California’s Regulations are Harming Small Businesses

The regulatory burden in California continues to grow. Minimum wage increases—which simultaneously raise costs on businesses and harms many low-wage workers and consumers—have passed in Los Angeles and San Francisco. California is also pursuing regulations that would reduce the viability of Uber and Lyft, the popular ride-for-hire services revolutionizing how people commute. These regulations are just two of California’s many regulatory diktats that are burdening the state economy.

In contrast to California’s approach, states such as Texas, North Dakota and Virginia impose regulations that aren’t overly burdensome and, therefore, encourage economic growth and development. There are important lessons that California can learn from these pro-growth states.

A study I recently completed for the Pacific Research Institute, the 50 State Small Business Regulation Index, compares all 50 states based on the impact from each one’s regulatory environment on small businesses. The Index creates a common platform, based on 14 regulatory components, to compare each state’s regulatory burdens on small businesses to highlight which regulatory environments are associated with slower small business growth, and which regulatory environments are associated with more robust small business activity.

The study focuses on small businesses because, while regulations are an impediment to economic growth, they’re particularly problematic for small businesses that lack the scale to efficiently manage the administrative burdens and finance the higher costs created by onerous regulations.

The 10 lowest-ranked states (California was the worst) scored poorly across most of the 14 regulatory components measured in the Index. It isn’t surprising that these bottom-ranked states experienced significantly slower small business growth compared to the top-ranked states.

For instance, average annual small business payroll growth between 2002 and 2011 (the latest data available) in the states ranked in the top third was 3 percent—nearly double California’s average annual small business payroll growth of 1.6 percent. The same pattern held for average annual growth in employment—small business employment in the states in the top third grew 0.1 percent per year compared to a decline of 0.8 percent per year in California.

So what’s California doing wrong?

First, and perhaps most important, none of the lowest-ranked 10 states in the Index, including California, is a right-to-work state. Right-to-work laws have a statistically significant and positive impact on economic growth—studies continually show that states with right-to-work laws experience faster growth than states without them. The top regulatory reform priority for California should be to pass right-to-work laws.

The bottom-ranked states, as a group, also burden their small businesses with excessive family leave mandates, larger energy regulatory burdens, stricter land use regulations and more expensive workers compensation regulations (except for Oregon).

Surveys continually find that regulations, such as those currently promulgated by California, are a top concern for small business owners. While the consequences are evident when comparing the health of the small business sector in California to the top-ranked states, the damage extends further.

Small businesses are a vital growth engine for the economy. The Small Business Administration (SBA) estimates that between 1993 and 2011, small businesses created 64 percent of all new jobs in the United States. Beyond being a driver of jobs, small businesses are also a driver of productivity growth. According to the SBA, small businesses develop more patents per employee than larger businesses, and the patents small businesses develop tend to be more significant than large-firm patents.

Given small businesses’ traditional role as the economy’s innovators and job creators, and the economy’s current lack of job and innovation growth, the growing regulatory burdens on small businesses are disconcerting.

The 50 State Small Business Regulation Index highlights an important part of the solution to California’s current growth quandary. As opposed to expanding anti-growth regulations, California needs to implement broad-based reforms across all of the regulatory areas covered in the Index and implement the pro-growth regulations promulgated by the top ranked states. Such reforms will improve the incentives to start and run a business in California and reinvigorate economic growth throughout the state.

Nothing contained in this blog is to be construed as necessarily reflecting the views of the Pacific Research Institute or as an attempt to thwart or aid the passage of any legislation.

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