Across the United States, small businesses are essential drivers of job creation, innovation, and local economic resilience. Yet for many entrepreneurs—particularly those in low-income communities and communities of color—access to affordable capital remains a persistent barrier to growth. At the center of this challenge is a less visible but equally critical constraint: Community lenders often lack access to stable, affordable capital, limiting their ability to meet small-business demand at scale.
The Capital Bottleneck Facing Community Lenders
Minority Depository Institutions and Community Development Financial Institutions (CDFIs) are uniquely positioned to serve small businesses that are often excluded from traditional credit markets. These lenders rely on deep community relationships, local market knowledge, and flexible underwriting practices to reach entrepreneurs that larger institutions frequently overlook. Research from the Federal Reserve Bank of New York describes CDFIs as “financial first responders,” capable of making “missing markets” investable by directing capital where it is most needed.
Despite their effectiveness, many community lenders operate under structural capitalization constraints. Limited access to low-cost deposits, reliance on short-term or higher-cost funding, and insufficient balance-sheet capacity constrain their ability to scale lending. A Congressional Research Service analysis notes that while CDFIs are designed to expand access to affordable financial services, many lack the capital depth to respond quickly to rising demand or to finance larger, growth-oriented loans.
This mismatch produces a paradox: Small businesses are credit-ready, community lenders are mission-ready, yet capital is neither affordable nor scalable enough to bridge the gap.
Why Capital Structure Matters for Small-Business Access
The economics of lending are unforgiving. When community lenders face higher funding costs or unstable capital sources, net interest margins are compressed, liquidity risks increase, and lending flexibility declines. Information from the Federal Deposit Insurance Corporation shows that during periods of funding stress, banks often shift into liquidity-management mode—prioritizing balance-sheet stability over new loan originations.
For small businesses, this translates into fewer loans, smaller loan amounts, shorter maturities, or higher interest rates. Federal Reserve System studies consistently show that community and small banks play an outsized role in small-business lending, especially in underserved markets. Without stable, affordable capital, even the most mission-aligned institutions are forced to ration credit.
Compounding the issue, uncertainty around federal funding streams—particularly those supporting CDFIs—has underscored the fragility of the existing capital ecosystem. As a recent Milken Institute analysis notes, reliance on episodic or politically uncertain funding sources limits the long-term sustainability of community development finance.
Building a Capitalization Strategy for Community Lenders
Addressing this challenge requires a shift in perspective: capitalizing community lenders must be treated as economic infrastructure investment, not a niche policy intervention. Several complementary approaches show promise:
1. Stable, Low-Cost Deposits as Lending Fuel
Expanding access to stable deposits—particularly from institutional and corporate sources—can significantly strengthen lender balance sheets. Deposits remain the most flexible and cost-effective source of lending capital, enabling community lenders to grow loan portfolios without taking on excessive risk or cost.
2. Patient, Mission-Aligned Capital Instruments
Innovative capital tools, such as blended-finance structures and economic mobility bonds, can provide long-term, affordable capital aligned with community lending missions. These instruments reduce reliance on short-term funding and allow lenders to support business expansion, procurement readiness, and job-creating investments.
3. Capacity Building Beyond Capital: The Role of Ecosystems
Capital alone, however, is insufficient. Research on community finance consistently finds that capital deployment is most effective when paired with ecosystem support, including technical assistance, borrower readiness, and institutional capacity building.
This is where the Milken Institute Initiative on Inclusive Entrepreneurship (IIE) plays a critical role. IIE operates at the intersection of entrepreneurship, finance, and policy to strengthen the systems that support inclusive business growth. Through research, convenings, and partnerships with lenders, policymakers, and ecosystem builders, IIE helps:
- Build institutional capacity for community lenders.
- Align capital providers with local lending ecosystems.
- Strengthen technical assistance and borrower preparedness.
- Reduce risk by improving coordination across public, private, and philanthropic actors.
For example, an IIE implementation partner, Mission Driven Finance (MDF), recently announced a $9 million investment as part of a larger capital raise for Cairnspring Mills’ new Blue Mountain mill on the Umatilla Indian Reservation in Oregon. Structured with eight Native CDFIs and other partners, MDF’s capital weaving expertise facilitated a breakthrough in creative financing for Indigenous economic development.
By supporting the infrastructure around community lenders—not just individual transactions—IIE helps ensure that new capital translates into durable lending capacity and sustainable small-business outcomes.
A Broader Lesson for Inclusive Economic Growth
As Milken Institute Insights on disaster recovery and community development have shown, resilient economic systems depend on layered capital stacks and cross-sector collaboration. The same principle applies to small-business finance. Scaling access to affordable capital requires aligning deposits, long-term investment, and ecosystem capacity—rather than relying on any single funding source.
Community lenders are central to this strategy. When adequately capitalized and supported, they serve as powerful conduits for inclusive growth—linking capital markets to Main Street entrepreneurs and transforming investment into jobs, wealth creation, and community stability.
From Capital Constraints to Capital Access
Expanding access to affordable small-business capital begins by strengthening the financial foundations of the institutions that provide it. By pairing innovative capitalization strategies with ecosystem-level capacity-building—such as those advanced by the Milken Institute’s Initiative on Inclusive Entrepreneurship—we can move beyond fragmented solutions toward a scalable, resilient model of inclusive economic growth.
In doing so, we not only empower community lenders to fulfill their missions—we unlock opportunities for the small businesses and communities that depend on them.
To learn more about innovative ways to support community lenders, join the Milken Institute at the IIE national webinar on Wednesday, February 18, at 12:30 p.m. ET by registering at Capitalizing Community Lenders to Expand Access for Small Businesses.
