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Business Loan Interest Rates Getting Ready To Rise
The Federal Reserve (Fed) has been attempting to spur the economy by keeping interest rates low.
If more people can access cheap capital (money) then, they would tend to spend more; right? Buy more big items like houses and cars or just simply spend more in their local economy on items like entertainment or non-essential consumables - all things that should stir economic growth.
Further, low interest rates also means that more small businesses can (and should) qualify for business loans - loans that will help them grow and hire.
But, the Fed also has to watch for inflation. As more demand enters the market (and supply can't keep up or won't keep up) then prices have to rise. We are already seeing inflation spikes in other emerging countries around the world as well as in food and other necessity items in this country.
However, the Fed has been walking this fine line for decades and is apt to do it quite well - that is as long as nothing else crops up.
But, something is cropping up - something that the Fed might not be able to control - The Banks.
Prior to the financial crisis in 2008, the Federal Deposit Insurance Corporation (FDIC) insured deposit accounts up to $250,000. However, after the melt down, in hopes of ensuring depositors that their funds were safe, the FDIC implemented the Transaction Account Guarantee (TAG) program which insured all non-interest bearing deposits - thus no set insurance limit on these interest free deposits.
The result of this program was that large depositors (mainly businesses) felt safe holding their funds in community banks as well as the larger banks that appeared to be financially unstable at the time. The goal was to 1) stop any run on these financial institutions and 2) ensure that these organizations had the funds to make future loans (both business and consumer).
However, this program, while extended several times since 2008, is again set to expire at the end of the year.
Many banks feel that if this program ends, their larger business depositors will move funds out of these non-interest bearing but safe accounts into other vehicles that will at least provide some return on those funds like money market accounts.
Then, to attempt to draw those funds back, they will have to increase the rate of interest they pay on those deposits.
Which you might think is good news for depositors but for small businesses seeking capital it might not be so good.
Why This Will Effect Business Loan Interest Rates
If banks have to increase the amount of interest they pay for deposits, they will have to make those funds up in other areas - particularly by increasing business loan interest rates.
Further, smaller banks, who are the primarily catalyst for small business loans and who have benefits significantly from the TAG program with increased deposits (deposits they can then use to fund these loans) fear that their business customers will move much of their deposits to larger banks. Thus, for them to remain attractive to these deposits, they would have to pay even higher deposit rates.
In fact, according to Camden Fine, president of the Independent Community Bankers of America, letting this program expire "... will have a crippling impact on any kind of full economic recovery as business lending in distressed communities depends on the program."
Moreover, to prove the point, just last week, the National Australia Bank announced that it "... raised interest rates on loans to large and medium sized businesses by 20 basis points, blaming the rising cost of raising deposits."
While this is initially set to effect bigger businesses in Australia as smaller businesses tend to get variable rate loans - the borrowers affected will be those that borrower under $1 million - the standard limit for small business loans in the U.S.
Plus, as larger bank loan rates increase, the smaller banks will have to follow and, like Australia where small business loans are also mostly variable, when interest rates rise for larger businesses they will also affect these variable rate loans.
2012, so far, has been a strange year for any recovery efforts. Some positive economic indicators are up while others continue to fall - essentially leaving the entire economy flat.
In fact, through the first quarter of this year, the SBA, through its latest Small Business Lending Bulletin, conclude that small business lending was just simply flat.
Thus, is this a good time to raise interest rates on business loans - to any business?
Small companies - including those mom and pop main street operations - already have access issues when seeking needed capital for growth (or for survival). Now, add in higher costs (with current stiffen lending standards) and those few small businesses that might otherwise have been granted loans might now also fall through the cracks.
Extending The Program
While I personally don't think this program will be extended before the Presidential election - it might be passed or attached to a bill during the lame duck session (after the election until the end of the year).
But, before any extension can happen, both larger and small financial institutions (including credit unions) and their lobbies and associations all have to get on the same page and ensure that all (lenders and borrowers) continue to benefit for years to come - or, face increased interest rates that will surely hurt everyone - not just business borrowers but eventually all borrowers.
Extending the program might not be the only thing needed to hold interest rates down, it will surely help.
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