Ortmans: Sharing the risk of entrepreneurship

Editor’s note: This post was republished with permission from the Ewing Marion Kauffman Foundation’s Policy Dialogue blog.

In the last of policy commentaries emerging from the latest Global Entrepreneurship Congress, I note that governments are taking an increasing interest in mitigating the risks of their entrepreneurs who start new firms, and as more people accept the broader societal value of those who build and make things. We unpack one such issue highlighted by Kauffman Foundation CEO Wendy Guillies, who recently recommended U.S. policymakers consider allowing individuals to maintain unemployment insurance when they are starting a business.

In France, as Guillies notes, a policy reform, called Plan d’Aide au Retour à l’Emploi (PARE), has been linked to a 25 percent increase in the number of startups. The new firms started in response to PARE, the NBER study found, also happened to be of higher quality – they were more likely to hire, were more productive and paid higher wages than their incumbent competitors. Compared to start-ups before this 2002 reform, these new firms had similar growth expectations and education levels.

Previous work experience is, after all, an important factor influencing startup success. Laid-off workers may have insights on what led their companies and industries to shrink their workforce and can use those insights to build a productive company. And as it often happens when the economy’s growth pace slows, many people who have long been ruminating business ideas use unemployment as a springboard to entrepreneurship.

The U.S. Experience with Unemployment Insurance for the Self-Employed 

The Department of Labor reports that as of August 2015, seven states were offering Self-Employment Assistance (SEA), a voluntary program authorized by Congress in 1993 for states “to enable unemployed workers to create their own jobs by starting their own small businesses.”

After a five-year experimental period, based on a positive impact assessment, federal law made the program permanent in 1998. The federal cap for the program limits SEA to a 5 percent maximum of a state’s pool of regular unemployment claimants.

Under SEA, states pay participants weekly allowances, instead of regular unemployment insurance benefits, while they are getting their businesses off the ground. While eligibility criteria may vary slightly from state to state, in general, individuals may only qualify when a state’s profiling system determines a permanently laid-off individual is “likely to exhaust” regular unemployment benefits. States may also review SEA claimants’ business plans for feasibility.

Once accepted into the program, participants can receive the SEA cash infusion even if they are engaged full-time in self-employment activities such as entrepreneurial training, business counseling and technical assistance. These skill-building activities are often also state-sponsored. In addition, many states require achieving specific milestones toward business consolidation, like presenting a marketing plan for the business.

The seven states that have active SEA programs are: Delaware, Mississippi, New Hampshire, New York, Oregon, Rhode Island, and Vermont. This number is low despite the 2012 Middle Class Tax Relief and Job Act, which made available $35 million to encourage states to enhance and promote SEA programs. The Department of Labor also offered technical guidance to put the new law into practice. Only two of the seven states implemented the program after this effort from federal government.

In terms of impact, most states that have implemented the program have reported positive results. In Oregon, for example, in a survey of SEA participants nearly half of the successful SEA entrepreneurs created an average of 2.63 new jobs. However, we have yet to see the full results of such analysis, as well as an evaluation of the processes in involved.

In all other 43 states, the unemployed face a tough choice when it comes to launching a business. “If they start a business, they lose their benefits—right when they desperately need cash to fund their new enterprise as well as cover their household bills” read a related article in the Wall Street Journal.

The White House has framed the problem as inflexibility in the system: “Some laid-off workers have the skills, experience, and entrepreneurial ambition to launch a successful business, but they are locked into an inflexible system. If they stop looking for traditional work full-time, they will lose their unemployment benefits.”

Needless to say, unemployment insurance as a policy lever for entrepreneurship is politically sensitive. States that want to implement the program must get a bill through their legislature, a battle policymakers in some states, like Californiafailed to win twice already.

Risk-sharing concept

In the states that do offer SEA, the government shares the risk of investment in new firm formation. Nascent entrepreneurs still do their part in sharing risk with the SEA program: if they use the program, they are no longer eligible to apply to extend their unemployment benefits. In other words, their unemployment assistance ceases after 26 weeks. And like the majority of all entrepreneurs, the odds that their startups will survive are not in their favor.

For those startups that do emerge successful, can the cash infusion from the SEA program really be considered early stage capital? Probably not. The SEA allowances ensures participants are simply able to pay living expenses, and focus solely on the risk of creating their own jobs. Anecdotal accounts of beneficiaries tell that the most committed entrepreneurs used their own savings to build their firms, as well as their credit cards, and funds from family and friends. In fact, in some cases, applicants to the SEA program must also show that they have the resources to get a business off the ground.

Why reducing risk matters today

There are many other forms of reducing or sharing the cost of entrepreneurial risk-taking. Policymakers in this space would be well advised to peruse the policy digest, which lays out several forms of social insurance that can lower the cost of entrepreneurial risk-taking.

With new firm formation in decline or at least flat, to remain competitive, America should be seeking smarter cost-effective forms of social insurance. France is not the only country with more sophisticated public sector support systems for those who take a risk to form new firms. Scandinavian countries, for example, are well known for propping up their citizens when they need it most. If you know of another unemployment or social insurance program that was used as a job multiplier or strategy to contain the consequences of economic shocks on livelihoods, help make this conversation richer and submit it to the Startup Nations Atlas of Policies.

Jonathan Ortmans, Public Forum Institute president | Courtesy of the Ewing Marion Kauffman Foundation
Jonathan Ortmans

Jonathan Ortmans serves as president of the Public Forum Institute, an independent, nonpartisan, not-for-profit organization dedicated to creating the most advanced and effective means of fostering public discourse on major issues of the day.


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