Small businesses are the backbone of the American economy. Businesses with fewer than 20 workers provide two-thirds of all net new jobs and generate a substantial portion of the gross national product. For this reason, strong concern has been raised regarding an Office of Management and Budget proposal to abolish the Small Business Administration (SBA), an independent government agency intended to assist small firms.
Believing that the SBA effectively promotes small business, many argue that it should not be abolished. The record shows, however, that the SBA has been relatively ineffective in generating new business. Even worse, it misdirects resources, thus denying them to those entrepreneurs who may have been able to make better use of them.
Supporters of the SBA insist that the bureau's primary function—providing loan guarantees and direct loans—is essential to the small-business sector, especially start-up companies in need of capital. But in fiscal year 1984, the SBA's $3.65 billion in loan commitments went to less than two-tenths of one percent of the nation's small businesses—a mere 21,461 out of 14 million.
Moreover, in the first part of 1983, for example, nearly 80 percent of SBA beneficiaries were receiving assistance for the second time. This indicates that new businesses are not the primary beneficiary of SBA programs.
The agency also cannot claim credit for the soaring rate of US business starts in recent years: less than one percent of US businesses have ever received SBA loan assistance.
In addition, the default rate on SBA loans has been high. In 1984, for instance, the federal government had to pay off 18 percent of SBA-guaranteed loans, at a cost of $544 million in taxpayers' dollars. In 1983, the default figure was 26.8 percent, and in 1982 it was 39.9 percent. The SBA has attempted to tighten loan qualifications to reduce such losses—but this seems to defeat the very purpose of the SBA. If SBA's loan record is so bad, then it should retire from the loan business and leave this function to banks and other institutions. There can be little justification for gambling the public's tax money on a program that picks such a high percentage of losers.
But if loan qualifications are so tightened that only "safe" businesses can obtain loans, then such businesses, with a little persistence, surely could obtain loans from other sources. Indeed, under the current system, there is an incentive for bankers to turn down promising small-business loan requests. The reason: such businesses have a good chance of securing an SBA loan guarantee, which can then be used to protect the bank from any risk. So the business gets its money and the bank receives interest from a risk-free loan.
Even if the SBA improved its lending practices, it would not be the best vehicle to help America's entrepreneurs. Institutional loans—whether guaranteed by the SBA or strictly from banks and other lending institutions—are simply not the primary source of capital for small businesses.
A survey by the National Federation of Independent Business (NFIB) reveals that of the 3 percent of existing small businesses that have received government aid, less than half relied on it as the primary source of their capital. For nearly 60 percent of America's small businesses, start-up funds come from the savings of the owners or those of their friends and family. This suggests that the best way to help new firms is to (1) encourage risk taking and (2) enable Americans to retain and save a greater portion of their earnings. Measures to achieve this include reducing capital-gains taxes, cutting personal income taxes, and 5 shielding savings from tax. By making private capital more available, these measures would do far more to help new firms than the SBA now does.
Other SBA activities should be handled by other means or agencies. Disaster relief for homeowners, for instance, is hardly appropriate for an agency established to help small businesses. The agency's disaster-relief program for farmers duplicates Department of Agriculture programs. And SBA-funded training programs duplicate the services offered by business consultants and universities.
Even among its supposed beneficiaries, the SBA wins less than enthusiastic support. A recent NFIB survey found that two-thirds of small businesses have had no experience at all with the SBA, and half of the small firms surveyed oppose direct government loans. Only 10 percent said they would seek market or management help first from the SBA.
The best way to promote small businesses is to reduce government regulation of these firms and to spur personal savings and investment. This is how new entrepreneurs will obtain the capital they need; continuing the costly, ineffective existence of the SBA is not.
Edward Hudgins is an economist at the Heritage Foundation in Washington, D.C.