Self-employment over the business cycle in the USA: a decomposition

Abstract

Entry rates into self-employment increase during recessions and decrease during economic upswings. I show that this is mostly explained by the higher unemployment rate during a recession, together with the fact that at all times, unemployed persons have a relatively high propensity to become self-employed out of necessity. I use econometric decomposition techniques to quantify these effects based on the monthly matched US Current Population Survey before, during, and after the Great Recession. I also document that the entry rate into self-employment with unincorporated businesses strongly increased during the recession, but not into self-employment with incorporated businesses. This highlights the association of unincorporated and incorporated self-employment with necessity and opportunity entrepreneurship, respectively. The results are useful for policymakers and practitioners to understand, forecast and act on the different types of self-employment that can be expected over the business cycle. There are also important implications for theories of the cyclicality of unemployment and entrepreneurship. Plain English Summary Self-employment will increase during recessions when unemployment is high, but it may not boost innovation. During recessions, increased unemployment underlies the higher entry rate into self-employment. Our evidence is from representative survey data from the USA covering the Great Recession. The upside is that self-employment enables workers who lose their jobs to continue to work, which can speed up the subsequent economic recovery. Thus, public policy should enable people to start businesses. However, as during recessions the unemployed mostly start unincorporated businesses, one cannot expect them to boost innovation as much as start-ups during better economic times. These insights also speak to the 2020 recession triggered by COVID-19. If unemployment remains high after the relaxation of the lockdowns, a rise can be expected especially in non-innovative self-employment. Thus, the principal policy implication of this study is that policymakers should ensure that their expectations for new businesses started during deep recessions are realistic for the circumstances.