How to Help Small Business

August 3, 1953

The blunders and scandals connected with the Reconstruction Finance Corp. led to a mounting demand that the agency be abolished. So Congress has voted to terminate it—and to create something just as bad to take its place.

The new institution will be known as the Small Business Administration. Congress seems to think this will be better, because it will not be authorized to make any individual loan of more than $200,000. But it may actually be worse. What caused the public demand for the abolition of the RFC were the mink-coat scandals in connection with the $37,500,000 loan to the Lustron Corp. and the misgivings that grew out of the $69,400,000 loans to Kaiser-Frazer. These large loans captured the headlines. But where no one loan is big enough to dramatize the situation, blunders, politics, and corruption may continue to be tolerated.

Loans by a political agency are inevitably more political than economic. Congressmen did not hesitate to bring pressure on the RFC to grant loans to their constituents. Obviously they will hesitate much less to do this in connection with small loans than in connection with large ones.

The sentiment in favor of government loans to private business rests on a belief that there are all sorts of worthy projects, particularly small ones, that cannot get started because private bankers or investors do not have the courage and vision to see the possibilities in them. No doubt there always are a few worthy projects of this sort. Private bankers and owners of loanable capital are not omniscient. But it does not follow that a government lending agency will know how to correct these private errors. On the contrary, it is enormously probable that for every sound project it finances that private capital would not finance, it will finance half a dozen marginal projects, from snack bars to snake farms, that private capital had quite wisely turned down.

Government agencies are bad gamblers from the nature of the case. The private investor risks his own money.

He may stand either to make a handsome profit or to lose his entire capital. Therefore he is likely to scrutinize a project very carefully before he risks that capital. A government agency, on the other hand, is not risking its own money, but merely the taxpayers’. The SBA loans are almost certain to be dubious, moreover, from the very terms under which they must be made. Private-loan sources must be exhausted before a small business can come to the SBA for a Federal loan. This means that the SBA can risk the taxpayers’ money only on projects in which no one has been found willing to risk his own money.

Some people suppose that a government agency will at worst finance some unsound projects, and only the long-suffering taxpayer will take the loss. But at any given time there is a limited amount of available capital. The government does not create any new capital; it merely takes some away from the taxpayer. So the capital that the government agency lends to Y for an unsound and unprofitable project is in effect taken away from X, who would have got it for a sound project from taxpayers who had to turn it over to the government lending agency instead. A government lending agency, in short, because it is never primarily concerned with profitability, not only finances inefficient and unprofitable ventures but indirectly deprives efficient and profitable ventures of funds.

The best thing the government can do for small business is not to “aid” it but to stop penalizing it. The best way to have stopped penalizing it was to have let the excess-profits tax expire instead of forcing its extension. The government, having tied the legs of profitable, efficient, and growing small business by extending the excess-profits tax, is trying to compensate by giving crutches to unprofitable and inefficient small business through a new lending agency. The real way to help small business is to let inefficiency and bad judgment suffer their natural penalties, and efficiency and good judgment reap their natural rewards.