Signs of a global economic downturn are growing by the day. Inflation is still rising, debt is up and rates of interest are up, which means that projections for growth are down. Quite simply, the proverbial something is near to hitting the fan.
Business closures and job losses will probably become another hurdle for the global economy – which points to rising unemployment. Yet, while most people would think of rising unemployment like a bad thing, some economists don't entirely agree.
Economists have long pointed to a counterintuitive positive relationship between unemployment and entrepreneurship, born to the fact that people who lose their job often start businesses. This could be known within economic literature as necessity-based or push-factor entrepreneurship.
Where it gets tricky
There is certainly good evidence for that existence of this contradictory relationship. The graph below shows the rates of UK business creation in blue and unemployment in red. As you can tell, unemployment began to increase during the global financial crisis of 2007-09 and business creation followed not long after.
UK new business creation and unemployment, 2006-2023
This relationship between business creation and unemployment has previously been used by some as a justification for cold social policies for the unemployed around the rationale that “the market fixes itself” in the long run. They see business closures and job losses not as human miseries that need government help, but necessary evils that are needed to reallocate the cash, people and other resources back into the economy in more efficient ways .
But my latest research has discovered that rising unemployment isn't quite the silver bullet for reigniting the economical engine that it's cracked up to be. I checked out 148 regions across Europe from 2008 to 2023. Although I did find evidence that unemployment can stimulate business creation with time, this only seems to take place in higher performing regions within higher performing economies such as the Netherlands, Finland and Austria.
In lower performing regions within lower performing economies such as Bulgaria, Romania and Hungary, the relationship between unemployment and business creation actually appears to be negative. In other words, rather than inducing business creation, unemployment simply appears to result in more unemployment.
The reason why higher performing regions in wealthier areas possess a positive relationship between job losses and business creation is that they enjoy what are known as “urbanisation economies”. They are positive benefits derived from the size and density of monetary activity occurring within that area, including wider arrays of services, greater pools of consumers and greater numbers of transactions in accordance with other areas of the economy.
For example, a firm located in a capital city like London may benefit from more abundant use of consumers, suppliers and lenders as well as larger labour pools. The larger population density in these areas also causes it to be more likely that firms and workers will become familiar with faster because they take notice of the activities of their many neighbours. In additional peripheral areas with fewer of these characteristics, the opposite holds true. This is why unemployment affects different places differently.
What it means
One consequence is that economists have to stop explaining how economies perform differently based solely on national factors. And it is not just unemployment where this becomes apparent. For instance, Ireland's longstanding low rate of corporation tax (12.5%) continues to be cited like a reason behind its high foreign direct investment, which makes up about roughly 20% of non-public sector employment.
Yet while approximately 43% of all Irish enterprises in 2023 were located in either Dublin or Cork, counties like Leitrim within the north accounted for less than 1% of enterprises. So while national measures can help induce entrepreneurship and boost the overall size of the pie, the pie is shared very unequally. Just as rising unemployment may benefit some areas while hindering others, the same is true of government interventions.
We therefore have to stop viewing the disposable market and government intervention as either wrong or right. In some contexts the first is likely to be more helpful, during other contexts it will likely be the opposite. Recognising this reality would enhance a lot of the polarised debate in politics and economics, in which those found on the right can come across as cold and ignorant, while those on the left can feel self-righteous and sanctimonious, viewing capitalism and markets as dirty words.
How does this affect today's gathering downturn? It might make sense for governments to prioritise supporting businesses in more peripheral regions, while leaving those in wealthier urban areas to look after themselves.
The famous economist John Kenneth Galbraith gave things i believe to be one of the best pieces of commentary on this topic, saying:
Where the marketplace works, I'm for that. Where government is necessary, I'm for your – I'm in favour of whatever works in the particular case.
If we're to survive this upcoming recession and get things going again, we are going to need to acknowledge that centralised “one-size-fits-all” policies won't be useful everywhere. The resolution to economic recovery have been in some cases government intervention and in others the disposable market, but not always either.
This article is republished from The Conversation. Read the original article.
