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Sohum Mehta: “Small Businesses Should Be Aware of Tightening Credit”

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For the fourth straight quarter in a row, American banks have continued to tighten their corporate and industrial loan standards, ending a five-year easing that began in 2010. Speculation continues to build that the move is a result of the volatile economic situation in the EU and China and the ever growing concern of a global recession.  

13 percent of American banks tightened their credit conditions for loans made to medium and large businesses during the first quarter, while only 1.4 percent of American banks loosened theirs.

This trend is especially problematic because economists consider business credit to be one of the chief motivators of the economy, allowing companies to stock up on products and supplies, while also funding business expansion and hiring.

According to the Federal Reserve’s Senior Loan Officer survey released in late May this year, the credit constriction is a result of, “industry-specific problems — such as oil and gas woes, which 65 percent said will cause loan quality to deteriorate — and a less-favorable economic outlook were fingered as the main reasons for tightening.”

In addition, more than two-thirds of the loan officers surveyed cited industry-specific problems and 70 percent pointed to the economy, as a very or somewhat important consideration.

The caution that lenders are now showing has been compounded by narrow net interest margins due to the Fed’s low interest rates and the prospect of a slowing economy, which is prompting loan officers to be less welcoming of riskier borrowers.

Wholesale consumer and corporate banking analyst, Sohum Mehta, points out that restriction on business loans can affect all aspects of a business.

“When banks tighten terms on business loans, they do more than just raise interest rates,” said Mehta. “If some equipment or inventory is being used as collateral to back the loan, the bank may ask for more to be pledged.”

Sohum Mehta also notes, “The size of a line of credit may also be reduced, impacting growth capabilities.  Also, businesses that are required to keep a portion of the loan proceeds on deposit may face an increase in the balance required.”

Small businesses aren’t immune either to a tightening of loan rules, despite many small business loans being tied directly to a bank’s prime lending rate.  

In the National Federation of Independent Business’ monthly survey this July, some small businesses reported getting a less than warm welcome when applying for loans. Compared to last year, 4.2 percent of small businesses said their borrowing needs were not satisfied; that’s up from 3.1 percent in the last quarter of 2015.

“Customers (with average credit) that would have been approved … a year ago are having a much tougher time” with both banks and some online lenders,” said Ami Kassar, CEO of MultiFunding a small business loan adviser.

On the flipside, loan standards have eased for consumers, which has, in turn, increased demand for mortgages and other consumer loans. Currently, banks are more willing to issue mortgages and credit cards, which are considered consumer installment loans.  

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