Benoît Coeuré: SME financing - a euro area perspective
Speech by Mr Benoît Coeuré, Member of the Executive Board of the European Central Bank,
at the Conference on Small Business Financing, jointly organised by the European Central
Bank, Kelley School of Business at Indiana University, Centre for Economic Policy Research
and Review of Finance, Frankfurt am Main, 13 December 2012.
* * *
Ladies and Gentlemen,1
It is a pleasure to welcome you to the conference on "Small Business Financing" organised
jointly by the European Central Bank, the Kelley School of Business at Indiana University,
the Centre for Economic Policy Research and the Review of Finance.
At the ECB, we regard small and medium-sized enterprises (SMEs) as a crucial component
of the euro area economy. Indeed, our deliberations on monetary policy systematically take
into account the financial health of, and the growth prospects for, euro area SMEs. In
particular, the financing environment and access to finance for euro area corporates are
important elements in our policy-making process, both for standard and non-standard
monetary policy decisions.
To illustrate the importance of small businesses in the euro area, consider the following facts:
SMEs constitute about 99% of all euro area firms, they employ around three-quarters of euro
area's employees, and they generate around 60% of value added. At the same time, unlike
large firms which are generally more profitable and have access to alternative sources of
finance, such as bond or equity finance, SMEs are highly dependent on bank loans and
credit lines. Due to asymmetric information and a higher risk of failure2, SMEs tend to face
higher costs for bank finance and higher rejection rates than larger firms. While finding
customers - potentially due to weak aggregate demand - is usually cited as a bigger
problem for SMEs than access to finance, it is still the case that they are particularly
vulnerable to adverse real-financial feedback loops or supply disruption in the provision of
bank credit.
Nevertheless, the years prior to the financial crisis were a period of smooth transmission of
monetary policy, and there was little evidence that euro area SMEs were constrained over
and above levels expected in the context of a sound financial system.
After mid-2007, however, the costs of finance started to rise and access to finance started to
deteriorate relative to the pre-crisis period. In some euro area jurisdictions, the financial crisis
first and the sovereign debt crisis later led to a reduction of the supply of credit to both
households and corporates. In particular, rejection rates and rates on granted loans
increased, and so did the share of firms citing access to finance as their dominant concern.
On average, loans extended to non-financial corporations and households have declined
more than during previous crises, mainly because bank funding shocks have been larger
than in the past (Chart 1). The ECB has strived to alleviate funding stress by reducing policy
rates, as well as by implementing non-standard monetary policy measures to provide liquidity
to the banking system, where acute stress has occurred. This has also helped to mitigate the
risks of disorderly bank deleveraging and to ensure adequate credit supply conditions in the
euro area. Since 2010, the sovereign debt crisis has aggravated the funding conditions of
euro area corporates and SMEs in particular, both by hurting their growth prospects and by
forcing banks exposed to the sovereign debt of a number of euro area countries to rebalance
their loan portfolios. By the same token, it is reasonable to argue that by counteracting undue
risk premia on government bonds, the ECB's non-standard measures, such as the OMTs,
will contribute to restoring access to finance for the private sector.
Let me first talk about the financial situation of euro area SMEs. Before the crisis, survey
evidence indicated that the main source of SME finance was retained earnings (around
two-thirds). 10% was in the form of trade credit from suppliers or customers, and around 10%
from external non-bank sources. About 15% of SMEs' capital investment and operating
expenses were financed with bank loans and credit lines. This average dependence on bank
financing was as low as 8% in Portugal and as high as 22% in Ireland3, indicating that small
businesses relied substantially on the smooth functioning of the euro area's banking sector.
At the same time, there was a strong increase in credit growth in the euro area following a
persistent easing of bank lending standards. According to the ECB's Bank Lending Survey,
euro area banks steadily relaxed their credit standards for loans or credit lines to enterprises
during all but two quarters between Q2 2004 and Q3 2007. While the situation was broadly
similar with respect to housing loans and consumer credit, which contributed to the build-up
of housing bubbles in several euro area Member States, the corporate sector was still a
substantial recipient of an overall euro area credit expansion. One of the adverse
consequences of this credit expansion was that the euro area corporate sector had
accumulated, on the eve of the global financial crisis, considerably higher leverage than
during the early 2000s (Chart 2). This effect was largely driven by micro and small firms, for
which financial leverage increased from 0.14 in 2004 to 0.19 in 2007.4
After August 2007, a sharp reversal of this process was observed. Credit standards on loans
to enterprises tightened by on average 46% during each quarter between Q3 2007 and
Q4 2008 (Chart 3). This process was accompanied by a rapid deleveraging by non-financial
corporations. Nevertheless, as late into the financial crisis as the second half of 2009, the
ECB's Financial Stability Report singled out euro area SMEs as particularly vulnerable to
further adverse credit market developments, on account of their low profitability and relatively
high leverage levels.
The euro area sovereign debt crisis which started in the first half of 2010 and intensified in
2011 further contributed to the already restricted access to bank finance by the euro area
corporates. While weakening demand resulting from deteriorating growth prospects in a
number of euro area jurisdictions certainly played a role, tensions in sovereign markets
affected the supply of bank credit as well. Because potential losses on sovereign debt
securities have a direct negative effect on the asset side of the banks' balance sheets and
also affect their ability to pledge collateral to secure wholesale funding, the sovereign debt
crisis effectively raised bank funding costs. To the degree that higher bank funding costs
force banks to shrink and rebalance their loan portfolio, there should be a negative
relationship between the riskiness of sovereign debt holdings and bank credit supply.
Recent evidence supports the view that the sovereign debt crisis has had a negative impact
on the supply of bank credit. For example, since early 2010, banks exposed to foreign
sovereign debt under stress have been lending substantially less on the syndicated loan
market than otherwise similar banks with negligible exposure to foreign sovereign debt under
stress (Chart 4). This overall reduction in lending is not driven by changes in borrowers'
demand and/or quality or by other types of concurrent balance sheet shocks. Part of the
effect is due to the fact that investors update their views on the capacity of the domestic
sovereign to support the banking system (the bailout channel). In addition to that, syndicated
lending in the countries that have experienced the highest sovereign debt stress has been
rebalanced away from domestic lending, reflecting deteriorating profit opportunities at home.
This is markedly different from the "flight home" effect observed during the 2008-09 financial
crisis.5
Syndicated lending, however, targets large non-financial corporations and so studies based
on such data do not easily lend themselves to conclusions on the effects of the sovereign
debt crisis on SME access to finance. Moreover, large public firms routinely substitute
corporate debt for bank loans, especially during financial crises,6 a shock-absorbing
mechanism that is not available to SMEs. A simple comparison between very small loans
(typically to SMEs) and very large loans (typically to large corporations) shows a substantial
divergence across euro area jurisdictions which has worsened since the beginning of the
sovereign debt crisis (Chart 5). More detailed information on SME access to finance can also
be extracted from the ECB's biannual survey on access to finance of SMEs in the euro area
(SAFE). The survey suggests that the number of firms citing access to finance as the biggest
problem they face has increased from less than 15% in the first half of 2010 to 18% in the
first half of 2012 (Chart 6). At the same time, firms do not report an increase in financing
needs (Chart 7), implying that loan supply factors dominate.
While this picture is purely descriptive, the SAFE also contains detailed firm-level information
that allows us to calculate a component of credit constraints which is independent of agency
problems. Preliminary analysis suggests that in 2010 and 2011, firms in countries whose
sovereign debt was under stress faced on average a 20% higher probability of being credit
constrained7 than identical German SMEs. When decomposing the country-level effect into
effects due to aggregate demand, credit risk, funding costs and the business cycle, the real
interest rate that firms have to pay for credit stands out as the factor explaining the largest
share of the cross-country variation in credit constraints. Such an analysis based on our
survey on SME finance indeed suggests that for each 100 basis points by which lending
rates decline, access to finance for euro area SMEs will improve by about 9%.
Emerging case studies also support the view that, by weighing on bank balance sheets, the
sovereign debt crisis has led banks to tighten credit supply. For example, micro evidence
from bank lending to SMEs in Italy suggests that since the start of tensions in sovereign debt
markets, lending by banks exposed to sovereign debt has grown by 3 percentage points less
than lending by unexposed banks, and that the interest rate they charge has been between
15 and 20 basis points higher. These effects are stronger for banks relying on domestic
interbank funding.8
The Bank Lending Survey by the ECB is another source of information on realised bank
lending standards to SMEs. According to the survey, after a period of rapid tightening,
lending standards across the euro area had stabilised by the end of 2009 and the beginning
of 2010. However, starting in the second quarter of 2010 credit standards started tightening
again, and in December 2011 overall euro area lending standards to SMEs were twice as
restrictive as two years earlier. This aggregate development hides important cross-country
heterogeneity: for example, over the same period banks in Germany have actually loosened
lending standards.
This combined evidence implies that, since the beginning of the sovereign debt crisis, credit
supply in the euro area has become segmented. In most countries whose banking sectors
are insulated from tensions in sovereign debt markets, access to bank credit has not
decreased much and credit standards have not tightened more than what is typically
observed during this phase of the business cycle. Conversely, in countries where the
banking sector has experienced large balance sheet shocks related to deteriorating
sovereign debt, access to bank credit has tightened substantially. Elevated premia in such
market segments have in turn had repercussions on access to finance for corporates in
general and for SMEs in particular. While growth prospects have deteriorated too, and
consequently weak aggregate demand may be the dominant problem faced by euro area
SMEs right now, impaired access to finance by the corporate sector in a number of euro area
countries is clearly a problem that cannot be neglected and will come to the forefront when
aggregate demand recovers.
Recognising that the sovereign debt crisis has impaired the smooth transmission of monetary
policy, the ECB has responded vigorously. First, it has significantly eased the monetary
policy stance. In July of this year, the ECB cut the main policy rate to 0.75%, the lowest in its
history, and reduced the interest rate on its deposit facility to zero, in an attempt to reduce
general market interest rates and to stimulate interbank lending. The ultimate aim of these
actions is to restore the smooth provision of credit to euro area corporates and households.
In addition to that, the ECB has embarked on a number of non-standard measures: long-term
liquidity provision up to three years, enlargement of the collateral set to be used in
refinancing operations, direct intervention in the secondary market for government bonds
with the SMP programme, and more recently the announcement of the OMTs. The objective
of all these measures has been to help restore the transmission of monetary policy and
address emerging heterogeneity by relaxing the balance sheet constraints of lenders (banks)
and borrowers (firms and households). In this context, the Eurosystem has supported euro
area SMEs both directly and indirectly, by allowing banks to pledge corporate loans as
collateral with the Eurosystem. The goal is to ensure that firms, and especially SMEs, will
receive credit as effectively as possible under the current circumstances. At present, the
ECB holds on its balance sheet approximately €35 billion worth of ABSs with underlying SME
assets, and approximately €60 billion worth of NFC credit claims.
Importantly, even though the policy rate is the same for all EA member states, non-standard
monetary policy measures have benefited banks in jurisdictions which have been most
severely hit by the crisis. In this sense, the non-standard measures of the ECB have
addressed the different funding and stress conditions of the banking system in the euro area.
Liquidity provisions, in particular, have helped banks to avoid disorderly deleveraging and
have mitigated the decline of finance to the real economy. Research evidence suggests that
liquidity policies, such as the fixed-rate full allotment (FRFA) and the longer-term refinancing
operations (LTRO), have been associated with a significant economic effect, in that the level
of industrial production is 2% higher and the unemployment rate 0.6% lower relative to a
scenario with no such non-standard measures.9 It also confirmed the view that, by providing
ample liquidity through the FRFA and the LTROs, the ECB has been able, throughout the
financial crisis, to reduce the costs arising to banks from restricted access to private liquidity
funding and induce a softening of lending conditions, including to SMEs. This effect has been
particularly strong in countries with weaker banking sectors.10
Reactions from the market so far imply that the ECB's measures have contributed to
alleviating stress in sovereign debt markets. The mere announcement of the OMTs, for
example, has already helped to ease uncertainty in the system. The effect on confidence, a
key factor for growth, has also been significant, and rightly so. Excessive government bond
spreads have gone down, corporate bond and covered bond spreads have tightened. The
latest Bank Lending Survey suggests that the announcement of the OMTs seems to have
mitigated the adverse impact of sovereign risk on banks' funding substantially by enabling a
number of banks to regain market access, particularly in distressed countries. These
developments are very important for the prospective financing of the real economy.
Let me conclude. Tensions in euro area sovereign markets brought the financial system
under stress at a time when it was stabilising in the wake of the global financial crisis. Both
market and survey indicators suggest that these tensions have resulted in a deterioration of
bank lending, in particular to small businesses. Unconventional monetary policy measures
have so far contributed to mitigating funding stresses in the banking system and disordered
deleverage. In turn, this has allowed firms and households to maintain access to finance. But
the non-standard measures have also helped to remove uncertainty and restore confidence.
The ECB will continue to pay particular attention to the situation of euro area SMEs when
implementing its non-standard measures. Nevertheless, all actions from central banks,
although crucial for alleviating frictions and dysfunctionalities in financial intermediation and
the transmission mechanism, and also for guaranteeing financial stability and the sheer
survival of the system, cannot replace reforms in individual euro area countries aimed at
reducing fiscal and external imbalances and creating an innovative and competitive
economic environment. Only such reforms can foster sustainable growth and employment in
the future.
Thank you.
Chart 1
Real loan growth, current crisis vs. previous crises
Source: DG-E/MP/CMT internal calculations.
Note: '"Big five" crises' refers to the financial crises in Spain (1977), Norway (1987), Finland
(1991), Sweden (1991), and Japan (1992), where the starting year is in parenthesis.
Chart 2
Leverage of euro area NFCs
Sources: Bureau van Dijk AMADEUS database and DG-E/MP/CMT
calculations.
Chart 3
Bank lending standards in the euro area
Source: ECB's Bank Lending Survey.
Chart 4
Impact of stressed foreign sovereign debt exposure on
bank syndicated lending
Chart 5
Spread between lending rates on very small and large loans
Source: ECB and MIR database. Very small loans are loans of up to €0.25 million, large
loans are those above €1 million.
Chart 6
The most pressing problem faced by euro area SMEs
(percentage of respondents)
Source: SAFE.
Chart 7
Change in external financing needs of euro area SMEs
over the preceding six months
Source: SAFE.