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Outside the Box: The recovery will be weak if small businesses can’t get the credit they need and deserve

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If small businesses do not recover from the coronavirus pandemic, the rest of the economy won’t either.

Across America, in big cities and small towns, the auto mechanic shops, restaurants, mom-and-pop retailers, and small industrial firms create two-thirds of all net new jobs. Moreover, the money that people spend in these businesses tends to stay local and accounts for 44% of all economic activity.

Yet, despite these statistics, most small businesses face a common challenge: access to inexpensive capital. Ergo, President Joe Biden’s proposal for a new public option in his Build Back Better agenda: a direct-lending program for small businesses administered by the Small Business Administration.

Access to credit

Big and small businesses need capital to purchase products, invest in technology, hire more employees, and weather economic storms. But this is where the similarities between big and small businesses end.

We live in an era of monopolies in technology, farming, retail, and finance. And cheap debt is only available to the most dominant companies. This reinforcing cycle—where the biggest, wealthiest companies have access to the cheapest credit—is widening inequality at a frightening clip. Tech giants such as Apple
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borrow cheaply and buy back shares to boost share prices. Private-equity funds such as Blackstone
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 pay dividends to investors and bonuses to CEOs using debt.

In other words, giant corporations and Wall Street firms can borrow cheaply—$11 trillion and counting—and make more money through financial engineering than through productive contributions to the economy.

And for small businesses? Banks deny more than 70% of small business loan applications. Because these businesses don’t make hundreds of millions in revenue, they can’t go to bond or equity markets and raise money cheaply.

Fewer local banks to serve small businesses

As a result, some small businesses tap personal savings or home equity, a luxury not available to many BIPOC entrepreneurs held back by racial and gender wealth gaps. So, they turn to credit cards or high-interest fintech loans, the equivalent of using payday loans to run a business.

How did we get here? Banks used to be tethered to their communities by law, and so they had to lend locally. Banking deregulation changed that.

Over the last 40 years, deregulation enabled a tsunami of bank megamergers and consolidations. Today, there are fewer regional and community banks, and vast swaths of America lack a single bank.

From MarketWatch: Why the recent wave of regional bank mergers is far from over—and you could profit from it

And as a recent study shows, these trends have tightened credit supplies in communities, resulting in declines in local business startups and jobs and wages. Plus, bigger banks have little incentive to underwrite smaller business loans. This is because they cost the same to underwrite as large loans but yield lower profits.

And so, amid a global pandemic, recent survey data shows that 44% of small businesses have less than three months worth of cash. With the delta variant raging and the pandemic far from over, small businesses will need capital to weather the storm.

How it would work

If the Biden Build Back Better proposal passes, the SBA would be able to help small businesses immediately by doing the following:

  • Lend directly to all small businesses with single-digit interest rates up to $150,000, and government contractors or small manufacturers could borrow up to $1 million.
  • The SBA would partner with community development finance institutions, which are dedicated to serving low-income and low-wealth communities to reach underserved borrowers. The CDFIs would process the loans and earn a fee, and the SBA would hold the loan and do the rest.
  • Create a seamless online loan portal so small businesses could apply and get a decision quickly.
  • Launch a worker cooperative financing pilot so that employees could purchase companies and put workers and communities first.

While the SBA direct-lending proposal isn’t the splashiest, it could power an equitable economic recovery by supporting the potential of existing businesses and budding entrepreneurs. While some may see the SBA direct lending as a threat to banks, we see it as a gap-filler. The SBA would do what big banks are no longer equipped to do: support small businesses and create jobs.

Moreover, the direct-lending program could spotlight the need for a national industrial bank to finance large-scale enterprises in the national interest, such as building a green economy. The program could also complement efforts to launch state and local public banks.

The White House put it best: President Biden’s reconciliation plan lays the foundation for American small businesses to win the 21st century.

So, Congress, let’s get it done.

Ameya Pawar is a fellow with the Open Society Foundations and the Economic Security Project. He also serves as a senior adviser to the Academy Group and served two terms on the Chicago City Council. Terri Friedline is an associate professor of social work at the University of Michigan and author of “Banking on Revolution: Why Financial Technology Won’t Save a Broken System.” 

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