Will Online Lending Overtake Community Banking

Ashtabula County has some very good and responsive community banks that support small business growth across the county. These banks include Andover Bank, Northwest Savings Bank, and Conneaut Savings. But what lies ahead for these banks and the valuable larger financial institutions providing growth capital to the county’s small businesses? Technology is transforming all industries, and it is birthing major changes in banking.

A recent article from Economic Development Now says that even though the most recent recession has been over for years, it’s still tough for small business to get loans. Large banks are less willing to extend credit to small businesses because the loans are time-intensive, hard to automate, difficult to securitize, and expensive to underwrite.

But what about community banks? Community banks can circumvent the above hurdles by building relationships with local small business owners and using soft measures of creditworthiness. Yet the Federal Reserve Bank of Richmond estimates that the number of community banks fell by 41 percent between 2007 and 2013. This is especially troubling considering that community banks provide more than half of all small business loans, even though they account for less than a quarter of all business lending.

The Richmond Fed and some academics believe the Dodd-Frank Act is partially to blame. Its regulations have a disproportionate impact on small banks, which had little to do with the financial crisis but nonetheless face higher net compliance costs than large financial institutions. A couple of articles from the Institute for Local Self-Reliance explore why local banks are vanishing and how Washington punishes small businesses in more depth.

Online lending fills the void. A recent Federal Reserve survey found that 18 percent of small business owners sought capital from online lenders, which provided a 38 percent approval rate, compared with 31 percent from large, traditional banks (Fortune). Online lenders provide small, nimble loans through an application processes that can be completed in as little as 30 minutes. Many can provide a response within hours and can disburse funds within a few days.

However, online loans are not without risks (Governing). Some online lenders behave less like well-intentioned CDFIs and more like predatory payday lenders, hiding fees and providing misleading interest rates, which can exceed 100 percent. Chicago is one city attempting to bring heightened transparency to the industry and educate business owners on the risks; it offers a 311 number to help small businesses find financing.

Exploring these trends in the context of Ashtabula County is important. It’s an issue for the county’s 503 loan program and public lending programs to small business that work closely with the smaller banks, especially the community banks.

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