Small Business Stimulus Bill: Is "Half a Loaf" Enough?

When the Obama administration started work on a massive stimulus bill to revive the economy, it remained to be seen how strongly the new president would focus on small businesses.

Judging by the proposals now taking shape in Congress, it appears small firms will get half a loaf, which is always better than none. But will it be enough to bring relief to this all-important sector and jump-start the economy? Already, it seems, some groups are sowing the seeds of disappointment.

"Unfortunately, the bill under consideration provides little relief or incentives to small businesses," said Dan Danner, president and chief executive of the National Federation of Independent Business (NFIB), in a recent statement. Supporting the half-a-loaf analysis, he notes that small business provisions in the bill are a "good start, but in the current economic climate this is not enough."

Numerous studies over the years have found that small businesses and startups create anywhere from 60 percent to 80 percent of all new jobs, which is something the economy desperately needs right now. To create jobs, however, small businesses need access to capital. It’s the life-blood of any new, or growing business.

But small business lending is deteriorating rapidly in the current downturn, and it’s an open question whether the administration’s half-a-loaf proposals will adequately address this critical area of need.

Recently, Sens. Mary Landrieu, D-La., and Olympia J. Snowe, R-Maine, the chairman and ranking member of the Senate small business committee respectively, called on the administration to provide more help. They were stunned by the latest Federal Reserve survey of senior loan officers at banks nationwide. It found that 70 percent of domestic banks had tightened small business lending requirements.

That’s down only 5 percent from last year, even though the government has spent almost $350 billion so far capitalizing banks in hopes that they would increase lending. "[The] latest Federal Reserve report confirms the dismal state of our economy, with banks tightening their lending practices at a troubling rate," said Snowe. "It is critical that the stimulus legislation the Senate is presently considering include significant assistance to augment small business lending."

As the two senators note, small businesses in the past could turn to the Small Business Administration for loans when banks tightened credit during downturns. But the SBA has been so decimated by Bush administration policies, it is having trouble filling that role now. Lending through the SBA’s flagship 7(a) loan program, which provides working capital, and its 504 program for real estate, is down 57 percent and 45 percent respectively compared with last year.

Part of that decline is certainly due to falling demand. But there is no question small businesses are under stress. The SBA says it is racking up mounting losses from loans made through its lending programs, as small firms struggle to make payments or go out of business. Loan losses more than doubled last year, topping out at $1.3 billion compared with $504 million in 2007 and $276 million in 2005.

Commercial banks, meanwhile, also report that their small business loan portfolios are deteriorating. Bank of America said it took permanent losses on about 2.9 percent of its outstanding small business loans during the last quarter of 2008, or almost 12 percent annually. A year ago, the permanent loss rate was about 6 percent, according to the Wall Street Journal.

While Bank of America and other banks say they are taking steps to increase small business lending, commercial banks are clearly part of the problem. Instead of extending traditional lines of credit, banks over the last five years have increasingly pushed credit cards on small businesses to finance their operations. But once the economy started turning south, they cut credit lines and hiked interest rates and fees mercilessly.

In recent years about 45 percent of small businesses have also relied on home equity lines of credit to fund their businesses. But even there, commercial banks, many of which are insolvent except for government TARP funds, are freezing credit lines.

In one telling example, JPMorgan Chase has been freezing home equity credit lines in New York City by claiming property values have plummeted in Manhattan by as much as 50 percent. In fact, two recent independent real estate reports found that Manhattan property values, on average, went up 5.9 percent during the fourth quarter of 2008.

The bank is basing its valuations on so-called "Broker Price Opinion," or BPO reports, which are merely based on the opinion of a real estate broker and not on comparable sales like a traditional appraisal. The bank refuses to make the BPO reports available to its home equity customers, who must pay for real appraisals if they want to appeal.

The bank is obviously taking advantage of its customers to curb possible future losses -- justified or not. Although the action could be in violation of the federal Truth in Lending Act, banks are so desperate they are willing to risk legal action by government investigators or angry customers. Either way, the damage is real to small businesses that rely on home equity loans for capital.

The net result is a vicious cycle. As banks tighten credit, small businesses become strapped for capital and cut back or go under, forcing bad small business loans to pile up on balance sheets, which the banks use to invoke even tighter credit standards.

As for the half-a-loaf stimulus bill, the House and Senate versions would give the SBA $430 million for new direct small-business lending and loan-guarantee authority, including waiving onerous borrower and lender fees for 7(a) and 504 loans through 2010. They would also authorize the SBA to guarantee up to 95 percent of its small business loans and establish the SBA Secondary Market Guarantee Authority to provide guarantees for pools of first-lien 504 program loans that are to be sold to third-party investors.

The Senate bill would also increase the loan limit on 7(a) SBA loans to $3 million from $2 million, and provide $6 million for SBA’s Microloan Program and $24 million for technical assistance to microloan borrowers.

But small business groups say critical provisions are missing. One would require banks that receive any future TARP funding to dedicate at least 25 percent of those funds to expand their small business lending. Another would require banks to use up to $3 billion of the remaining half of the $700 billion in TARP funding to directly purchase SBA 7(a) pooled securities to free up capital for more lending.

For its part, the NFIB is calling for a six-month payroll tax holiday for both small business owners and their employees and an expansion of expensing limits in both 2009 and 2010 to include investments in business property, not just the purchase of new equipment.

As the saying goes, half a loaf is always better than none. But in these desperate economic times, half-measures won’t be enough. It’s far better to err on the side of overstimulus than to fall short, prolong the depth and duration of the current recession, and cause even greater damage to small businesses and the economy.