There’s plenty of talk about cutting the federal budget these days in Washington. And there’s lots of fighting over the size of the federal government. But there has been relatively little discussion about the scope of Uncle Sam’s activities.
That’s unfortunate because our ailing economy is still struggling to recover from a recession that had Washington’s manipulating fingerprints all over it.
Not content with the damage they’ve already done, politicians in Washington continue to entrust stale bureaucracies with the job of righting the economic ship instead of getting the federal government out of the way.
One of those bureaucracies is the Small Business Administration, which has been employed by Congress and President Obama to reignite private-sector lending.
Federal subsidies to small businesses didn’t make sense in the 1950s and it doesn’t make sense today.
The SBA does this by guaranteeing loans issued by private lenders for up to 85 percent of losses in the event that loan recipients default. As a result of the guarantee, lenders are more willing to lend money to riskier applicants because the SBA — and thus taxpayers — is ultimately responsible for the bulk of any losses.
Never mind that surveys of small-businesses owners consistently show that taxes and regulations are their biggest problems while financing polls in the single digits. Instead, the politicians’ faith rests with agencies like the SBA, which was signed into law against President Eisenhower’s better judgment because he wanted to counter criticisms that Republicans were beholden to “big business.” (How’d that work out?)
Federal subsidies to small businesses didn’t make sense in the 1950s and it doesn’t make sense today. However, the SBA’s defenders argue that market-driven lending denies credit to worthy small businesses, and so the government must correct this alleged “market failure.”
Except that there isn’t any “market failure.” Capital markets have developed effective private solutions such as credit scoring to overcome the asymmetry of information between lenders and borrowers.
Besides, small businesses with sound business plans and solid prospects should be able to raise debt and equity capital through private means. If a small business has shaky finances and questionable prospects, it should be denied private capital as a bad business risk.
Indeed, the large failure rates on loans backed by the SBA illustrate that the government’s credit market interventions do a poor job allocating capital.
Fortunately, the SBA’s presence in the credit markets is largely irrelevant. The Government Accountability Office has calculated that SBA loans only account for a little more than 1 percent of total small-business loans outstanding.
Moreover, the industries that receive the most SBA loans are characterized by a large number of firms and robust competition. That means that the vast majority of restaurants, beauty salons, gas stations, and other businesses meet their credit needs in the market without SBA subsidies.
The SBA’s loan guarantees benefit a small number of favored businesses for no good economic reason. But politically, SBA programs benefit a powerful special interest group: the banking industry.
Indeed, the top 10 lenders out of 2,600 total lenders accounted for close to one-quarter of the SBA’s loan volume in 2009. Included in the top 10 are large banks like Wells Fargo, J.P. Morgan Chase, and U.S. Bancorp.
Although lawmakers portray the SBA loans as a boost for small businesses, they’re actually a form of corporate welfare for some of America’s largest banks. The banks reap profits from the program, but taxpayers are liable for the losses.
Alas, the SBA retains political support because it is a tool for policymakers to signal their support of small businesses, even though its lending programs benefit a relatively tiny number of businesses at the expense of taxpayers.
At the same time, SBA supporters have cultivated a myth that being against the agency is equivalent to being against small businesses. In reality, the great majority of American small businesses have thrived without government subsidies. It’s time to ax the SBA.