Statement of Chris Edwards, Cato Institute — Senate Small Business Committee, February 1, 2022

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Written statement of Chris Edwards, Director of Tax Policy Studies at the Cato Institute, before the U.S. Senate Committee on Small Business and Entrepreneurship on February 1, 2022, for the hearing "Review of SBA Entrepreneurial Development Programs and Initiatives." The testimony cites Census Bureau estimates that startups rose 21 percent between December 2019 and December 2021. It reports SBA entrepreneurship program spending of $461 million in 2020 and $369 million in 2021 and argues that programs such as Small Business Development Centers could be handed to the states or the private sector, citing federal audits of oversight weaknesses. It then argues that regulations impede entrepreneurship, discussing occupational licensing, alcohol license caps in 18 states, marijuana business licensing and home-based businesses. The statement closes with endnotes.

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                    The Small Business Administration
                     and Policies for Entrepreneurship


                                    Statement of

                                 Chris Edwards
                          Director of Tax Policy Studies
                                  Cato Institute

                                      before the

      U.S. Senate Committee on Small Business and Entrepreneurship

                                  February 1, 2022




Cato Institute • 1000 Massachusetts Ave., N.W. • Washington, D.C. 20001 • (202) 842-0200
                           Fax: (202) 842-3490 • www.cato.org
Chairman Cardin, Ranking Member Paul, and members of the committee, thank you for inviting
me to testify at today’s hearing, “Review of SBA Entrepreneurial Development Programs and
Initiatives.”
The hearing comes in the midst of mixed economic news. Businesses and consumers are facing
supply chain bottlenecks and high inflation, but the nation is enjoying solid economic growth.
Another bright spot is entrepreneurship. Since the summer of 2020, the number of U.S. business
startups has soared.
There is bipartisan support for many of the activities of the Small Business Administration.
However, Congress should be looking for places to trim the budget given today’s large deficits.
Policymakers should consider handing over the SBA’s entrepreneurial development programs to
the states or the private sector. State governments are in better financial shape than the federal
government, and many SBA activities appear to duplicate activities provided in markets and the
nonprofit sector.
The SBA entrepreneurial development activities aim to generate broad-based opportunities and
prosperity. This is a laudable goal, but a better approach would be for governments to repeal
regulatory barriers to startups, some of which are identified in this testimony.


Good News About Entrepreneurship
Business startups plunged in early 2020, but then reversed course and have since risen to levels
not seen in more than a decade. Census Bureau estimates show that the number of startups
jumped 21 percent between December 2019 and December 2021.1 The jump was 29 percent in
the South, 20 percent in the Midwest, 16 percent in the Northeast, and 15 percent in the West.
There are probably numerous factors behind the increases. People laid-off during downturns may
turn to entrepreneurship to earn income, and when downturns cause some businesses to close, it
creates space for new businesses to fill the voids. Another factor is that fast-changing conditions
create opportunities for startups to meet new demands. The pandemic created new needs in many
industries. Economist John Haltiwanger notes that the startup spike has been strong in nonstore
retail, personal and business services, trucking, and food services.2
How can we keep the startup boom going? Policymakers should avoid increases in taxes and
regulations that may cause entrepreneurs to shelve their startup plans. And policymakers and the
central bank should support price stability to enable entrepreneurs to better plan their operations
and investments.


The SBA’s Role in Entrepreneurship
Entrepreneurship is crucial to the American economy. Startups create most net new jobs and they
revitalize cities by creating jobs for people displaced by older, shrinking businesses. Some
startups grow to become large corporations that propel the overall U.S. economy. Also, startup
activity fuels income growth because “newly established businesses are typically more
productive than the firms that preceded them,” noted the Congressional Budget Office.3


                                                 2
Startups are crucial for generating innovation and competition. Economist Clayton Christensen
and others have observed that major innovations are usually pioneered by new companies, not
established ones.4 The personal computer industry, for example, was pioneered in the 1970s by
startups such as Apple, not established firms such as IBM.

At first blush, it may seem useful for the government to fund activities that support startups.
However, in an era of large budget deficits, Congress should be looking to restrain spending, and
policymakers should explore whether SBA’s functions could be handled by the states and private
sector, including its entrepreneurial development programs.

The SBA’s entrepreneurial development programs include Small Business Development Centers,
SCORE, Women’s Business Centers, entrepreneurial education, and other activities. Total
spending on entrepreneurship programs was $461 million in 2020 and $369 million in 2021.5
The SBA generally administers these programs through grants and cooperative agreements.6 The
largest spending activity is the SBDCs.

There are hundreds of SBDC locations across the nation, which are hosted by colleges and state
development agencies. Let’s consider Florida’s SBDC network.7 It had a budget of $20 million
in 2020, funded 43 percent by the SBA and 57 percent by state-local agencies and local
businesses.8 The Florida SBDC network claims that every $1 it spends generates $60 in higher
state taxes, and that its activities generate $3.9 billion in annual output.9 Those figures are hard to
believe, but if true, then the Florida government would have a huge incentive to fund these
activities by itself.

SBDCs are located in colleges and state agencies and are aimed at benefiting state economies—
so why don’t we let the states fund them? The federal government is running huge deficits, but
most state governments are running surpluses. State and local tax revenues are 14 percent higher
today than before the pandemic began in early 2020.10

Federal audits have found substantial weaknesses in SBA’s entrepreneurial development
programs. A 2021 audit found that the “SBA did not provide effective oversight over the WBC
program.”11 WBCs suffer from accounting deficiencies and improper payments that the SBA is
not adequately policing. Other audits of entrepreneurial development programs have found
“systemic issues with SBA’s financial and performance oversight.”12 There are also concerns
about duplication between the SBA’s various entrepreneur programs.13 These programs would
likely enjoy better management and oversight if transferred to the states. State-funded programs
tend to be less bureaucratic than federal ones and can be better tailored to meet local needs.

However, I am skeptical that governments need to fund entrepreneurial development at all.
Angel investors, foundations, universities, free online media, and other private institutions
provide education, training, and mentoring for entrepreneurs. The following paragraphs discuss
some of these private-sector activities.

America has 335,000 “angel investors” who are wealthy people that invest equity in startups.14
Angels are in every town and city in the nation and usually invest in startups close to home so
that they can advise entrepreneurs.15 Angels often have a strong desire to mentor young

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entrepreneurs, and they usually wait 5 to 10 years to see any return on their investments. Angels
provide entrepreneurs not just with funding, but also with guidance and networking. One way for
governments to generate more entrepreneurship is to pursue policies favorable to angel
investment.

Private foundations are another source of guidance and education for new entrepreneurs. The
Kauffman Foundation spends about $100 million a year on programs for entrepreneur-focused
economic development.16 The foundation aims at generating equitable and inclusive prosperity
through entrepreneurship.

PNC Foundation recently announced a $16.8 million grant to create the National Center for
Entrepreneurship at Howard University.17 The center will support expanded opportunities for
black entrepreneurship with education and access to capital in low-income communities
nationwide.

The Blackstone Charitable Foundation runs numerous entrepreneur initiatives including
Launchpad, which they say has participation of more than 10,000 students a year.18 The program
provides education, connections, and expertise for students interested in entrepreneurship, with
numerous initiatives for underserved communities.

In Chicago, the Coleman Foundation has been investing millions of dollars in entrepreneurial
education and training for years, with a focus on low-income neighborhoods.19 Meanwhile, in
Ohio, the Young Entrepreneurs Institute provides education and experience in entrepreneurship
for thousands of students. It was founded by a serial entrepreneur and funded by corporations
and private foundations.20

The National Foundation for Teaching Entrepreneurship says that it reaches 100,000 students a
year with educational programs and interactions with business mentors.21 One of the
organization’s slogans is, “Inclusive entrepreneurship education. Equitable access to economic
opportunity.”
Another development is the growing focus on entrepreneurship in America’s colleges and
universities. By one estimate, “formal programs (majors, minors and certificates) in
entrepreneurship have more than quadrupled, from 104 in 1975 to more than 500 in 2006.”22
In addition, there has been a proliferation of free courses on all aspects of entrepreneurship
online, on YouTube and elsewhere. Many major universities appear to allow individuals to audit
courses in entrepreneurship for free.23
All these private initiatives and free resources are fantastic, and there appears to be many others
like them. The growing private efforts and resources for entrepreneurial development casts doubt
on the need for federal involvement.

Regulations Impede Entrepreneurship

There is broad agreement that entrepreneurship is a great path to inclusive growth in the
economy. But rather than spending programs, policymakers should boost entrepreneurship by
reducing excessive federal, state, and local regulations on startups.

                                                 4
Surveys by the National Federation of Independent Business have long found that regulations are
one of the “most important problems” faced by small businesses, although that concern is
eclipsed today by inflation.24 Similarly, a recent CNBC poll found that “60% of small business
owners now expect government regulations to have a negative effect on their business in the next
12 months,” although inflation is an even larger concern.25

The volume of federal regulations has increased over the decades. Regulations now span 186,000
pages, up from just 71,000 in 1975.26 The federal government has about 260 agencies that
impose regulations, with the burdens often landing on businesses.27

Regulatory burdens tend to fall more heavily on smaller firms than larger firms. In larger firms,
the fixed costs of regulatory compliance can be spread over more revenues. Also, economist
Steve Davis notes, “compared to smaller, newer and would-be competitors, larger and incumbent
firms have greater capacity and incentive to lobby for legislative exemptions, administrative
waivers, and favorable regulatory treatment.”28

Congress has long recognized these problems, and the Regulatory Flexibility Act of 1980 and
subsequent statutes and executive orders require federal agencies to assess the effects of
proposed rules on small businesses. Entrepreneurs are in a struggle to survive since about half of
all new businesses fail by the fifth year. So excessive regulations that divert their focus from the
marketplace can have a high cost.

Today’s hearing concerns federal policies, but federal policymakers should be aware that efforts
to boost entrepreneurship can be undermined by state and local regulations, which I examined in
a recent study.29 The following are examples of how the states can create barriers to
entrepreneurship, often for entrepreneurs from disadvantaged backgrounds.

Occupational Licensing

State governments define the education, training, and testing for entry into many occupations—
not just for doctors, but in some states for travel agents, florists, makeup artists, tour guides,
animal trainers, hair braiders, manicurists, bartenders, auctioneers, massage therapists, and
others. Many licensed occupations are populated by small businesses, so licensing restrictions
are restrictions on entrepreneurship.

The share of U.S. jobs requiring an occupational license increased from 5 percent in the 1950s to
22 percent in 2020.30 The rationale for licensing is that it protects health and safety, but a report
by the Obama administration found that “most research does not find that licensing improves
quality or public health and safety.”31

Many states have overly restrictive rules and substantial costs for gaining required qualifications
for some occupations. Athletic trainers are not licensed in California, but in Nevada they must
have a college degree, pass an exam, and pay $666 for a license and $150 for annual renewals.32




                                                  5
Excessive occupational licensing is a bipartisan concern. The Obama administration report
concluded, “There is evidence licensing requirements raise the price of goods and services,
restrict employment opportunities, and make it more difficult for workers to take their skills
across state lines.”33 The Biden administration has taken steps to tackle excessive licensing.

Excessive occupational licensing can impose unfair costs on disadvantaged communities.34 In
one study, economist Stephen Slivinski found that those states that require licenses for a larger
number of low-income occupations have lower rates of low-income entrepreneurship.35

Alcohol Licensing
The pandemic and related closures hit the restaurant industry hard with tens of thousands of
eateries closing permanently. America will need entrepreneurs to launch new restaurants to fill
the void, but restaurant entrepreneurs face many regulatory barriers.
One problem is alcohol licensing. I found 18 states that cap the number of licenses in cities and
counties.36 The caps can make restaurant launches very costly or block them entirely, particularly
when businesses want to serve liquor in addition to beer and wine.
In the states with license caps, entrepreneurs can often only buy a liquor license when other
restaurants close, and licenses can cost hundreds of thousands of dollars. These high costs favor
corporate restaurant chains with deep pockets over independent and lower-income entrepreneurs.
States and cities with tight alcohol license caps can strangle economic development in poorer
neighborhoods because restaurant entrepreneurs in those neighborhoods cannot afford the high
license costs.
Pre-pandemic, it cost about $400,000 for a liquor license in Boston and $150,000 for a beer-and-
wine license. As a result, the Boston Globe reported that some poorer “neighborhoods have
largely missed out on Boston’s restaurant boom, as developers and restaurateurs in wealthier
parts of the city pay top dollar to secure the available licenses.”37 One study found that the
wealthiest one-quarter of census tracts in Boston hold more than half of the available licenses.38
Many news stories in the 18 states with these license caps highlight the unfairness. Repealing
them would benefit entrepreneurs and economic growth particularly in lower-income
neighborhoods.


Marijuana
There is a similar problem with regard to marijuana business licensing. While 18 states have
legalized recreational pot, only some cities within states such as California allow it and they
often cap the number of licenses tightly. This has undermined the efforts of entrepreneurs,
including those wanting to move from the black market to the legal market. Unlike small
businesses, large businesses can afford to wait months or years to get licenses, and they have
greater political pull. In numerous cities, corruption scandals have stemmed from political
leaders handing out marijuana licenses to favored insider companies.

A November article in The Guardian discussed how California’s rigid marijuana license cap
system is undermining opportunity for entrepreneurs:


                                                 6
       Half a million dollars and nearly four years into his Los Angeles-based cannabis
       venture, Donnie Anderson had no shop, no prospects and a mountain of debt. With
       financial help from family and friends, Anderson rented a $6,000-a-month space in
       January 2018 for his new cannabis retail shop. He kept paying the rent as the city’s
       permitting process dragged on. He bought cabinets and other equipment as he
       waited. And waited. Sick of waiting, he’s selling all that equipment and giving up
       his lease. Inaction by the city is forcing him to give up his dream, he says. “It’s
       killing business owners,” Anderson says. “All the air has been let out of me.”39

California’s strict marijuana rules are dashing the hopes of young black entrepreneurs such as
Mr. Anderson. It is one thing to legalize the marijuana industry, but state and local governments
should do a better job ensuring that the new opportunities are open to everybody.

Home-Based Businesses

A huge range of entrepreneurs run businesses out of their homes, including daycare providers,
repair persons, music teachers, tutors, small-scale food producers, yoga teachers, contractors,
caterers, and many others. Millions of American businesses are home-based, and in recent
decades the internet has expanded the opportunities. Most artistic businesses in America are
home-based, for example, with many artists selling their products online.

However, there is a big problem: many local governments impose zoning rules that ban, restrict,
or raise costs for home-based businesses in residential neighborhoods. This is a particular
problem for lower-income entrepreneurs because home businesses allow them to save costs from
having to rent separate space and paying for childcare and commuting.

The cottage food industry illustrates the issue. Cottage food generally means home production
and packaging of foods other than refrigerated items. When food production for sale is banned
from homes, entrepreneurs need to rent expensive commercial kitchen space, thus undermining
the financial viability of many startups.

Also, wealthier people can afford daycare and retirement home options for children or aging
parents when they work. But for people with lower incomes, home-based businesses allow them
to earn a living while caring for children or parents at home.

Reforming local zoning regulations to allow greater scope for home-based businesses would help
to expand entrepreneurship. Home-based businesses are an inclusive way for cities to grow, and
can provide opportunities open to everyone.

Entrepreneurship, Deregulation, and Craft Beer

Deregulation is sometimes thought of as a reform only conservatives and libertarians favor. But
in the 1970s, federal deregulation of numerous industries had bipartisan support. It was designed
to boost competition and tackle inflation. Industry deregulation can expand entrepreneurial
opportunities to the broadest group of people.



                                                7
One deregulation success story is the brewing industry. President Jimmy Carter signed
legislation legalizing home brewing in 1978.40 That was followed in state after state by partial
deregulation of distribution rules to allow new breweries to sell their products in brewpubs and
to allow limited self-distribution to retailers.41

These reforms led to an explosion of beer entrepreneurship.42 The number of breweries in the
United States has grown from less than 100 in 1980 to more than 8,300 today.43 As craft beer
production has grown, a diverse array of equipment makers has sprung up alongside to supply
the industry.

Deregulating home brewing helped to launch the boom. A Smithsonian Institution article noted
that “homebrewing is how over 95 percent of craft brewers learn their trade.”44 Craft brewing is
a $22 billion industry today and thrives with entrepreneurship.45 Distribution laws in some states
still favor big brewers over small ones, but much progress has been made.

Conclusions
Congress should transfer SBA’s entrepreneurial development activities to state governments.
The activities are already located in colleges and state agencies and partly funded by the states.
The states are generally running surpluses while the federal government has huge deficits. States
could decide how to tailor the programs to meet local needs, or they could decide to leave
entrepreneurial development to private-sector institutions.
Entrepreneurship can help lift all groups in society. But rather than federal programs, a better
way to pursue the goal would be for governments to remove regulatory barriers to startups.


Thank you for holding this important hearing.


Chris Edwards
Director of Tax Policy Studies
Cato Institute
cedwards@cato.org



1
  Census Bureau data charted at https://fred.stlouisfed.org/series/BFPBF4QTOTALSAUS.
2
  John C. Haltiwanger, “Entrepreneurship During the Covid-19 Pandemic,” National Bureau of
Economic Research Working Paper no. 28912, June 2021.
3
  Congressional Budget Office, “Federal Policies in Response to Declining Entrepreneurship,”
December 2020.
4
  Clayton M. Christensen, The Innovators Dilemma: When New Technologies Cause Great
Firms to Fail (Boston: Harvard Business Review Press, 1997).
5
  U.S. Small Business Administration, “FY 2022 Congressional Justification and FY 2020
Annual Performance Report,” June 11, 2021, Table 10.


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6
  U.S. Small Business Administration, “FY 2022 Congressional Justification and FY 2020
Annual Performance Report,” June 11, 2021, p. 13.
7
  https://floridasbdc.org.
8
  Florida SBDC Network, “2021 Annual Report,” p. 9. Available at
https://floridasbdc.org/results.
9
  Florida SBDC Network, “2021 Annual Report,” p. 9. Available at
https://floridasbdc.org/results.
10
   U.S. Bureau of Economic Analysis, National Income and Product Accounts, Table 3.3. This is
the change from first quarter 2020 to fourth quarter 2021. I estimated fourth quarter corporate
taxes as equal to third quarter.
11
   U.S. Small Business Administration, Inspector General, “Audit of SBA’s Oversight of
Women’s Business Centers’ Compliance with Cooperative Agreement Financial Requirements,”
May 4, 2021.
12
   U.S. Small Business Administration, Inspector General, “Consolidated Findings of OIG
Reports on SBA’s Grant Programs FYs 2014-2018,” November 8, 2018.
13
   Discussed in Congressional Research Service, “Small Business Management and Technical
Assistance Training Programs,” June 28, 2021.
14
   Jeffrey Sohl, “The Angel Market in 2020: Return of the Seed and Start-Up Stage Market for
Angels,” Center for Venture Research, May 19, 2021.
15
   Chris Edwards, “How Wealth Fuels Growth: The Role of Angel Investment,” Cato Institute,
September 29, 2021.
16
   www.kauffman.org. And see Ewing Marion Kauffman Foundation, IRS Form 990-PF, 2019.
17
   PNC Foundation, “PNC Foundation Announces $16.8 Million Grant To Support And Develop
Black-Owned Businesses Through New Howard University Center for Entrepreneurship,” press
release, October 21, 2021.
18
   www.blackstone.com/our-impact/blackstone-charitable-foundation.
19
   www.colemanfoundation.org/entrepreneurship.
20
   www.youngentrepreneurinstitute.org.
21
   www.nfte.com.
22
   Kauffman Foundation, “Entrepreneurship in American Higher Education,” July 15, 2008.
23
   For some of these, see www.mbacentral.org/free-online-entrepreneurship-courses.
24
   William C. Dunkelberg and Holly Wade, “Small Business Economic Trends,” National
Federation of Independent Business, December 2021, p. 18.
25
   Laura Wronski, “CNBC Momentive Small Business Index Q4 2021,” November 2021.
26
   This is the page count of the Code of Federal Regulations.
27
   The www.regulations.gov site lists 43 partner agencies and indicates that there are 220
nonparticipating agencies which also impose regulations.
28
   Steven J. Davis, “Regulatory Complexity and Policy Uncertainty: Headwinds of Our Own
Making,” January 30, 2017.
29
   Chris Edwards, “Entrepreneurs and Regulations: Removing State and Local Barriers to New
Businesses,” Cato Institute, May 5, 2021.
30
   The figure for 2020 is from U.S. Bureau of Labor Statistics “Data on Certifications and
Licenses,” www.bls.gov/cps/certifications-and-licenses.htm. The 1950s figure is from Morris M.
Kleiner and Evgeny S. Vorotnikov, At What Cost? State and National Estimates of the Economic
Costs of Occupational Licensing (Arlington, VA: Institute for Justice, November 2018).


                                               9
31
   “Occupational Licensing: A Framework for Policymakers,” Department of the Treasury Office
of Economic Policy, the Council of Economic Advisers, and the Department of Labor, July
2015.
32
   The National Conference of State Legislatures has a database of occupational licensing
requirements at www.ncsl.org/research/labor-and-employment/occupational-licensing-statute-
database.aspx.
33
   “Occupational Licensing: A Framework for Policymakers,” Department of the Treasury Office
of Economic Policy, the Council of Economic Advisers, and the Department of Labor, July
2015.
34
   Matthew D. Mitchell, “Occupational Licensing and the Poor and Disadvantaged,” Mercatus
Center, September 28, 2017.
35
   Stephen Slivinski, “Bootstraps Tangled in Red Tape,” Goldwater Institute, February 10, 2015.
36
   Chris Edwards, “Entrepreneurs and Regulations: Removing State and Local Barriers to New
Businesses,” Cato Institute, May 5, 2021.
37
   Jon Chesto, “Expansion of Liquor Licenses in Boston Faces Pushback from Restaurant
Group,” Boston Globe, April 8, 2020.
38
   Lauren Shuffleton Drago, “Liquor License Distribution in Boston: Exacerbating Economic
Disenfranchisement,” masters thesis in Urban and Environmental Policy and Planning, Tufts
University, May 2017.
39
   Matt Krupnick, “‘A farce of social equity’: California is failing its Black cannabis businesses,”
The Guardian, November 4, 2021.
40
   https://beerandbrewing.com/dictionary/3WZc5lsyPY.
41
   Kenneth G. Elzinga, Carol Horton Tremblay, and Victor J. Tremblay, “Craft Beer in the
United States: History, Numbers, and Geography,” Journal of Wine Economics 10, no. 3 (2015):
242–272. And see Trey Malone and Martin Stack, “What Do Beer Laws Mean for Economic
Growth,” Choices, 2017.
42
   For background, see Trey Malone and Jayson L. Lusk, “Brewing up Entrepreneurship:
Government Intervention in Beer,” Journal of Entrepreneurship and Public Policy 5, no. 3
(November 2016): 325–342.
43
   Aaron Staples, Dustin Chambers, and Trey Malone, “The Economic Geography of Beer
Regulations,” Center for Growth and Opportunity at Utah State University, September 16, 2020.
44
   John Harry, “Jimmy Carter: American Homebrew Hero?” National Museum of American
History, September 30, 2019.
45
   “Stats and Data: National Beer Sales and Production Data,” Brewers Association,
www.brewersassociation.org/statistics-and-data/national-beer-stats.




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