How governments can be smarter at saving businesses

When designing crisis support schemes, governments currently grapple with the dilemma of not knowing which small and medium-sized enterprises (SMEs) are worth saving. As a result, lack of targeting is a serious issue which hampers the effectiveness of these support schemes.

However, a study led by University of Essex economists has found that partnering with private banks would enable government schemes to be smarter about better targeting the SMEs which would most benefit from financial support in the long term.

“Governments need to be more selective about who is getting financial help, otherwise public money could be squandered on those who do not need it,” explained lead author Dr Tianxi Wang, from Essex’s Department of Economics. “Our research has found that various government support schemes implemented during the pandemic could have been modified to significantly improve their success.”

Looking at the UK Bounce Back Loan (BBL) scheme as an example - which was designed to enable businesses to access finance more quickly during the pandemic - if the government had followed the research team’s private bank model, at least 16 per cent more jobs could have been saved and less taxpayers’ money would have been spent.

The BBL program was problematic in two areas. By guaranteeing the loans, it meant the government was giving away public funds to some SMEs which either had sufficient funding of their own to survive the crisis or were not economically viable in the longer term, so the money was wasted.

The new partnership scheme with private banks would not rely on banks having superior information around SMEs but instead relates to how much an SME wants to borrow to survive – known as “loan demand”.

Under the scheme, the government would only fund a percentage of the interest on the loan to the SME - meaning the bank loan would still be more expensive than SMEs’ self-funding to get through a crisis so would only be attractive to SMEs which really needed the support.

“This means the SMEs are more likely to exhaust their own funds before borrowing from the banks, and therefore using public funds,” added Dr Wang. “They will then only use the scheme if they feel it is worth them spending money from their own pockets to survive the crisis. If the SME finds it is not worthwhile spending its own funds, then it would not borrow subsidised bank loans for survival.

“Whilst our scheme is less generous than that offered with the Bounce Back Loan Scheme, it saves taxpayers’ money and uses it on the SMEs which are most worth saving.”