Economic uncertainty in Europe and a release from another part state-funded bank, Lloyds, after announcing a year’s loss of £3.5billion that 2012 does not look any better, has not stimulated confidence. Chief Executive of Lloyds, Antonio Horta-Osorio, “given the economic outlook, in 2012, on a combined businesses basis, we expect income to be lower than in 2011, given further non-core asset reductions, subdued demand in the core loan book, higher wholesale funding costs, and interest rates likely to remain at low levels for longer.”
These revelations have created a much more challenging lending environment, which is not particularly helpful for the huge numbers of small and medium sized businesses (SMEs) that account for over half of the UK’s total GDP and 60% of jobs. The four top UK banks account for around 80% of the business banking market and dominate the UK banking sector.
Further compounding this problem for SMEs is the Basel III agreement. Due to be phased in between 2013 and 2019, Basel III is the global framework governing the regulation of bank capital, liquidity and leverage in the wake of the world financial crisis. Under Basel III banks are encouraged to hold more capital and therefore lend to fewer high-risk ventures. Lending to SMEs is weighted as relatively high risk, a policy inherited from Basel II, and should, when combined with rising capital requirements and turbulent capital markets, result in a disproportionately high cost of capital for banks when lending to such businesses and a gradual shift of their entire business models away from SME lending. Unfortunately this is the antithesis of what SMEs need to grow and expand.
If traditional opportunities for raising [[working capital finance|working capital]] are becoming harder to acquire, then perhaps new technologies for lending are the answer. SME financing in particular is one area that most agree is particularly in need of innovation. Government officials in many states are constantly on the look out for innovative ways to drive credit into the politically sensitive and economically important area of the SME, or small to medium sized enterprise. This area of finance struggles due to high costs of servicing, as it takes the same amount of time and money to vet a £100m loan as it does a £1m loan. With Basel III, SMEs attract a higher capital charge meaning that when a bank becomes stressed, SMEs are often the first to see their loans pulled.
What is encouraging is that a range of firms, as covered by the Economist last week, have sprung up to fill this gap. From new entrants to the banking market such as Shawbrook, to crowd-sourced equity providers such as Crowdcube, as well as [[invoice marketplace|receivables exchanges]] in the United States, it looks as though the same technological shifts that have upended many other industries might finally be coming to SME finance.