profile selection criteria in order to ensure additionality<sup>52</sup> . In addition, Bancóldex could take the lead in supporting capacity-building programs and promoting the development of new SME financing instruments – such as factoring and risk capital – by analyzing existing constraints and proposing suitable policies to overcome them.

A better understanding of SMEs and the design of measures to tackle some of their inherent weaknesses are important policy priorities. In particular, SMEs need to be ‘unbundled’ from micro enterprises in the collection of statistics, and their characteristics (size, economic sector, region, financial performance, contribution to employment and GDP, informality etc.) analyzed in greater detail in order to better understand the demand side perspective. Given the importance accorded by credit institutions to constraints stemming from inherent SME characteristics, priority could be given to developing appropriate policy measures to tackle them. Such measures – which go beyond the realm of financial sector policy per se – could include the expansion of capacity-building programs and the design of incentives for SMEs to formalize (e.g. simplification of tax policy/administration, relevant labor and social security regulations, and of procedures/cost of inscription in commercial registries). In fact, some of these measures have been identified and adopted in CONPES 3484 (August 2007).

Consideration should be given to the adoption of an SME definition that includes annual turnover as one of the criteria. In particular, the use of an SME definition that is not compatible with actual banking market practice complicates the attainment of policy objectives in this area and raises questions as to whether the right type of firm is being targeted<sup>53</sup> . International practice in defining SMEs also supports the use of annual sales as an important criterion<sup>54</sup> . The recently-approved 2006-2010 national development plan, which permits the authorities to change the SME definition and relevant size ranges as deemed necessary, represents an opportunity to address this issue.

The aforementioned policy measures necessitate a well-coordinated and comprehensive strategy to promote bank financing to SMEs. As previously mentioned, the SME financing gap stems from complex and multi-dimensional causes. A suitable policy response, potentially encompassing some of the policy actions described above (many of which have been included in the recent CONPES document), requires coordination and information exchange across several parts of the Colombian government, including (but not limited to) MHCP, MCIT, DNP, DANE, second-tier credit institutions and the SF. It is therefore critical that efficient institutional mechanisms exist within the government in order to undertake this role. The implementation of the CONPES represents a good opportunity to further streamline these mechanisms and improve their functioning.

> 52 Examples would include the ‘screening out’ of loans to those SMEs that already have a satisfactory credit history with the banking system and/or can provide other forms of collateral.

> 53 According to a recent exercise by Asobancaria and Comité Pymes (2007) using 2003 data from Confecámaras, a substantial number of micro enterprises would be classified as SMEs (and vice versa) if the classification was based on annual turnover as opposed to total assets.

> 54 See Felaban and FOMIN/BID (December 2004) for an overview of the SME definitions used by banks in Latin America and the Carribean, and Zevallos (2007) for the legal SME definition used in Latin American countries and by the European Union.

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