Basel III is the global framework governing the regulation of bank capital, liquidity and leverage agreed in the aftermath of the global financial crisis of 2008–9. Its provisions will, for the coming years, determine the banks’ cost of capital and therefore the cost and supply of capital to businesses around the world.
Basel III and SMEs: Framing the Debate
In the summer of 2011, ACCA published Basel III and SMEs: Framing the Debate, which discussed the incomplete evidence on the effect of Basel III on SMEs’ access to finance. We found that while some effects of Basel III are quantifiable, others are not. The more time banks are given to comply with Basel III, the more likely they are to respond by changing their business models altogether. The effects of such tectonic shifts in banking activity could be disproportionate and regulators’ understanding of these is still woefully inadequate.
Our paper called for a proper SME impact assessment of Basel III and its various incarnations. In response to this and similar calls by other stakeholders, the European Commission provided an SME impact assessment (pp. 52-55 here).
CRDIV and Small Business: Revisiting the Evidence in Europe
In late July 2011, the European Commission unveiled its proposals for the Capital Requirements package commonly referred to as CRD IV, which will, among other things, implement Basel III in the EU member states. The detail of CRD IV arrived at a crucial time, as the sovereign debt crisis in Europe took a turn for the worse and the capitalisation of European banks came under renewed scrutiny.
ACCA recommended the European Commission, member state governments, regulators and industry should prioritise the following when assessing and counteracting the negative impact of CRD IV on SMEs:
1. Performing a second SME test for CRD IV no later than 2015, when the first assessments of CRD IV’s more innovative instruments will be complete.
2. Matching CRD IV with a business support package to address anticipated impacts on SME access to finance.
Adjusting unrealistic risk weights and funding stability coefficients.
3. Encouraging securitisation of small business debt and the creation of a secondary market in government-guarantee-backed SME loan securities.
4. Minimising effects on export and trade financing.
5. Ensuring CRD IV is compatible with the nature of credit guarantee systems in Europe.
6. Safeguarding development business.
7. Safeguarding Europe’s long-term financing culture.
8. Reassessing the concept of a leverage ratio.
9. Implementing Basel III internationally.
Basel III and SMEs: Getting the Trade-Off Right
Published in March 2012, this final paper in our series on Basel III and SMEs tackles the most important question of all: how to find the appropriate trade-off between financial stability, which SMEs stand to benefit disproportionately from, and SME credit growth. We find that, although a wholesale review of Basel III will not be possible until the end of the decade, it it is both possible and necessary to recalibrate Basel III in order to mitigate the worst of its effects on SMEs. Policymakers can do this by simply aligning the regulatory framework with its proper purpose: containing systemic risk and the negative externalities involved in financial activity. If they do, a substantial share of the global economy will reap significant rewards without endangering any other economic activity
The paper also argues that there are sectors to which Basel III is not well adapted, and important risks that it cannot accommodate. In fact, many of the same features that make the framework hostile to SME lending also make it oblivious to true risks to financial stability.
A short infographic summarising these concerns can be found here.
An example of how capital and liquidity requirements can shift the business models of banks can be found in the ACCA blog
‘Smart Banks, Dumb Banks and the amazing, terrible future of small business lending in the UK’ – where we demonstrate how measure to ring-fence retail from investment banking in the UK could end up achieving the opposite – making all small business lending dependent on wholesale markets and the originate-to-distribute model.
Similarly, ACCA has demonstrated how CRDIV has driven a wedge between banks’ appetite for SME loans and investors’ appetite for SME credit as an asset class. In a high-profile event in April 2013, organised jointly with AFME (the Association for Financial Markets in Europe) and UEAPME (the Association of Small, Medium and Craft Enterprises in Europe) we suggested that securitisation is a necessary tool if this gap is to be bridged.
ACCA’s work on Basel III and SMEs has been cited by leading institutions such as the OECD (in its 2012 Scoreboard on financing SMEs and entrepreneurs) and the European Banking Authority (in its report on the SME impact of CRDIV risk weights and possible mitigating measures).
THE IMPACT OF BASEL III: A SUMMARY OF WHAT WE KNOW
In June 2013, ACCA gave a presentation at the Romanian Banking Institute on the likely medium-term impact of Basel III / CRD IV on the global economy in general and SMEs in particular. The presentation, complete with full references, can be downloaded here.