Bank financing for SME’s – lessons from the literature

Bank financing for SME’s – lessons from the literature

The vast majority of firms around the world fall into the category of micro, small or medium-sized enterprises. In terms of enterprises, more than 95 per cent fall into this category, but even in terms of employment in low and lower-middle income countries, more than 50 per cent of employees work in companies with fewer than 100 employees (Ayyagari, Demirgüç-Kunt and Maksimovic, 2011b). This seemingly justifies the statement that “SMEs are the emerging private sector in poor countries and thus form the base for private sector-led growth” (Hallberg, 2001).

Policy efforts targeted at SMEs have often been justified by arguments that (1) SMEs are an engine of innovation and growth and (2) they help reduce poverty because they are labour-intensive and thus stimulate job growth, but (3) they are constrained by institutional and market failures. Cross-country, country-level, and microeconomic studies, however, confirm only the last one of these three claims, while there is at best mixed evidence on the first two.

This paper surveys the literature (1) on the role of SMEs in economic development and the growth obstacles they face, (2) on the importance of financial development

in levelling the playing field between firms of different sizes, and (3) on specific policy levers to maximise the impact of finance on SMEs. These research areas have been very active over the past ten years, partly driven by the availability of large firm-level panel datasets, both at the national as well as at the international level, and loan-level data from credit registries, but also driven by the increased use of randomised control trials (RCTs) and quasi-experiments to assess the effectiveness of specific interventions.

Given the importance of SMEs in developing countries’ private sectors and the claims described above, it is not surprising that policymakers and bilateral and multilateral donors have been focussing on SME finance as a priority area for policy advice and intervention. The G20 has established a Committee on SME Finance, co-chaired by Germany and South Africa, and has supported the ‘G20 SME Finance Challenge’, a competition for innovative solutions to overcome SMEs’ financing constraints.1 Many suggestions for financial sector reforms are tested for their impact on SMEs, including regulatory reform discussions, such as those on Basel 3, and in the context of the current crisis in Europe, there are many references