The Atlanta Fed's macroblog provides commentary and analysis on economic topics including monetary policy, macroeconomic developments, inflation, labor economics, and financial issues.
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September 30, 2010
Small businesses are the engine of job growth…or is the story more complicated?
Small businesses typically seek loans to grow their business, hire more workers, or purchase equipment needed to handle more activity. However, business owners have either been unwilling to take on debt or have been unable to find the small business loan opportunities they seek. This message is the one seemingly sent by small business owners who participated in polls such as the NFIB survey and the Atlanta Fed's own surveying efforts highlighted in past macroblog posts (here and here and also on our new Small Business Focus web page).
This week President Obama signed into law a new initiative to try to stimulate borrowing and spending by small businesses. Such policy actions are usually based on the premise that "small businesses are the engine of job growth." However, it is tempting to be skeptical of claims that talk about any large group of individuals or firms as if they are a single, homogeneous unit. Idiosyncratic features such as a firm's industry, location, or age might matter as much as does its size, which would seem to indicate that not all types of small business are equally powerful engines of job growth.
Economic research published last month by John Haltiwanger, Ron Jarmin, and Javier Miranda provides some compelling evidence on the relationship between firm size and job growth. It turns out that the age of a firm is important independent of its size. In particular, the paper finds no systematic relationship between net job growth rates and firm size after controlling for firm age. To quote from the paper's abstract:
"There's been a long, sometimes heated, debate on the role of firm size in employment growth. Despite skepticism in the academic community, the notion that growth is negatively related to firm size remains appealing to policymakers and small business advocates. The widespread and repeated claim from this community is that most new jobs are created by small businesses. … However, our main finding is that once we control for firm age there is no systematic relationship between firm size and growth. Our findings highlight the important role of business startups and young businesses in U.S. job creation. Business startups contribute substantially to both gross and net job creation. In addition, we find an 'up or out' dynamic of young firms. These findings imply that it is critical to control for and understand the role of firm age in explaining U.S. job creation."
This finding doesn't imply that firm size is irrelevant, but size matters mainly because, conditional on survival, young firms grow faster than older firms and tend to be small. In other words, because start-ups tend to be small, most of the truth to the popular perception that small businesses create the most jobs is driven by the contribution of start-ups to net job growth.
Because of the vital role that young firms appear to play in job creation, understanding the various factors that influence business start-up decisions is particularly important. To quote the conclusion of the paper:
"In closing, we think our findings help interpret the popular perception of the role of small businesses as job creators in a manner that is consistent with theories that highlight the role of business formation, experimentation, selection and learning as important features of the U.S. economy. Viewed from this perspective, the role of business startups and young firms is part of an ongoing dynamic of U.S. businesses that needs to be accurately tracked and measured on an ongoing basis. Measuring and understanding the activities of startups and young businesses, the frictions they face, their role in innovation and productivity growth, how they fare in economic downturns and credit crunches all are clearly interesting areas of inquiry given our findings of the important contribution of startups and young businesses."
One of the goals of the Atlanta Fed's new small business web page is to feature data, information sources, and research that helps disentangle the complex contributions of small businesses to economic growth and development. This web page will also highlight the findings from specific initiatives sponsored by the Atlanta Fed.
By John Robertson, a vice president and senior economist in the Atlanta Fed's research department
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September 10, 2010
Policy may have created the housing bubble, but which policy is to blame?
There is little dispute that misguided policy choices led to the housing boom-bust cycle from which we are still recovering. The debate about which policies were most culpable, however, rages on. The latest chapter in this dispute is now available in the proceedings from this year's edition of the Kansas City Fed's Jackson Hole Economic Policy Symposium.
In defense of monetary policy, Charles Bean, Matthias Paustian, Adrian Penalver, and Tim Taylor—all of the Bank of England—write this:
"We argue that while relatively low policy rates compared to past experience contributed to the growth in credit and the rise in house prices in the run-up to the crisis, they played only a modest direct role."
Stanford University's John Taylor (still) isn't buying it:
"Their conclusion differs from mine for several reasons. First, they do not take account of much empirical work completed since the 2007 Jackson Hole conference. For example, Jarocinski and Smets (2008) of the European Central Bank estimated a VAR [vector autoregression] for the United States and found evidence that 'monetary policy has significant effects on housing investment and house prices and that easy monetary policy designed to stave off perceived risks of deflation in 2002-04 has contributed to the boom in the housing market in 2004 and 2005.' In a more recent study focusing directly on deviations from policy rules, Kahn (2010) of the Federal Reserve Bank of Kansas City finds that ‘When the Taylor rule deviations are excluded from the forecasting equation, the bubble in housing prices looks more like a bump.' "
I added the links to the papers cited by Taylor because they are thoughtful challenges by thoughtful people, and they deserve to be considered (though the Jaroconski and Smets article requires some tolerance of relatively sophisticated econometrics). That insightfulness, of course, does not mean they are completely persuasive; I still have my doubts.
Most of you are familiar with this picture of the "Taylor rule" referenced above—which prescribes a funds rate target based on the deviations of output from its potential and the deviation of inflation from a presumed target of 2 percent—compared with the actual path of the policy rate:
Bean et al. make note of a speech from the beginning of the year by Chairman Bernanke in which he in turn notes (among other things) that the period in which policy deviates from this particular Taylor rule is also a period in which the lending standards were dramatically relaxed. To give but one example, data collected by my colleague Kris Gerardi indicate that in Massachusetts the median loan to value ratios (LTVs) for all borrowers rose from 0.82 in 2000 to 0.9 in 2006. For subprime borrowers, LTVs rose during that period from 0.85 to 1.0. The statistical results cited in Taylor's response do not control for such developments, making it difficult to come to a strong causal conclusion.
Second, this observation (from the Bean et al. paper) introduces even more uncertainty regarding the robustness of the chain of events leading from low interest rates to the housing bubble:
"Chart 1 shows that both UK and euro-area policy rates were less noticeably out of line with their respective Taylor benchmarks. That too is striking. Indeed, in the United Kingdom, they were actually above the benchmark for much of the relevant period, even though the United Kingdom saw one of the larger run-ups in debt and house prices during this period. And, in the euro area, countries such as Spain experienced substantial house price booms, while countries such as Germany did not. That need not imply that monetary policy was innocent in the run-up to the crisis…But this is hardly compelling evidence for assigning the central role to monetary policy, suggesting that other factors were more important."
As the Bank of England authors suggest, monetary policy was not necessarily innocent. But at a minimum, it's worth keeping in mind that the monetary policy transmission mechanism is a good bit more complicated than any simple story would indicate.
By Dave Altig, senior vice president and research director at the Atlanta Fed
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September 03, 2010
Optimism…pessimism…and a bit of perspective
Here's how I'm tempted to summarize today's release of the August employment report from the U.S. Bureau of Labor Statistics: more of the same. That theme fits nicely with comments this morning from Atlanta Fed President Dennis Lockhart, in a speech at East Tennessee State University. Here he calls for a little perspective:
"Some commentators are reading recent economic data as suggesting the onset of a second recession and deflationary cycle. Quite naturally, business people and consumers aren't sure what to believe.
"At the last meeting of the Federal Open Market Committee (FOMC) in Washington, the committee made a decision that has been widely interpreted as signaling declining confidence in the strength and sustainability of the recovery….
"In my remarks today, I will provide a less alarmist interpretation of recent economic information and the Fed's recent policy decision. I will argue that, generally speaking, there was too much optimism in the early months and quarters of the recovery and now there may be excessive pessimism."
One point is that recoveries are not generally linear affairs:
"Growth at the end of last year and early part of this year was stronger than I anticipated while economic activity in the second and third quarters seems weaker than I expected.
"But such ups and downs are not unusual during a recovery. A little history: following the 2001 recession, gross domestic product (GDP) grew at the annualized rate of 3.5 percent in early 2002. Growth then decelerated to about 2 percent for the next two quarters then fell to almost zero in the fourth quarter. Entering 2003, growth edged up to a little over 1.5 percent and then accelerated from there to a sustained period of relatively strong growth for two years."
Here's a look at a little more history:
Even in the rapid-growth, pre-1990 recoveries, there was generally a quarter or two of growth that underperformed. In the first three months of 1971, the first full quarter after the 1969–70 recession, growth came scorching out of the gate at 11.5 percent. But that was followed by growth rates of 2.29, 3.23, and 1.12 percent. Though the early expansion after the inflation-breaking 1981–82 contraction was robust throughout, the 1973–75 recession softened noticeably in the second year of expansion, with quarterly growth falling just below 2 percent at one point.
But the better benchmarks will likely prove to be the slower-growth, low-employment recoveries post-1990. In addition to the 2001 experience noted by President Lockhart, the expansion that followed the 1990–91 recession stumbled along with quarterly growth rates of 2.7, 1.69, and 1.58 percent, before picking up to above-potential growth rates. Despite that, the eighth quarter after that recession's end clocked in at an anemic 0.75 percent.
What is more important is that there is a reasonably good explanation for why we might have hit a soft patch:
"Looking at the 2009–2010 recovery, it seems clear that some of the early strength was promoted by policies that pulled forward spending from the second and third quarters of this year. The recent sharp decline in housing-related indicators following the expiration of homebuyer tax credits is the most obvious example of this effect."
Comparing monthly home sales patterns with year-over-year performance really does illustrate the point:
Essentially, President Lockhart's is a simple message: don't ignore the short-term data, but be careful with getting too carried away with it as well.
"Simply stated, I was expecting a relatively modest recovery, a pattern typical following the kind of financial crisis we experienced….
"Melding all this mixed information, my basic view of the economy has not changed, but my perception of risks has shifted somewhat to the downside.
"It was this perspective—a perspective I'd characterize as moderate optimism tempered by acknowledgement of weaker conditions and greater downside risk—that I carried into the last FOMC meeting on August 10."
And with respect to that meeting, here is the main policy point:
"At the last meeting there were two important considerations as I saw it. First, as already discussed, some economic data came in weaker than expected, shifting the balance of risks to slower growth in the near term and further disinflation. Second, the Fed's holdings of MBS were projected to decline faster than previously thought because lower rates were generating heavy mortgage prepayments and refinancings.
"So, in the context of a softening economy, the FOMC was confronted with the prospect of unintended withdrawal of support for the recovery through a decline in the level of liquidity provided to the economy….
"That is how I interpret the decision announced following the August meeting—a small tactical change designed to preserve the level of liquidity provided to the system. I supported the committee's decision, but I do not view it as a fundamental change of outlook or strategy. I do not believe this change necessarily heralds the beginning of a period of further expansion of the Fed's balance sheet. Nor do I think the decision precludes a return to a policy of allowing the balance sheet to shrink on its own.
"I think the decision has been over-interpreted in some quarters."
I'll close with that thought by President Lockhart. Have a nice, long holiday weekend.
By Dave Altig, senior vice president and research director at the Atlanta Fed
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