After 6 years, Dodd-Frank’s legacy is hindering American innovation. Since its passage, the Dodd-Frank Act has unleashed an onslaught of large and complex regulations. Because of these regulations the growth of American small businesses and startups has hit an all-time low. In a report by Third Way, these regulations are examined as a primary factor for this phenomenon.
The Third Way report found that while new businesses have played a historically large role in U.S. job creation, trends show that in recent years there has been a growing gap in borrowing opportunities for small businesses and startups. Contrast this with the fact that lending to large businesses has surged in recent years. Such trends can be tied to the fact that small banks are being forced to either consolidate or shutter their operations as a result of Dodd-Frank regulations.
The impact of Dodd-Frank regulations on small businesses and startups begins with their effect on small banks, such as community banks. Dodd-Frank regulations have led to higher compliance costs, which are economically disastrous for smaller banks because they lack the vast resources that their larger competitors possess. According to a study by the Mercatus Center, 90 percent of banks stated that compliance costs have increased since 2010. The report by Third Way highlights that such community and small banks “bear a disproportionate regulatory burden.”
Because of these increased compliance costs, small banks are reducing the number of services that they provide. It is also the case that as community banks close due to skyrocketing compliance costs and other regulatory factors, sources of credit for small businesses are simply no longer available. This has led to a decrease in small business lending in the U.S.
For instance, since 2008 lending to small businesses has decreased by 15%, while lending to big businesses has increased by 35%. According to a 2015 Small Business Credit Survey, small business applicants were successful 76% of the time at small banks, versus 58% of the time at large banks. Thus as community banks close or consolidate, small business lending dries up.
Small businesses are then left with no other option than to seek loans from lager banks, which cannot provide the same level of personalized service and competitive rates that community and small banks can provide. Ironically, as a result of Dodd-Frank, many large banks have also been forced to eliminate loans that after the financial crisis would be seen as too “risky”. For the most part, this means eliminating loans to businesses with less than $2 million in revenue, or alternatively eliminating loans less than $100,000 altogether.
This lack of access to credit has led to a reduction in the amount of startup firms in the U.S. In 1980, firms in their first year accounted for 13% of all companies, yet since 2010 that rate has dropped to roughly 8%. According to a 2015 survey by Federal Reserve banks, small businesses and startups are finding it increasingly difficult to obtain needed credit. The survey found that 63% of microbusinesses (firms with annual revenue under $100,000) and 58% of startups (firms less than two years old) were unable to realize their funding needs.
It is apparent that the onerous regulations imposed by Dodd-Frank have contributed to the decrease in startups and reduced access to credit for small businesses. This phenomenon not only hinders economic growth in the U.S., but impacts consumers as small businesses and startups are often leaders in product innovation. For those supporting Dodd-Frank, this should be a wake up call that it is time to look to much needed reforms that will encourage small business growth and innovation, instead of deterring innovation and competition in the market.
Photo Credit: Ian Lamont