Oct.12, 2010 -- New business creation dropped sharply in richer countries amid the global financial crisis, but didn’t change much in many lower-income countries, according to a new World Bank survey.
The trend in 2008-2009 was driven by the global financial crisis, which began in developed countries and hit them harder, according to the 2010 World Bank Group Entrepreneurship Snapshots. In particular, countries which were hit harder by the crisis suffered more severe declines in formal registration. In New Zealand, for example, 47,897 new firms were registered in 2009, a 35 percent drop from 74,247 in 2007. Bulgaria and Lithuania also saw drastic declines.
By contrast, registrations in many low-income countries, which were not as affected by the crisis, held up. That’s mainly because those countries tend to have lower rate of new business creation to begin with, and economic shocks there tend to bring smaller changes. It helped that some countries recently introduced new measures to modernize business registration. For example, new firm registrations increased to 610 in 2009 from 581 in 2007 in Burkina Faso, a land-locked developing country in West Africa that introduced one-stop-shop registration. Brazil and Morocco avoided a drop in registration as well.
“We are providing the first evidence that the recent financial crisis has caused a quick and sharp drop in the number of new registrations of limited-liability firms,” says Leora F. Klapper, who co-authored the report with Inessa Love, both senior economists at the World Bank’s Development Research Group. “The findings also suggest that dynamic business registration occurs in countries that provide entrepreneurs with reduced red tape and a stable investment climate.”
The report is important because U.S. Census data, among others, have shown that new businesses are an important source of gross and net job creation. “As countries struggle to spur job creation after the financial crisis, it’s more important than ever to create a stable legal and regulatory regime, flexible employment regulations, low corporate taxes, and less red tape in registration," says Asli Demirguc-Kunt, senior research manager at the World Bank's Development Research Group and chief economist of the Financial and Private Sector Development Network. "Dynamic business creation is still possible despite adverse macroeconomic conditions.”
The report, along with a companion searchable database, is based on data from 112 countries, mainly statistics collected directly from government registries. The survey, which has been conducted every two years since 2004, is funded by the Ewing Marion Kauffman Foundation.
There’s a caveat: the survey only covers the formal business sector, even though informal businesses make up a large share of the economy in less-developed countries. In addition, it focuses on limited-liability firms, instead of partnerships and sole proprietorships, whose definitions and regulation vary around the world.
The 2010 report charts how the financial crisis has affected new business creation. Registrations of new firms gradually increased from 2000 to 2007, but the trend was reversed at the onset of the crisis in 2008. New business creation slowed down, first in developed countries and then in the rest of the world as the crisis spread. In most lower-middle income countries, the number of new firm registrations dropped for the first time in 2009. By then, few countries were spared.
The data show that countries with higher GDP per capita saw sharper declines in new registration. But an even more significant indicator is the development of financial markets: countries where financial markets make up a bigger part of the domestic economy suffered larger drops in registrations during the crisis.
That’s probably because withdrawals of finances tend to have a large impact on start-ups when finance plays a larger role in the economy. But those countries have more business creation to begin with, mainly because access to financing makes it easier for entrepreneurs to start new businesses. In the long run, the authors argue, financial development offers more benefits than risks to business creation.
Indeed, more businesses are created in developed countries. Every year, an average of about four new companies per 1,000 working individuals register in industrialized countries, compared with less than one in low- and middle-income countries.
What spurs business creation? The report cites good governance, a strong legal and regulatory environment and reduced red tape. For example, the pace of new registration was the fastest where the cost of starting a business was the lowest.