The traditional image of the small businessperson trudging into
the bank to submit her loan application and financial statements
to the loan office may not hold in the future. Why? Firms have developed
a statistically based process called credit scoring that allows
lenders to evaluate financial data provided by third parties on
firms and their owners. After this review, the lender determines
which small firms pass their credit tests. The lender could then
mail very brief, in some cases preapproved, loan applications to
the select firms. (This process and its implications are discussed
in more detail in "Small
Business Loans, Small Banks and a Big Change in Technology Called
Credit Scoring," The Region, Federal Reserve Bank
of Minneapolis, September 1997.)
What is particularly novel about credit scoring small business
loans is that it allows banks to underwrite small business loans
in communities where they don't have a physical presence. As a result,
there is reason to suspect that the rise of small business credit
scoring would lead to more loans in communities from banks without
a branch in that area.
But how would analysts be able to determine if such out-of-market
lending is on the rise? Several years ago, there simply was no data
to allow such a review. Analysis of small business bank lending
was limited to the amount of outstanding loans reported on the balance
sheets of banks and thrifts. Since 1996, however, banks and thrifts
have had to report their own geographic location and the location
of borrowers receiving small business loans in a given year. In
this data, small loans to business-those under $1 million-are considered
small business loans because surveys show that most small loans
go to small firms. But, this data is not perfect. For example, the
data does not capture loans made by finance companies. It also requires
estimates of loans made by smaller institutions that do not report
the data directly (for more details on the data itself, go to www.ffiec.gov).
But, even with these warts, the data provides a first chance to
gauge an important geographic aspect of small business lending in
the Ninth District.
The basics of small business lending in the Ninth District
The following picture of small business lending in the Ninth District
emerges from the most recent data (1997): $7.4 billion in small business
loans were made in the Ninth District (excluding northwestern Wisconsin
and the Upper Peninsula of Michigan). Loans made in Minnesota accounted
for over 60 percent of small business lending, and the remainder was spread
equally among Montana, North Dakota and South Dakota. Roughly a third
of the loans fell into the smallest loan size demarcation of under $100,000,
the category of loans most associated with very small firms.
Loans to the smallest firms are not equally distributed among
all the banks in the district. The district's smallest banks, in
particular, appear to have made a disproportionate share of business
loans under $100,000. Banks with assets under $100 million originated
roughly 39 percent of these small loans in 1997, even though they
controlled only 17 percent of the banking assets in the district.
Indeed, about 60 percent of the loans made by the small banks fell
into the under $100,000 level in contrast to banks with assets over
$1 billion that had 25 percent of their business loans in that category.
Spotlight on outsider loans
Analysis of the CRA data indicates that about 10 percent of the small
business loans made in the Ninth District came from banks with no branches
in the district. Utah is responsible for most of the out-of-district lending,
with an affiliate of American Express accounting for almost 1 percent
of the total small business loans made in the Ninth District (see table).
The activity of a credit card issuer in this field is not surprising,
as the new technologies used to make the small business loans have roots
in credit card lending. In addition, Wells Fargo, a well-known user of
the new small business technology, made about $30 million of the smallest
business loans in the Ninth District in 1997.
Of course, the Ninth District is a fairly large definition of
a market. While it is beyond the scope of this article, this data-along
with clever computer programming-will allow analysts to determine
how many loans made in Duluth, Minn., for example, were made by
banks without a branch in that city but with branches in Minneapolis.
This new data thus has implications for merger analysis. Government
analysts are interested in knowing how a merger of two banks in
the same market will affect the availability of credit to small
firms in that market. Now analysts can consider this question knowing
if local firms already received many of their bank loans from distant
In any case, the 1997 data creates a baseline against which we
can evaluate big picture trends in outside market lending. The data
will also allow for exploration of more narrow trends. Will, for
example, the merger of Wells Fargo and Norwest increase the use
of preapproved small business loan applications in the Ninth District?
Only time and the new data will tell.
|Home States of non-Ninth District Lenders Making Small Business
Loans in the Ninth District in 1997
||Amount of Small Business Loans