In the wake of the financial crisis, a significant amount of attention has shifted toward the health of U.S. small businesses, and more specifically, on their ability to access credit. This is understandable considering that, according to the Small Business Administration (SBA), more than 99 percent of all employers in the U.S. are small businesses (defined as businesses with 500 or fewer employees) and they employ more than half of all private sector employees.
This concern is bolstered by the fact that small business credit has indeed tightened at the nation's commercial banks, as the total volume of outstanding small loans to businesses as of June 30, 2010, was nearly 6 percent lower than the volume reported as of June 30, 2009 (falling from $616.0 billion in 2009 to $579.1 billion in 2010). This is only the second year-over-year decline in small loans in the last decade; the first was from 2008 to 2009, when the decline was 2.2 percent.
Prior to 2010, small-dollar business loan information was only available on an annual basis. The amounts are now being collected on a quarterly basis, allowing bank supervisors, policymakers and economists to track not only annual trends in small loans to businesses but also potential seasonal fluctuations.
In response to the unprecedented change in small business credit, policymakers and lawmakers have discussed the need to create incentives to encourage community banks—generally those with less than $1 billion in total assets—to make small business loans. But while this line of thinking acknowledges the important role that the nation's community banks play in making small business credit available, it overlooks some of the trends that have taken place over the past decade—namely, the majority of small business credit extended by banks now comes from the nation's largest banking institutions—those with more than $50 billion in totals assets.
In the past decade, small loans to businesses have accounted for a decreasing share of community bank loan portfolios. In 1999, for example, these loans accounted for, on average, at least 25 percent of a community bank's loan portfolio; as of June 30, 2010, this ratio was closer to just 20 percent. On the other hand, while commercial banks with more than $50 billion in total assets have, on average, about 5 percent of their loan portfolios concentrated in small business loans, the actual amount of small business lending by these banks has increased significantly.
The figure shows the changes in the amount of small business loans made by commercial banks over the past decade. In 1999, community banks extended nearly 40 percent of all of commercial bank small business credit. In just 10 years, this paradigm has shifted, and the majority of small business credit is now extended by banks with more than $50 billion in assets.
An analysis of banking data as of June 30, 2010, shows that the 6,129 community banks (those with less than $1 billion in total assets) in the U.S. extended $198.2 billion (35 percent of the total) in small business credit. The 32 banks with more than $50 billion in assets, on the other hand, extended $218.4 billion (38 percent of the total) in small business credit. Adding the amount of small business credit extended by commercial banks with between $10 billion and $50 billion in assets shows that nearly half of all small business credit extended by U.S. commercial banks comes from 81 institutions with more than $10 billion in total assets.
This analysis has limitations, however. For example, banks do not specifically report small business loans, but rather small loans—loans of $1 million or less—to businesses in their quarterly filings. This means that inevitably some small-dollar loans that are made and reported are not necessarily loans to small businesses. Despite this limitation, the trends do seem to suggest that small-dollar lending to businesses has been decreasing significantly over the past two years, and that over the past decade, there has been a notable shift in activity from community banks to the nation's largest banks.
Another interesting observation is that more than 85 percent of the small-dollar loans reported in the FFIEC's Consolidated Reports of Condition and Income (Call Reports) are for amounts less than $100,000, and more than 50 percent of these small loans are made by the largest banks. While not conclusive, this suggests that large bank share of small-dollar business lending has increased by extending credit through business credit cards. This is consistent with changes in the early to mid 1990s, when credit-scoring models used for personal credit cards and secured credit lines were extended to include business credit cards.
Despite changes in the ways in which commercial banks are extending small business credit, there is still a question as to how to jumpstart small business lending in a still weak but recovering economy. In a July 12 speech during the Federal Reserve's small business capstone event, "Addressing the Financing Needs of Small Businesses,"Fed Chairman Ben Bernanke cited three main reasons for declining small business lending: a weaker demand from small businesses for loans, a worsening in small business financial conditions during the economic downturn and a restriction in credit availability to small businesses. However, acknowledging the importance of the small business sector he also stated that, "Making credit accessible to sound small businesses is crucial to our economic recovery and so should be front and center among our current policy issues."
While small loans to businesses on commercial bank balance sheets have indeed declined by more than 8 percent over the past two years, it's important to note that many small businesses, especially "Main Street" start-ups, might not meet longstanding minimum creditworthiness standards that have been required by banks. Instead, many start-up businesses, which have historically relied on personal lines of credit, via credit cards, loans from friends or family members, and home equity lines of credit, have seen their resources impacted as well. These businesses have also experienced growing problems accessing credit due to decreased credit card lines, declining house prices or the impact of the recession on the entrepreneur's personal network.
Until economic and business conditions improve, policymakers will continue to evaluate small business lending to determine if, and to what extent, the government should step in to try to catalyze small business lending in the near-term and potentially develop an appropriate mechanism to back-stop the risk inherent in small business, given the current environment of diminishing borrower creditworthiness.
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Fed in Print: An index of the economic research conducted by the Fed.