mechanisms and providers that will enhance competition and provide additional sources of financing for all firms, including SMEs.

Reforming the legal framework for creditor rights and insolvency proceedings in general, and for secured lending in particular, would greatly enhance the ability of SMEs to access bank loans by pledging collateral. It is important to note that existing government programs to support SME financing not only help credit institutions to address SME-specific issues, but also allow them to overcome broader credit infrastructure weaknesses such as the existing legal framework for creditor rights and insolvency proceedings<sup>51</sup> . The recently-approved new bankruptcy law and forthcoming changes to the civil code on enforcement procedures improve, but will not fully resolve, some of the problems that had been previously identified. In the specific case of SMEs, which tend to rely more on the use of collateral than larger firms, what constitutes acceptable collateral is an important issue. Reforming the legal framework for secured lending by consolidating diverse and overlapping legislation in all its dimensions – creation, perfection and enforcement of security interests – would facilitate SMEs to pledge moveable property and release what is currently ‘dead capital’ for them.

The role of the interest rate ceiling in preventing riskier SMEs from accessing credit by the official banking system should be carefully analyzed. Several interviewed credit institutions emphasized the importance of the interest rate ceiling as a constraint for expanding credit to riskier firms, which are typically the ones that are smaller, have less collateral to offer, and lack a long track record. As previously mentioned, the problem seems particularly acute for those firms transitioning from micro enterprise to SME status because the effective interest rate ceiling for the former is much higher than for the latter. Although recent efforts to raise the ceiling by tinkering with its method of calculation and periodicity have been positive, its existence is perceived to act as a binding constraint for some SMEs and as a source of legal and regulatory uncertainty for credit institutions. A careful analysis, based on available borrower/loan-level data, would shed light on the debate about the relative merits and potential costs (in terms of additional rent-seeking by banks) of abolishing this ceiling in Colombia.

Existing government programs that support SME financing can be further optimized by focusing on additionality and on developing new lending instruments. FNG and Bancóldex have been cited by banks as important in the development of SME financing (either via guarantees or rediscounting) and – as affirmed in their respective strategic plans and CONPES document 3484 (August 2007) – are expected to continue doing so in the future. However, their contribution in terms of additional financing, and other potential objectives compared to a suitable baseline has not yet been measured. Such an assessment would help the fine tuning of their products in order to maximize impact. This is becoming particularly important as the SME financing market continues to grow, which raises the question of whether these institutions can and should keep up (in terms of market share) or whether they should concentrate their scarce resources on the neediest SMEs. The latter alternative would imply the introduction of stricter SME borrower

> 51 As another example, one could argue that FNG guarantees partly compensate for the inability of banks to charge riskier SME borrowers an interest rate above the legal ceiling. Although these guarantees are a valid contribution to SME financing, they represent a second-best solution to what is an inherent policy issue.

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