Western States Boast the Country’s Most Dynamic Economies
Key findings:
- Economic dynamism fell by 31 percent in the average state over the Great Recession. A decade later, it had only recovered by 6 percent.
- The average state in 2020 was little more dynamic than the worst-performing state in 1994, the index’s peak year.
- Eight of the country’s top 10 most dynamic state economies are in the West, led regionally by Utah, Idaho, and Colorado. Delaware topped the index overall.
- The country’s least dynamic states tend to be concentrated in the eastern heartland, with West Virginia ranking lowest.
- The average level of state dynamism declined from 2019 to 2020, hitting an all-time low in 12 states.
- Seven of eight component measures of the Index of State Dynamism score have declined over the past three decades in the average state, with patenting rates the lone bright spot.
American economic dynamism suffered such a blow with the Great Recession that most states have barely recovered a decade later. The average state’s score on EIG’s Index of State Dynamism (ISD), which tracks performance across eight different measures from 1992 to 2020, fell by 31 percent from 2006 to 2009. At its lowest point, state dynamism stood 37 percent below its peak in 1994. Dynamism scores would recover by only 6 percent over the 11 years to 2020, the eve of the coronavirus pandemic and the year with the latest available data on the index. To put the magnitude of the decline into context, the dynamism score of the average state in 2020 would have ranked second-last in 1994.
Economic dynamism refers to the degree of productive churn and adaptiveness across an economy’s industries, geographies, and labor market. Key indicators of dynamism include the rates of business formation and closure, the frequency at which workers quit and switch jobs, and the propensity of workers and families to move to new locations—all concepts captured in the ISD. Dynamism is more than simply “disruption”; it relates to the economy’s ability to efficiently redeploy its resources to more productive and innovative uses over time. A less dynamic economy tends to be less resilient to shocks, less adaptive, and poorer in opportunity over the long term. A more dynamic economy, in contrast, is more likely to successfully navigate change, integrate new ideas and technologies, and secure economic well-being for its residents.
Among the components that make up the index, overall scores are most strongly related with the core startup rate, or the rate of new firm formation in key sectors. Dynamism’s decline has therefore tracked the economy-wide fall in the startup rate, which reached record lows in the wake of the Great Recession alongside supporting contributors to dynamism such as the interstate migration rate. Startups’ importance lies with the economic processes that new firms kick off: disrupting labor markets, stoking competition, driving net job creation, and creating new industries. We lay out the full national picture in The Case for Dynamism, a companion report to the ISD.
Western states dominate the top of EIG’s Index of State Dynamism
Eight of the nation’s top 10 most dynamic state economies are in the western half of the country. Utah is the top-scoring state in the region and second nationally, immediately followed by Idaho and Colorado. Delaware leads the index, however, rocketing up 12 places from the prior year and into the top spot on the back of exceptionally high startup activity in 2020. The state’s strong performance was broad-based and boosted by strong in-migration and housing starts, while its role as a favored hub for business incorporation likely contributed to its leading position entering into that year of economic disruption. Washington, DC, is the only other non-western jurisdiction to land in the top 10, capping off an exceptional rise from the very bottom of the rankings in the 1990s and early 2000s. The District’s new-found strength is fueled by the nation’s highest labor force participation rate and ample issuance of new housing permits. In general, leading states score highly across the index’s component measures, as different elements of dynamism reinforce each other.
The South Atlantic is another highly dynamic region, with Georgia, Florida, and South Carolina standing apart from their neighbors. Along with Texas, these states tend to benefit from high startup rates and growing populations. A handful of northeastern states also demonstrate above-average levels of dynamism. Led by Massachusetts, otherwise-middling scores in these states tend to be buoyed by high patenting rates, attesting to their strength in innovation. Minnesota stands out as the only heartland state to exhibit above average levels of dynamism, placing 16th nationally, thanks to high levels of patenting and labor force participation.
Among the four most populous states, California and Texas have managed to sustain their relative strength over the past decade, while Florida and New York have seen their standings erode—quite significantly in the case of New York. California leads the group as the fifth most dynamic state nationwide, holding a two-place advantage over Texas. Both states have high startup rates and relatively large shares of their workforces in young firms. California leads the nation in patenting, while lagging behind on migration and housing permits—a strong contrast with Texas, where housing is its best performing component of dynamism.
Meanwhile, Florida and New York both declined in the overall ranking over the same period. At 12th place, Florida fell out of the top 10 from 2019 to 2020 for the first time since the depths of the Great Recession. It trails the nation on measures of innovation (patenting) and labor force participation. New York’s dynamism score reached an all-time low in 2020, and at 33rd, the state registered its worst ranking since 2007 thanks to some of the country’s lowest rates of firm growth, migration, and housing production. New York’s core startup rate has also fallen significantly—dropping from fourth highest nationally in 2010 (reflecting the state’s relative resilience in the depths of the Great Recession) to 19th in the latest data.
Higher-scoring states are more likely to have fast-growing populations
Although many factors contribute to the underlying dynamism of an economy—from regulations and institutions to capital ecosystems and the risk tolerance or entrepreneurial energies of its people—one thing highly dynamic states tend to have in common is strong population growth. The direction of causality is difficult to tease out, however, because the two phenomena reinforce each other. Many of the country’s most dynamic states are adding residents at a rapid clip, and population growth spurs economic dynamism by ensuring a steady supply of new workers, consumers, and entrepreneurs who fuel the local economy with new ideas and investment. In turn, dynamic economies encourage population growth by creating new jobs, industries, and opportunities.
Population growth from 2010 to 2020 exhibits a fairly strong correlation with 2020 dynamism scores—a relationship that is tighter than those between dynamism scores and educational attainment, incomes, or poverty rates. Population growth alone is not what fosters dynamism, of course—California and Delaware are states whose dynamism scores are much higher than their population growth rates would predict—but healthy population growth makes maintaining a dynamic economy easier. Population loss, for its part, saps economies of their dynamism by removing human capital and shrinking the local marketplace, disincentivizing further investment. As the nation’s population growth slows, more states may begin to feel the drag.
Dynamism lags in the American heartland
Just as the country’s state dynamism leaders exhibit a starkly regional pattern, the worst-performing states tend to cluster in the center of the country. The pattern aligns closely with the geography of the so-called “eastern heartland,“ which generally follows the Ohio and Mississippi River basins and includes states where numerous social and economic indicators tend to trail behind the country overall. West Virginia is the country’s lowest-performing state, a position it has occupied for all but two years since 1992. Mississippi and Hawaii follow. Within the West, New Mexico stands out as a low-dynamism outlier, consistent with its chronic underperformance relative to regional peers across economic indicators.
Low-scoring states tend to be more rural or reliant on a limited set of industries—several natural resource-based—to power their economies. From Alaska to West Virginia, these industries tend to offer poor foundations for economic diversification, and remoteness combined with rurality make sustaining dynamism difficult. Just as positive economic outcomes can be reinforced in more dynamic economies, dynamism laggards often trail on other measures linked to economic performance, such as educational attainment and poverty rates. The pace of economic churn and change is lower in these states, and as a result, residents have less opportunity.
Most states entered the pandemic with dynamism at or near record lows
States entered the pandemic-era with dynamism hovering near a low ebb, as the average state dynamism score was more than 30 percent lower than in the early 1990s. The bulk of that decline occurred with the Great Recession, during which most indicators fell precipitously and failed to fully recover. Following a marginal improvement in the mid-2010s, the average state’s dynamism score declined again from 2019 to 2020, when 12 states hit an all-time low. Annual scores were pushed lower that year mainly by a decline in labor force participation and a contraction in the total number of firms in the economy.
A handful of states have managed to register relatively strong dynamism recoveries since the Great Recession, however, even as others continued to deteriorate. In 2020, two places scored above their pre-Great Recession (2006) levels: Delaware and Washington, DC. Elsewhere, dynamism scores in 10 states had rebounded within 20 percent of that benchmark, including California and Texas. However, the three worst-scoring states in 2020—West Virginia, Mississippi, and Hawaii—were also the furthest from their pre-Great Recession levels of dynamism.
Unpacking the topline ISD score reveals regional strengths on the component metrics
A majority of the underlying component metrics that make up a state’s ISD score have weakened over time, but pockets of strength remain, and there is a distinct regional pattern to the map of each state’s strongest component metric.
The core startup rate, whose statewide average hovers around 25 percent below its 1995 peak, has been one of the most consequential drivers of falling U.S. dynamism, and the resulting loss in new business formation has contributed to the decline in the average share of jobs in young firms as well. Today, many states that manage to perform well on these startup-related metrics—both overall and relative to their other component metrics—tend to be experiencing strong population growth. This is true for Florida, Georgia, and North Carolina, where the core startup rate is the strongest measure relative to average, and for Colorado, Montana, and Nevada in the booming Mountain West, where the share of jobs in young firms scores relatively highest. New York and New Jersey, among others, saw their relative performance on the young firm share of jobs improve over time, helping it emerge as their states’ biggest strength.
The financial crisis that sparked the Great Recession originated in the housing market, and one of its legacies was an overall dropoff in new housing construction nationally. Only Washington, DC, Delaware, Montana, South Dakota, and Nebraska permitted more housing units per capita in 2020 than in 2006. Although the total number of permits nationwide remains roughly 500,000 units per year lower than before the crisis, the number has slowly increased over the past decade, reaching its highest level since the Great Recession in the latest data. States with elastic housing supplies in the Mountain West and southern growth hubs like Texas and Tennessee register their strongest relative performance on housing permits per capita, signaling an ability to absorb new residents and grow their economies.
The only component metric to buck the general trend of decline over time is the number of patents issued per capita, which has risen in all but four states since 1992. The group of patenting leaders has been relatively stable over time, and the component lifts dynamism scores most on the high-tech Pacific Coast and in New England, as well as some less-expected places like Minnesota (led by medical devices) and Michigan (automotive).
Elsewhere, labor force participation is relatively stronger in the high-employment regions of the Great Plains and Mid-Atlantic. Several relatively low-dynamism states register their strongest performance on net migration. This generally testifies to their weaknesses on other measures: most of these states lag on every indicator, but lag least on this one.
Where will dynamism head from here?
Dynamism’s decade-long stall following the Great Recession provides essential context for understanding how the U.S. economy is changing again in the wake of the coronavirus pandemic. Early evidence suggests that the pandemic delivered a strong pro-dynamism shock, as labor markets tightened and applications to start new business reached record highs. Shifting migration patterns and record quits all point to rekindling churn under the surface of the American economy. However, the magnitude and geography of these developments are still uncertain—not to mention their longevity and durability. For example, Americans moved to a wider range of places during the pandemic, but no more of them picked up and moved in the first place. Thus, dynamism likely ticked higher in 2021 and 2022 in most states, but it is too soon to tell whether the stagnation that set in following the Great Recession has lifted. The Index of State Dynamism will be updated annually to track these trends and follow the evolution of American economic dynamism, with the next annual update (with the release of data for 2021) expected in fall 2023.
Explore each state’s performance on the ISD here.
