One of my Finance professors used to always say that anyone who could figure out how to competitively loan money to the small business would be a billionaire overnight. He cited a number of hurdles that would need to first be overcome: the hands-on, labor-intensive inventory accounting that often takes place when evaluating a prospective borrower, and the all-too-often requirement that the borrower mortgage his house in order to secure the loan.
That adage crossed my mind the other night. I started thinking, “Why is it so hard to lend money to small businesses?”
It’s simply too easy for the big businesses to borrow money. Real savings decreases in the presence of artificial and ex-nihilo credit, so there is a smaller amount of savings (in this case, generally, “real” savings) available to lend, at rates comparatively higher than those at which the larger, more politically-connected businesses can borrow. Real savings decreases because the prevailing interest rate is no longer market-generated, and is generally held artificially low. Since non-institutional investors can’t earn an adequate return on their investments, the tendency is to forego investment in favor of consumption which is made artificially more attractive by low interest rates. These low interest rates also send a signal to borrowers, encouraging them to take on more debt than they otherwise would.When big businesses borrow money from big banks, who borrow money from the Government, this is not actual, accumulated capital which they are borrowing. It is pure debt-money. The injection of this new money distorts the marketplace, as the recipients thereof use this money to bid resources away from those who don’t have access to the new credit. They must pay a price higher than the prevailing market price, causing prices to rise.
On the other hand, if you borrow $20,000 from your grandfather in order to start a Landscaping business, that’s arguably $20,000 of actual, accumulated wealth. It’s money that gramps can’t use in the meantime, except incrementally per the payback schedule.
The substantive difference here is that in the case of the Landscaper, a tradeoff was made: Grandpa foregoes present consumption in favor of future consumption, whereas the big business does not need to make any such tradeoff.
One consequence of this scenario, is that smaller borrowers have a harder time securing loans. Too much credit is being made available to big business, without the backing of any actual collateral. Credit expansion crowds out the real savings, on which smaller businesses depend. It is difficult for the small business to raise capital, because the market for capital is profoundly distorted.