Is small business still America’s backbone?

How mom and pop contribute to the economy.

By Ashley Milne-Tyte

Large businesses may collectively bring in trillions of dollars a year, but the lure of small business ownership still has a powerful hold on the American imagination. And small businesses still have a powerful influence on the economy.

When most of us think “small” we think of a mom and pop store or a family-run company with a handful of loyal workers. But the Small Business Administration defines a small business as any firm with fewer than 500 employees. That’s the vast majority of employer firms in the country—99.7 percent, to be precise. Of the 27.5 million businesses in the United States, only around 18,000 are large businesses.

Still driving the economy?

According to the government, small businesses employ about half of the private sector workforce, and over the past couple of decades, they have generated 65 percent of new jobs. All of which seems to support the common assertion that small business is the backbone of or the engine that drives the American economy.

In recent years, though, there’s been some serious engine trouble. According to a Brookings Institution report earlier this year, by 2011 the number of startups had fallen more than 23 percent from its height in 2006. And between 2007 and 2009, business bankruptcy rates more than doubled, with 60,000 businesses going bust in 2009—most of which were small businesses.

The reasons for such a rapid fall in small businesses’ fortunes come down to this: Since the downturn began, consumers and banks just haven’t been handing money over the way they used to.

Molly Brogan is vice president of public affairs for the National Small Business Association of America. “We started hearing, after the markets collapsed in 2008, that a lot of small businesses had their credit limits cut, so [they might have gone] from $20,000 down to $10,000 through no fault of their own,” she says. Some members are now reporting it’s getting easier to find a loan.

For many, fewer loans has meant less ability to invest in the business and to bridge the gaps between billing a client, getting paid for services and paying a supplier or employees. Then there’s the fact that customers haven’t been buying the way they once did. Brogan says the collapsing housing market plays a role here too, as it has done in every other aspect of the economic drama.

“A third of our members used their home mortgage to leverage business financing,” she explains. So when that home became worth less than what the owner owed, that route to capital shut down.

Business consultant Nick West works with small businesses including graphic design and construction firms. “Businesses that three or four years ago were doing $500,000 to $800,000 a year [in revenue] are now finding they’ve dropped back to $250,000 or $300,000, so there has been this massive reduction in the market,” he says. “Some of what I do at the moment is damage limitation, making sure these businesses continue to service the debt they have and don’t go under.”

There is a bright side, however. The latest data show that things are gradually improving: The number of startups is edging up and business bankruptcies are declining.

The lure of small business

While many businesses struggle and others have closed their doors, some people see this as a perfect time to start their own venture. Sometimes they have no choice.

Dennis Ceru is a professor of entrepreneurship and business strategy at Babson College in Massachusetts. He says “necessity entrepreneurs” pop up during dark economic times. “When unemployment is high and the economy is weak, people develop entrepreneurial activities because they have to.”

But he doesn’t believe this type of small business can be considered an economic engine. He points out that of the 27.5 million businesses in the United States, only 6 million have any employees at all. That leaves approximately 21 million sole proprietors toiling away with perhaps just a contract employee or two to help.

Ceru, a longtime entrepreneur himself, says being a small business owner has held the same allure for generations. “It’s the flexibility and the control. By definition, you are involved in every aspect of the business, so you have your pulse on all of it.”

Reporting requirements are also less onerous for small businesses, and they receive less oversight from government agencies than large corporations (even if the owner has to take care of all that compliance single-handedly).

Running down a dream

While it can be argued whether or not small businesses fuel the American economy, it’s hard to deny that they fuel the American dream for many entrepreneurs, even in tough times. Ned Wight of Portland, Maine, recently went into business for himself, but not out of necessity. A former brewer, he’d been dreaming of opening a distillery for more than 10 years. Planning it, talking about it, but finding it difficult to step off the ledge into the unknown. He had a steady job with benefits at a biotech firm and was the main breadwinner for his family. He was terrified of giving it all up. But early in 2011, everything changed.

“I went out and got a loan and ordered a still [where the distilling process takes place]. I signed the paperwork on the loan. Before that, it was easy to walk away. But once I actually signed the loan and placed the order for the still, I had people I was obligated to—investors, the bank. Suddenly I had to meet these obligations.”

Several months later, he quit his job and jumped into New England Distilling full time. Today, he’s selling six to 10 cases a week of his rye whiskey, gin and rum to local bars and restaurants. His advantage over the big guys has much to do with how adaptable he is. “I’m able to be fairly nimble in terms of what I can produce and how flexible I can be about production. I can produce a variety of things on a very small scale and change relatively quickly if I need to.”

Wight recently hired his first employee and claims he’s far more relaxed despite working longer hours than he did in his old job.

“It’s fantastic to come to work every day doing something that I love,” he says. “It’s so exciting, I could work all day and all night. I could come in on Saturday and Sunday and be totally happy. I love it.”

Ashley Milne-Tyte is a New York-based writer and reporter who specializes in communication issues. She has written for The Wall Street Journal, the New York Daily News, Financial Times and Independent (London). She has reported on numerous aspects of business and the economy for public radio’s Marketplace.