businesses such as VAT and other new taxes and fees.
   
3. Regulation of business comes back in style and hits small business with its wide brush.
4. Property rights erode in the wake of the Kelo decision by the Supreme Court.
5. Policy makers loose faith in free enterprise.
6. Deficits grow and threaten to create inflation or even hyper-inflation.
7. The small business job creation engine grinds to a halt.
8. New venture creation rates drop while business failures sky rocket.
   
9. The movement toward healthcare reform threatens to burden small businesses with increasing costs and regulations.
10. Small business optimism reaches record lows.

Writing this blog has truly been a gift.  It has introduced me to amazing people and opened up all kinds of fascinating conversations. 

I just got done with one of those moments.

As a member of the Forbes blogging network I was invited to submit a question for a conference call with Steve Forbes.  The conference call was around his new book, How Capitalism Will Save Us.  To  my delight, my question was the first one they asked him.  Here is the essence of what I asked:

In your book How Capitalism Will Save Us you argue that capitalism is a moral system. 

A free market and a free society are necessary, but not sufficient, to create a moral society.  I am concerned that we might abdicate our responsibility as individual actors within that system if we are not careful.  We cannot simply say capitalism is moral and therefore gives me cover to act in immoral ways. 

Wouldn't it be better to say that capitalism is the best system that allows moral men and women to freely act in a moral way and the most transparent system to let us all know when they do not?

Forbes replied that he believes that "capitalism is a moral system, but one that must be informed by values, the rule of law, and faith in the future."  If the participants in the free market system "do not act morally, the system will break down."

Then the cool stuff started.  It was not just a "sit on the phone and listen" teleconference -- it was truly interactive.  He answered two more submitted questions, but each time we entered into a dialogue and were able to follow-up.

His views on current policy out of Washington were predictably negative.  But he has a relatively positive outlook for the future.

Forbes said that if Washington does not get economic policy right very soon, you will begin to see political ramification that will lead to fundamental changes in economic policy.  He attributes this to technology.  Communication happens so fast that discontent spreads much more quickly than in the past.  He cited the rapid grassroots spread of the Tea Parties.

"The world has changed," he said.

To which I said, "Indeed, we have a magazine publisher talking on the phone with a bunch of bloggers."

His reply:  "Who knows.  I may be working for one of you someday soon."

The latest NFIB Index of Small Business Optimism is out -- and it is not at all encouraging.  Back in September the results of this survey seemed to indicate that we had some hope that the optimism that is at the core of entrepreneurs' DNA might be able to pull us out of this recession.

I reminded you about the old story of how we can spot a budding young entrepreneur -- he is the one who on Christmas morning can be found digging in a pile of manure in his backyard exclaiming, "I just know that pony I asked Santa for is in here, if I just dig deep enough."

It seems that the most resilient players in our economy may be losing hope.  Entrepreneurs may have stopped digging.

The NFIB Index of Small Business Optimism lost 0.8 points in November, falling to 88.3 (1986=100). 

What is particularly worrisome is that even in the depths of the 1981-82 recession, the Index never fell below 90 and quickly surged to a record high early in 1983.  In this recession, the Index has been below 90 for six quarters, indicative of the severity of this downturn and the apparent hopelessness that is creeping across the land.  

"The biggest problem continues to be a shortage of customers," said NFIB Chief Economist William Dunkelberg.  "Apparently, owners can't find a good reason to be optimistic about the future of the economy or their personal future.  The legislative agenda in Washington is a major factor blunting consumer and owner optimism."

When we dig into the latest survey a little deeper, we see that they may no longer believe there is a pony in the manure that is this economy.

Employment -- there is a net loss of jobs and few plans to add any new jobs in the foreseeable future. Small business owners who have survived to this point in the recession are cutting costs and hunkering down.

Capital Spending -- plans for any capital spending are at record lows. "Consumer spending is very weak, and there is nothing on the table in Washington to make owners more optimistic about the future. These conditions create a recipe for depressed expectations and spending plans," said Dunkelberg.

Inventories and Sales -- revenues in small businesses are anemic.  Since they see little change in sales, inventories are continuing to drop.  "Small business owners continued to liquidate inventories and weak sales trends gave little reason to order new stocks," said Dunkelberg. 

Inflation -- price cutting is the name of the game.  But, this is something that worries me.  I still believe that inflation is a ticking time bomb.  Higher tax rates and deficit spending that has gone out of the solar system will soon spark inflation.  Add to that the news yesterday that the EPA may be opening a back door on regulating and in effect taxing so-called green house gases, and we have volatile brew that could create runaway inflation in a very short period of time.
 
Earnings -- profit trends continue to slide for small businesses. 

Wages and Salaries -- Owners continued to reduce compensation at a record pace, with 10 percent reporting reduced worker compensation.   

Credit -- For those who want to borrow, getting a loan continues to be difficult, with a net 15 percent reporting loans harder to get than in their last attempt.

According to the November SurePayroll Small Business Scorecard small-business hiring is up in November from October, bringing us to a 2.6 percent increase year-to-date (based on aggregated data from 25,000 small businesses).

Unfortunately, any increase is not a sustainable and permanent uptick in jobs.  The increase is due to a continued reliance on independent contractors for the majority of new jobs.  These are temporary jobs with no benefits or long-term stability.

Small-business salaries continue to decline, with a national year-to-date drop of eight percent. On average, the small business employee earned nine percent less year-to-date in '09 than during the same time period in '08.

In advance of President Obama's Jobs Summit tomorrow, the National Federation of Independent Business Research Foundation has compiled a list of five key recommendations that they believe should be considered in order to assist small businesses regain their traditional role as job creators.

"Small business owners and managers do not hire because a national goal is to increase employment.  They hire, when in their judgments, the person hired will generate enough additional revenues to cover the cost of the hire," said Bill Dunkelberg, NFIB's chief economist.

While I agree with many of the current positions taken by the NFIB, I have included my comments in italics.

The NFIB is recommending the following steps to spur small business job creation and growth:

1-  Recognize the problem - a plurality of small business owners today considers the lack of demand (poor sales) as their single most important problem.  Over eight times as many cite poor sales as finance and interest rates.  (The second most frequently cited single most important problem is taxes.)  Consumer spending power which constitutes 70 percent of GDP, must therefore be restored to create wealth and output.

Good start!  Put money back in American's pockets with significant tax cuts.

2 - Retrench from the proposed threats to small business productivity and profitability - The horizon is filled with cost unknowns, from healthcare to cap and trade to yawning deficits and the need to come to grips with them, from paid family and medical leave to card check, from expiration of the Bush tax cuts to state decisions about their finances.  Washington cannot expect small business owners, facing difficult economic circumstances anyway, to commit themselves to investing in new employees or equipment and vehicles without acknowledging and revealing the policy-inspired costs that will be imposed on them. It is all about uncertainty and confidence.

I strongly disagree with the position of retrenchment.  Retrenchment is simply postponing this fundamental shift to socialism.  Telling small business we won't drastically increase their taxes for a while is not enough.  We need to abandon policies that inhibit our entrepreneurs from starting and growing their ventures. 

3- Payroll tax cut, maybe.  Full tax write-offs for new firms, probably.  A general jobs tax credit, probably not -

Tax write-offs for new firms:
Policy should encourage new firm formation.  One important way to encourage larger formations is to liberalize the tax write-offs a new business can claim in its first year.   Current tax policy requires substantial investments in a new business to be written off in subsequent years, reducing liquidity and cash flow, and effectively demanding greater initial investment. Though this step should be taken in any event; it is more urgent now than it might otherwise be.

Payroll tax cut:
During consideration of the stimulus earlier in the year, NFIB proposed the payroll tax (FICA) be eliminated for a specified period.  The rationale was as simple then as it is now:  cutting the payroll tax puts more cash directly in consumers' hands, in relatively small amounts that are likely to be spent rather than saved.  Given that the single greatest economic problem small business faces is the lack of customers, the additional spending would be an obvious way to improve sales and balance sheets.  Second, cutting the payroll tax reduces the cost of employees to business.  The effect is to save jobs as well as generate new ones.  Both are highly desired.

Jobs tax credit:
A general jobs credit was attempted (1977-78) and found wanting in its short lifetime.  Major issues from the business perspective included excess complexity, largely the result of political trade-offs, low awareness, and the difficulty determining the credit's value early in the tax year. Effectively, the credit went to employers who would have created jobs in any event.  The relative significance of various aspects may change in a new iteration of the general jobs tax credit.  However, the overall impact will not.  The credit simply focuses too narrowly, offering a solution to a problem small business currently holds in a secondary position, while ignoring the important issues, the lack of customers and a shortage of sales.

It is time to stop trying nuance tax policy.  Attempts to steer or direct the economy trough tax policy never work.  Cut, cut, cut -- this includes both taxes and government spending.

4-  Lending, not just small business, but real estate, particularly housing - The business press contains considerable anecdotal information about a shortage of credit for small businesses needing to borrow.  It also contains less, though still a considerable, amount of anecdotal information about small businesses' reduced demand for credit.  While loans to small business are down, it is not clear what portion of the decline is a supply issue and what portion is a demand issue.  

Weak banks, real estate hangovers, crowd-out from massive federal deficits, and lender reaction to recent experience pose serious threats to adequate credit supply for bankable deals.  Getting the fundamentals right is the principal answer to the longer-term small business credit problem.  But even that may prove inadequate and additional steps necessary.  At a minimum, this condition should be carefully monitored over time.   

Small business has a huge interest in and reliance on the real estate industry.  As of last December, one in eight small employers owned at least one upside-down property.  Moreover, a similar number collateralized real estate to support borrowing for business purposes.  Those two facts imply a significant number of small business owners are hamstrung in job creation efforts by real estate issues.  Until the real estate situation improves, therefore, many small businesses will simply be unable to borrow, depressing their presence in the job generation game.

I realize this may not be a popular position right now, but artificially creating more debt is not a good thing for small businesses with the current threats looming in the economy.  Let the credit and real estate markets work things out -- as painful as that may be.  No more band-aids!!! Real estate prices need to find a new equilibrium, which will take months or in some cases years.  Banks will start issuing credit when small business is truly able to carry that debt once we let markets stabilize.  Time to go back to old-fashioned credit policy in bank lending. 

5 - Get everyone in the loop - Officials of government programs who disburse funds for the purpose of stimulating employment should have some idea of an employer's requirements, or at least easier ways for small business owners to reach an objective.  Too often, they simply do not.  The same applies to other contacts with government. The Regulatory Flexibility Act is the one method available that systematically requires federal personnel to address such potential issues before they become institutionalized  The act thereby often reduces or eliminates much needless expense and other unproductive impediments to small business growth, impacts documented over the prior two administrations.  Though perhaps not a large jobs generator, a positive employment effect can only result from the lesser cost and fewer hassles vigorous enforcement of the act engenders.

Agreed.  

"Small business wants back in the job creation business.  It cannot under present circumstances.  The NFIB recommendations just presented are important steps to let small business resume its traditional job generating role," said Dunkelberg.

While much of the NFIB five step plan is in the right direction, this is not a time to be timid or to engage in compromise.  I know that will be called naive, but compromise is what has gotten us to the point in this country where free enterprise and liberty is more at risk than any other time in our history.  It is time to be firm in our principles and to be bold in out policy.