“financing is the second most important complaint firms state when asked about the constraints to higher growth opportunities.”

# **Endogeneity Issues**

At the same time, when surveying firms on their ease of access to finance, one cannot avoid problems of endogeneity, ambiguity in the definition of access, and often the lack of good conceptual framework for the data being collected. First, dependent and independent variables in empirical analyses using data from survey responses often share a common parameter that is omitted in the survey and is usually the result of self-selection in survey participation. But these can suffer from biases. Specifically, firms that are better may not complain about their access to finance while worse firms, e.g., firms with weak growth opportunities and poor collateral, more likely will complain the most about lack of financing. As a consequence, complaints about access to finance cannot be used directly as independent variables to predict in turn firms’ performance as a dependent variable. Financial and other data may also be biased or endogenous to external financing constraints. The interest rate the firm pays and the amount of financing it gets, for example, are not useful control measures, as they depend on firms’ creditworthiness and degree of access. Also, the cross-sectional nature of most surveys does not allow the tackling of any simultaneity bias between survey responses that are used as dependent and independent variables, respectively. Furthermore, at times the perception of firms has been used as indicators of the business environment itself, which introduces another endogeneity (e.g., with many firms complaining, the business environment may be considered poor, but then it may also be that firms are weak themselves, and thus complain more).

Second, defining access to finance is not an easy task. Generally, access to finance refers to the availability of supply of quality financial services at reasonable costs, with a focus on whether investment is constrained. However, depending on what one considers ‘quality’ services and ‘reasonable’ costs, the measurement of access to finance may need to be altered accordingly. Measurement of access to finance is also influenced by the definition and priority of its various dimensions. For instance, one can distinguish the dimensions of reliability, convenience, continuity and flexibility, with each requiring a different measure. A related issue is that firms obtain various forms of external financing, e.g., short-term trade finance, working capital financing and investment financing. Each of these forms of financing may have different degree of financing constraints, e.g., a firm may not be constrained in trade finance but may not be able to get investment financing.

Third, a major problem with measuring and evaluating firms’ access to finance is the absence of a unified conceptual framework for data collection. Somewhat surprisingly, theoretical models and empirical evidence on the topic of access to finance has not yet resulted in a commonly accepted framework for data collection. Thus, currently collected data are often of an ad-hoc nature, with varying definitions over time. As a result, the data are often not comparable across countries and do not necessarily yield appropriate variables for model testing. The data collected are rarely of the experimental form, where one controls for the firm characteristics by randomizing treatment. For instance, Duflo, Glennester and Kremer (2007) provide a practical guide to build in randomization as part of research design in the field. Randomization would allow solving selection bias to control for firms characteristics

# **Supply Side**

Supply data can help with the identification of financing constraints, but have been little used to date. We know from theory (Rajan 1992) and confirmed empirically (Petersen and Rajan, 1994) that access, especially for smaller, more opaque firms can depend on their relationships with financial institutions. Banks may invest in information acquisition in the expectation of future returns, and then be able and willing to lend more to some classes of firms. Therefore, bank characteristics can relate to the degree of lending to some classes of firms (one can consider these clientele effects). Small banks, for example, may specialize in lending to smaller firms. Or banks with certain lending, technology and human resources management policies that allow for the use of 6