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Does Rural Entrepreneurship Pay?

Li Yu and Georgeanne Artz (gartz@iastate.edu)

Rural entrepreneurship can help stimulate local economies by creating local jobs and providing goods and services that improve the quality of life of nearby residents. However, as Reynolds et al. (1995) note, rural entrepreneurs can face difficulties through lack of sufficient capital, infrastructure, and access to educated labor. These hardships often result in lower firm entry rates when compared to urban areas and businesses characterized as low-income and low-growth. This leads to the common notion that rural entrepreneurship is necessity driven—entrepreneurs create rural businesses in order to remain in, or relocate to, a rural location (Tosterud and Habbershon 1992).

Recent research, however, has shown that the factors that affect rural business location also increase the likelihood that business will survive (Artz, Guo, and Orazem 2015), suggesting that rural entrepreneurs possess location-specific capital that increases the probability of becoming an entrepreneur and offers greater returns relative to being a wage earner. In order to fully analyze and understand the location choices of entrepreneurs, we analyze survey results from 4,448 Iowa State University alumni who graduated between 1982 and 2007. Furthermore, we assess returns to location-specific human capital by location and the relative earnings of rural and urban wage earners and entrepreneurs.

Our research shows that alumni that live in a rural location are more likely to become entrepreneurs than their urban counterparts, and that rural entrepreneurs earn more than rural wage workers and earn roughly the same as urban entrepreneurs.

Entrepreneurship choice

While there are many factors that influence the choice to become an entrepreneur, two factors—education and family background—have the largest impact. Educational attainment provides some of the necessary skills to become a successful business owner (Bates 1990); however, there is a tipping point, as there is evidence suggesting that earning an advanced degree (MS, Ph.D., etc.) may actually lower the likelihood of becoming an entrepreneur (Matthews and Human 2004).

Familial background can influence entrepreneurial decisions as well, as Matthews and Human (2004) show, entrepreneurial parents can impart their offspring with the necessary skills and may be willing to transfer financial wealth to their offspring.

When examining the earning potential of entrepreneurs, Hamilton (2000) finds that entrepreneurship doesn’t pay—the self-employed seem to earn about 25 percent less over the course of 25 years than a wage worker of similar skill level. The assumption is that entrepreneurs are willing to accept a lower rate of pay for the non-financial benefits associated with being self-employed.

Rural Location Choice

Numerous factors must be accounted for when examining the likelihood of choosing to reside in a rural location. Education, labor markets, age, marital status, and the presence of children are all considered important factors in location choice. Even among those born in rural areas, educational attainment has been shown to reduce the likelihood of choosing to reside in a rural areas (Mills and Hazarika 2002). Unlike the choice to become an entrepreneur, there is no tipping point in education—those with higher education levels are less likely to reside in a rural area. While we would expect those born in a rural location would be more likely to reside and operate a business in a rural area, the evidence does not support that hypothesis.

Graves (1979) finds that for adults in their 30s and 40s quality of life and family issues are factors that heavily influence location choice—they are more likely to choose areas that have lower crime rates, more affordable housing, and lower population densities. However, rural labor markets are usually considered “thin” and the return on educational investment is lower in rural areas than in urban areas.

Location-specific Capital

Location-specific capital—an asset accumulated over time from living in a specific place—is an important factor in choosing not only self-employment, but where to locate a business. Location-specific capital can be advantageous to new rural businesses through knowledge of local resources and needs and local social networks that provide access to credit, customers, suppliers, and information.

Despite Mills and Hazarika’s (2002) finding that educational attainment reduces the likelihood of residing in a rural area, even for the rural-born, previous research (Artz and Yu 2011) shows that growing up in a rural area is the most significant predictor of choosing a rural residence after college.

Data

The data in our analysis was taken from a 2007 survey of Iowa State University alumni that graduated with a bachelor’s degree between 1982 and 2006. Surveys were sent to a random selection of the 84,917 alumni that graduated with a bachelor’s degree in that time. Ultimately, we received 4,448 usable observations.

Our data show that 34 percent of our respondents were raised in a rural area, but only 13 percent currently resided in a rural area. Though the majority of alumni raised in a rural area had moved to an urban area, respondents that were raised in a rural area were more likely to reside in a rural area than those raised in an urban area. The proportion of alumni that were raised in rural and urban areas and became entrepreneurs was roughly equal—approximately 11 percent for each group; however, roughly 45 percent of rural-raised entrepreneurs located their business in a rural area, compared to only 14 percent of urban-raised entrepreneurs.

Our data also show that urban residents earn nearly 40 percent more than rural residents, though this statistic wasn’t adjusted for cost of living.

Results

The results of our survey reveal many of the contributing factors that lead to becoming self-employed and those that lead to living in a rural area. Having grown up in a rural area does not impact the likelihood of becoming an entrepreneur; however, it does positively impact the likelihood of living in a rural location after college graduation. Graduates of the College of Agriculture and Life Sciences are more likely to live in a rural location and become an entrepreneur than are graduates of the College of Liberal Arts and Sciences.

Older alumni, married alumni, alumni raised by entrepreneurial parents, and alumni with an advanced professional degree (i.e., law degree, medical degree) or that graduated from the College of Design are all more likely to become entrepreneurs, though many from these groups are less likely to reside in a rural area.

Individuals with a more diversified work experience are more likely to live in a rural area and become entrepreneurs. Also, individuals that grew up in a rural area and return to their home state are more likely to become a rural entrepreneur; however, those that grew up in a rural area and don’t return to their home state are less likely to become a rural entrepreneur. The positive relationship between rural origin and entrepreneurship for returned individuals confirms that location-specific capital is important to rural entrepreneurship.

Why are rural location and entrepreneurship associated?

We find two likely reasons that rural entrepreneurship and rural location may be associated with each other. The first reason is that rural residents are more likely to start a business because of the thin labor market for wage labor. The second reason is that rural locations are a good match for some entrepreneurs, consistent with the idea of location-specific capital—some entrepreneurs have a productivity advantage due to region-specific knowledge and local social networks that make access to things such as credit, suppliers, and customers more accessible.

References

Artz, G., and L. Yu. 2011. “How Ya Gonna Keep ‘em down on the Farm: Which Land Grant Graduates Live in Rural Areas?” Economic Development Quarterly 25:341–352.

Artz, G., Z. Guo, and P. Orazem. 2015. “Location, Location, Location: The Role of Location-Specific Human Capital in Rural Firm Entry and Survival.” Working Paper, Dept. of Economics, Iowa State University.

Bates, T. 1990. “Entrepreneur Human Capital Inputs and Small Business Longevity.” The Review of Economics and Statistics 4:551–559.

Graves, P.E. 1979. “A Life-Cycle Empirical Analysis of Migration and Climate, by Race.” Journal of Urban Economics 6:135–147.

Hamilton, B. 2000. “Does Entrepreneurship Pay: An Empirical Analysis of the Returns to Self-Employment.” Journal of Political Economy 108(3):602–631.

Matthews, C., and S. Human. 2004. “Family Background.” In Handbook of Entrepreneurial Dynamics, the Process of Business Creation. Chapter 8. Gartner, W. et al, Eds. Sage Publications: London.

Mills, B., and G. Hazarika. 2001. “The Migration of Young Adults from Non-metropolitan Counties.” American Journal of Agricultural Economics 83:329–340.

Tosterud, R.J., and G. Habbershon. 1992. “Rural Entrepreneurship: A Preliminary Study.” South Dakota Business Review, March.