What are small businesses good for?

That’s the big question behind an op-ed I wrote for The Wall Street Journal. The piece addresses some of the measures China’s government has recently taken to make life easier for small business–notably, dramatically lowering the costs involved in registering a new firm. I’d previously written about these changes for our in-house journal the China Economic Quarterly (subscribers only link). The motivation of that piece was mainly to point out that these changes were happening and having a real impact, since the number of new companies being registered has shot up this year. It’s a bit mysterious to me why this particular development has been so scandalously undercovered by the mainstream Western press, since Premier Li Keqiang talks about it all the time and is quite happy to take credit for it. But while it’s mainly A Good Thing to ease company creation, I also had some problems with some of the simplistic official explanations of the benefits that might come from this particular change. So the op-ed piece takes a somewhat different and more critical tone.

For me, this is the key part of the argument:

The founding of many new small businesses doesn’t guarantee increased national productivity. Small companies are often less efficient than large ones because they don’t have the same economies of scale. Small businesses deliver their biggest boost to the economy when they successfully compete with existing businesses—forcing incumbents to raise their game or displacing competitors with a superior product or service. That process requires not just lowering barriers to entry for new competitors, but also lowering barriers to exit for old ones. Creating more private businesses will therefore do China little good if those firms can never successfully compete against entrenched state-owned enterprises.

You can read the rest of the piece here. My thinking for the article was heavily influenced by an excellent overview article in the Journal of Economic Perspectives, which I highly recommend.

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