Decrease in locally owned rural banks having negative impact on small business owners and rural communities.
ENTREPRENEURS and owners of small start-up businesses in rural areas must successfully pitch their ventures to "faraway, unknown banking officials" to survive rather than relying on local lenders as in the past, according to Baylor University researchers.
Increasingly, bank branches are headquartered in distant urban areas — and, in some cases, financial "deserts" exist in towns with few or no traditional financial institutions such as banks and credit unions.
That means local lending to individuals based on "relational" banking — with lenders being aware of borrowers' reputation, credit history and trustworthiness in the community — has dropped, according to a Baylor study published in the journals Rural Sociology and International Innovation.
Instead, more individuals launching small businesses are relying on relatives, remortgaging their homes and even drawing from their pensions — all of which are risky approaches, said lead researcher Charles M. Tolbert, professor and chair of the department of sociology in Baylor's College of Arts & Sciences.
However, for the 30% who obtain loans through the traditional lending method, that approach also can be very challenging, according to the article, "Restructuring of the Financial Industry: The Disappearance of Locally Owned Traditional Financial Services in Rural America."
Federal Deposit Insurance Corp. (FDIC) statistics showed that from 1984 to 2011, the number of banking firms in the U.S. fell by more than 50% to just fewer than 6,300, while the number of branches almost doubled to more than 83,000, according to researchers' analysis of data from the FDIC national business register. For the study, Baylor researchers partnered with the U.S. Census Bureau Center for Economic Studies.
The research is important because local businesses and entrepreneurs are increasingly vital for rural employment growth, Baylor sociology professor Carson Mencken added. Many rural areas lack job opportunities or have lost them, in part because rural manufacturing jobs have been exported overseas to lower-wage destinations.
The researchers obtained data on loan application outcomes for all U.S. small business and farm loans for the past decade. Besides quantitative findings, the study included interviews with individuals who had applied for loans at local banks that had been taken over by national banks. Many of those expressed dissatisfaction with high interest rates or, more often, rejection.
Many small businesses — especially new business owners — do not have "hard data" on earnings and credit scores to compete for loans at big, non-local banks, the researchers noted.
Some interviewees reported that even when restructured local banks are familiar with individuals' "soft data" — such as credit history and reputation — they are far more interested in lending to companies that will bring in large manufacturing.
As an example, among more than 30 small business owners in rural Texas who were interviewed, one young woman had to borrow from her father to open a specialty cake business after being discouraged by a bank, and an elderly woman who built a restaurant and banquet hall had to invest her own money when the bank's terms were too difficult and interest rates were too high, Mencken said.
Researchers plan to continue studying to learn whether communities with more local banks receive higher approval rates than those with fewer community banks.