Market Size Structure and Small Business Lending: Are Crisis Times Different from Normal Times?

June 10, 2020

Market Size Structure and Small Business Lending: Are Crisis Times Different from Normal Times?
Allen N. Berger, Geraldo Cerqueiro, María Fabiana Penas
Review of Finance, Volume 19, Issue 5, August 2015, Pages 1965–1995,

Conventional wisdom holds that small banks may have comparative advantages vis-à-vis large banks in serving small opaque firms, while more recent literature suggests that this may not be the case. The prior empirical literature uses a broad definition of small businesses and covers normal times, yielding mixed evidence. The RoF article discussed here sharpens the focus to the most vulnerable, credit constrained small businesses, and compares the effects for crisis versus normal times, yielding dramatic differences.

In Market size structure and small business lending: Are crisis times different from normal times?, the authors investigate how small bank presence affects startups’ financing and survival in normal times (2004-2006) and in the Global Financial Crisis (2007-2009). They use data from the Kaufman Firm Survey, a representative panel of 4,928 small US startups that commenced operations in 2004, and were followed annually. They also use FDIC Summary of Deposits and Call Report data to measure bank market size structure – the percentage of branches owned by small banks in the local market (Metropolitan Statistical Area (MSA) or rural county.

The authors find that a greater market presence of small banks results in more lending to small, opaque firms during normal times. However, this differential effect disappears during the financial crisis. These results hold for business credit only (i.e., loans obtained in the name of the firm). They find no differential effect for personal credit used to finance the business. This may be because large banks can use credit scoring or the entrepreneur’s own assets for personal loans, eliminating the comparative advantage of small banks. The results hold after controlling for firm, owner, and market characteristics, as well as local demand effects.

The authors also analyze the effects for different types of bank financing. They find that the benefits of a greater presence of small banks in normal times are restricted to term loans and business lines of credit. They find no differential effect for credit cards, likely because credit card financing is a transactional financing mode with a national competitive landscape.

Finally, the authors find that a greater presence of small banks has a small beneficial effect in terms of reducing the failure rate of small, opaque firms during normal times, but this effect is reversed during the financial crisis. Altogether, the results indicate that the greater presence of small banks increases the supply of credit to small, opaque firms during normal times only. The researchers note that several reasons may explain why small banks were no longer able to sustain their competitive advantage over large banks during the crisis: their significant capital losses suffered due to the high exposure to the real estate markets, their lower access to the safety net protection, and their greater probability of failure.

These findings suggest that the most vulnerable small businesses may have great difficulties obtaining credit during the COVID-19 crisis, as well as the normal times following it, particularly since the market shares of small banks have continued to decline since the Global Financial Crisis.