The Wonderland Economy

A close-up look at the vital role small business plays in America's economy that debunks many myths about this sector.

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Small companies are critical to the health of America's new economy. But we're only beginning to pierce the shroud of myth, half-truth, and outright ignorance that surrounds this dynamic sector of the marketplace

I'm a big fan of the financial writer Andrew Tobias. He writes about money more engagingly and more clearly than anybody else. But when he blows it, he blows it big. I'm thinking of a little piece Tobias did in the mid-1970s. It was called "The Day They Couldn't Fill the Fortune 500."

The tongue-in-cheek concept was indisputably clever. Large companies were getting so big and were combining into so many conglomerates, argued Tobias, that by 1998 there would be only 479 giant corporations left. They would utterly dominate the economy. All the other companies -- the mom-and-pop tradespeople, the Main Street merchants, and the rest of the left-behinds -- would be so small that to put them on the magazine's famous list would be ludicrous. How could you rank even a $250-million company number 480, when number 479 was up around $7 billion?

I bring up this misguided missile not to taunt Tobias. I mention it only to show just how recently most of us took for granted three seemingly obvious truths about the U.S. economy. Bigness was inevitable. Ever-larger corporations would inexorably rule the marketplace. And small business, to put it bluntly, simply didn't matter. The "giant corporate sector" would balloon, predicted Tobias. The "independent entrepreneurial sector" would shrink to the vanishing point.

At the time the facts were on his side. As a group the Fortune 500 had been growing steadily ever since the list was created in 1954. By 1979 their total sales amounted to 58% of America's gross national product, up from 37% 25 years earlier. They employed more than three-quarters of the manufacturing work force, up from half. Every so often a frenzy of conglomeratization would seize them, and the giants would snap each other up -- thereby growing bigger still.

Received wisdom was on Tobias's side, too: for decades, scholars and policy makers had been worrying about the health, even the survival, of small business. Senator William Proxmire wrote a book in 1964 called Can Small Business Survive? John Kenneth Galbraith (and nearly every other economist) advised us that small companies would forever be consigned to the fringes of the modern economy. George S. Odiorne, then a professor at the University of Michigan, may now seem to be a contender (with Tobias!) for the Clouded Crystal Ball Award. But back then he was only repeating for Harper's magazine what people thought they knew. "As in the prize ring," wrote Odiorne, " . . . the good big man invariably beats the good little man." No small company "has much prospect of outsmarting Sears or Macy's or IBM."

Ah, well. Times change. Today almost any upstart seems able to outsmart Sears or Macy's or IBM.

And today, small business matters -- a lot.

We know now, for example, that small companies are one of the U.S. economy's most powerful job-generating engines. Researchers disagree over exactly what share of new jobs small business is responsible for. (See "Small Is Beautiful! Big Is Best!" [Article link].) But some trends are beyond dispute. After growing steadily since the 1950s, the nation's 500 biggest manufacturers began cutting their payrolls. From 16.2 million workers in 1979 they shrank to 11.5 million in 1993. The 500 biggest service companies increased their employment, but only a little. So most of the 20 million new jobs created during the past 15 years came not from established giants, the companies that had led America's growth up till then. The jobs came from companies that were smaller, newer -- or both. They came from that "independent entrepreneurial sector" that Tobias (and a lot of other people) thought would disappear.

We also know that small suddenly became more beautiful in the marketplace.

The self-employment rate had been heading downward for decades, as old-line shopkeepers and tradespeople struggled to compete in the modern economy. Then, unexpectedly, it turned upward. The number of small businesses with employees rose sharply as well, thanks mostly to an explosion in the number of start-ups. When the number of businesses increases, so does the number of small businesses, since more than 99% of all companies are small.

Trends toward smallness turned up throughout the economy. For decades, small manufacturers had lost ground to their larger competitors. Now they began gaining, not just in the United States but all over the industrialized world. Small companies proliferated in the service sector, notably in fast-growing fields such as business services. Small shopkeepers were buffeted by big chains in some retailing categories -- but held their own, according to the latest research, in many others.

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