Overwhelmed by the COVID-19 crisis, the US government has taken several steps to stabilize the economy, including issuing payments to individuals who may be furloughed or out of work. Meanwhile, the Federal Reserve has shifted quickly to accommodative liquidity policies including lower interest rates.
But many small and midsize businesses, which form the backbone of the US economy, haven’t received the assistance they need to stay open. The $349 billion in federal aid initially devoted to a small-business-loan program quickly ran out of funds.
Two business stabilization plans, based on insurance and lending models, could help vulnerable businesses remain on firm enough footing that they would be able to reopen when heath conditions normalize, suggest Harvard’s Samuel G. Hanson, Jeremy C. Stein, and Adi Sunderam and Chicago Booth’s Eric Zwick.
These plans, with an estimated cost of $348 billion, are philosophically in line with that of University of California at Berkeley economists Emmanuel Saez and Gabriel Zucman, who have proposed direct grants to keep businesses viable. However, Hanson, Stein, Sunderam, and Zwick have sought to define and control costs and to potentially recoup returns on public investments from the fastest recovering companies.
“We’re thinking about how to put something in place given the institutions we have in the United States,” says Zwick—namely, an insurance plan to be administered by the Internal Revenue Service and a loan program to be implemented by the Fed and the Treasury.
The researchers call the first of their approaches business continuity insurance (BCI). In this, the IRS would use past tax returns to estimate a business’s fixed costs such as rent, utilities, and debt service payments and then make grants to those businesses—although with soft repayment obligations. Businesses that recover most robustly would pay back more, in the form of future taxes. Those that struggle longer would pay back less.
The BCI and BCL proposals are meant to work in tandem, giving the government flexibility to choose how to best help a business after taking its circumstances into account.
The BCI plan is similar to the Small Business Administration’s Paycheck Protection Program (PPP), set up to grant companies money that need not be repaid if 75 percent of it is used to continue paying salaries to workers.
But unlike the PPP, the BCI is not meant to cover payroll, especially considering that many workers are being asked to shelter in place and stay home for the sake of public health. “The unemployment-insurance system is best equipped to take care of workers, while this program concentrates on business overhead,” says Zwick.
The researchers’ second approach depends on business continuity loans, in which the Fed and Treasury would loan money directly to businesses, in the form of junior subordinated debt with deferrable or even forgivable interest payments. As with the BCI program, companies that recover quickly may pay off these obligations with interest, creating a return for the Treasury, but the “soft” nature of these loans allows for the government to support companies that continue to struggle after the COVID-19 epidemic passes. The BCL plan is a form of flexible bridge financing for companies with disrupted revenues but current obligations.
If the borrowing company already has debt, BCLs are junior in the credit structure to loans made by existing lenders. In many cases, proceeds from these junior loans will be used to keep more-senior obligations current. This helps both the borrowing business and its lenders.
The repayment terms and paths to loan forgiveness are generous by design, explains Zwick, so that business owners who are wary of borrowing in the first place don’t refuse these offers of assistance for fear of losing equity or control of their enterprises in the future.
Low-cost interventions could help depress COVID-19’s spread while opening up parts of the economy.
A Simple Framework to Help Revive the US Economy
Minimizing disruptions to workers and businesses will be expensive. It’s worth it.
To Treat COVID-19’s Economic Impact, Start by Keeping the Lights OnBoth proposals focus on nonfinancial companies—the idea being that insuring the solvency of restaurants, car dealerships, beauty salons, landscapers, retailers, and the like will also shore up their lenders and the real-estate management companies that lease to them. If these programs are successful, the financial sector shouldn’t require its own bailout, the researchers write.
And they recognize that businesses need help to get through a period when many consumers simply won’t materialize. Their workers, including the hardest-hit ones, will be helped by receiving unemployment insurance, the researchers write—but they emphasize that the economy is suffering from a supply, rather than a demand shock. In that case, even if individuals receive direct payments, they will shop for necessities but not much beyond that.
The BCI and BCL proposals are meant to work in tandem, giving the government flexibility to choose how to best help a business after taking its circumstances into account. A company that has lost 90 percent of its sales may be too large a credit risk for the Fed and Treasury to stomach, making the IRS insurance program perhaps a better avenue. By contrast, if a company has lost just 30 percent of revenue, and the odds are higher that it will be able to repay a loan with interest, it might be an appropriate risk for the Fed and Treasury. Plus, this avenue would not only potentially keep the business solvent, but would give the public a chance to earn a return.
The infrastructure for both programs is already in place, the researchers write, though the IRS would require legislation authorizing it to act. The Fed and Treasury have greater flexibility to forge ahead under existing congressional approvals.
James Grant of Grant’s Interest Rate Observer discusses the rise and implications of nonbank business lending.
Capitalisn’t: Is Private Credit in the Public Interest?
Stanford’s Anat Admati describes how we can build a better financial system.
Capitalisn’t: The Capitalisn’t of Banking
A proposed greenhouse gas emissions reporting regime exempts private companies from disclosure.
Should Private Companies Report Emissions?Your Privacy
We want to demonstrate our commitment to your privacy. Please review Chicago Booth's privacy notice, which provides information explaining how and why we collect particular information when you visit our website.