Almost 30 years ago, Reagan budget director David Stockman got in trouble for saying that the Small Business Administration (SBA) should be dismantled.
A close look at the then $3 billion a year lending program revealed how ”inconsequential and unnecessary to the thriving small-business sector” the agency was. He also made the case that, though ineffective, the SBA induced distortions into the capital market, created unfair competition between the SBA and non-SBA recipients, and had a real budget cost. He was right then and he would still be right now. Trying to follow in Stockman’s footsteps, I have made this case regularly over the years, without much success.
As such, I was really interested to see that the ranking member on the Senate Budget Committee, Senator Jeff Sessions, just sent a letter to the SBA asking important questions about the actual cost of the SBA. In particular, the letter focuses a lot of attention on the differences between what the agency claims its default rates are and what its actual default rates probably are.
One problem, the senator notes, is the risk faced by taxpayers due to the large default rates of SBA loans extended to various franchise brands. There’s a long list of franchise brands with default rates from 40 percent to over 94 percent through 2011, put together by the president of the American Business Brokers Association William Bruce. All the names on the list, including Blockbuster and Quizno’s, had a minimum of ten loans with the SBA. All these defaults are paid for with taxpayer money.
The franchise business may not be that lucrative, for the individual franchisees but it is for the companies like the corporations that sell the franchises. They should be the ones extending the loans, not SBA lenders with little incentive to be a good stewards of taxpayers’ money. That kind of system would also give an incentive to the Franchise to help its franchisees survive, rather than make it extremely hard for them to succeed.
Armed with these data, Senator Sessions asks the SBA whether it’s excluded some of these high risk franchise brands from the list of eligible borrowers:
Please explain whether or not the SBA has excluded certain franchises because of high default rates, and provide the percentage of defaults necessary to exclude a franchise. If the SBA does not exclude franchises based on default rate or otherwise, please state whether the SBA believes it has the authority to do so.
The senator also seems to be looking for data about the real default rate faced by the agency, with this question:
Please provide the default rate per cohort in the 7(a) program for the last 10 years data is available, listing each year separately.
The way the agency measures its default rates right now is less than transparent because it combines new and old loans, which artificially lowers the rate and makes the agency’s business model looks less irresponsible than it really is.
These are very good questions to which I hope he will get some answers. The agency is indeed supposed to lend money to higher-risk businesses who can’t get capital without a government guarantee, but these companies are supposed to use the opportunity to create economic growth rather than crash and burn. What’s all this costing? The agency’s outstanding liabilities easily exceed $90 billion, and they’ll continue to grow as long as the SBA continues to extend loans.