Basel Committee Withdraws Proposals for Sharp Hikes In Capital Requirements On SME Bank Credit
The Basel Committee on Banking Supervision released a second consultative paper on the Standardized Approach to Credit Risk on December 10 that withdrew proposals late last year that would have sharply increased risk weights and capital requirements for a broad range of bank credit to SMEs. Had those proposals been implemented, increased capital requirements (to 30% or more on many credits to firms without audited financial statements) would have triggered significant hikes in breakeven lending rates offered on new bank loans. These higher interest rates, in turn, would have curbed SME credit demand and triggered tightened risk assessments due to the need to factor in higher debt servicing costs.
Lower risk weights likely to trigger smaller increases in breakeven offered lending rates
The new proposals call for flat risk weights of 85% on corporate exposures to firms with revenues of less than €50 million, dropping explicit links to financial statements and a proposed matrix setting risk weights between 90 and 130% according to revenues and leverage read across from financial statements. Exposures qualifying for retail banking books are now to have risk weights set at 75%.
Final calibration is likely only late next year and will depend on a quantitative impact assessment and consultative responses due by March 16. Ultimate impact will depend on implementation, but the receptive regulatory response to widespread doubts about the wisdom of the initial proposals is encouraging. (Important among those doubts, was the policy paper of the B20 Financing Growth Taskforce, which the SME Finance Forum helped draft and edit.)
A similarly receptive regulatory response will be needed as regards alternative data
More remains to be done to secure the regulatory support needed for the broader acceleration of credit to SMEs that could be achieved if supervisors and regulators can gain comfort with the utilization by banks of credit risk assessment approaches used by alternative lenders and third party credit scorers. These rely much more on the broad array of digitized transaction data being generated in ever increasing volumes across different digital platforms, both private and public. Similar regulatory receptivity will be needed to realize the growing potential of alternative data to close information gaps and facilitate more lending by banks at better terms to larger numbers of SMEs. That said, the Basel Committee's decision means that banks will avoid sharp increases in capital requirements and offered interest rates on new loans to small businesses under current supervisory and regulatory approaches.