On Friday, January 27th, the Economic Innovation Group (EIG) hosted leading entrepreneurship experts Dr. Robert Litan and Prof. John C. Haltiwanger for a discussion of the Census Bureau’s Business Formation Statistics for 2022. View the full event recap here.
by Daniel Newman and Kenan Fikri
Key Findings
- Nearly 1.7 million applications for businesses likely to hire employees were filed in 2022—a 27.8 percent increase over the prepandemic baseline—and the second largest total on record. Including businesses that are not likely to employ others, the number of new business applications filed by Americans totaled 5.1 million.
- The annual pace of filings cooled by a modest 6.5 percent relative to 2021’s record surge.
- Monthly totals largely held steady over the year at an average of 137,600 per month, signaling that business formation may be settling into a new, significantly higher baseline relative to prepandemic.
- The national surge in business formation since 2020 has been led by a handful of industries, including transportation and warehousing; accommodation and food services; health care and social assistance; and retail trade. Applications in these industries remained elevated in 2022, while numbers fell back towards or below prepandemic levels for several others.
- The business formation gains extend across every state to varying degrees, led by Southern states as well as the traditional incorporation hubs of Wyoming and Delaware.
Introduction
Business formation remained exceptionally strong in 2022 despite economic headwinds from inflation and lingering supply chain issues. Nearly 1.7 million applications to form new businesses likely to hire employees were filed in 2022—the second most of any year on record. This figure represented a 27.8 percent increase from 2019, reflecting how the pandemic jumpstarted a prolonged and unprecedented period of business formation across the United States. When including businesses not likely to employ others, last year’s total climbs to 5.1 million applications, based on data from the U.S. Census Bureau’s Business Formation Statistics (BFS).
This dataset provides a timely and forward-looking indicator of economic activity. Even though recession concerns are mounting, the country’s entrepreneurial resurgence appeared robust heading into the new year. To be sure, it takes time for an application for a new Employer Identification Number (or EIN, the underlying variable tracked here) to actually turn into a new business, and only a fraction of applications typically complete the journey. But the durability of the surge suggests that it is capturing a true renaissance in entrepreneurial activity across the United States after the pandemic upended many pillars of the economy.
Here we highlight several major takeaways for business formation that defined 2022. We focus on applications from likely employers, and most comparisons are made relative to 2019 in order to explicitly highlight how the pandemic-era economy has dramatically differed from prior trends.
Likely employer business applications were up nearly 28 percent relative to before the pandemic, although down slightly from the 2021 peak.
Americans filed nearly 1.7 million applications to start new likely employer businesses in 2022. These applications—labeled “high propensity applications” by the Census Bureau—make up a subset of total business applications, capturing those with a higher likelihood of hiring employees in the future based on their industry or other information in the filing. Over the course of the year, there were 359,000 more filings from likely employers in 2022 than in 2019—a 27.8 percent increase over the prepandemic baseline. While 2022’s count was 6.5 percent lower than 2021’s, it still ranked as the second largest haul of the series. These applications are particularly noteworthy because they represent the businesses most likely to lead to lasting job growth and innovation, if and when they become operational.
Monthly business formation rates held steady over the year.
Despite the modest year-over-year drop, 2022 was not a period of continuous decline presaging a downward drift in applications or a recession. Rather, the number of applications showed remarkable stability on a monthly basis over the course of the year—filings averaged around 137,600 per month after adjusting for seasonal variations, or about 30,000 higher than in the year before the pandemic. On a year-over-year basis, the number of business applications filed in December 2022 was nearly equal to the number filed in December 2021.
Amid supply chain disruptions, threats from inflation, and concerns about a coming recession that plagued much of the economy, the steadiness in application levels exhibited over the course of 2022 offers optimism that the pandemic may have delivered a lasting, positive shock to American entrepreneurship. All together, more than 4.5 million applications to form likely employer businesses have been filed since the onset of the pandemic, and more than 14 million applications when including solo enterprises and likely non-employers.
The national boom in applications is supported by a continued strength in several large sectors even as others revert to prepandemic levels or below.
The modest but virtually across-the-board cooling in applications saw counts fall back to earth in certain industries even as they remain high in others. Almost three years on, applications remain most elevated in several industries that were highly disrupted by the pandemic. Even in 2022, new likely employer business applications stood well above 2019 levels in transportation and warehousing (+51 percent), accommodation and food services (+50 percent), health care and social assistance (+32 percent), and retail trade (+29 percent). New businesses are still in the pipeline in these sectors, implying that their adaptation to a new normal continues.
The pandemic-era boom in business applications has mostly faded among some other industries, however. Likely employer business applications in the manufacturing, information, and arts and entertainment industries all ended 2022 less than 10 percent above prepandemic levels. Likely employer filings fell below 2019 totals in the educational services, wholesale trade, and agricultural industries last year, all of which generally saw less of a boom in 2021 than others. In the end, out of the 19 major industry sectors that comprise the BFS data, 11 ended 2022 significantly above 2019 levels, four approached 2019 levels (less than 10 percent above), and four were at or below prepandemic levels.
Primarily Southern states led the nation in application growth.
Likely employer applications closed out 2022 above prepandemic levels in every state. The South as a whole led the nation, where filings were up by more than one-third over 2019 levels. By comparison, the Northeast saw the smallest regional increase of only 20 percent over the same period.
At the state level, Wyoming (+76 percent) and Delaware (+69 percent) have long been preferred states for business incorporation and have led the nation in growth during the pandemic, as well. Three other states that surpassed a 50 percent jump in applications—Mississippi (+67 percent), Alabama (+53 percent), and South Carolina (+51 percent)—are all in the Southeast. Elsewhere, states that experienced more modest increases in business applications in 2020 and 2021 ended last year closest to their prepandemic baselines, including Alaska (+5 percent), the District of Columbia (+5 percent), and Washington state (+13 percent).
Economists are still trying to identify a unifying theory to explain why these leaders and the social and economic conditions are feeding into the surge in entrepreneurial activity in these places. For example, population growth could explain why the South leads in general, but not the leading states specifically. Were particular demographic groups especially likely to become entrepreneurs? (All three leading Southern states have large Black populations, a demographic that has seen strong growth in the number of active business owners, for example.) Were lower-income individuals more likely to self-incorporate? (All three leading Southern states have high poverty rates, too.) Might tax and other policy, regulatory, or state- or region-specific factors explain the trends? Or did their relative insulation from the initial outbreaks of COVID-19 position them best to ride the entrepreneurial wave that would come? The results are not in yet.
It is also noteworthy that the explosion in business applications did not significantly reorder the ranking of top states in per capita terms over the course of the pandemic. Among the top ten states for likely employer applications per capita in 2019, all but one remained in the top ten in 2022. Only Mississippi (ranked 22nd in 2019) managed to crack the list, demoting Utah—traditionally a leader in startup activity given its economic orientation and rapid population growth.
A promising development or an alluring mirage?
The two big questions presented by these data are: how many of these new business applications will indeed turn into genuine employer enterprises, and how economically significant will they be? Answers to these questions will emerge over time. The first hint will come in the fall of 2023, when the Census Bureau releases authoritative counts and employment figures for the firms that started in 2021.
Before then, we can extrapolate across related data to find corroborating evidence that the surge is real and significant. A look at data from the Quarterly Census of Employment and Wages (QCEW) that tracks the number of active, physical business locations largely supports the story in the BFS. In the two years prior to the pandemic, the total number of business establishments in the country increased by 4.8 percent. In the two years since (2020 Q2 to 2022 Q2), the number has risen by 10.7 percent, or more than twice as quickly. Just as in the business formation data, the South has also seen the largest increase in the number of actively operating business locations since the pandemic began. Some of these will be new branches of existing firms; others will be new enterprises altogether.
Similarly, a recent paper by Ryan Decker and John Haltiwanger of the Federal Reserve and University of Maryland, respectively, find that trends in new business applications–especially new likely employer business applications–closely track trends in worker flows and new establishment openings, including across geographies. Another novel Census Bureau dataset looks at “single-unit firms,” or firms that have only one establishment (and therefore more timely data available), to find that the number of such firms in the economy reached all-time highs in the fourth quarter of 2020, after business applications began spiking that summer. In other words, the available evidence suggests that these trends are indicative of genuine entrepreneurial activity.
Why do these questions matter? The economic significance of these business applications lies in what they signify is to come. Applications themselves are only paper, but historically a stable fraction of them go on to become genuine employer businesses (the “likely employer” subset studied here) on a relatively predictable timetable. These data therefore provide a very early signal of potential job growth in the works. Recent work by Jose Asturias and colleagues at the U.S. Census Bureau finds that historically, business applications are strongly predictive of changes in total U.S. payroll employment 11 months down the road—providing earlier insight into where the economy is headed than nearly any other principal economic indicator the federal government produces. Startups also play a critical role in fostering innovation and driving productivity advances. The surge in promising new business activity could then herald greater productivity growth and a healthier economy in the coming years, too. And as tech firms lead a cycle of layoffs among established enterprises, these startups could play a vital role absorbing displaced workers and preventing or shortening a jobs recession.
However, questions remain about whether the nature of this economic indicator changed characteristically with the pandemic. Are more people filing business applications for enterprises with no aspirations to hire others? Might the newest cohort of firms in the pipeline start and stay smaller (with fewer employees) than prior ones? There is a person behind each application, too; are personal circumstances or preferences changing such that people are less likely to stick with the firms they formed in the depths of the pandemic as lives settle into new normals? We are not yet able to answer these questions.
A final concern exists around survival. New businesses are notoriously vulnerable. Even in good years, roughly one out of every seven firms that are under five years old shut down; in bad years (e.g., 2009) the figure climbs towards one out of every five. Businesses that launch in recessions tend to be permanently scarred by them, too, starting smaller and experiencing lower growth trajectories than those that launch in better times. As the Federal Reserve continues tightening monetary policy and the probability of a recession rises, many of these new businesses—a significant chunk of which were likely founded by first-time entrepreneurs—may not survive.
These concerns aside, the boost to entrepreneurship observed since 2020 and maintained through 2022 offers reason for optimism about the direction and future health of the economy. The nature and long-term impacts of the boom will become clearer over time, but this surge of supply-side experimentation suggests that the pandemic rekindled American economic dynamism at least to some extent—a silver lining worth nurturing with supportive policy.
