Ranking the States for the New Economy

A new study guides entrepreneurs seeking the right place to run a business by examining how states are faring in a changing economy

The U.S. is in the midst of its third major economic transformation of the last 120 years, equivalent in scope and depth to the emergence of the factory economy in the 1890s and the mass-production, corporate economy in the 1940s and 1950s. This means states must act decisively to encourage entrepreneurship or be left behind in this New Economy.

That's the line of thinking behind the 2007 State New Economy Index, a study released Feb. 27 to coincide with EntrepreneurshipWeek USA (see BusinessWeek.com, 2/22/07, "A Weeklong Festival for Entrepreneurship"), organized by the Kauffman Foundation, a Kansas City (Mo.)-based private foundation that promotes entrepreneurship, and the Information Technology and Innovation Foundation (ITIF), a public-policy think tank. They want the study to spotlight the states where entrepreneurship and innovation are most encouraged, and get lawmakers in other states thinking about how to adapt.

The study, based on similar ITIF studies in 1999 and 2002, uses 26 indicators—such as educational attainment of the workforce and number of new startups and business failures—to provide detailed rankings on how states are adapting to the challenges of a global, entrepreneurial, and knowledge-based economy.

Digging Deeper

The rankings don't necessarily reveal the best states to start or relocate a business—at least not in the traditional sense of measuring where to find cheap labor and low taxes, says Rob Atkinson, ITIF president and the study's lead author. "But if you're an entrepreneur trying to do something new, something that's based on new kinds of products or services, and you want to be globally linked and need highly skilled workers and IT infrastructure, this is a much more accurate tool for that," says Atkinson.

For entrepreneurs, it offers clues as to which states are the most wired, the most globally connected, and the most open to innovation. But it's key for people using the study to look below the first layer. "It's tempting to say that the composite ranking would correlate to states that are best [for starting] a business. That might not be totally accurate," says Bob Litan, vice-president for research and policy at the Kauffman Foundation (see BusinessWeek.com, 2/26/07, "A Roadmap for an Entrepreneurial Economy"). "You may be in different industries in certain states where the overall rankings don't mean as much to you."

Instead, the study can serve as a guide for entrepreneurs searching for a state that encourages their kind of business. For instance, Nevada, which ranks highest in IPOs, might be a good place to take a growth-oriented company that has the potential to go public.

Knowledge Jobs

Overall, the states that top the list boast an educated workforce and a whole lot of technology-based companies. The state farthest along the path to the New Economy is Massachusetts. Topping the list in 1999 and 2002, Massachusetts' lead over other states in 2007 has increased—with a concentration of software, hardware, and biotech firms supported by universities such as MIT, Harvard, and others. The state had the fourth-highest increase in per capita income, according to the study.

New Jersey and Maryland, states that ranked fifth and sixth, respectively, in 2002, rose in the new rankings, placing second and third overall. These, along with No. 4 Washington state and the rest of the top 10 (in descending order, California, Connecticut, Delaware, Virginia, Colorado, and New York), have a number of qualities in common. Aside from being home to many high-tech companies, they also tend to have a high concentration of managers, professionals, and college-educated residents working in "knowledge jobs," or jobs that require at least a two-year college degree.

The states not adapting well to the New Economy include No. 50 West Virginia and No. 49 Mississippi, which had identical ranks in 2002. Other states with low scores include, in reverse order, South Dakota, Arkansas, Alabama, Kentucky, Louisiana, Wyoming, Montana, and Hawaii. According to the study, the historical economies of many of these and other Southern and Plains states depended on natural resources or on mass-production manufacturing (or tourism in the case of Hawaii), and relied on low costs rather than innovative capacity to gain advantage.

Improving Their Grades

The study represents the latest attempt at ranking U.S. states in their conduciveness to entrepreneurship. The Washington (D.C.)-based Corporation for Enterprise Development (CFED) has been producing its own Development Report Card, which measures states against each other, since 1987. Their study measures 67 components of a healthy state economy, not just a low-tax, low-regulation place where a business could operate cheaply. States often take notice of such studies, says Beadsie Woo, chief economist for CFED, who is often invited to meet "with government and elected officials about the ways in which economic development is and is not succeeding."

Like CFED's Development Report Card, the authors of the ITIF/Kauffman study hope their research will make its way onto lawmakers' priority lists. The authors argue that the health of state and national economies may depend on how well they foster the kind of climate that attracts entrepreneurs.

Click here to see a slide show of the 10 states that ranked highest overall in the ITIF/Kauffman study.

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