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We seem to be entering the era of clunky.

A growing desire on the part of politicians and public to deal with inequality and the cost of living is colliding spectacularly with the impossibility of delivering tax and spend solutions. The result is politicians turning to the regulatory rather than the spending power of the state through things like crackdowns on executive pay, price freezes, changes to the minimum wage  and a general ramping up of the rhetoric against ‘predatory’ businesses that treat their staff and customers badly.

The problem with this drift is that the solutions tend to have unintended consequences which can often (particularly in the longer term) negate the very purpose for which they were designed. In other cases they simply fail to work as planned.

Playing around with the minimum wage, for example, always runs the risk of generating unemployment for the very people it is supposed to help. Controlling executive pay is becoming one of those knotty issues for which the blunt tools of government seem particularly unfit. And price freezes, as Ed Miliband is discovering, bring with them a wide range of troubling economic, legal and political questions.

A  less messy way through the dilemma could be to ensure that a larger proportion of our economy is delivered by small companies.

Currently around half of private sector turnover is accounted for by large businesses and half by small and medium sized businesses. That in itself is quite a striking fact when you consider that there are only 6,500 large businesses in the UK but almost 4.8 million SMEs.  In fact, micro-businesses (those with less than 10 employees) number around 4.5 million and employ 32% of the workforce but only account for 20% of turnover (Data available here and here). So there is, on the face of it, a great deal of room for small businesses to play a bigger role.

Regeneration

One outcome if they did might be a wider spread of vibrant economies across the UK.  We tend to think of inequality as being a matter of individual or household incomes and wealth but, of course, the geographical factor is crucial.  People who live in areas with healthy labour markets, lots of business activity and high investment are much more likely to be far better off than those who do not.  As is widely known, this has led to the much discussed regional imbalances and inequalities that afflict the country.

A more bigger small business sector could help address this because, as research has shown, smaller businesses tend to spend more of the money they make from a local area within that area.  For example, one report found that for every £1 a local authority spent with an SME, 63p was re-spent in the local area compared to 40p in every £1 spent with a large business.

This is not just chance: large businesses will inevitably shift their money around their organisation which may well mean moving it to locations many miles from its origin. Large businesses will also have a much wider range of stakeholders, investment needs and suppliers with a claim on revenues who have no link to the original area.

Innovation

Another aspect is the role that smaller companies can play in driving innovation and productivity: two of the main factors which over time make an economy more competitive hence driving up employment and living standards.  Having a wide spread of smaller companies working in all sectors keeps the big guys on their toes, breaks down oligopolies and ensures a good flow of new market-shaping ideas makes an economy more innovative. It also tends to create more price competition and so delivers a better deal for consumers.

The energy sector which has been the focus of so much attention over the last few days is a case in point.  Dominated by six very large companies, the sector is widely regarded as unimaginative and famously takes its customers for granted.

Gender equality

Inequality is heavily gendered. Women have a median weekly income that is only two thirds of that earned by men. Even young women, who have the same or higher qualifications than men, still earn less.

It seems here too small business may have an important role to play if the behaviour of women themselves is anything to go by. In effect, women are voting with their feet with a significant recent growth in the numbers establishing and running their own small business. For example, the number of female entrepreneurs has grown by 9.6% during the past two years, compared with a 3.3% rise for men.

The reasons for this shift are not clear but I suspect that many women are now taking advantage of the lower costs of setting up a business provided by the internet to add an extra income on top of their salary. I also imagine that for many it provides a route to a job and earnings determined by their own abilities rather than the discrimination faced in the labour market and workplace.

Executive pay

It could also be added that although wages in smaller businesses are generally lower than big businesses, I would be willing to bet that the sorts of absurd wage differentials between directors and other staff that is found in large corporations is far rarer in small businesses. Indeed, there is evidence that while executive incomes in large businesses have continued to rise rapidly despite recent economic conditions, those in small businesses have actually fallen since the credit crunch hit. The fact that average pay for a FTSE 100 executive stood at £4 million in 2011 but at £87,000 for an executive of a small company tells its own story.

 

So there are good reasons to suspect that an economy where the majority of turnover is generated by small businesses could be one with a better record on equality and living standards.

The big question then, of course, is how do you ensure that smaller companies can deliver the majority of a nation’s economy.  That is a question for a future post but my hunch is that the answer will be a lot less clunky than the regulatory solutions currently enthralling our leaders.

 

Follow me on Twitter: https://twitter.com/adamjlent

 

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