The future small business workforce: will labor shortages exist? The available evidence is less than perfect

Business Economics, Oct, 2004 by Bruce D. Phillips

Several economic and demographic trends make it unlikely that small business owners will face future labor shortages. This is due to three factors: postponing the retirement of current workers, the continued influx of immigrants, and an increase in self-employment as potential retirees become small business owners and/or consultants. While the aggregate data do not suggest general labor shortages, migration patterns suggest spot shortages in specific industries and in specific parts of the nation. Two other factors may increase future small owner costs: increases in the demand for benefits by older workers and employer liability issues that will increase already expensive liability insurance.

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During the next decade, there will be major demographic shifts in the workforce as the baby boom generation begins to retire. The rate of growth of the labor force will decline, and the supply of labor for small firm owners will be smaller and more diverse. The labor force will grow about 1.1 percent a year from 2002-2012, compared with rates in excess of 2.0 percent annually during the 1970-1995 period (Horrigan, 2004). About twenty million additional new workers will be needed by 2012, according to the Bureau of Labor Statistics. When replacement workers, who will be retiring before 2012, are also included, the total number of new job openings will approach 56 million.

Future employees are likely to be either under 30 years old or over 50 years old. This is the case because workers 30-44 years old are expected to shrink by over three million by 2010. (1) What does this mean for owners of small firms looking for either entry-level or more experienced workers?

Much has been written about the changing labor force. According to Heet (2003), new labor force entrants are likely to be immigrants or the offspring of recently arrived immigrants, particularly Asian and Hispanic workers. (2) Because the growth of the labor force has slowed, a rapid increase in the demand for labor may mean a return to labor shortages unless there is a significant increase in employed immigrants. (3) Similarly, labor force participation rates of persons with disabilities may also have to rise to avoid future labor shortages.

The purpose of this paper is to explore how small firm owners will avoid potential labor shortages during the next decade. Four scenarios are explored below:

1. Increases in the labor force participation rate (LFPR) of the baby boom generation will increase labor supply. Increases are being driven by insufficient saving. The lack of retiree health benefits and pensions will cause workers to postpone retirement. Many are likely to move to small employers because of increased flexibility.

2. Spot shortages will occur in rapidly growing sectors--especially in labor-intensive construction and in manufacturing sub-sectors now dominated by small businesses. It may be especially difficult to find unskilled workers in some industries and in some rural areas.

3. Future immigration--at about the current rate--will continue during the next ten years. Many of these immigrants will be employed in small firms, but mismatches are likely between the skills required for various jobs and the education and skills of immigrants.

4. Small business owners may use more semi-retired, self-employed persons or leased employees to avoid paying additional costly benefits, especially if the older workers are already qualified for Medicare.

Before proceeding, several definitional clarifications/assumptions are needed:

1. Small firms have fewer than 500 employees (Small Business Administration 2002 definition). Seventy percent of these firms, however, have fewer than ten employees; and 90 percent have less than 20 workers.

2. In this paper, "older workers" generally refers to male workers 65 years and over, and female workers 55 years and over. The mixed definition is based upon projected increases in the LFPR of these two groups.

3. It is assumed that federally mandated benefits such as Social Security and Medicare will not change dramatically during the next decade; nor will state mandated benefits such as Workers' Compensation and Unemployment Insurance eligibility.

4. New workers will include both entry-level immigrants and more experienced employees/managers who return to the work force from retirement.

5. The definition of "retirement" used in this paper is inclusive. It includes workers who voluntarily leave the labor force at the traditional age of 65, as well as transitions at an earlier age to a) employed part-time status, b) full-time self-employment (business formation), or c) part-time self-employment (consultants).

Potential Labor Shortages Will Vary By Industry

The Bureau of Labor Statistics (BLS) is projecting overall productivity (output per hour) to increase about 2.1 percent annually from 2002-2012, slower than the 1995-2001 rate of 2.3 percent, but above the 1.5 percent rate of 1990-1995 (Horrigan, 2004). For small business owners, it means that fewer workers may be required to produce the same amount of output in the future. (4)