The Fourteenth Banker Blog

July 12, 2010

Small Business Loans Restricted, Why?

Filed under: Running Commentary — thefourteenthbanker @ 7:49 PM

This Naked Capitalism piece highlights the fact that SBA lending declined and that this may indicate tight credit conditions for Small Business Lending overall. Let’s dissect this a bit.  First,

a New York Times business blog post that discussed how Small Business Association loans fell sharply in June as provisions to make programs more attractive to both borrowers and banks expired:

Total approved loans in the S.B.A.’s guaranteed loan programs fell to just $647 million for the month, down two-thirds from $1.9 billion in May, according to figures provided by the agency. It was the worst month for S.B.A. lending in years, perhaps decades. Even during the credit crisis that began in the fall of 2008 the S.B.A. approved more loan dollars than it did last month.

Bankers who work with the S.B.A. blamed the steep drop-off on the absence of stimulus measures that raised the guarantee level on general business, or 7(a), loans from 75 percent to 90 percent and also eliminated borrower fees on both 7(a) loans and so-called 504 loans, which are used primarily to finance capital investments such as real property. These provisions largely expired at the end of May….

Barry Sloane, chairman and chief executive of Newtek Business Services, a large S.B.A. lender that is not a bank, said that the lower guarantees meant that his company would itself have to borrow more money to make the same amount of loans. (A bank uses its deposits to fund loans; a non-bank lender has to find other sources of capital to lend.) The higher guarantee, he said, “is key to being able to lever borrowed capital.”….

Mr. Sloane said that because loans are typically funded 30 to 60 days after they’re approved, “if this continues, you’re likely to see a lot of businesses that don’t have funding in September and October.”

Interesting. Banks have made the argument that the precipitous drop in Small Business Lending is a function of loan demand. Is this logical? Is loan demand so elastic that it drops off dramatically when the guarantee percentage drops? Is the drop in SBA loans a proxy for all Small Business Lending? I don’t know. There is no transparency in Small Business Lending. Banks do not report it and the government relies on weak survey data to try to give an indication. More information about Small Business Lending comes from advertisements than from anywhere else and how reliable can that be?

Next, credit spreads on Small Business Loans are at high levels. This means that banks either believe these loans to have greatly increased risk, or they are gouging because of market conditions. In either case, this will serve to restrict credit or be indicative of restricted credit conditions.

Regarding spreads:

The Financial Times reports tonight that small businesses are paying the highest risk spreads on record:

The Fed’s data show that in early May interest rates on small commercial and industrial loans, on average worth about $500,000, were 3½ per cent higher than the federal funds rate, the widest gap since the series began in 1986.

Banks do not charge high spreads and also issue a large volume of loans. Simple supply and demand tells you that high spreads go with restricted supply relative to demand. So, the claim that demand is the driver of low loan issuance does not hold. Credit is still tight.

Why is this? Because capital must be allocated to bank risk taking activities and the profit in other segments relative to the capital employed is generally better. Did legislation do anything to change this? We will see. I think not much.

Perhaps the wider spreads will be reason for greatly increased lending activity. If this is the case and it spurs more capital available for entrepreneurship, maybe the spreads are a good thing. But, I think not.

The editorial comment is that banks need to be banks. Deposits should by and large fund on balance sheet lending up to perhaps 60%-70% of the balance sheet. You see this in some banks. You don’t see it in others. Consumers and businesses should decide who is using their deposits well. Then put the deposits in those places. There is nothing more democratic than this.

Even Bernanke can figure this out that Small Business lending is crucial to our economic future. What Bernanke did not figure out is that if you leave the candy dish out, the wholesome food won’t get eaten. He and the Treasury department watered down reform as much as possible to protect TBTF banks, leaving capital to be deployed in non core areas. If Congress cannot reign in the aggregation of deposits at banks that don’t lend much to Small Business, the people must take the issue into their own hands.

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4 Comments »

  1. Why would a bank earn money lending when they can earn far more trading?

    Comment by ella — July 13, 2010 @ 7:53 AM | Reply

  2. The real economy is dead. Take a look at the recent small business optimsim index which declined again in July. Small businesses cannot offset weakness in the US with international sales. Get ready for QE 2.
    http://blackswaninsights.blogspot.com/2010/08/small-business-optimism-declines-great.html

    Comment by John — August 10, 2010 @ 8:41 PM | Reply

  3. Ya, how can demand for loans simply drop off? Especially in today’s economy? If anything, the demand for loans has gone up… But the new market conditions and change in SBA policy from guaranteeing 90% back to 75% simply makes a loan not what it used to be. Demand for loans is rising, but not for ones under the new “normal” conditions and terms.

    Comment by J Smith — August 15, 2010 @ 5:51 PM | Reply

  4. Small business are dead. Banks don’t want pay a lot of money to small business

    Comment by Emica Andres — September 21, 2010 @ 1:55 AM | Reply


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