Early this month, the National Federation of Independent Business released another dismal monthly report on small business hiring. Many of the owners surveyed see weak demand and remain fearful about the future. Don’t expect them to be leading the nation into recovery anytime soon.

But there’s more to the story of the small business credit drought than overly nervous bankers. Many people involved in getting money to small businesses, from venture capitalists to nonprofit lenders, say the small business financing system remains in disarray nearly three years after the start of the recession.

As traditional bank lending languishes, credit cards—a central facet of small business financing in recent years—have become a much less reliable and costlier source of both startup and operating capital. Venture capitalists, too, have pulled back sharply, as the underlying economics of their business have changed.

Meanwhile, a growing number of alternative lenders are stepping into the gaps left by established players.

CREDIT CARDS: Changing rules for borrowers
Credit cards have quietly grown into the central piece of the small business financing system. As bank loans became harder to come by and the paperwork more demanding, business owners put their debt on their cards, sometimes at rates that would make consumers’ eyes pop.

A survey by the Washington, D.C.-based National Small Business Association found that among companies with fewer than 500 employees, 34% carried more than a quarter of the company’s overall debt load on a credit card.

More than 70% of owners with a card used for business expenses reported paying interest of more than 10%.

BANKS: A long, slow climb back to normalcy
At first glance, small business banking seems to offer an opportunity for healthy banks. The financial crisis decimated longtime small business lenders like CIT, but left other stalwarts like Wells Fargo standing.

The politicians certainly want banks to jump back into the Main Street lending business. Under political pressure, all of the major banks committed to increasing their small business lending this year—Wells Fargo’s was up by 30% in the second quarter nationwide, compared with the year-earlier period; J.P. Morgan Chase’s was up 37%; Citibank and Bank of America say their small business lending is up, too.

The problem is that everyone is coming off such low numbers from 2008 and 2009 that the increases are much smaller than they appear.

The return to normalcy is likely to be very slow, because of the hangover from the financial crisis.

ALTERNATIVE LENDERS: Lending more
Where banks are hesitant to step, alternative lenders are wading in. While the doors alternative lenders are open wider to small businesses than the doors at banks are it’s important to note that they also charge higher interest rates. The higher rates are based on the higher risk and higher administrative cost to manage loans. For many businesses, without access to alternative lenders the businesses would have to shut their doors. So while the cost if higher, it allows businesses with higher margins to take advantage of new business opportunities and to weather this economic storm.

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