FSB Consultation on Effects of Regulatory Reforms on SME Financing

The report first provides an overview of SME definitions and covers the overall structure, trends, and drivers in SME financing. It then outlines relevant reforms potentially affecting SME finance, also presenting their implementation timelines and possible transmission channels. Finally, the report presents the results and conclusions of the qualitative and empirical analysis on the  overall assessment of the effects of the financial regulatory reforms on SME financing. The report also includes annexes with additional information on financial regulations potentially affecting SME financing; a stylized example of the impact of changes in regulatory capital to the cost of bank financing for SME lending. This evaluation report was delivered to G20 finance ministers and Central Bank governors for their meeting in Fukuoka on June 08-09, 2019. 

For the reforms that are within the scope of this evaluation, the analysis thus far does not identify material and persistent negative effects on SME financing in general, although there is some differentiation across jurisdictions. There is some evidence that the more stringent risk-based capital requirements under Basel III slowed the pace and in some jurisdictions tightened the conditions of SME lending at those banks that were least capitalized relative to other banks. These effects are not homogeneous across jurisdictions and they are generally found to be temporary. The evaluation also provides some evidence for a reallocation of bank lending toward more creditworthy firms after the introduction of reforms, but this effect is not specific to SMEs. Additionally, the alternative, non-traditional forms of financing, such as fintech credit, have seen their importance increase in recent years, albeit from a low base. Other key conclusions of the report are as follows:

Impact of Basel III reforms. The report states that stakeholders identified Basel III as the most relevant reform impacting the provision of SME lending, although there were mixed views about its importance. A few of them also expressed the concern that Basel III imposed a disproportionate capital charge on equity investment in SMEs, thus discouraging such exposures vis-à-vis debt finance.  By contrast, the leverage ratio and liquidity reforms (and in particular the liquidity coverage ratio, whose implementation is more advanced than for the net stable funding ratio) were found not to exert significant effects. In addition, some stakeholders commented that the cumulative costs of complying with financial regulations may be disproportionately higher for smaller credit institutions, thus offering incentives for them to focus on bigger loans, while others expressed concern about the apparent convergence in business models across large banks that may reduce diversity and build up systemic risks. Some stakeholders also noted that Basel III reforms were not the major constraint to SME financing; that loan maturities have lengthened in recent years; and that capital regulations have impacted countries differently, depending on how they were implemented by the authorities and how successful banks have been at raising capital.

Impact of accounting standard reforms. Changes to accounting standards for expected credit loss (ECL) were also cited by stakeholders as potentially affecting SME financing, although a comprehensive assessment of their impact is not possible at this stage. Stakeholder concerns about the effects of the new standards (IASB's IFRS 9 and the U.S. FASB's current expected credit loss (CECL) model) stem from worries about a sudden increase in loan-loss provisions and higher volatility of earnings in general, which may offer incentives to banks to reduce the maturity of SME loans, request higher collateralization, and reduce credit availability in a downturn. The presence and magnitude of any potential effects on SME financing will be substantially determined by the way banks implement the standard, as well as by factors such as the composition and quality of their credit assets. Given that the bulk of these changes will only come into effect in the coming years—IFRS 9 was only effective as of January 01, 2018 and CECL is not effective until 2020-21—a meaningful analysis of their effects on SME financing is not possible at present.

Related Links

• Press Release
• Consultation Document (PDF)
• Technical Appendix (PDF)
• Template for Consultation Responses (DOCX)

Comment Due Date: August 07, 2019

Keywords: International, Banking, Accounting, Basel III, Proportionality, IFRS 9, Credit Risk, SME, Regulatory Reform, FSB