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Adam: Welcome to Episode 59 of The Crowd. I’m talking to Christine Kymn, Chief Economist and Director of Economic Research and Miriam Segal, economist, both from the Small Business Administration Office of Advocacy.
Welcome to Near Me’s podcast, The Crowd, bringing you interviews from thought leaders in the collaborative economy who’ll be sharing their knowledge, diverse real world experiences and stuff you need to know to help build a successful marketplace. If this is your first time joining us, thanks and welcome. I’m your host, Adam Broadway.
Are you a business owner and found it hard to access capital needed to finance your business or an entrepreneur looking into building a peer-to-peer lending platform? Alternative finance such as peer-to-peer lending is on the rise. And in this interview, Christine Kymn and Miriam Segal discuss the research they’ve published, Peer-to-Peer Lending: A Financing Alternative for Small Businesses. What is it? And what would be the opportunity for business owners and entrepreneurs? This interview was via a low fidelity conference call with high quality content.
Hi everybody. Adam here and I have the very distinct pleasure of being able to talk with Christine Kymn and Miriam Segal. And they’re with the Small Business Administration Office of Advocacy. And Christine, you’re the Chief Economist and Director of Economic Research. Could you maybe say hi and give us a little bit of an overview of how you got to where you are? And Miriam, we’ll get to you right after.
Christine: Sure. Thank you so much. As mentioned, I’m Christine Kymn and I have the great pleasure of working for the SBA Office of Advocacy. We’re an independent office that is statutorily tasked with advocating on behalf of small businesses. And we do that through advocating on federal regulations in terms of small business impact and through our research arm which is the team that I have the great privilege of heading up. In terms of what got me where I am, I probably can declare that I’m a proud nerd and genuinely picked Economics based on it being my favorite subject at university and continued to pursue that all the way up through graduate school and then happened into this position through first working for the Office of Management and Budget and then moving over here to focus more on small business issues which are so important.
Adam: Awesome. They are so important. I think definitely small business is the lifeblood of any economy. And it’s great that you guys are able to chat with us and share some of the research that you’ve done. Miriam, you’ve done an amazing job with that. And you’re the research economist. And if you could just give us a little bit of an introduction on how you got to where you are and involved in this peer-to-peer lending research.
Miriam: Sure. So, I started out as a Research Analyst at the National Women’s Business Council which is actually in the same building as I am right now. And I conducted research with women who own businesses. And one of the main topics facing them is access to capital. So when I joined the Office of Advocacy, I continued my research looking at how small and women-owned businesses can finance their businesses.
Adam: Are you involved with some of the organizations? Or are you connected with Women 2.0?
Miriam: I’ve heard of them. And I went to a panel actually in San Francisco where I heard one of the co-founders speak I believe. They had a great presentation.
Adam: Oh, that’s great.
Adam: They are amazing. They’re doing awesome things. Well, that’s a separate topic. We can have a chat about that in another podcast. But let’s focus then on what you guys are all about. I have to say that I have come across the SBA, the broad umbrella, because of some of the things that happened in California with the recent fires and their ability to help people get back on their feet with loans. And your focus in the Office of Advocacy – could you just give us a bit of an overview on exactly what this peer-to-peer lending is all about from your perspective, Christine?
Christine: So from our perspective, really, one of the number one issues that we do hear about from small business owners is access to capital. We engage as I mentioned both from the regulatory and research perspective. For our team, we’ve been very excited to – we focus on research on alternative finance in general and peer-to-peer lending being a significant component of that. From our perspective, we do like to highlight policy makers for small business owners and other stakeholders in the small business community, the tradeoffs and policy levers that might be important in looking at peer-to-peer lending. And Miriam has done an excellent job in presenting an issue brief on behalf of our office focusing on peer-to-peer lending and noting some of those tradeoffs, both the benefits and maybe some of the risks that a small business should be aware of.
Adam: And what would you say, let’s say, are the top three items that have come across your desk as you’ve worked with so many small businesses around the US?
Christine: Sure. Well, I think broadly speaking we do hear from small businesses about the need for capital and particularly for the need for a constant flow with capital and for a wide range of capital, meaning those very small sort of microloans that people hear about. And peer-to-peer lending is an exciting evolving platform for that because it does provide opportunities for a little bit more granularity in the loan sizes. But Miriam is really our subject matter expert on peer-to-peer lending and I do want to give her a chance to let you hear a little bit about her research on that issue.
Adam: Excellent. Well, Miriam, if you’d like to just give us your perspective then from all the research you’ve done. And then Christine, I might come back to you, I will come back to you in fact to ask some other pertinent questions on your broader view of the economy and where things are going.
Adam: So Miriam, if you want to talk then around this specific document which we’re going to make available and link out to – it’s called Peer-to-Peer Lending: A Financing Alternative for Small Businesses. Maybe you could give us a distinction on some of the different peer-to-peer and peer-to-business approaches to lending where there are those that are altruistic. They don’t charge interest. They’re not in it for the money. They’re in it to help people. Versus more the focus of what you’re looking at which is access to finance that will have a return of investment to the lender. If you could maybe give us your overview.
Miriam: So peer-to-peer lending refers to the practice in which multiple individuals anonymously lend money to another individual through an Internet platform. In the case of peer-to-business lending, it’s multiple individuals anonymously lending to a business. Within peer-to-peer lending, there are some distinctions that can be made. One of which is platforms that do not require borrowers to pay any interest. An example of a platform like this is Kiva. Regarding platforms that require borrowers to pay interest, the two perhaps most well-known ones in the United States are Lending Club and Prosper. These are an ideal option for small businesses since many businesses are looking to get off their feet, get their first financing through these platforms.
On the topic of peer-to-business lending, until recently small business owners who receive peer-to-peer loans were actually getting personal loans but using them for business purposes. This is an important distinction because of some of the legal requirements. And it basically means that small business owners getting peer-to-peer loans are getting something similar to a credit card that they can use to purchase inventory, finance gaps in between payrolls, things like that.
Adam: That’s a really good distinction too. I can remember when I started my first business, I think I had about eight credit cards that I rotated under my personal name which I used to bankroll my first business way, way, way back. So the whole change in the landscape of access to capital is really exciting for businesses now. No more loan sharking and no more using personal credit to try and bankroll. What have you found from the research then to really be a common thread across the average business owner as they go through this financing method?
Miriam: So looking at the Lending Club data, there’s a lot of diversity in these businesses but some trends emerge. There are people who stumble upon a really great opportunity to maybe buy an existing business that already exists. They want to join their friend’s business. They want to consolidate debt and pay taxes. They want to purchase better supplies and equipment so they can expand. So there’s a lot of variety but the consistent thing is that there are small businesses who maybe haven’t planned on this and haven’t created a paper trail where they can just roll into a bank and get a loan. And this presents an option where they can get something quickly and it can fill their needs and it can allow them to pursue an opportunity that they otherwise might have had to miss out on.
Adam: Got you. So it’s a fast access to capital with a little more flexibility. What would you say then is the average size? Let’s define what is a small business? Because so many people have different ideas of what a small-medium business might be. Is it based on head count or based on a cash flow?
Miriam: It’s a tricky question because there are some differences by industry. Generally, we use 500 employees which I realized might not sound like a small business to a lot of people. But within that category, the majority of businesses with fewer than 500 employees are much, much smaller than that. So we’re really looking at 1-20 employees or even firms that don’t have employees.
Adam: Got you.
Christine: The vast majority of small businesses in the United States are actually non-employers or firms that don’t have employees. And as Miriam noted, it’s somewhere on the neighborhood of upper 80 percent that are between 1 and 20 employees. So they really are the lifeblood of the small business economy.
Adam: Yeah, absolutely. Coming from Australia, that was definitely what kept the economy going. It was definitely the small end of the business spectrum that really was the lifeblood. You had a few big companies that did pump a lot of capital through. But as in the case of large global corporates, they’re taking those profits offshore in a lot of cases. Whereas the small businesses keep that liquidity of cash within their own economy and they ensure that the community aspects which create a healthy society are maintained by these small businesses. These also small businesses – because I know as a business owner myself here in the US, there’s that distinction between an employee and then contractors. Are you seeing a shift? And this might be a little bit off topic. But are we seeing a shift of businesses who are going from employee headcounts and moving to more of a contract-based workforce?
Christine: That’s actually a research question we’re hoping to explore. The sharing economy is a very, very hot topic in Washington, DC particularly with the emergence of what people call 1099 Economy or the Uber Economy. Given the influx of options available for small business owners that didn’t exist previously, now you can find pretty much anybody to do anything online. There’s TaskRabbit. There is something called Hire An Esquire where you can find a lawyer online. So I think because these options are increasing in availability, I wouldn’t be surprised if small business owners start using more of them.
Adam: I can definitely vouch for that and we’re getting a lot of inquiries globally around entrepreneurs and even enterprise clients. So we’re seeing large companies who are also looking at how they can power up a marketplace because they see their brands being, I guess, hijacked in the aftermarket. So we’re seeing big multinational brands also looking towards how marketplaces can help them on their product and business lifecycle from new right through to the time in all that product service because that’s the shift. We’re definitely seeing that ourselves here at Near Me. So maybe back to you, Christine. As Chief Economist, where do you see the trend in time around the way that financing for small business is heading? Is this a fad? Do you think this is a peer-to-peer thing? Or do you feel like it really is a trend and there’s a shift that is going to forever change the landscape of the way that businesses do business?
Christine: I think that’s an excellent question. From a research perspective, we are even more broadly than that interested in how technological innovation is changing the small business economy and the economy more broadly as well. But alternative finance, peer-to-peer lending, there’s a real relationship between that avenue opening up and sort of the innovations that we’ve seen in terms of the Internet and the new ways to use it. And that of course has spillover impact on what we call the sharing economy in general. So I have to say it’s definitely something that we expect to see sticking around. We’re very excited to see where the market will be going.
Adam: What is happening around legislation? And I know that you’re doing the research so that I guess you can advise policy makers. What sort of initiatives are you doing within the Small Business Administration Office of Advocacy to bring together all the information of that research? And then are you presenting that to policy makers to advise them on what the approach should be in the long term? And to put a PS to that, what is that long term? Are we looking at 4 years, 10 years, 15 years for these research initiatives to really impact the economy in the long term?
Christine: Again, great question. I think we really start to focus on having research that is both timely and actionable which again is why we’re so excited about things like the sharing economy and alternative finance. One of the things as researchers that we do face is that sometimes the data lag behind our passion for a topic. So we are also commencing several data projects so we can contribute to the data community and to hopefully create better data that the federal government can make available to the larger public. In terms of policy makers, we always want our research to be relevant to policy makers, to small business owners, to other stakeholders. And we do meet with policy makers in the DC community and around the country. We travel and try to meet local stakeholders as well. And so what we try to do is to provide substantive objective research that offers policy implications and provides as much robust analysis as a policy maker might want to see in terms of the results, in terms of the data.
Adam: So a question then back to Miriam on the research. What should a small business be aware of in terms of the risk in this type of financing when it is a peer-to-peer or peer-to-business versus going off and getting a bank loan versus getting even venture capital?
Miriam: The risks for businesses using peer-to-peer lending are a little bit different from businesses who might be using peer-to-business lending. So I’ll start with peer-to-peer lending and I would say the risks there are the same as the risks with any other form of credit which is the credit card. So if you borrow money, you have to pay it back. And if you don’t, then there are consequences. Beyond the general risks, it’s important for small business owners to be aware that peer-to-peer loans might offer higher rates than traditional lending products such as bank loans. But in some ways, there is sort of a trade off versus some pretty substantial benefits. Traditional bank loans can have longer application times. It can take longer to process them.
Whereas the peer-to-peer loan, the business owners can fill an application and even get a response in a week and they can get money in their account in a considerably shorter time period. So that’s a huge benefit. In addition, I think we touched on this before that peer-to-peer loans come in much smaller loan sizes generally under $35,000. So for a business owner seeking less than that, it might be much easier for them to get a peer-to-peer loan for that amount than a traditional loan. So in short, you should be aware of high interest rates but the fact that those high interest rates are a trade-off with some pretty substantial benefits.
Getting into peer-to-business loans, that’s a bit more complicated because of some new regulations. But there will be some additional paperwork on behalf of the business owner required, paperwork with the Securities and Exchange Commission. It won’t be as substantial as other paperwork with that particular organization. And I’d be happy to get into details about that if you’d like or we can just say it’s a lot of paperwork.
Adam: I think anything that cuts down paperwork and helps me get access to capital even being a trade-off higher interest rate I think for most businesses that is a really important part of it. What about the credit score situation? Is there a little laxer approach to that within the peer-to-business type lending environment versus your traditional bank loan?
Miriam: I wouldn’t say it’s laxer but if you have a really good credit score you will probably pay a lower interest rate than somebody who has a less established credit history.
Adam: Right. And that’s not to say that the person has a low score because they’re bad payers. They just haven’t established a credit score because they haven’t borrowed money before or they haven’t had a credit card before so they don’t have a score. They’ve got plenty of cash in the bank maybe but they just aren’t able to – as a newbie to America, I had terrible credit score. I couldn’t go anywhere but I was cash rich but credit score poor. So I can empathize to those business owners who are trying to raise capital or get access to funds where they’re credit scores are nonexistent or low because of legitimate reasons. What would you say then as far as the lengths of the typical loan term?
Miriam: That’s a great question. And the average varies when you’re looking at peer-to-peer lenders versus online lenders. And for the two biggest peer-to-peer lenders at the time I wrote the issue brief that’s on our website, the loans are offered in 36 or 60 months’ term so considerably shorter than a traditional lending product. If you will get some other online lenders that might not be a peer source, you can get loans for even four months.
Adam: And of course, then there’s the point you brought up around the interest rate associated with that and quick access to that money has a cost to it. Maybe if we go back then to Christine and talk around some of the legislative advice that would mention that there are some changes to the way that legislation is reacting, what are some of the big changes that’s already inked that business owners should be aware of? And can you share any possible changes to legislation that we should be aware of?
Christine: Well, the first, I think the biggest sort of splash of late is that the Securities and Exchange Commission, the SEC’s crowdfunding role making making which will open the door for equity-based crowdfunding. Whereas previously reward was sort of more casually known as gift-based crowdfunding. For small business owners in particular, it could really open up a broader avenue for access to capital. Of course, it will come with new requirements as Miriam mentioned and there are some minimum income requirements and other accreditation requirements. And this is once again the agency balancing the protection of investor interest with sort of those opening of avenues, access to capital that we’ve been talking about. Otherwise, on some of the other peer-to-peer lending, we’ve seen actually some state-wide efforts both in anticipation of the SEC’s rule and also in sort of anticipating other evolutions in peer-to-peer holding. And we will I think be watching the federal regulators closely in the near term to see if they also more nuance regulations as we see these new instruments emerging.
Adam: Who would you say are going to be the biggest influencers in these policy decisions? I’m guessing that there are bank lobby groups and there are different lobbyists who are wanting to whisper in the ear of decision makers which as a small business we’re really grateful to have you guys in our corner. But is there a fight going on behind the scenes that you can tell us about?
Christine: I don’t know that I would call it that. I actually am a firm believer that having all the cards on the table and diversity and perspective always make for better policy making. And that’s one of the great things that this country was based on. We have heard from small business owners from specific demographic groups who particularly feel that crowdfunding may be an avenue for them where they may have been historically disadvantaged in terms of access to capital or may have sort of a legacy in terms of having not had as much access to capital in the past. And there had been some economic research that’s linking that community element of contributing to say a minority on business or a woman on business and that is an avenue, an element that we are interested in researching from a policy perspective.
Adam: That’s awesome. I’m excited by what you say there. I can think of people who may have come out of a correctional institution as one of those minority groups who is turning over a new leaf in their life and wants to get into business, has a skill set. Made some bad decisions in the past, ended incarcerated and come out with a skill, with education and then find that as a minority having had that black mark against them, peer-to-peer lending or P2B lending might be a great opportunity for them to get back on their feet.
Christine: That’s an excellent plan. Kind of to your earlier point about reducing barriers to access to capital, I think one of the great things that the technological innovations we’ve seen that have sort of spurred these new market instruments like peer-to-peer lending has been that it also allows the market to be much more nuanced. And so we see a lot more ability for people to express their preferences in the market and offer a very, very specific type of spending or type of process or good or service and find their match because now through the Internet that sort of information cost has greatly reduced.
Adam: Yeah, definitely. And I think the whole approach to peer-to-peer is that we start to see those who are like-minded come together within a place. And the technology is facilitating this matchmaking. And we’re seeing all these very specific verticals popping up and the communities of practice versus communities of interest. The communities of practice are those with the expertise, who have implicit trust versus the communities of interest who have people who have a hobby approach to that particular vertical. So do you think we will start to see the growth of this peer-to-peer lending in verticals rather than being a broad-based lender? If these lending marketplaces pop up, there’s lending that relates specifically to builders or plumbers or bakers, cab drivers, etc. so that within those communities of practice the lending occurs and that the trust needs to be there because they do not want to undermine their reputation in their chosen field of expertise.
Christine: Sure. I think actually you’ve raised a lot of interesting questions. So from an economic perspective, those are things that an economist will really love to reap off because it raises all kinds of things like reputational constraints and repeated interactions which Game Theory deals with. But from sort of the lay persons’ perspective or the small business owner, the participant in the sharing economy what it boils down to is how these new economies or new instruments kind of translate in terms of that reputation impact. So for instance, previously, you might have had a bigger constraint on your behavior because you know the medical community locally and you know that the word of mouth can get around through town and there may have been sort of this fear that – in the Internet community, that concern is not as much there. But now, we start to see ways that the market is organically working around that where you can review people, where the outcomes of your behavior, for instance crowdfunding websites and the results on your products and whether you ultimately got funding or how the product moves on. These are all ways that you sort of tie us back into a community. And even if we may not know the person by face, they provide some of those community markers that you were referencing earlier.
Adam: That’s a great way of summarizing what I asked. Trust is I guess the ultimate means of exchange. If I’m not a trustworthy person within any economy, that word of mouth as you said or reputation score versus a FICO score, my reputation score if it’s low, then it doesn’t matter how good my FICO score is, I might not get that loan. And that’s something that is starting to surface. We’re seeing a lot of trust platforms come out so that marketplaces can expose the social trust of an individual. And that can be done based on their social footprint through interactions on the Internet.
That’s why I tell my kids now nothing is private when you type these days. Make sure you leave a good quality digital footprint. It doesn’t matter if you think you’re having a private, what do you call it, Snapchat conversation, imagine that everybody in the world, everybody in the world is going to see that. And that’s going to affect your trust score, maybe not your FICO financial score but it’s going to affect your trust score. And trust will underpin the success of all of these marketplaces going forward. In your research, have there been conversations and have things come up around trust as a score just as a side note?
Miriam: This is Miriam here. It’s a really interesting question due to the different types of peer-to-peer lending that can happen. In some cases, people select somebody because they want to lend specifically to that person. But on other platforms, everything is completely anonymous. And all a potential lender will see is how much they want, what it’s for, if it’s for home improvement, if it’s for a business. Are they consolidating debt? A very vague description. And then, some of these platforms have proprietary credit scoring models. So there are different types of peer-to-peer lending. And I think that actually might provide for some really interesting insights where in some cases we see that when lenders have more information they are more likely to lend. But then as Christine had mentioned, peer-to-peer lending when it’s anonymous might also be able to reduce some subconscious biases present in lending decisions.
Adam: Yeah. That definitely has an impact because I myself as a lender or an investor in other businesses have made an investment decision knowing that the probability of getting that money paid back is almost zero. And lending was based on who I’m lending to and the relationship that it may build in the long term. So I’m lending knowing that I may not get a financial return on investment but I will get a relationship return on investment. So it’s a return on value and that definitely has impacted me in my lending to people. So I think that’s a really good point that in your research you found that people have had that in the back of their mind and that if there’s proprietary scoring mechanism that takes into account not just what they’re lending, the paying back of the loan was and their credit score but also maybe their social standing or who they’re connected with and getting access to other people in a peer group network can also determine whether or not I will want to lend to one person versus another. I think we’ll see that evolving as more of these platforms interact with businesses.
Christine: This is Christine. I just want to bookend what you’re saying because we have in our research and even in traditional lending that relationship lending in particular is important for small businesses because of all of those question marks that Miriam mentioned earlier that you may have less established credit history, you may be asking for a smaller loan amount which is less of a payoff for a traditional lender. But even in traditional environment, being able to go to a community lender and establish a repeated interaction with them is something that the research has shown as being beneficial for small businesses. And it’s something that as we have discussed may start to bleed through in terms of the alternative finance network.
Adam: Just to wrap up and I want to give you both an opportunity to make some points for the bow around this conversation and also maybe even pose some questions to those who are listening because I think there are maybe a lot of business owners who may want to access the research. I love the idea that what you’re doing is going to be made available to public access so that data is going to be very powerful for entrepreneurs who want to create a lending platform potentially as well as those who want to access financing. What would you like to sort of summarize Christine and then Miriam if you could?
Christine: First of all, thank you again for the opportunity for us to share our research. It is a statutory duty that we take very seriously and then we do embrace any opportunity to let the public know about our findings that may be relevant to small business community. Related to that, we do have an alternative finance series that we’ll be releasing segments of throughout the year. And it will touch on things like crowdfunding and the regulatory landscape and some of the other topics that we’ve raised today. Some of the other things I thought were really interesting that we talked about today were what we’ve come to call social capital and the role that alternative finance and peer-to-peer lending might have in building social capital particularly for groups that we discussed earlier who may have been disadvantaged in those arenas previously. That is something we’re interested in. And again, the data is difficult for us to track. So taking sort of opportunity from your offer, if you do have listeners who would like to be case examples or to talk to us and let us know about their experiences, that’s a great way for us to fill some of the data gap as we look on the long-term horizon as we’re building some of these datasets. And with that, I’ll pass it off to Miriam.
Miriam: I’m going to second what Christine said about data gap. Numbers can only tell us so much but hearing from people really helps eliminate issues that are important to small business owners and things that we can think about in terms of policy.
Adam: Excellent. Well, I’m definitely going to be encouraging everybody to reach out to you. And we will be putting links out to access the research and connect with you both. It’s been a pleasure learning about this. It’s a little bit different from our usual podcast. And so what I’d like to do is to just then close off. And Christine and Miriam, a pleasure to have you on the podcast, The Crowd. But if you could then think about what piece of advice you’ve been given in life, something that somebody said to you that really resonates with you now and that you hold dear.
Christine: Well, I can make them two. One is by my own experience, it is true. It is not trite. Follow your passion and it will reward you in life. Economics is a true passion of mine as hard as that might be to believe but it is what will make you enjoy your job, enjoy your life and make you fulfilled. And then advice from my father which is when people are struggling sometimes the best thing to do is to love them even more.
Adam: That’s awesome. Both brilliant pieces of advice. I love that. So when people are struggling, love them even more. Thank you for sharing that. And Miriam?
Miriam: This is a tough decision but I’m going to have to go with it’s not the cards that are dealt, it’s how you play them. And I think that’s also very pertinent with business owners.
Adam: If life gives you lemons, make lemonade.
Miriam: Yeah, right.
Adam: I think we can always sort of blame everybody for why we don’t do something and why we don’t react to something in a positive way. It’s how we react to any given situation that can help us move forward. I think I want to also call out that whole social capital and the idea of empowering minorities too. That’s something near and dear to my heart and I think I’m excited by. Hoping that we can connect some of these different verticals, smaller minority groups with your research so that the data gaps can be filled. So I will be encouraging everybody to do that. Christine Kymn, Chief Economist and Director of Economic Research at the Small Business Administration Office of Advocacy and Miriam Segal, Research Economist, we’ll be linking out her research document and connecting you with them or through the blog post and podcast. Absolute pleasure to be able to talk with you. And thank you so much for your valuable time and expertise.
Christine: Thank you.
Miriam: Thank you.
Adam: Thanks for joining us for The Crowd, the podcast that keeps you connected. Join us next episode for more knowledge sharing and insights from the marketplace economy.