Small businesses: Measuring their power and their problems

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The Washington Post
By: Edmund L. Andrews
August 1, 2010

Edmund L. Andrews works for The Fiscal Times, an independent news organization that specializes in fiscal and economic matters. It is funded by Peter G. Peterson, who separately supports groups that advocate for long-term debt reduction.

He may be locked in combat with Wall Street and the Business Roundtable, but President Obama spoke nostalgically last week about the virtues of small business.

"Helping small businesses, cutting taxes, making credit available," Obama said Wednesday after meeting business owners at the Tastee Sub Shop in Edison, N.J. "This is as American as apple pie. Small businesses are the backbone of our economy. They are central to our identity as a nation. They are going to lead this recovery."

With unemployment stuck at 9.5 percent and job growth shaky, supporting "small business" has become a Rorschach test for both parties.

The president and congressional Democrats are racing to show what government can do. A bill pending in Congress would create a $30 billion small-business lending fund, add new tax breaks and expand loan guarantees from the Small Business Administration.

Republicans invoke small business to campaign against what they don't want government to do: expand health care, tighten financial regulations or raise taxes on the rich.

So what is the economic power of small business in America?

Politicians in both parties have resorted to overblown claims and ambiguous data about its role in job growth -- calling it the engine that creates two-thirds of all new jobs -- and innovation.

Small businesses are a crucial source of jobs, employing about half of all workers, according to the Bureau of Labor Statistics. But a raft of studies also shows that only a sliver of those companies grow rapidly or generate many new jobs. The vast majority are mom-and-pop operations -- hair salons, restaurants, bookkeepers, car repair shops -- that grow slowly and shed about as many jobs as they create.

In a 2008 study, the Small Business Administration concluded that companies with gangbuster job growth -- what researchers called "high-impact'' companies and others refer to as gazelles -- constitute only 2 or 3 percent of the nation's companies.

The superstars came in all shapes and sizes. They included legions of tiny companies with fewer than 20 workers. Those firms generated about one-third of the new jobs, according to the study. About 43 percent of the jobs came from corporations with more than 500 workers, and another 24 percent came from firms with 20 to 500 workers.

Not surprisingly, companies with gangbuster growth defy easy stereotypes. Although some were high-tech start-ups such as Google, most had been around for years before they took off. The average "high-impact'' company was 25 years old.

That doesn't mean small companies aren't a big pillar of the job market. Whether or not they grow rapidly, companies with fewer than 250 workers provide almost half of all private-sector jobs, according to the Bureau of Labor Statistics. About 38 percent of all workers are in companies with fewer than 100 employees. When those companies shed jobs, as they have in droves over the past two years, the losses have a big impact on overall employment.

Analysts say small businesses suffered disproportionate harm in the downturn, in part because banks couldn't or wouldn't make as many loans.

Small companies were among the first to resume hiring after the recessions of the early 1990s and 2001. Not this time. Although the economy has added about 600,000 private-sector jobs this year, surveys of small-business owners indicate that, as a group, they have barely begun to hire.

In recent monthly surveys by the National Federation of Independent Business, small-business owners have been about as bleak as at any time since the surveys were started in 1986. And in a July survey by the National Small Business Association, 41 percent of companies said they couldn't raise as much money as they needed -- the highest share in 17 years, according to the trade group.

What to do?

The Obama administration is pushing hard for a bill that would create a $30 billion small-business lending fund, expand lending through the Small Business Administration and provide several billion dollars worth of new tax breaks.

The House passed one version of the bill in June. Senate Republicans blocked votes on a similar bill Thursday, and the Senate may have to shelve the measure until after its break.

"The lack of credit for small business is a problem," said Sen. Richard Shelby of Alabama, the ranking Republican on the Senate Banking Committee. But he said the government should not try to fix the problem with "another expensive and bureaucratic government program."

Supporters say the $30 billion fund, which would invest in small community banks, would allow the banks to leverage the money and make almost $300 billion in additional loans. The Congressional Budget Office has estimated that the fund would not cost the government in the long term, as the banks repay the Treasury Department with interest.

"I travel all over the country and I see small businesses that are ready to grow, but they need working capital," said Karen G. Mills, administrator of the Small Business Administration. "We know that banks are starved for capital to give to good businesses."

The new money could make a real difference, but only if the community banks actually use it. Much will depend on the economy itself.

Loan volumes actually declined after the Treasury poured money into banks under the Troubled Assets Relief Program, in part because the recession reduced profitable lending opportunities.

The bill does try to prod banks into lending. Banks that step up their pace will be allowed to repay the government at much lower interest rates than banks that stay on the sidelines.

Another wild card is the attitude of bank regulators. Bankers and small-business lobbyists worry that regulators, determined to minimize risk, will insist on rigid loan guidelines.

But critics say the real problem isn't a shortage of capital but a shortage of healthy borrowers. In the National Federation of Independent Business's July survey, although nearly half said they couldn't get enough credit, only 6 percent of business owners said that was their biggest problem. By contrast, 30 percent said their biggest obstacle was weak sales.

Many small-business owners lost creditworthiness as they struggled in the downturn. Plunging property values have made it harder for entrepreneurs to use homes or commercial property as collateral.

Bill Owens, founder of Education Solutions in Shelby, N.C., provides a case study in the murkiness of the lending equation. Owens, who developed a cheap way to provide whiteboards to cash-strapped schools, said he has a backlog of orders. But because his credit rating has slipped in the past two years, he can't get loans to stock up on materials

Analysts say that is a big reason that small-business lending is still weak.

"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 congressional panel overseeing TARP said in a May report. "Due to the recession, relatively few small businesses now fit that description."

Carmen Ortiz Larsen, founder of Bethesda-based Aquas, is reluctant to ask her bank for more credit. Aquas, which provides engineering and information technology services, has 32 employees. Larsen said she would like to expand but worries that asking for a bigger loan could prompt her bank to question her existing credit lines.

"It's a chicken-and-egg thing,'' Larsen said. "I don't want to stir the pot too much. I need to hang on to the credit I've got."

Small-business lobbying groups disagree about what to do.

The National Small Business Association, which says it represents 150,000 small firms, has said the new lending fund could greatly ease the credit crunch for many of its members. But Todd McCracken, the group's president, said much will depend on how much regulators insist on tighter loan standards.

"We have supported something along these lines for more than a year,'' he said. "My only caveat is that this bill is not a silver bullet and can be undermined by tight regulatory standards.''

But the National Federation of Independent Business, which says it represents about 300,000 businesses, has been lukewarm.

In a recent statement, the group said the small-business lending fund "has the potential to help creditworthy small businesses." But it complained that the bill didn't address the most pressing problems facing small business -- the lack of sales and customers.

William C. Dunkelberg, the NFIB's chief economist, has been even more critical and charged that the bill was all but irrelevant.

"Congress is fixated on credit . . . and that won't sustain or support faster growth,'' Dunkelberg wrote in June. "Washington is applying leeches and performing blood-letting as a cure."

Supporters of the bill acknowledge that it won't be a cure-all, but they say it deals with a real problem.

Said SBA administrator Mills: "The more capital the banks have, the more ability they have to make loans to small business."

Washington Post staff writer Michael A. Fletcher contributed to this report.

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