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As bankers await the release of today’s stress test results, a familiar melody they should be listening to is from the Queen and David Bowie song, "Under Pressure." It’s a great tune released during the 1982 recession and one that might just be the theme song for the business community for the past several years.
Much of the talk in the wake of the stress tests will revolve around what the results say about the health of our nation’s most recognizable banks. But as important as it is to consider what our banking regulations mean for Wall Street and America’s capital markets system more broadly, we can’t lose sight of the consequences of those regulations for Main Street lending.
Entrepreneurs and small businesses are key engines of economic growth and job creation, and they depend on access to credit to fund start-ups, hire, fill new orders, and expand. Unfortunately, the current bank capital and liquidity regime has harmed Main Street’s access to credit and increased the costs of small business lending.
Expanding Opportunities for Investment
There is a wealth of new research that should inform policymakers’ consideration of this matter. In the Chamber’s 2016 Financing Growth Survey of more than 300 corporate financial professionals, nearly 80 percent reported that financial services regulation has directly affected their financing activities. One-half reported that bank capital charges have increased their costs, and one-third expected the regulatory effect to worsen in the next three years.
There’s more evidence. In April of this year, the twelve Federal Reserve Banks reported the results of their annual survey of small business credit. While finding “widespread demand” for small loans – 45 percent of firms applied for funding – there were substantial financing shortfalls. Sixty percent of firms obtained less than the amount for which they had applied, and almost a quarter of small businesses were unable to obtain any financing at all.
Sure enough, recent research has connected small business credit gaps to bank capital and liquidity rules. In May, a team of economists concluded that “small business lending in all size categories is statistically significantly less at stress-tested banks” – consistent with the hypothesis that stress-tested banks reduce the supply of credit in order to reduce bank risk – after analyzing Community Reinvestment Act loan origination data. Researchers at The Clearing House came to the same conclusion after analyzing loan data in Federal Reserve and FDIC call reports.
Finally, a study in March from the Harvard Business School linked the decline in small business lending at the four largest U.S. banks to stress tests’ relatively severe assumptions about the losses on small business loans, as well as the sheer amount time and effort required of senior managers to comply with the full array of regulations implemented after the financial crisis. Professor Hal Scott, also of Harvard and an authority on prudential regulation, recently implicated liquidity requirements as a key constraint on small business lending.
Let’s Remove the Strain on Main Street
In his testimony before the Senate Banking Committee last week, Federal Reserve Governor Jerome Powell argued that the strength of the banking system provides room to “reduce the costs of regulation, without affecting safety and soundness.” This would be in line with the “obligation to make our regulation no more costly than it need be.”
The regulators are right to recognize that if they can reduce the costs of bank regulations without affecting safety and soundness, they should do so out of principle alone. However, protecting small and medium enterprises’ access to credit is vitally important to our entrepreneurs, job creators, and economy at large. Banks of all sizes – community, regional, and global – are key sources of Main Street financing, and capital and liquidity rules should be properly calibrated to refrain from impeding Main Street’s chances to grow and thrive.
Early indications are that the stress test results will be good. Hopefully that will lead the way to taking the pressure off of Main Street and restarting America’s economic growth engine. In that case, turn up the Rolling Stones classic, "Start Me Up."