Financial fragmentation and SMEs’ access to finance

Abstract

This paper focuses on the impact of financial fragmentation on small and medium enterprises (SMEs)' access to finance. We combine country-level data on financial fragmentation and the ECB's SAFE (Survey on the Access to Finance of Enterprises) data for 12 European Union (EU) countries over 2009-2016. Our findings indicate that an increase in financial fragmentation not only raises the probability of all firms to be rationed but also to be charged higher loan rates; in addition, it increases the likelihood of borrower discouragement and it impairs firms' perceptions of the future availability of bank funds. Less creditworthy firms are even more likely to become credit rationed, suggesting a flight to quality effect in lending. However, our study also documents a potential adverse effect of increasing bank market power resulting from greater integration. This suggests that financial integration could impair firms' financing, if not accompanied by policy initiatives aimed at maintaining an optimal level of competition in the banking sector.

Innovation and borrower discouragement in SMEs

“…In terms of firm-level characteristics, smaller and younger SMEs are significantly more likely to be discouraged borrowers (Han et al, 2009;Freel et al, 2012;Chakravarty and Xiang 2013;Cowling et al, 2016;Mac an Bhaird et al, 2016;Rostamkalaei, 2017). Clearly, newly born firms will have less experience in the credit market and may self-ration as a result of this inexperience (Calabrese et al, 2020). Therefore, in line with a priori theoretical expectations, the smallest most informationally opaque SMEs encounter the greater levels of borrower discouragement (Berger & Udell, 1998;Cowling et al, 2016).…”

“…In most developed economies, borrower discouragement affects between 10 and 20% of SMEs (Christensen & Hain, 2014;Cowling et al, 2016;Freel et al, 2012;Mac an Bhaird et al, 2016;Rostamkalaei et al, 2018). For example, Calabrese et al (2020) find that 6.5% of SMEs from a number of EU countries are discouraged borrowers. The incidence of borrower discouragement is significantly higher in developing countries (Chakravarty and Xiang, 2013).…”

“…Due to the nature of many official SME surveys, prior studies adopt (often by necessity) rather restrictive definitions of borrower discouragement-focusing purely on the fear that a loan application is rejected (Neville et al, 2018;Nguyen et al, 2020). For example, survey instruments such as the European Central Bank's Survey on the Access to Finance of Enterprises (SAFE) survey use this somewhat abbreviated definition of discouragement (Calabrese et al, 2020;Mol-Gómez-Vázquez et al, 2021). This is likely to significantly underestimate the true extent of borrower discouragement across SMEs.…”

ECB unconventional monetary policy and SME access to finance

“…Third, most of the monetary policy transmission literature that considers risk focuses on objective measures of risk and if banks reallocate their asset portfolio towards these risky assets. Objective measures include firm size and age, which increase screening costs for banks (Berger & Udell, 1998 ; Bernanke et al, 1996 ; De Jonghe et al, 2020 ; Calabrese et al, 2021 ), banks’ internal ratings on loans to businesses (Dell'ariccia et al, 2017 ; Jimenez et al, 2014 ), macroeconomic variables to capture the economic outlook as worsening of economic outlook leads to deterioration in borrowers’ creditworthiness and increases credit risk (Burlon et al, 2019 ; Maddaloni & Peydro, 2011 ), the firm Z-scores (Jiménez et al, 2018 ; Peydró et al, 2021 ), bank write-offs to total loans (De Jonghe et al, 2020 ) or loan yield (Peydró et al, 2021 ). We build on this literature by using a future predictor of risk, profit decreased in the previous 6 months as well as a selection of subjective measures of risk such as the firms’ own view if their credit history, own economic outlook or own capital has deteriorated in the previous 6 months and, finally, an activity-based measure of risk, i.e.…”

“…innovative activity, given that such activity is more uncertain and, therefore, riskier. Calabrese et al ( 2021 ) use firm subjective measures of risk such as the firms’ view of their own capital and credit history but consider them in the context of financial fragmentation. To the best of our knowledge, this paper provides the first piece of evidence on the use of firm-based measures of risk to identify SME access to funding in an environment of UMP.…”