Boom or Bust? The Impact of an Economy Driven by Startups

Business.com / Starting a Business / Last Modified: February 22, 2017

When Apple went public, 300 people became millionaires. Likewise, startups shut down every day. A look inside their economic impact.

Two decades ago, we saw the dawn of a new business funding paradigm that would set the stage for an incredible Wall Street roller coaster ride for years to come.

Yes, it looked a lot like the traditional model for investing in startup companies, but it was bigger, faster, looser and glitzier than anything that had come before—and it didn’t involve banks.

The biomedical, technology, green energy, retail and social media industries rocketed to the forefront, one after the other, riding the fast path to riches—or despair. Venture capital funding has been around a long time, but never did it see such amazing growth as in the dotcom era and the years that followed.

Silicon Valley had been slowly baking the venture capital model many years before the internet became usable (for lack of a better term), and suddenly, this high stakes game was on the media radar for every investor in the USA waiting patiently for the “public offering.” Main Street was talking and dreaming, now they are IM’ing and Tweeting about the startup path to riches—irrational-exuberance prevailed and plenty of funding sources emerged for these “great” ideas.

Every new business is a startup, but we use the term today in a way that implies big money, innovation, Silicon Valley, Tesla, a dubious idea like boo.com or a great idea like eBay or Tesla. Genius or folly, being part of a startup is a badge of honor that says, “I am smart, I am funded, I am going to be rich."

The startup cycle means big money is moving in and with that money comes high paying jobs, local investment and consumer spending. Where the business cycle used to take years to impact an economy, successful startup funding can take shape almost overnight and give immediate juice to the economy, and in many cases, too much juice.

Related Article: Leaders Innovate, Followers Increment

What’s the Big Idea?

Circa 1977-1995 many ideas came from academia; Stanford, Berkley, MIT and Carnegie Mellon where research and engineering laid the foundation for huge technology infrastructure advances. Novell (Utah), Sun (Silicon Valley), Oracle (Silicon Valley), Microsoft (New Mexico then Washington) and Apple (Silicon Valley) settled in with some groundbreaking work that set the stage for next 30 years.

These were the days where academic ideas turned into real businesses and were usually funded by seed money, private equity and only minimal venture capital. These companies laid the rails for things to come and made huge impacts to the local economies around them and did not occur overnight.

What did happen overnight was many millionaires were made before the companies were actually successful. Investors were betting on these ground breaking innovations and principals were reaping the rewards before their companies were actually turning a profit. On Apple’s initial public offering 300 millionaires were created, the most in corporate history.

Implications of Booming Wealth

This type of activity propelled the surrounding area into economic expansion with large sums of money flowing into local economies. And no surprise, the best talent comes to participate, more innovators come to harvest the talent, more venture capital comes to fund the innovators—a high octane economic cycle to be sure but there is a downside.

SF Pricing Houses Graph

Image via Quartz

Boom and Bust of Fracking

All of the attention can’t be given to digital technology. We have seen the boom and bust of the dotcom era, but the ongoing effects of that epoch are largely positive on the local economies that benefited from this startup surge.

We could say that the end result over a period of twenty years was long-lasting. Sure folks were priced out of the housing market, and many returned home with their tails between their legs, but by and large those areas where these technology giants landed have robust world-class economies.

The most recent epidemic of boom/bust mentality can be attributed to energy commodity startup concerns--oil to be exact. Startups like Oxane and Neohydo produce technologies that assist energy producers with the fracking process and were big news a couple of years ago. With easy oil at our fingertips, too much of a good thing caused the oil commodities market to collapse with OPEC keeping their foot on the gas, so to speak.

Small producers such as SandRidge, EXCO Resources and Magnum Hunter Resources found easy funding for their fracking operations sometimes creating a debt ratio of three to five times earnings. With oil crashing to less than $50 a barrel these ratios sky rocketed and funding dried up. Jobs were lost, and in little over two years the whole thing essentially went up in smoke—like Watford City, North Dakota

Watford City

Image via National Journal

Micro and Macro

Boom and bust cycles are expected behavior of the startup economy where everyone wants a piece of the action. So, how does this affect the economy on both the national and local levels?

One of the general outcomes of technical innovation is to automate or reduce the manpower required to do a certain task, make commodities readily available or automate manufacturing processes. Sometimes these innovations are simply for entertainment or go as far as providing something new that makes our lives easier.

When a high flying startup settles in a locality all of the benefits of high finance come along with it, fueling the local economy on all levels. That is of course, until the industry busts, there is a loss of confidence or competition takes its toll years later. Hopefully, like the Silicon Valley, there is enough momentum where many new businesses homestead there, evening out the rough edges of high stakes betting.

But still, companies today that produce virtual products, like Uber, rely on a smaller force of software engineers to do their thing, so the jobs impact isn’t as great as one would hope—high paying jobs, but not the same as the armies required for the good ol’ manufacturing days. And barely out of the gate, Uber has competition from Lyft and Ola. The cycle is getting faster and more dangerous.

On the macro level it can look a lot different. Innovations can ultimately reduce jobs; more entertainment choices can reduce productivity; more of a commodity can cause deflation. While the presence of the startup economy contributes quite a bit to the GDP, there is an offset that can occur due to the success of the business or technology.

Most folks don’t get to participate in the big money plays in Silicon Valley or even get a shot at buying into an IPO. The impact of fracking and its contribution to the oversupply of oil is a perfect example of negative impacts to the GDP. Does this really mean anything? Perhaps GDP is an outdated concept and doesn’t account for our fast paced innovation and the economy that results. Tell that to Watford City.

Related Article: Cultivating Entrepreneurship: How Startups Fuel Regional Economies

The End Game

Startup impacts to the economy are not as straight forward as you would first think. At first glance we might give a huge thumbs-up, but the downstream ramifications of the boom/bust mentality and the effects of innovation on jobs can be negative. It’s a mixed bag:

  • Positive for local economies
  • Questions the validity of the GDP measure
  • Leaves many on Main Street behind
  • Has changed the way we invest--value is out, speculation is in
  • Creates jobs here, may reduce jobs there
  • Exciting dreams of high finance for great ideas

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