Transparent Lending to Small Business

by Jitinder Kohli

This article was published by the Center for American Progress.

President Obama during his recent meeting at the White House with some of the nation’s top banking executives “urged these institutions here today to go back and take a third and fourth look about how they are operating when it comes to small business lending. My main message in today's meeting was very simple: that America's banks received extraordinary assistance from American taxpayers to rebuild their industry, and now that they're back on their feet, we expect an extraordinary commitment from them to help rebuild our economy.”

The president is absolutely right. The American people have really dug deep to support the banking sector. They provided hundreds of billions dollars to the banks since the crisis began. There was no alternative, of course, to rescuing the banking system a year ago—not to have done so would have caused the Great Recession to become instead the second Great Depression. But knowing that does not really help those Americans who are without a job today as a result of the crisis, or indeed those businesses that are struggling to get credit from the very banks that they bailed out with their tax dollars.

What Americans want is to know that banks are playing their part in getting the economy going again now that they are returning to profit.

There is a moral imperative for banks to help get the economy back to normal—and lending to small business is core to that. But even now, more banks report tightening lending standards rather than loosening them. And at the same time banks are continuing to increase the interest rate they charge over their costs of funds. And as the president said, many businesses complain about being turned away by banks altogether.

Some kind of adjustment in lending practices was inevitable and essential in the wake of such easy lending practices by banks this past decade prior to the financial crisis of 2008, but over a year on from the apex of the crisis, with bank profits returning, and more and more banks paying back funds to the U.S. government, one would expect lending practices to be loosening rather than tightening.

What’s more, the federal government has relaxed the rules for the Small Business Administration’s loan guarantee programs in order to help get credit flowing. In addition, the Obama administration is exploring ways to possibly divert some funds from Troubled Asset Relief Program to get small business lending flowing. This may well be necessary, but there are also other things that could be done to ensure that banks do their best to lend to small business.

The American people are powerful consumers of banking services. Here are three simple ideas that would help them know which banks are doing the most to get the economy back to strength:

• Banks should publish data on small business lending for each locality by size of business. The data should include the number of loans and amount of lending applied for, and the loans and amounts granted.
• Regulators or consumer groups should conduct mystery shopping exercises, during which people pose as running creditworthy businesses seeking credit at different banks across the country. These “sting operations” would need to be similar across the country so that if banks refuse to lend there would be clear cause for concern. By publishing the results of these mystery shopping exercises, it would be possible to identify banks that are being excessively conservative in their lending decisions.
• The SBA should widely publish data on banks’ lending through the SBA loan guarantee programs by bank and locality.
• All this data should be published online, mapped by locality, so that residents can know which banks are lending to local businesses and which are not.

These steps may well discourage banks from being excessively conservative when making lending decisions by giving the American people information on which banks are doing most to help small businesses get back on their feet. Banks often pride themselves on the contribution they make to their local communities. Better transparency on lending to small business by banks would allow the American people to judge for themselves which banks are doing the most to help their local communities.

In some communities, people might choose to act on the published information and move their personal banking accounts to those banks that are doing the most to help business. Banks have shown they thrive on competition, so this might be exactly the kind of competition needed to help get credit flowing again.

On its own, better information about which banks are lending and which aren’t could never be enough to help the economy out of a credit crunch. But coupled with new government lending to small business through TARP and the Troubled Asset-backed Loan Facility program, which bolstered banks’ balance sheets and got the securitization markets going again, better information on business lending could well be an important way to ensure that banks are genuinely taking “a third look and fourth look” at loan applications from worthy businesses.

Jitinder Kohli is a Senior Fellow at the Center for American Progress.