Independent Contractors Vital, Growing Source of California Economic Strength

Independent contractors are a vital and growing source of strength in California’s economy, according to a new report co-sponsored by the California Foundation for Commerce and Education (CFCE).

Attempts to rein in independent contractors through onerous regulations would have a harmful effect on California’s economic productivity and employment, the study concluded.

Independent contracting is a business arrangement in which a client firm (or government) will contract with, usually, a small business or individual to perform work that might otherwise be performed in-house by staff employees.

Labor unions in California and elsewhere have criticized these arrangements and attempted to apply onerous regulations on record-keeping and taxation that would reduce the incentive to employ or become an independent contractor.

The study, prepared by Philip J. Romero, Ph.D., professor of finance at the University of Oregon and former chief economist for Governor Pete Wilson, found that independent contractors are an important source of economic strength in California, and that arguments aimed at undermining independent contracting are based on myth, not credible data.

Key Findings

Key findings in the report include:

California’s economic growth in particular depends heavily on small businesses and independent contractors. In 2009 (the most recent year available), roughly 1.5 million Californians worked primarily for their own businesses—more than one of every 11 workers in the state. Self-employment is about one-third more common in California than in the nation. This is not surprising since California has long had a reputation as an incubator for new businesses. According to Romero, “arguably, the state’s high rate of new business formation is one of its few remaining competitive advantages.”

Romero provides convincing evidence that “the rate at which new firms are created may be the single most important contributor to economic growth.” Since California is among the leading states in formation of small and new businesses—which in turn are the key generators of job growth and long-term prosperity—“its economy would suffer disproportionately if independent contracting was curbed.”

Romero refutes the myths (masquerading as arguments) that have arisen in the debate on independent contracting. Independents contractors do not gain a competitive advantage in evasion of labor and tax laws—indeed, tax compliance is the same or higher for contractors than for employees. Contracting work is not a “fallback occupation” for those who have lost jobs—in fact, self-employment fell during the recent recession and has grown during boom years. Finally, contracting is a symptom, not a cause, of increasing global competition.

Restricting independent contracting will slow economic growth and add to the state’s unemployment rate. Using several national measures of regulation, Romero calculated that adding restrictions on labor arrangements, including independent contracting, "will suppress state [gross domestic product] GDP growth by between 0.3% and 0.6% … and add between 0.25% and 0.5% to the state’s unemployment rate."

State policies that encourage self-employment facilitate productivity growth and thereby make the state’s economy more competitive. These policies assist workers who may be entrepreneurially inclined to pursue higher income, autonomy and greater job satisfaction.

Romero concludes that the greater cost of restrictions on independent contracting is not the short-run impact; it is "the suppression of innovation and productivity improvements that are at the heart of all economic progress."

The Economic Benefits of Preserving Independent Contracting was co-sponsored by CFCE, California Business Roundtable, California Hispanic Chambers of Commerce, California Asian Pacific Chamber of Commerce, and National Federation of Independent Business, California.

See the full report.