An Economy with a Backache

Posted by Jeffrey J. Roach, PhD, Chief Economist

Tuesday, April 18, 2023


  • Small businesses, considered the backbone of the economy, are shrinking hiring plans. Hiring intentions among small businesses declined in March, implying that upcoming job reports will likely be lackluster.
  • Firms are hunkering down as virtually no firms have plans to expand business operations. In fact, the number of firms reporting any expansion plans is the lowest since early 2009 when the economy was in the depths of the Great Financial Crisis.
  • Small businesses are reporting more difficult access to credit. The percent reporting tighter credit is the highest since 2012 as lending institutions tighten up under the uncertainty of the macro landscape.
  • Now, some good news. Inflation was less of a problem in March as firms are more concerned about the overall business environment as the economy slows under tighter financial conditions.

The Backbone of the Economy

Small businesses are often considered the backbone of the economy because of the amount of economic activity generated by the sector, and it looks like a backache has emerged.

Small businesses have an incredible impact on both the national and local economy. Small businesses make up the majority of all businesses by count while also employing over 46% of the private sector workforce.[1] It’s not a stretch to say “as goes the small and independent business, so goes the national economy.” They provide their communities with the goods and services their customers have grown to enjoy, in addition to supporting local causes and charities. With this supporting role in local economies comes the need for expansion, a need that is typically fulfilled by community banks. Small businesses tend to prefer banks when in need of credit, more regularly turning to them when compared to larger corporations, who often seek their funding from the capital markets. Approximately 44% of small business financing comes from banks, completely outsizing the next two points of origin, online lenders at 22% and credit unions at 6%.[2]

As shown in the chart below, firms are hunkering down as few have expansionary plans in the near future. No doubt, tighter credit conditions impacted those decisions.

[1] What’s New with Small Business?

[2] FDIC Community Banking Study 2020 – Chapter 4

View enlarged chart

Tighter Credit Constricts Expansion Plans

Small and independent businesses rely on credit and as the Federal Reserve (Fed) tightened monetary policy and overall financial conditions worsened after the Silicon Valley Bank fiasco, these firms had less availability of credit for financing operations. When analyzing growth and changes in banks’ small business loans, it is important to rely on Call Reports. As evident from Call Report data dating back a little over a decade, small business loans grew from $599 billion at year-end 2011 to $645 billion at year-end 2019, for an average annual rate of loan growth of less than 1%, which while positive, was outperformed by the average annual business loan growth rate of roughly 7%. This growth in small business loans rests solely on the shoulders of small C&I loans, as other small business loans fell from during the same period. Despite the lower growth trends, the small business-community bank relationship is vital as community banks hold 36% of total small business loans while their share of total loans across the industry is only 15%.[3]

Perhaps there are additional risks within the community and regional banking sectors that the markets need to address but nonetheless, tighter conditions will likely constrict expansion plans for smaller businesses and thus, crimp overall economic growth in the U.S.

3 FDIC Community Banking Study 2020 – Chapter 4

What Does It Mean for You?

Businesses appeared to hunker down under the weight of tighter credit conditions and weaker economic growth. If small businesses are an accurate barometer, recession risks are rising and the labor market will likely cool in the coming months. Although the economy is slowing, the Fed continues its fight with inflation and will likely hike rates at the next meeting on May 2-3. However, if the economy becomes more unstable, the Fed could pivot to rate cuts by the end of the year.


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