SMEs are a cornerstone of Europe’s economy and constitute the vast majority of our businesses. Representing a major part of employment and value added, they provide jobs for many European citizens. Their share in the business economy is much bigger than in the US and yet beneficial conditions for them to grow and prosper seem to be hard to establish.
In recent years, EU policymakers have made efforts to put SMEs at the heart of their concerns, with the aim of fostering their access to finance and enabling them to fully reap the benefits of a more diversified financial landscape. Unfortunately, for many SMEs the problem is often the rigidity of bank credit, which in Europe – no matter what one wishes about a Capital Markets Union – continues to be the most important channel in making financing available to SMEs.
It is true that SMEs have seen the economic environment in which they operate improve, but this has not systematically led to greater credit fl owing their way. As they remain under-capitalised and reliant on bank debt, they are more vulnerable to the current economic downturn. The Coronacrisis and its aftermath will be a particularly difficult time, especially as European economies had just emerged from a previous recovery phase.
While the current urgency is to help SMEs navigate cash flow problems and avoid bankruptcy, for which several quick fixes are being adopted, a long-term strategy will be essential. The first Capital Markets Union in 2015 was a revamping of the EU capital market ecosystem, a much-needed revitalisation following the 2008 financial crisis. However, the next chapter should focus on small businesses’ real needs and on investment in the real world economy.
"While the current urgency is to help SMEs navigate cash flow problems and avoid bankruptcy, for which several quick fixes are being adopted, a long-term strategy will be essential"
True, SMEs are a highly heterogeneous group, often difficult to put into one basket. Certain types of small businesses need greater consideration than others; the SME “label” covers a highly varied range of realities. Some segments of the SME population face extra difficulties in accessing debt finance. Transaction costs are, for example, higher for micro-enterprises, start-ups and businesses located in remote areas. They are more likely to be excluded from formal external financing.
Specific attention should be given to these businesses in the next Capital Markets Union. The challenge is also to ensure equal access to financing across Europe. Not all countries will be equally equipped to bounce back from the current crisis. With the preexisting imbalances in the Eurozone, southern Europe is likely to struggle more in the recovery phase. Countries with a large proportion of SMEs are also likely to be less resilient, as small businesses usually have less collateral to offer to banks against loans.
The effects of the pandemic will likely deepen the north-south and centre-periphery divides. Without intervention, clustering of investment opportunities will concentrate in core regions rather than in the peripheries, reinforcing existing credit constraints for SMEs operating in remote regions. Extra attention must therefore be given to ensuring access to financing throughout Europe, and that any long-term strategy is geographically balanced within the EU.
Beyond the need for a balanced repartition, the digital transformation offers a real and new qualitative opportunity for all European SMEs. This could also be crucial during the recovery phase. Fintech lenders are indeed offering a faster and easier model. Payment history, online activities and mobile history are used as sources of information to access credit, a method that suits the reality of SMEs and allows for decentralised ways of operating.
"In the end, the bigger picture is not just about growth and scaling up, it is about supporting the economic and social fabric that SMEs constitute, without which the fulfilment of a greener and more social Europe cannot take place"
A lot of potential can be unlocked using this data and AI-led solutions. However, they will need to be adequately supervised. The EU’s upcoming Digital Finance Strategy can count on the expertise of those EU countries that have already set sound regulatory foundations for Fintech operations. Expanding access to financial services at a rapid pace might create a risk of over-indebtedness for SMEs. After the Coronavirus outbreak, many businesses will have to increase their debt exposure simply in order to continue to function.
The next moves towards Capital Markets Union will need to also focus on fostering financial literacy and awareness among small businesses to avoid inappropriate risk taking. The challenges faced by SMEs reflect the wider challenges of the EU as a whole. Regulators, tech players, banks, and alternative lenders all need to work collectively to close the SME financing gap. Such collaboration will help to combat the economic effects of the pandemic.
In the end, the bigger picture is not just about growth and scaling up, it is about supporting the economic and social fabric that SMEs constitute, without which the fulfilment of a greener and more social Europe cannot take place.