credit guarantee schemes
South Korea today has the fourth largest economy in Asia, is a member of the OECD’s “Rich Club,” and is part of the G20. Despite sharp economic shocks emanating from the Asian financial crisis in the late 1990s, the global financial crisis in 2008, and the more recent slowdown in the Chinese economy – Korea has bounced back and continues to grow.
So it’s hard to imagine that some 70 years ago, Korea’s future looked very bleak – and akin to many of the excruciatingly difficult post-conflict environments that we face today.
To briefly summarize Korea’s post-World War II history: a 1947 report on Korea commissioned by U.S. President Truman concluded, “South Korea, [as] basically an agricultural area, does not have the overall economic resources to sustain its economy without external assistance …. Prospects for developing sizeable exports are slight ….. The establishment of a self-sustaining economy in South Korea is not feasible.” Then the Korean War compounded these problems – resulting in massive damage to both the north and the south – with destroyed infrastructure, a loss of skilled workers, a million South Koreans killed, and as much as one-quarter of the country’s population refugees.
We have many lessons to learn from Korea – particularly as our institution, the World Bank, increasingly focuses on post-conflict and fragile environments.
Although South Korea is known for its large scale “Chaebols,” which have dominated much of its political and economic life – less well known is the considerable support that the government has provided to small and medium scale enterprises (SMEs). As in most countries, (3 million SMEs), over 80% of all employees (10.8 million employees), and almost 48% of total national production.
Small and medium-sized enterprises (SMEs) play a major role in most economies, particularly in developing countries. However, more than 50 percent of SMEs lack access to finance. Without it, many SMEs languish and stagnate. Credit markets for SMEs often don’t work.
A common form of intervention to improve access to finance for SMEs is a public credit guarantee scheme (CGS).
Credit guarantee schemes provide third-party credit risk mitigation to lenders by absorbing a portion of the losses on the loans made to SMEs in case of default, in return for a fee. CGS are popular partly because they combine a subsidy element with market-based arrangements for credit allocation. This allows less room for distortions in credit markets, unlike more direct forms of intervention, such as state-owned banks.
Credit guarantee schemes are present in more than half of developing countries. Their numbers are growing.
Governments have become interested in CGSs in the aftermath of the global financial crisis and amid the international community’s emphasis on SMEs as an engine for growth and job creation in developing countries. However, to be effective, CGSs need to be designed and implemented in a financially sustainable manner.
With this in mind, the World Bank Group and the FIRST Initiative convened a task force to design, implement and evaluate public credit guarantee schemes for SMEs.