State guaranteed loans during the pandemic
In previous blog posts we discussed the pain-points that SMEs face, as well as the impact of COVID19. We will now look at state guaranteed SME financing methods that have recently developed as a response to the crisis. While state guaranteed SME financing methods vary from country to country, what can be said as to their general character is that they are not state loans per se but rather regular bank loans with backing from the state. This is because governments generally don’t want to make individual credit decisions themselves, so they instead require the banks to perform assess each applicant.
As credit losses may be borne by the state, a number of requirements have been developed, all of which need to be fulfilled in order for a loan to become state guaranteed. Not all types of companies can apply for a such a loan and some countries, such as Luxembourg, have strictly defined which sectors can receive such loans and which cannot. For example, culture initiatives and manufacturers can receive backing, but real estate brokers are explicitly excluded (read more about the situation in your country by clicking one of the country-specific links below).
Government involvement in the loan market have been met with criticism from some, such as this opinion piece in the Financial Times, which argues that the state backing may lead to increases in lending to companies that would otherwise not be eligible to receive a loan. By extension this means that, due to high capital requirements for financial institutions, the balance sheet becomes more crowded - with the potential end-result that really promising businesses find it harder to find traditional financing.
The degree of government involvement in the loan market varies. In the UK, for instance, the participating bank can access cheap funding through the Bank of England and lends that to its eligible customers. A number of smaller lenders, such as FinTech lenders, find it difficult to compete with this as they usually are funded by the capital markets. This has resulted in start-up lenders not being able to lend out as much as they would have wanted or looking relatively expensive compared to the banks – ultimately reducing the overall pool of loans and leaving SMEs without the financing they desperately need.
Other countries, such as Luxembourg, do not offer funding directly from the central bank. But they do offer a state guarantee for loans issued under certain circumstances. To date, only a dozen participating banks can offer such loans.
There is, especially in the UK, discussions with the Treasury to expand the availability of funding to start-up lenders. This would be a very welcome development for the start-up lending industry.
Impact for SMEs
The greater availability of lenders and diversity in credit solutions benefits SMEs, not only as the market becomes more competitive, but also because start-up lenders usually have more efficient processes. This allows them to make decisions faster and therefore provide loans without as much administration. But this development can only take place once there is a level playing field between public sectors and (all of) the private sector.
You can find more information about state guaranteed loans by following these links: