Tag: small business

The Federal Reserve vs. Small Business

Given all the attention that the Federal Reserve has garnered for its monetary “stimulus” programs, it’s perplexing to many that the U.S. has been mired in a credit crunch. After all, conventional wisdom tells us that the Fed’s policies, which have lowered interest rates to almost zero, should have stimulated the creation of credit. This has not been the case, and I’m not surprised.

As it turns out, the Fed’s “stimulus” policies are actually exacerbating the credit crunch. Since credit is a source of working capital for businesses, a credit crunch acts like a supply constraint on the economy. This has been the case particularly for smaller firms in the U.S. economy, known as small and medium enterprises (“SMEs”).

To understand the problem, we must delve into the plumbing of the financial system, specifically the loan markets. Retail bank lending involves making risky forward commitments, such as extending a line of credit to a corporate client, for example. The willingness of a bank to make such forward commitments depends, to a large extent, on a well-functioning interbank market – a market operating with positive interest rates and without counterparty risks.

With the availability of such a market, banks can lend to their clients with confidence because they can cover their commitments by bidding for funds in the wholesale interbank market.

At present, however, the interbank lending market is not functioning as it should. Indeed, one of the major problems facing the interbank market is the so-called zero-interest-rate trap. In a world in which the risk-free Fed funds rate is close to zero, there is virtually no yield be found on the interbank market.

In consequence, banks with excess reserves are reluctant to part with them for virtually no yield in the interbank market. As a result, thanks to the Fed’s zero-interest-rate policies, the interbank market has dried up (see the accompanying chart).

 

Without the security provided by a reliable interbank lending market, banks have been unwilling to scale up or even retain their forward loan commitments. This was verified in a recent article in Central Banking Journal by Stanford Economist Prof. Ronald McKinnon – appropriately titled “Fed ‘stimulus’ chokes indirect finance to SMEs.” The result, as Prof. McKinnon puts it, has been “constipation in domestic financial intermediation” – in other words, a credit crunch.

When banks put the brakes on lending, it is small and medium enterprises that are the hardest hit. Whereas large corporate firms can raise funds directly from the market, SMEs are often primarily reliant on bank lending for working capital. The current drought in the interbank market, and associated credit crunch, has thus left many SMEs without a consistent source of funding.

As it turns out, these “small” businesses make up a big chunk of the U.S. economy – 49.2% of private sector employment and 46% of private-sector GDP. Indeed, the untold story is that the zero-interest-rate trap has left SMEs in a financial straightjacket.

In short, the Fed’s zero interest-rate policy has exacerbated a credit crunch that has been holding back the economy. The only way out of this trap is for the Fed to abandon the conventional wisdom that zero-interest-rates stimulate the creation of credit. Suppose the Fed were to raise the Fed funds rate to, say, two percent. This would loosen the screws on interbank lending, and credit would begin to flow more readily to small and medium enterprises.

Video of Baucus’ ‘Train Wreck’ Comments

Perhaps you have now heard that today ObamaCare’s primary author, Sen. Max Baucus (D-MT), predicted a “huge train wreck” when the law takes full effect later this year. Here’s the video

Edited for you by the folks at American Commitment. They even coined a hashtag: #trainwreck.

Max Baucus, ObamaCare’s Lead Author, Sees ‘Huge Train Wreck Coming Down’

I should probably just turn this one over to Sam Baker at The Hill:

Sen. Max Baucus (D-Mont.) said Wednesday he fears a “train wreck” as the Obama administration implements its signature healthcare law.

Baucus, the chairman of the powerful Finance Committee and a key architect of the healthcare law, said he’s afraid people do not understand how the law will work.

“I just see a huge train wreck coming down,” Baucus told Health and Human Services Secretary Kathleen Sebelius at a Wednesday hearing. “You and I have discussed this many times, and I don’t see any results yet.”

Baucus pressed Sebelius for details about how HHS will explain the law and raise awareness of its key provisions, which are supposed to take effect in just a matter of months.

“I’m very concerned that not enough is being done so far — very concerned,” Baucus said.

He pressed Sebelius to explain how her department will overcome entrenched misunderstandings about what the healthcare law does.

“Small businesses have no idea what to do, what to expect,” Baucus said.

Citing anecdotal evidence from small businesses in his home state, Baucus asked Sebelius for specifics about how it is measuring public understanding of the law.

“You need data. Do you have any data? You’ve never given me data. You only give me concepts, frankly,” Baucus told Sebelius.

Sebelius said the administration is not independently monitoring public awareness of specific provisions, but will be embarking on a substantial education campaign beginning this summer.

Baucus is facing a competitive reelection fight next year, and Republicans are sure to attack him over his role as the primary author of the healthcare law.

A messy rollout of the law’s major provisions, just months before Baucus faces voters, could feed into the GOP’s criticism.

Wednesday’s hearing wasn’t the first time Democrats — including Baucus — have raised concerns about the implementation effort. But while other lawmakers have toned down their public comments as they’ve gotten answers from Sebelius, Baucus said Sebelius has not addressed his fears.

“I’m going to keep on this until I feel a lot better about it,” Baucus told Sebelius…

Enrollment in the healthcare law’s insurance exchanges is slated to begin in October, for coverage that begins in January. Baucus, though, said he’s worried exchanges won’t be ready in time.

“For the marketplaces to work, people need to know about them,” Baucus said. “People need to know their options and how to enroll.”

Who knew that running the health care sector would be hard.

CBO Perpetuates Small Business Administration Myth

A new brief from the Congressional Budget Office discusses the role of small businesses in the economy and how they’re affected by federal policy. The CBO cites the Small Business Administration as one example of how federal policy favors small businesses over larger businesses:

Assistance from the Small Business Administration (SBA), through loan guarantees that enable small firms to borrow at more attractive terms (for example, lower interest rates and fees) than they might otherwise obtain.

That’s the popular perception of the SBA’s loan guarantee programs, but I would argue that it’s inaccurate for two reasons:

  1. The Government Accountability Office has calculated that SBA 7(a) loans only account for a little more than one percent of total small business loans outstanding. Veronique de Rugy and I looked at the top 15 industries that received SBA-backed loans from 2001-2010 and found that only 0.5 percent of the small businesses that comprise these industries received loans backed by the SBA. Thus, rather than helping small businesses compete against big businesses, SBA loan guarantees mainly help a tiny share of small businesses compete against other small businesses.
  2. The real winner from the SBA’s loan guarantees is the banking industry—particularly large banks. In 2009, the top 10 lenders (out of 2,600 total lenders) accounted for close to one-quarter of the SBA’s flagship 7(a) loan guarantee program’s volume. Wells Fargo & Co. alone accounted for 7.3 percent of the total 7(a) loan volume. Other large banks in the top ten include J.P. Morgan Chase, U.S. Bancorp, and PNC Financial Services Group. Although lawmakers portray the SBA’s loan programs as a boost for small businesses, the programs are actually a form of corporate welfare for some of America’s largest banks.

See this Cato essay for more on why the Small Business Administration should be abolished.

The Curious Case of Lloyd Chapman

Last week, I flayed the American Small Business League’s Lloyd Chapman for his absurd claim that legislation introduced by Sen. Richard Burr (R-NC) would close the Small Business Administration (see here). As I expected, Chapman’s response is equally absurd.

In an ASBL press release, Chapman actually threatens to take me to court over my calling him a “conspiracy theorist”:

The next time you call me a conspiracy theorist, be ready to back it up with facts. You just might find yourself in court.

Good luck with that, Lloyd. In the meantime, let’s allow the court of public opinion to decide if the following claim you recently made is the stuff of a conspiracy theorist:

Clearly Republicans like Senator Burr, his supporters and groups such as the CATO Institute are directed like puppets by the defense and aerospace industry.

I can’t speak for Sen. Burr, but Chapman’s assertion that the Cato Institute is being “directed like puppets by the defense and aerospace industry” is ridiculous. Cato’s Downsizing Government website, which I co-edit, lays out the case for cutting the Department of Defense.

My Cato colleagues past and present have consistently advocated for a limited U.S. presence abroad:

Cato’s foreign policy vision is guided by the idea of our national defense and security strategy being appropriate for a constitutional republic, not an empire. Cato’s foreign policy scholars question the presumption that an interventionist foreign policy enhances the security of Americans in the post-Cold War world, and maintain instead that interventionism has consequences, including the formation of countervailing alliances, the proliferation of weapons of mass destruction, and even terrorism. The use of U.S. military force should be limited to those occasions when the territorial integrity, national sovereignty, or liberty of the United States is at risk.

Does that strike the reader as anything the defense and aerospace industry would direct Cato to advocate? Clearly, Chapman is hopelessly lost in a fantasy world of his own creation.

Perhaps realizing that he embarrassed himself by threatening me with legal action, Chapman now says that he wants to take a different approach:

I am sure that Tad DeHaven and the staff at the CATO Institute have seen my press release in response to their attack on my credibility. I’d like to take this opportunity to try a different approach and appeal to their sense of patriotism, logic and reason.

He then proceeds to talk about all of the jobs that small businesses create and the fact that federal contracts set aside for small businesses sometimes end up instead benefiting large businesses. Uh, Lloyd, in my “attack” on you, I never said otherwise. I even noted that “Chapman is correct that government contracting is fraught with fraud and abuse.” In my testimony on the SBA before the Senate Small Business Committee, I discussed examples of fraud and abuse in government contracting, including federal contracts set aside for small businesses that ended up benefiting large companies like General Electric and Lockheed Martin.

As I noted in my “attack,” Chapman is focused on the contracting issue whereas I’m primarily focused on the SBA’s loan guarantee programs. I frankly don’t care what firms receive federal contracts so long as work is performed at the lowest cost to taxpayers. I’m more concerned with reducing the size and scope of government, which would mean lower taxes and fewer burdensome regulations for small businesses. Moreover, does Chapman not understand that those government contracts are paid for, in part, by other small businesses through taxes? I would argue that the strength of the small business community should be measured by the goods and services produced for private consumption, not government consumption.

Finally, if Chapman is so pro-small business/anti-big business, why isn’t he concerned with the SBA’s loan guarantee programs? I challenged Chapman on this issue:

I’m all for a serious discussion and debate on the SBA. The SBA’s loan guarantee programs benefit a relatively tiny number of small businesses at the expense of the vast majority of small businesses that do not receive government support. Moreover, the biggest winners from these loan guarantees are big banks who reap the profits but get to kick the bulk of any losses to the government. One would think a pro-small business/anti-big business guy like Chapman would be concerned by this. Instead, Chapman consistently resorts to wild exaggerations and conspiracy theories. As a result, I can’t take him seriously. It’s too bad policymakers do.

The silence from Chapman on this matter is deafening. In addition to resorting to wild exaggerations and conspiracy theories, we can now add the threat of legal action. Until Chapman dispenses with the antics, policymakers should stop taking him seriously.

100,000+ Cribs May Be Headed for Dumpsters Today

Last December the Consumer Product Safety Commission (CPSC) adopted new standards for crib design, a step mandated by the famously overreaching Consumer Product Safety Improvement Act of 2008 (CPSIA). The commission decided to go well beyond a set of voluntary design standards that had been widely adopted the year before; it also chose to make the new rules retroactive, rendering unlawful the sale of many existing cribs whose overall safety record is otherwise acceptable—no one would think of subjecting them to a recall, for instance. Commissioner Nancy Nord:

The day care industry did protest that the rule, as proposed, would result in approximately a $1/2 billion hit to a group that could not immediately absorb costs of such magnitude, especially on the heels of having just bought new cribs to meet the standards of 2009. As a result, at the last minute just before finalizing the rule, the Commission agreed to amend the proposed rule to delay the effective date for this group by 18 months. There was no analysis behind this date; basically, it was pulled out of a hat.

Manufacturers and sellers fared less well, however, and were stuck with a deadline of June 28, 2011, that is, today. Commission staff predicted that retailers would not suffer significant economic harm, which turned out to be wrong, as the commission learned when they began hearing from “small retailers who are stuck with stranded inventory that they cannot sell, also asking for a delay,” according to Nord.

How much stranded inventory? Quite a lot, says Commissioner Anne Northup:

The retailers of these cribs, which the Commission deemed were safe enough to continue to be used for another two years in day care facilities, stand to lose at least $32 million dollars when they are required to throw out noncompliant cribs on June 28.

That’s a lot of landfill space that may be needed in coming days. Nord again:

An internal survey of 5 retailers found that those companies had at least 100,000 non-complying cribs in inventory. A survey done by a trade association representing one part of the small retailer community found that 35 companies had 17,500 cribs that cannot legally be sold in two weeks.

Retailers pleading for a longer transition period got no mercy from the hard-line pro-regulation Commission majority led by Obama appointee Inez Tenenbaum. In a similar way, the much vaster stranded-inventory problems and compliance nightmares engendered by CPSIA as a whole keep getting worse rather than better, due to an equally obdurate attitude from the commission’s current leadership and its Democratic allies in Congress. Politically and with the press, there seems to be little downside in striking cost-no-object For the Children postures, even if the result is to place untenable burdens on the sorts of local shopkeepers and service providers who specialize in meeting the everyday needs of children.

Related, at my website Overlawyered: “Thanks for standing by for eight months after we told you to stop selling your infant slings pending a recall. We’ve decided no recall is needed. What, you’re out of business? Never mind.”

Occupational Licensing: It Isn’t Just for Doctors and Lawyers Any More

“Cat groomers, tattoo artists, tree trimmers and about a dozen other specialists across the country …  are clamoring for more rules governing small businesses,” reports the Wall Street Journal in a front-page story today. “They’re asking to become state-licensed professionals, which would mean anyone wanting to be, say, a music therapist or a locksmith, would have to pay fees, apply for a license and in some cases, take classes and pass exams.” And despite all the talk about deregulation and encouraging entrepreneurship, “The most recent study, from 2008, found 23% of U.S. workers were required to obtain state licenses, up from just 5% in 1950,” according to Morris Kleiner of the University of Minnesota.

The Cato Institute has been taking on this issue for decades. In 1986 Stanley Gross of Indiana State University reviewed the economic literature on the impact of licensing on cost and quality. Kleiner wrote in Regulation in 2006:

Occupational regulation has grown because it serves the interests of those in the occupation as well as government. Members of an occupation benefit if they can increase the perception of quality and thus the demand for their services, while restricting supply simultaneously. Government officials benefit from the electoral and monetary support of the regulated as well as the support of the general public, whose members think that regulation results in quality improvement, especially when it comes to reducing substandard services.

Adjunct scholar Shirley Svorny noted that even in the medical field, “licensure not only fails to protect consumers from incompetent physicians, but, by raising barriers to entry, makes health care more expensive and less accessible.” David Skarbek studied the temporary relaxation of licensing requirements in Florida after Hurricanes Katrina and Frances and concluded that Florida should lift the rules permanently. In his book The Right to Earn a Living: Economic Freedom and the Law, Timothy Sandefur devotes a chapter to “protectionist” legislation such as occupational licensing.