Having bailed out big banks and big car companies, Congress and President Obama now want to throw some big money at small business.
On Tuesday, the House will take up legislation that would provide $30 billion in taxpayer money to subsidize bank loans for small companies. The bill also includes billions of dollars in new tax breaks and an increase in the Small Business Administration’s loan-guarantee programs.
All in all, it is by far the biggest package of assistance for small companies since the financial crisis began three years ago. Last Friday, President Obama surrounded himself with small business owners at the White House in order to plead for swift action by Congress. “To replace the millions of jobs lost in the recession, we’re going to need to make sure that small companies are able to open up and expand,” Obama declared. “Small businesses will help lead this economic recovery.”
The Right Approach?
But while many analysts agree that small companies usually account for about two-thirds of job creation, and that they are lagging in this economic recovery, there is much less agreement about whether the new measures will solve the problem. Congress has already passed a slew of tax breaks for small businesses, and it dictated that part of the economic stimulus go to small contractors. On top of that, the Federal Reserve and Treasury financed billions of dollars worth of bonds last year that were backed by SBA loans. And in March, the White House reserved $2 billion in export financing for smaller companies.
Despite all that, small business owners seem to be more pessimistic and face more difficulties getting loans than larger corporations. “Unfortunately, small business credit remains severely constricted,’’ declared the Congressional Oversight Panel for the TARP program in a report last month. Citing bank data from the Federal Reserve, the panel said that banks had slashed small business lending twice as deeply as loans to large corporations from the start of 2008 through the end of 2009.
But the congressional panel also warned that the reason for the drop in lending remains unclear. In a recent survey of banks by the Federal Reserve Bank of Atlanta, lending officers attributed much of the drop to falling demand for loans by small commercial borrowers as well as a drop in their creditworthiness.
Both of those reflect damage caused by the economic recession, rather than a shortage of credit. High unemployment has reduced the number of new business opportunities. And falling prices for commercial real estate have reduced creditworthiness of small businesses, because they reduce the value of collateral those companies can put up to secure their loans.
“A small business loan is, at its heart, a contract between two parties: a bank that is willing and able to lend, and a business that is creditworthy,’’ the TARP oversight panel cautioned. “Due to the recession, relatively few small businesses now fit that description.”
Small business owners exert considerable political clout. They number in the millions, with a presence in every town and city, and they are well-organized in Washington through trade groups like the National Small Business Association, the National Federation of Independent Business and even the Chamber of Commerce. And where most business groups have to fight against the stigma of “big business,’’ the small business lobby enjoys apple-pie popularity in both political parties.
Indeed, the new legislative package includes proposals that have little or nothing to do with the financial crisis. One tax provision, for example, would reduce small business owners from paying hefty penalties if they fail to tell the Internal Revenue Service about transactions that the IRS views as red flags for tax avoidance. Another would exclude owners of stock in small companies from paying capital gains taxes if they sell the shares and earn profits of less than $10 million. Regardless, President Obama and Democratic leaders in Congress are pushing hard for the new package.
A New Mini-TARP
The biggest proposal is for a Small Business Lending Fund, a $30 billion fund that Obama first proposed in his State of the Union Address in January. The new fund would in some ways be a mini-version of the $700 billion TARP program that propped up big banks, insurers and car companies.
Like the TARP (short for Troubled Asset Relief Program), the small business lending fund is intended to spur lending by injecting capital into banks. Supporters of the new fund say it would underwrite as much as $300 billion in new small business lending, because the banks would be able to lend as much as $10 for every $1 invested by the Treasury.
If the loans are repaid as expected, the ultimate cost to taxpayers would be modest. The Congressional Budget Office estimated that the loan fund would only be about $3.3 billion over five years. The tax breaks would cost about $4 billion more. The House legislation would cover those costs by eliminating several other tax breaks.
Even so, the taxpayer subsidies could be substantial. Unlike TARP, the new lending program would provide money only to smaller local banks with less than $10 billion in assets. And many of those banks could have shaky finances. As currently written, the program would be open to banks with average or even below-average financial strength ratings. In regulatory language, those would be banks with “CAMELS’’ ratings of three or four on a five-point scale, where five is for banks in danger of failure.
Bankers insist the lax approach makes sense, because highly-rated community banks wouldn’t even need the government’s money. But some critics warn that the approach would put taxpayer money at too much risk. An amendment proposed by Rep. Jeb Hensarling, Republican of Texas, would reserve the program only for banks with a “CAMELS’’ ratings of one or two.
Few Strings Attached
In sharp contrast to the TARP program, the new small business lending fund comes with very few strings attached. There are no restrictions on executive compensation, for example. Nor would the banks have to give the government warrants that entitle it to buy shares in the future at today’s prices. Profits on such warrants from the likes of Goldman Sachs and JP Morgan Chase have provided the Treasury with billions of dollars.
Other fights are brewing. Some House Democrats are pushing for an amendment on the House floor that would require banks to make small business loans at “reasonable rates.” Paul Merski, senior vice president for the Independent Community Bankers of America, called that proposal a “killer amendment” and argued that it would undermine the ability of banks to properly price the risk of their loans.
One big difference between the Small Business Lending Fund and the TARP program is that the small business fund contains big incentives to banks that actually use the new money to increase their small business lending. Banks would initially have to pay a dividend of 5 percent, but those that increase their lending would see their rates go down to as little as 1 percent a year. Those that don’t increase their lending at all could end up paying as much as 9 percent a year.
Small business lobbyists are cautious about the ultimate impact on lending, noting that bank regulators may end up discouraging small business loans even if the Treasury is supplying more capital. “We have supported something along these lines for more than a year,” said Todd McCracken, president of the National Small Business Association. “My only caveat is that it is not a silver bullet and can be undermined by tight regulatory standards.”
Edmund L. Andrews covered economics and business for The New York Times for 20 years.