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The role of business subsidies in job creation of start-ups, gazelles and incumbents

Abstract

This study contributes to the empirical literature concerning the role of business subsidies in job creation. Our empirical analysis, using an extensive firm-level data, suggests that the impact of business subsidies on employment growth differs more between high-growth start-ups and other firms than between start-ups and incumbents. On average, all subsidies relate positively to the contemporary employment growth for both start-ups and incumbents. Furthermore, after subsidy reception, the employment of both start-ups and older incumbents receiving employment or other subsidies grows more than that of non-subsidized firms. However, we find that business subsidies do not provide a significant additional boost to either contemporary or after-subsidy growth for young high-growth companies. There are apparently some other factors that promote growth in young high-growth firms; these factors help foster strong growth in many cases with or without subsidies.

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Notes

  1. 1.

    The Ministry of Employment and the Economy (2011), using the OECD definition of high-growth firms, find that in Finland only about 5% of the firms employing at least ten employees in 2006 and operating the whole period of 2006–2009 could be classified as high-growth firms. However, their share of new job creation during this period was nearly 50%.

  2. 2.

    For instance, in Finland, the Ministry of Employment and the Economy has a separate group in its innovation department focusing on high-growth firms. The web page of the ministry defines this policy target as follows: “One of the Ministry of Employment and the Economy’s group strategic policies is to promote new, growing and internationalising business activity. Practical tools for implementing this include business services that support growth, economic incentives and well-functioning venture capital markets” (http://www.tem.fi).

  3. 3.

    See article 107 of The Treaty on the Functioning of the European Union.

  4. 4.

    Another justification for business subsidies, though not only concerning young companies, is externalities. It seems justified to provide support for R&D projects in which the benefits might spill over to other companies. In this case, though it would not be profitable for an individual firm to undertake the project without public support, the social benefits of the project exceed its costs.

  5. 5.

    In Finland, for instance, R&D subsidies targeting young, growth-oriented companies can only be applied for by firms that are under 6 years old.

  6. 6.

    We also run regressions using the other commonly used threshold for gazelles: 5% fastest growing firms.

  7. 7.

    Finnvera is a specialized public financing company owned by the State of Finland. It offers loans and venture capital investments, and it is the only public provider of guarantees in Finland.

  8. 8.

    The Ministry of Employment and the Economy was established in the beginning of 2008 as a merger of two ministries, the Ministry of Trade and Industry and the Ministry of Labor. Prior to 2008, our data comprises the total public support of the two merged ministries.

  9. 9.

    Source: Scoreboard data on state aid expenditures; http://ec.europa.eu/competition/state_aid/studies_reports/expenditure.html.

  10. 10.

    A longer period of unemployment and a lower level of education increase the amount of the subsidy a firm can obtain for hiring a person.

  11. 11.

    “Small and medium-sized companies can obtain special funding for the procurement of expert services to support innovation activities and young innovative companies can obtain funding for growth and internationalisation.” Source: http://www.tekes.fi/en/community/Means/556/Means/1427.

  12. 12.

    Financing of start-up and growth companies is also an important part of Finnvera’s mission: “Finnvera's operations are steered by the industrial and ownership policy goals laid down by the State. Among these goals are: increasing the number of starting enterprises; enabling financing for changes encountered by SMEs; and promotion of enterprise growth, internationalisation and exports” (http://www.finnvera.fi/eng/Company/Finnvera-in-brief).

  13. 13.

    Business subsidies may be endogenous, for example, due to the employment goals and picking-up-the-winners strategies of those who make subsidy decisions. We tested endogeneity of the three subsidy variables using as an instrument the total annual subsidy budget for each type of subsidy a firm applied for. We first estimated a model that explains the potentially endogenous variable with all exogenous variables and instruments. The saved residual from the estimated model was subsequently included as an additional explanatory variable in the model explaining employment growth as a function of the set of exogenous and potential endogenous variables. The estimated coefficient for residual was statistically significant in the cases of all three subsidy types.

  14. 14.

    For industrial companies, the deflator is a producer price index (PPI) at the 2-digit level. For service firms, as we lack information from various service sectors and, as approximately 70% percent of GDP comprises services, we use the GDP deflator to deflate the sales of service firms.

  15. 15.

    It can be argued that firms are in a continual struggle to grow, and only those with superior financial performance will be able to gain additional market share; see, e.g., Dosi et al. (2008), Marsili (2001) and Metcalfe (1998).

  16. 16.

    For instance, if a firm has applied for only loans, the variable total R&D subsidy takes the value of the total government budget of R&D loans for the given year.

  17. 17.

    To check robustness, we further replicated the estimations among the 5% fastest growing start-ups. The signs and statistical significance of the estimated coefficients for the business subsidy variables were similar to those among the 10% fastest growing start-ups.

  18. 18.

    See Appendix 2 for detailed tables of the difference-in-differences estimation results.

  19. 19.

    Detailed results of the estimations are presented in Appendix 2.

  20. 20.

    The estimation results are not reported in this paper but are available from the authors.

  21. 21.

    In general, there is some empirical evidence that the growth rate of labor productivity is higher in entrepreneurial and small firms compared to other firms (see, e.g. Brouwer et al. 2005 and Disney et al. 2003; see also van Praag and Versloot (2007) who do a review of recent empirical research on the value of entrepreneurship).

  22. 22.

    R&D subsidies and the group of other subsidies neither had any robust effect on labor productivity growth in these two estimation samples.

  23. 23.

    Interestingly, the literature concerning entrepreneurship and credit constraints also states that new firms are credit constrained, not necessarily growing firms in particular (see, e.g., Evans and Jovanovic 1989; Hurst and Lusardi 2004; Taylor 2001). We thank an anonymous referee for this observation.

  24. 24.

    The characteristics of growth-oriented start-ups in Finland have been described, for example, in Pajarinen et al. (2006).

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Acknowledgments

The authors are grateful for the Ministry of Employment and the Economy for its financial support. The authors want to thank two anonymous referees for their constructive and helpful comments. This research is also a part of the ongoing collaboration of BRIE, the Berkeley Roundtable on the International Economy at the University of California at Berkeley, and ETLA.

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Correspondence to Heli Koski.

Appendices

Appendix 1

See Table 7.

Table 7 Description of the variables in two-stage least squares random effects model

Appendix 2: Difference-in-differences estimation results

See Tables 8, 9, 10, 11 and 12.

Table 8 The estimation results of the difference-in-differences models for employment: start-ups that are up to 2 years old
Table 9 The estimation results of the difference-in-differences models for employment: start-ups that are up to 5 years old
Table 10 The estimation results of the difference-in-differences models for employment: gazelles that are up to 2 years old
Table 11 The estimation results of the difference-in-differences models for employment: gazelles that are up to 5 years old
Table 12 The estimation results of the difference-in-differences models for employment: Incumbents

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Koski, H., Pajarinen, M. The role of business subsidies in job creation of start-ups, gazelles and incumbents. Small Bus Econ 41, 195–214 (2013). https://doi.org/10.1007/s11187-012-9420-5

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Keywords:

  • Public subsidies
  • Enterprise policy
  • Industrial policy
  • Technology policy
  • Employment
  • Growth

JEL Classifications

  • J23
  • L10
  • L53
  • O25
  • O33
  • L26