Weeks ago, as the extent of Covid-19’s effects on the economy were becoming a reality, we wrote that the sequencing and deployment of small business relief would be “messy and chaotic” rather than “linear”.
Four weeks and one update of the CARES Act later, the situation remains as murky as ever: the spread of the virus is not yet under control, state responses are uncoordinated, and unemployment claims continue to climb.
The federal government’s primary means for stabilizing small businesses, the Paycheck Protection Program (PPP), has had mixed results. It has defied capacity expectations by quickly getting loans out to 1.7 million small businesses in its first round.
The most recent upsize of the program mandated portions of the capital pool be distributed through community banks and Community Development Financial Institutions (CDFI), which are more likely to reach underserved businesses.
However, the program has come under a variety of criticisms. Namely: To minimize their own risk, banks have lent the capital to preferred, reliable and often larger, borrowers; additionally the PPP’s terms have proved restrictive in their focus exclusively on payroll over a short period of time. We believe the PPP is an imperfect conduit for stabilizing all small businesses, but that with changes it can be an incredibly valuable component of a broader landscape of economic tools.
From Relief to Recovery
Although the next month, let alone the next week, is unpredictable, millions of Americans are feeling a stark economic pain. As a result, it’s appropriate to start thinking not only about relief but about recovery as well.
Without the benefit of a unified federal response to the virus, and a corresponding ordered sequencing of the small business life cycle across the country, it’s clear that the transition from relief to recovery will be uneven across different regions, states and cities. The country will need tools beyond the PPP to save, stabilize and grow small businesses.
As we push forward with imperfect information in an imperfect system, we may find that place—rather than vertical policy silos, hyper-specific products, and separate impacts—becomes an organizing frame for all of us.
Unfortunately, a carefully ordered sequencing of products seems likely to be a luxury we cannot afford. The upcoming CARES Act II may be one of the last significant opportunities to institute meaningful reform to guide us through upcoming periods of recovery.
As we turn the page—or aspire to—we will also be forced to expand our horizon from simply saving and fortifying small businesses, to the second and third order effects the prolonged crisis has had and will have. Whole economic systems have already been disrupted, with supply chains, real estate owners, business districts and municipalities all sharing in, and amplifying, the financial suffering of individuals and small businesses.
We were especially struck by Jackie Victor’s powerful piece about Avalon International Breads, a Detroit bakery near and dear to our hearts. Jackie captured the magnitude of the challenge at hand for small businesses: she was lucky to get a PPP loan; the loan itself is not fit-to-purpose; she will need even more financial help as she navigates a choppy, slow, recovery; and on the other side of these existing and proposed financial products she faces a massive, uncertain and unresolved demand issue.
Paycheck Protection Program: Effective at moving money, but not on a level playing field
The PPP has done a commendable job of starting to relieve small businesses. Yet it still has significant shortcomings. The most notable of these is the program’s dollar cap.
In other circumstances this issue would have been minor, but here it has exacerbated other idiosyncrasies and made accessing funds a competitive process that favored some larger companies, including those in carved out industries. The distribution to date, driven by eligible lenders, has disproportionately favored certain industries, regions, and larger firms.
Additional shortcomings include the complex terms around loan forgiveness, which caused initial confusion, and the short maturity term, which has intimidated potential borrowers in these uncertain times. Finally, the loan is sized based only on payroll for a limited window, and is restrictive with regard to which expenses it can be used for.
Although the next month, let alone the next week, is unpredictable, millions of Americans are feeling a stark economic pain. As a result, it’s appropriate to start thinking not only about relief but about recovery as well.
Advocates have proposed many thoughtful ideas for PPP reform, but to date Congress has only succeeded in appropriating an additional $310 billion on top of the quickly-exhausted original $350 billion. This top-up also faced a chaotic rollout and may well be fully spoken for at the time of publishing.
The good news is that this $310 billion top up did earmark $30 billion for community lenders and $30 billion for mid-size lenders in an attempt to level the playing field for distribution. However, it did so without the necessary liquidity and secondary market solutions to enable smaller lenders to participate at meaningful scale (although the Federal Reserve appears attentive to this).
To maximize its effect on the small business ecosystem, the PPP would benefit from being expanded or even fully uncapped, expanding its coverage and forgiveness restrictions, reserving a portion for smaller borrowers, and lengthening its maturity term.
Local relief funds: effective, but poorly capitalized
In the meantime, as we’ve written, local relief funds either preceded or have followed the PPP in an attempt to fill the timing and distribution gaps in the federal response. Funds administered by city governments, public entities, philanthropies, financial institutions, and business chambers have targeted the smallest, most vulnerable businesses, and those in low-income areas, with flexible terms and efficient execution.
However, these funds have been undercapitalized and oversubscribed—with some running out of money minutes after opening. This led us to call for direct federal funding to replenish existing local funds and prop up new ones. Senators Cory Booker and Steve Daines have a bipartisan proposal focused on these same issues.
As a component of a new CARES Act, this would recognize and enhance the admirable relief efforts “on the ground.” On the House side, Representative Dan Kildee is leading, bringing his considerable local expertise as the former Treasurer of Genesee County, Michigan, and former head of Center for Community Progress.
These local tools are important for much needed immediate relief –– to ensure that the smallest and most vulnerable businesses in communities across the country have an economic lifeline for the coming months. However, the existing tools are necessary, but insufficient, for building an inclusive economy out of the ashes of this crisis.
Adding Tools for Recovery
As Jackie Victor wrote, “The future of our business is unclear, and we are only just beginning to learn of the long-term social and economic impacts that the coronavirus will have.” As our cities, small businesses, and economies sift through the wreckage of March and April, it’s important to focus on what will be needed for the recovery, alongside ongoing relief needs.
Though we cannot predict the evolution of the virus in the next six to 12 months, the recovery period will likely entail a slow, stilted, drawn-out process of ramping small businesses back up to stabilized levels.
Local tools are important for much needed immediate relief—to ensure that the smallest and most vulnerable businesses in communities across the country have an economic lifeline for the coming months. However, the existing tools are insufficient for building an inclusive economy out of the ashes of this crisis.
The time between now and a vaccine or therapeutic that takes activity back to “normal” will be an unprecedented challenge for the types of small businesses that will need to drive the recovery: those that survived based on their own financial strength, those that survived due to relief efforts, those that had to shut down but still have the infrastructure to restart, and brand new businesses stepping in to fill the void.
A reformed, restructured federally-funded loan product could play a vital role in the recovery period for these businesses, and more flexible local funds will be well-positioned to move towards recovery efforts if their capital base is replenished. However, we will also need targeted, growth-oriented capital to catalyze the period in which the economy slowly reopens.
Banks are also likely to pull back lending and lower their risk tolerance during this period, once again leaving behind the exact types of businesses that were excluded from scaled relief efforts and the pre-crisis banking system as a whole.
Here, a fit-to-purpose product would have limited or no required payments for six to 12 months, a longer-term amortization and maturity schedule, and flexibility in use of proceeds. Trusted community financial intermediaries will need to play a role in delivery, as businesses will need an avenue other than large or predatory lenders.
Unfortunately, the harsh reality is that many small businesses will be permanently shut down—unable to be salvaged by relief efforts and in too difficult of a financial situation to reopen. Regardless of this inevitability, we need to consider efforts to catalyze new business formation.
As the Economic Innovation Group has consistently reminded us, we never fully recovered our new business formation and entrepreneurship vitality coming out of the financial crisis; this time around presents an even deeper hole to dig out of. Products should be brought to the fore to encourage growth companies, including in industries that can further aid the national response to the virus like manufacturing and biotechnology.
From Products to Places
While an important set of tools, small business financial products are only one set of solutions we need to be thinking about for the recovery. The public health and subsequent economic crisis have hit virtually every aspect of our society: from how we work, to how we live, to how we get around. This has innumerable consequences for structuring an economic recovery, a few of which we will introduce here and expand on in future writing.
The case of Avalon International Breads shows that we need to be moving beyond products and thinking about places as we approach a recovery. Avalon’s flagship location, and many of its satellites, operate in anchor districts: flanked by Wayne State University and Detroit Medical Center, Quicken Loans and City office buildings, and Henry Ford Hospital. Anchor districts have been one of the dominant stories of urban revitalization in places like Detroit over the last 20 years, bringing businesses like Avalon International Breads along with them.
The time between now and a vaccine or therapeutic that takes activity back to “normal” will be an unprecedented challenge for the types of small businesses that will need to drive the recovery.
With devastating consequences, social distancing is neutralizing what makes anchor districts effective engines of revitalization. In anchor districts, one (or more) dominant institution(s)—a university, a hospital, a large corporate employer, a government center––brings people together in one place during the workday. Building an amenity-rich district, with restaurants, cafes, barbershops, and dry cleaners around these workers, fuels urban economic growth and a virtuous cycle of revitalization.
Universities going remote for a semester, hospitals postponing elective surgeries for a few months, and municipal governments furloughing workers is problematic; extending these situations out results in full-blown fiscal crisis and mass layoffs. Our fear is that we are moving into the latter territory, which is why ongoing and early support is important. On this front, the PPP and grants can save individual entities, but a more coordinated approach requires investment in places.
Directing relief aid and recovery investment to neighborhoods and ecosystems
To date most of the conversation around small business support has focused on supply. But as we turn our eyes to a recovery, suppressed demand for the services provided by small businesses is daunting.
The early news from Wuhan show that even with widespread testing and tracing, people are reluctant to go out to restaurants. In the U.S., consumers expect to reduce purchases and more than 30 million employees have filed for employment.
The public health and subsequent economic crisis have hit virtually every aspect of our society: from how we work, to how we live, to how we get around. This has innumerable consequences for structuring an economic recovery.
As we turn our gaze to a recovery with suppressed demand, many things are unclear. It is clear, however, that focusing on small businesses as a discrete entity in need of a discrete financial product will not cut it. They are so much more. They are parts of local economic and social ecosystems that thrive and wilt with the health of the places where they operate, whether a dry cleaner in NYC’s financial district, a bakery in an anchor district of Detroit, or a family-run diner in rural Montana.
As such, we need to approach places rather than just products as we target and design recovery aid. One of the first ways to do this is by building on existing institutions and repurposing them. We need to rethink the business model for, and purpose of, business districts—downtowns, commercial corridors, anchor districts, Main Streets—where community-serving enterprises congregate and co-locate.
The notion that owners of collapsed small businesses can easily restart their enterprises defies the laws of finance. Owners of such businesses will find their credit ruined and will have few lending options available to them. The deep reductions in their savings and investments (and those of their family and friends) will mean that resources available before the crisis will be inaccessible.
This situation is only marginally more manageable for businesses that remain open, whose ability to re-stabilize is dependent on the establishments and institutions surrounding them. Alternative financial products that are low-cost and have flexible terms are needed for both groups, but do not exist at scale.
Practitioners in Cincinnati and St. Louis—and groups like Forward Cities and Next Street—are thinking through a role for special purpose organizations (either newly created or an evolution of existing groups) that perform separate functions.
They provide common services for networks of small businesses; for instance, procurement of goods and services, back-office functions like legal or accounting, technology platforms, and joint marketing. They push new boundaries on the real estate side through land pooling and innovative lease arrangements, and on the financial side through equity investments rather than conventional debt. They offer entrepreneurial training services at scale. They form, in short, a new ecosystem that creates a viable alternative to the traditional route of every small enterprise designing their own business model and obtaining their own financing.
Small businesses are parts of local economic and social ecosystems that thrive and wilt with the health of the places where they operate, whether a dry cleaner in NYC’s financial district, a bakery in an anchor district of Detroit, or a family-run diner in rural Montana.
In order to be functional, these Community Recovery Districts will need funding and viable partnerships with local governments. In larger cities, the Federal Reserve’s Municipal Liquidity Facility is one potential tool for this, as is the prospect of direct federal aid to cities and states, or targeted aid to local recovery funds similar to the ones that Senators Booker and Daines, and Representative Kildee are proposing, that build from their small business relief counterparts.
Let us end where we began. We are riding a wild wave with the COVID-19 crisis. The nature, magnitude and complexity of this crisis is beyond anything we have experienced since the Great Depression. As we push forward with imperfect information in an imperfect system, we may find that place—rather than vertical policy silos, hyper-specific products, and separate impacts—becomes an organizing frame for all of us.
Bruce Katz is director of Drexel University’s Nowak Metro Finance Lab. Beth Bafford is a vice president at Calvert Impact Capital. Ross Baird is the founder of Blueprint Local. Michael Saadine is a real estate and social impact investor. Colin Higgins is a program director at The Governance Project.