An increasing number of banks, large and small, reported tightening credit standards to start off 2023, even before the banking turmoil that began in March. But smaller banks are now getting hit twice as hard as customers move deposits away from regional institutions, which could put some small businesses in further peril.

In the week following Silicon Valley Bank’s troubles, customers made a record number of withdrawals from smaller banks, feeling more confident that bigger banks would be a safer place for uninsured deposits after the second and third largest bank failures in U.S. history.

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The latest Federal Reserve data shows between March 8 and March 15, the top 25 banks in the country gained $120.2 billion in deposits, while all of the other banks in the country lost $184.6 billion. In the week that followed, smaller banks failed to gain any of the deposits back, losing another billion by March 22.

“And you have bank management thinking, ‘Ok, how do we survive this now? Well, we probably don’t do it by lending,’” Pantheon Macroeconomics Chief Economist Ian Shepherdson said in a CNBC interview.

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Banks use deposits to fund loans, so all of the banks that lost deposits are likely to tighten credit even more in the aftermath. Small and medium-sized businesses are disproportionately impacted by this. According to UBS research, smaller and regional banks hold 40% of these companies’ loans and debt.

The latest Fed survey found roughly 44% of banks reported tightening standards for business loans in the first quarter of 2023. With the exception of the COVID-19 pandemic, it’s the highest share to say that since 2009 in the wake of the Great Recession.

“Bank credit is the lifeblood of small businesses and most people work for small businesses, they drive a huge amount of economic activity and they’re really gonna struggle,” Shepherdson said.

According to Pantheon Macroeconomics research, small and medium-sized companies employ 58% of private workforce in the U.S.

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