Do Small Business Set-Asides Increase the Cost of Government Contracting?

Abstract

Small Businesses The encouragement of small businesses is an important goal of many modern governments. Government support of small businesses is strong in the United States, Germany, Switzerland, and Japan (Bannock, 1981). In the United States, a major piece of legislation, the Small Business Act of 1953, sets aside a certain number of federal contracts for businesses are independently owned and operated; are not dominant in their field of operation; and meet a specified size criterion. In addition, various congressional committees have been formed to encourage small businesses. The Small Business Act has been strengthened by the Small Business Investment Act (1958), which helps small businesses raise capital, and the creation of the Office of Advocacy (1976), which alerts government agencies and Congress to the effect of burdensome regulations on small businesses. A series of other legislation was passed after 1980 to further ease regulatory burdens on small businesses (White, 1982; Brock and Evans, 1986; Small Business Advocate, 1996). Most small businesses are involved in agriculture, construction, wholesale trade, retail trade, and services, where firms with less than 100 employees account for a majority of sales (Brock and Evans, 1986). In general, small businesses thrive in industries that require little capital investment. The shift in U.S. industry from manufacturing to services bodes well for the proliferation of small businesses (White, 1982; Brock and Evans, 1986). Other researchers have shown that small businesses have been very strong in manufacturing as well. Small businesses create new jobs at a higher rate in manufacturing than in either services or finance (Curran and Watkins, 1986; Acs and Audretsch, 1990). The unexpected strength of small firms in manufacturing is certainly attributable to the development of new, small-scale production technologies. Acs and Audretsch (1990) maintain that the flexibility of small firms enables them to compete and thrive in the capital-intensive manufacturing industry. Small businesses have been viewed as an important part of the economy of modern nations because they diversify economic power. individually, small businesses are price takers and are not capable of influencing the movement of prices as are large businesses, particularly those in concentrated markets (Bannock, 1981; Brock and Evans, 1986). In addition, small businesses create a stable employment environment because the loss of a few small businesses does not have the social repercussions of the loss of a large business (Bannock, 1981). Small businesses are regarded by many as more innovative than large businesses. Since they have little individual influence on an economy, small businesses must adapt readily to change. They are seen as producing more innovation per unit dollar of research and development as well as per employee (Holton, 1965; Bannock, 1981; Acs and Audretsch, 1990; Pratten, 1991). Other benefits of small businesses include the rendering of specialized services and products not offered by large businesses, and the potential for job creation (Brock and Evans, 1986; Acs and Audretsch, 1990). In addition, small businesses have higher growth rates than large firms (Storey, 1990). In large measure, the proliferation of small businesses at certain times in the economic cycle may be seen as a reallocation of societal resources in response to market forces. When recessions occur, large businesses often lay off workers. A measure of reallocation of resources enables some of these workers to either start small businesses or be absorbed by the small business sector (Binks and Jennings, 1986). Do Set-Asides Increase Contracting Costs? Restricting some federal contracts to bidders of a certain size restricts competition. Many economists have found that loss of competition may result in bids for federal contracts being higher than they would be in the face of full competition. …