The Surprising Use of Credit Scoring in Small Business Lending by Community Banks and the Attendant Effects on Credit Availability and Risk

Allen N. Berger, Adrian M. Cowan, and W. Scott Frame
Working Paper 2009-9
March 2009

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The literature has documented a positive relationship between the use of credit scoring for small business loans and small business credit availability, broadly defined. However, this literature is hampered by the fact that all of the studies are based on a single 1998 survey of the very largest U.S. banking organizations. This paper addresses a number of deficiencies in the extant literature by employing data from a new survey on the use of credit scoring in small business lending, primarily by community banks. The survey evidence suggests that the use of credit scores in small business lending by community banks is surprisingly widespread. Moreover, the scores employed tend to be the consumer credit scores of the small business owners rather than the more encompassing small business credit scores that include data on the firms as well as on the owners. Our empirical analysis suggests that credit scoring is associated with increased small business lending after a learning period, with no material change in the quality of the loan portfolio. However, these quantity and quality results appear to vary depending on the way in which credit scores are implemented in the underwriting process.

JEL classification: G21, G28, L23

Key words: banks, small business, credit scoring

The authors thank Beth Kiser for providing the banking market data and Pam Frisbee for research assistance. Valuable comments have been provided by Charles Cowan, Bill Keeton, Margaret Miller, Nathan Miller, George Pennacchi, Wako Watanabe, John Wolken, and seminar and conference participants at the Federal Reserve Bank of Kansas City, the World Bank, and Financial Management Association meetings. The views expressed here are the authors' and not necessarily those of the Federal Reserve Bank of Atlanta or the Federal Reserve System. Any remaining errors are the authors' responsibility.

Please address questions regarding content to Allen N. Berger, University of South Carolina, Moore School of Business, University of South Carolina, 1705 College Street, Columbia, SC 29208, 803-777-8440,; Adrian M. Cowan, St. Mary’s University, One Camino Santa Maria, San Antonio, TX 78228, 210-436-3705,; or W. Scott Frame, Research Department, Federal Reserve Bank of Atlanta, 1000 Peachtree Street, N.E., Atlanta, GA 30309-4470, 404-498-8783,

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