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Small Business Financing Before, During, and After the Pandemic

It’s no secret the COVID-19 pandemic hit American small businesses hard, but it’s worth recalling just how dramatic the impact was. Early on, the number of active business owners fell by 15%—meaning about two million fewer people were running businesses in May 2020 than in February 2020.1 Small business revenue also took a huge hit, falling by 40% across the country—and even more steeply in some sectors and regions and some types of businesses.2

These impacts had implications for the small business financing market. Among those small businesses that persisted through shutdowns and reduced consumer activity, many turned to lenders for help, seeking loan modifications or new credit—leading some researchers to describe a “surge in loan applications by small businesses” in spring 2020.3 Aggregate demand for new credit during the entire year, however, contracted sharply. Bank surveys found reduced demand for loans among small businesses in 2020, though this was likely offset by access to credit through emergency programs such as the Paycheck Protection Program.4

Small businesses may have encountered contraction on the supply side as well. Bank lending standards tightened considerably in 2020.5 In the early months of the pandemic, too, small business lending from online lenders nearly disappeared.6 Present data sends conflicting signals about future financing trends.

Small Business Lending Contracts Then Rebounds

The Small Business Lending Index from PayNet tracks the volume of new commercial loans and leases to small businesses on a monthly basis. The index fell sharply in the spring of 2020 to its lowest in several years. It has since rebounded strongly: the annual average readings in 2021 and 2022 (through August) are higher than in any year except 2018 and 2019. Through the second quarter of 2022, the total number of outstanding small business loans at depository institutions was 5% higher than 2019 and the value of those loans was 14% higher.7 According to the Federal Reserve, in the second and third quarters of 2022, the net percentage of banks reporting stronger demand for loans from small businesses hit levels not seen since 2013 and 2014.8 The Consumer Bankers Association’s report, Small Business Lending Trends, for the second quarter of 2022 finds “credit utilization” to be at the highest level since 2019.9

Credit Supply Still Recovering

Demand for credit among young and small businesses appears to be recovering. New business creation has been historically strong since mid-2020 and existing small businesses are looking to external credit to finance growth and investment. The supply side, however, appears to be only slowly returning to pre-pandemic levels across all types of lenders.

Each month, Biz2Credit publishes a Small Business Lending Index that includes five different types of lenders on its platform: institutional lenders, alternative lenders, small banks, credit unions, and big banks. After rising—or remaining steady—in the years prior to the pandemic, the Index, across all lenders, plummeted in March 2020. Since the trough in April 2020, the Index has risen, albeit slowly. At all lenders, Index levels remain far lower than before the pandemic and have recovered the most (in absolute terms) among alternative lenders and small banks.10

Another supply side indicator—bank lending standards—also points toward a slower recovery in credit. In the latest Federal Reserve survey of senior loan officers at banks, the net share saying they’ve tightened standards for small firm loans has risen steadily in 2022.11 The third quarter of 2022 shows the highest level of tightening since prior crises, both COVID-19 and the 2008 global financial crisis. Meanwhile, although delinquencies and charge-offs among small businesses remain low by historical standards, some recent indicators suggest future increases.

In PayNet’s Small Business Lending Index, both delinquencies and defaults have exhibited slights upticks in 2022. Likewise, charge-offs (loans the creditor does not think will be repaid) among small businesses have risen in 2022 according to the Consumer Bankers Association and Small Business Financial Exchange. This is true on business credit cards and term loans.12

Policymakers should closely monitor different indicators of small business finance to help determine what actions they might take to maintain access to credit and address emerging challenges.

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