WSJ Has No Respect For Entrepreneurial Businesses, Even When Reporting Their Success.

The Wall Street Journal (June 26, 2023) reported on its front page that “small companies have been responsible for all of the net job growth in the US since the onset of the Covid-19 pandemic and account for nearly 4 of 5 available job openings”. They’ve hired a net 3.67 million people, while larger establishments have cut a net 800,000 jobs during that same time period. “Small businesses are literally holding up the job market”, said Aneta Markowska, chief economist at Jefferies, who compiled the data.

Disregarding the size-shaming of referring to these powerhouse growth-producing businesses as “small”, this should be all good news, shouldn’t it? Well, not in the eyes of the Wall Street Journal. The surge of hiring by these businesses “can be bad news for markets” (by which they mean the casino stock trading markets of Wall Street). All this hiring is driving inflation, and may complicate the Federal Reserve’s efforts to cool that inflation, according to WSJ. The Fed wants to “slow down the labor market and weaken the economy” and small business job creation gets in their way. But don’t worry, say the WSJ reporters, “The Fed has said it plans to continue to increase rates this year ….to slow the economy” and hit these pesky small businesses with a downturn that will reverse their annoying optimism.

This is all typical of the financial establishment. The growth of the financial sector in the economy comes at the expense of the productive sector. A recent Bank of International Settlements (BIS) analysis shows a negative relationship between the rate of growth of the financial sector and the rate of growth of total factor productivity. The so-called small businesses highlighted in the WSJ report are, in spite of the expanding financial sector, bringing economic growth to the nation, and creating jobs for breadwinners and their families, reducing welfare dependence. They are producing new value, which is what entrepreneurs do, and generating new sales and revenues by pleasing customers. The financial establishment can’t stand it!

The growth of the financial sector, focused on stock trading and bond trading related to the few thousand companies in the quoted market indexes is detrimental to the productive economy and the 6+ million employer businesses that comprise it. The trading has nothing to do with financing productive investment in innovation. Once a company has completed an IPO, it generally never goes back to the stock market for equity financing. For example, the only money that Apple has ever raised from the public stock market in its history is the $97 million realized from its IPO in 1980. All of the stock splits and stock buybacks since then have been for the benefit of stock traders (don’t call them investors – they’re not) and incumbent management who grant themselves stock awards and stock options. There are accounting years when Apple has often spent a sum greater than its net income on stock buybacks. In other words, it is diverting resources away from productive investment and into stock market manipulation.

While “small” entrepreneurial businesses are innovating, creating new value and new jobs, the big corporations entangled in the financial sector are destroying jobs and extracting value through their manipulation of stock markets and stock prices. The Wall Street Journal reports admiringly.

The True Story Of Capitalism.

Many people today are skeptical about capitalism. Suspicious of it. In some cases, downright hostile. These people believe – or have been led by others to believe – that capitalism is bad for society overall. They believe that capitalism is extractive – it extracts work and effort from masses of people to produce financial reward for a narrow few, with limited benefit (or maybe a net deficit) left for those who do the work. A particular sliver of the financial elite has some specific techniques for extracting the vast bulk of available value for themselves via special tools such as hedge funds, currency trading, and all kinds of esoteric instruments. They believe the biggest corporations extract wealth for shareholders and executives to self-reward themselves with stock awards, stock options, share buybacks, and dividends. They believe that there is monopolistic control over markets exerted by these large-scale corporations. They believe that first-world countries and corporations take value from less-developed countries via resource extraction, cheap labor, and short-term economic activities that don’t leave behind long-term infrastructure or institutions. They believe the inequality of wealth and income in capitalism is deliberately and malevolently manipulated.

But none of this is the true story of capitalism. There are two good places to start in telling the real story. The first is 19th-century America. After the Civil War, the US was in economic expansion mode. The population was growing, supplemented by immigration, and was economically mobile, moving West, establishing cities, starting businesses, learning how to enjoy new lives. Technology was evolving, bringing new enablements for those new lives, including affordable illumination (from oil refining), rail transportation (from steel making and steam engines), better clothing (from sewing machines and new fabric technologies), better food (from mass manufacturing and mass distribution made possible by factory organization) and more. It was in this environment that great entrepreneurs invented customer capitalism. They identified the unstated, unmet needs of customers – such as affordable light for families at home at night for a better quality of life and extended productivity, safe and nutritious food, soaps for more hygienic washing, better communications – and designed systems of unprecedented scale and complexity that could be implemented to meet those needs. Factories, production lines, precision machines for manufacturing, international supply chains, secure packaging, mass distribution and mass marketing – these were all innovations of the times to serve customers in better and better ways. The energy behind these innovations came from a new invention, unique to America at the time: the corporation and its managerial methods. The entrepreneurs invented the managerial corporation because it was necessary to do so to harness the vast potential for value creation of their machines, factories, supply chains, and transportation and distribution networks. The challenge had never before been encountered, but the coordination enabled by new decentralized corporate management systems solved the problem. 

Customers were learning what they could want in the new world of technology, manufacturing, and economic expansion. Those corporations that were able to fulfill those new wants were the ones to thrive and grow into powerful commercial entities of a new type, size, and form. They became the engines of capitalism, doing far more to advance the capacity and achievements of the new country than anything than government could. 

At the same time, in the heart of Europe, a group of researchers in economics were discovering the principles that would guide the further development of customer capitalism as a system of organizing the economy. First, they established the principle of value that guides all economic production: value is in the mind of the customer. It’s not a number or a price, it’s a flow of life enjoyment, a flow of experiences becoming better and better over time, satisfying ever more needs and fulfilling ever more wants. The job of the corporation is to facilitate and sustain this flow.

The method of doing so, identifying value (what the customer is learning to want), and designing new and innovative ways to enable them to enjoy the future experience they are anticipating via a method called entrepreneurship, was another discovery of these economists. Another of their principles, a crucial one, is that entrepreneurial value generation is an adaptive, experimental and creative activity, and can’t be planned in advance or from the top down. This excludes government, as a central planning agency, from any role in customer capitalism, and also guides the private corporation in the design of their organization and processes to make them adaptive to feedback from customers and markets. Those that become bureaucratic and unresponsive are condemned to fading and failure. Continuous innovation is the only route to sustained success.

The early research came from the University of Vienna and has inherited the name Austrian economics over time. But the research tradition has continued in the US after many of the pioneers fled Europe to do their work in universities in the US. The continued further development of Austrian economics in the USA nurtures and enhances the innovative free market traditions of customer capitalism.

These two parallel streams of corporate commercialism in the US, harnessing technology and organization to profitably serve customer needs, and the continuous refinement of free market economic principles and institutions to make that commercialism viable, combine in the true story of capitalism. Capitalism is for the benefit of all: first and foremost for consumers, whom corporations and other producers are aiming to serve and please. The economic activity of doing so creates jobs and meaningful employment for many. Corporations aim to gain the support of the communities in which they establish offices and factories, improving community life, especially for the families that live and work and school their children there. And for investors, the success of corporations in serving customers can result in the profits that pay dividends and spark stock appreciation. And the system requires the institutional support of a prevailing set of economic thinking to strengthen the culture and mindset that attracts the best people to roles as entrepreneurs, managers, investors and workers.

Customer-focused corporations and the economics of entrepreneurial value creation are the true story of capitalism.

No businesses are “small”. They’re all productive nodes in a tightly connected knowledge-building value-creating network.

There are roughly 32 million businesses in the US, of which 99.9% are what the government calls “small”. This classification of business accounts for about half of GDP and of total employment (making it just as productive as “big business”), and usually more than half of new job creation (making it more dynamic than big business). It’s often where innovation first enters the market, since small business is more open to risk taking than big business. If we remove the Fortune 500 and the Russell 5000, we’ve still got 32 million, rounded up, so let’s think of them as a community.

Within the 32 million, there is a wide range of size, whether measured by revenue or number of employees. The government in the form of the SBA (Small Business Administration) uses a range of up to 500 employees and a revenue of $7 million per year. But they also relax this range in different classification categories; their “small” financial and insurance business range goes up to 1,500 employees and $38.5 million in revenues. Clearly, there’s no consistency or integrity in their definitions, and not much useful information.

A better way to look at these businesses is as an integrated network of productivity, information flow, knowledge-building, innovation and value creation. 

Productivity:

Dr. Samuel Gregg in his book The Next American Economy identifies the decline in the formation of new entrepreneurial businesses as responsible for the significant decline in American productivity. These businesses have an intensified motivation to be productive; it’s hard to get capital, so they need to make the most of what they’ve got and find agile ways to borrow, rent or originate capital. They can’t afford productivity-sapping bureaucracy. They find ways to accelerate cash flows. They adopt new technological innovations quickly so as to take advantage of productivity enhancements. Productivity is essential for them.

Knowledge-building:

Bartley J. Madden in his book Value Creation Principles, identifies knowledge-building proficiency as the fundamental driver of firm performance. In the integrated 32-million strong network of businesses we are analyzing, information flows faster and more freely as a result of more network nodes, more connections between nodes, and lack of barriers to learning such as bureaucracy. These businesses know they must learn at speed, apply their learning fast and use it to serve customers better. There’s no learning time to lose.

Dynamic Efficiency:

Efficiency is an economic concept that hasn’t been very helpful for business in general. It tends to mean doing less with less: cutting costs, saving on inputs, not risking innovation, not attempting experiments with uncertain outcomes. But economist Jesus Huerta de Soto developed the contrasting concept of dynamic efficiency: fast adaptation to changing customer preferences, and rapid creation and adoption of new market knowledge, with an economy of time and agile decision-making.  This is the entrepreneurial method, and the way that the 32 million competes effectively with larger, better resourced but less agile firms.

Pure value creation:

Businesses generate cash flow as a result of the valuable customer experiences they enable. The value that customers perceive turns into willingness to pay, resulting in cash flow that is the life blood of small businesses who have less access to credit and debt to fund their working capital needs. The 32 million are acutely sensitive to cash flow, and therefore to customer value. They remove all obstacles to customer value, including bureaucracy, complicated service arrangements that obscure value visibility and take time, and any other obstructions they can identify. These businesses know that they must pursue pure value creation.

Customer focus:

The disciplines of dynamic efficiency and pure value creation demand an intense customer focus. The 32 million choose their customers carefully, develop a deep knowledge of them and their needs, nurture empathy to get on the same wavelength with customers regarding those needs, and are constantly listening for feedback and adjusting to any new signals that come through the feedback channel. This intensity of customer focus sustains the innovation and elevated quality of service that, in turn, secures continuity and strengthening of business relationships. That’s why these businesses are the backbone of the economy.

Unentangled with government:

The greatest barrier to all business-driven economic growth, progress and innovation is government. Both taxation and regulation are business-killers by intent. Big business becomes entangled with government. They develop big bureaucracies to comply with regulation, keeping them close to government and saddling the 32 million with disproportionate compliance costs if they’re forced to match big-business compliance practices. And big businesses assemble lobbying forces and budgets to design, write and pay for government approval for regulations that protect them and over-burden others. It’s this entanglement with government that condemns big business to permanent inefficiency, and also results in the kind of government-directed surveillance scandals that are currently being uncovered.

The 32 million is in no way small. It’s the vital, leading edge group that brings innovation, growth, development and dynamism to the economy. Let’s find another term than “small business”.