Could the U.S. Small Business Administration be the answer to our country’s economic problems?
The U.S. economy is immense, extraordinarily fluid, and yet despite an almost desperate need for financing mechanisms to fuel the small businesses that represent 99.7% of firms in the country, still faces headwinds with respect to the credit crunch that has plagued the economy since the financial crisis began in 2008.
The Banking Crisis
Over 400 banks have been closed and sold since the beginning of 2008, most of which were small, and thus particularly vulnerable to the quadruple hit of falling real estate values, rising unemployment, burgeoning regulatory mandates, and drastically reduced economic activity.
Faced with personal and/or business cash flows slashed between 20-50% (or, in the case of the construction industry, upwards of 100%), many borrowers went bankrupt or otherwise stopped making their payments, forcing the banks to write down the loans and, as necessary, repossess or foreclose collateral that was simulaneously plunging in value.
With the economic graveyard spiral continuing for years, mounting losses eventually ate away the lender’s reserves, and the banks unable to raise sufficient new capital to recover from those losses were forced out of business. As a result, significant outlets of small business financing went with them.
Even the banks that managed to raise capital or otherwise remain in business were severely impacted. Lending plummeted due to the fact that fewer borrowers qualified for loans, while at the same time regulators were cracking down on both lending standards and capital ratios. Most banks went into preservation mode; hardly the environment for healthy lending activity.
The SBA: Small Business Administration
In the United States, a popular means for small businesses to obtain working capital and finance long-term fixed assets has been through the U.S. Small Business Administration. Founded in 1953 with President Eisenhower’s signing of the Small Business Act, the SBA provides banks a government guaranty that ranges between 50-90% in trade for making a loan to a start-up or other small business that does not meet traditional banking underwriting criteria. SBA lending tends to grow during recessionary periods, as banks put increasing emphasis on the safety of the government guaranty.
SBA loans are attractive to both the bank and the borrower. For the borrower, interest rates are reasonable, fees are regulated, and terms can be much longer than a traditional bank loan. For the bank, the guaranty protects against the risk of default and the guarantees can be sold into an active secondary market, providing immediate fee income as well as liquidity.