Inaugural Address: The Role of Banks in SME Finance

In his inaugural address Lars Norden will reflect on the role of banks in SME finance. There are at least two reasons why this topic is interesting. SMEs represent around 99% of all firms in the European Union. Second, SMEs are more informationally opaque, more risky, more financially constrained and more bank-dependent than large firms, which creates serious challenges for lenders. Norden will focus on lending technologies such as relationship lending and trade credit that emerged to cope with key challenges in SME finance. He will raise the following questions: Do lending technologies work? Who benefits? Are there differences across countries? What do SMEs do when banks cut lending?

He will summarize two recent empirical studies and draw two main conclusions. The first conclusion is that relationship lending works. Evidence from a meta-analysis in a cross-country context shows that on average borrowers benefit from relationship lending by obtaining more credit and/or lower loan rates. Furthermore, bank competition makes benefits for borrowers more likely. The second conclusion is that trade credit has limited scope to replace bank debt when the latter is subject to a shock. SMEs in Europe have countered a shock to their bank debt to some extent with trade credit. However, substitution has become difficult during the financial crisis and was only possible for a subset of firms: the ones with better credit quality and intermediate financial constraints.