Why are there Racial Disparities in the Small Business Loan Market

32 Pages Posted: 22 Jul 2021

See all articles by Atanu Rakshit

Atanu Rakshit

Nazarbayev University - Graduate School of Business

Jonathan Peterson

Louisiana Tech University - Department of Economics and Finance

Date Written: July 19, 2021

Abstract

We investigate patterns of racial bias in small business loans denial rates in the U.S. across different credit risk scores. We motivate this inquiry with a simple and generalizable statistical discrimination model where banks observe noisy signals of creditworthiness and hold prior beliefs of repayment probability based on the applicant’s group. Our model predicts that differences in approval rating across groups are more pronounced at middle range values and disappear at very high and very low credit scores. Using data constructed from the 1998 Survey of Small Business Finances and the restricted access Kauffman Firm Survey we find disparities in loan approval ratings between Black and White entrepreneurs in intermediate risk categories but not for the best and worst categories.

Keywords: Statistical discrimination, small business, entrepreneurs, access to credit, race

JEL Classification: D83, G21, J71, M13

Suggested Citation

Rakshit, Atanu and Peterson, Jonathan, Why are there Racial Disparities in the Small Business Loan Market (July 19, 2021). Available at SSRN: https://ssrn.com/abstract=3889590 or http://dx.doi.org/10.2139/ssrn.3889590

Atanu Rakshit (Contact Author)

Nazarbayev University - Graduate School of Business ( email )

53 Kabanbay Batyra Avenue
Astana, 010000
Kazakhstan

Jonathan Peterson

Louisiana Tech University - Department of Economics and Finance ( email )

Ruston, LA 71272
United States

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