The global fascination with Small and Medium Enterprises (SMEs), and their ability to generate jobs, has increased focus on ways how commercial banks and other financial institutions can be encouraged to lend to this class of companies. With little credit history, weak accounting standards, a lack of the types of normally accepted collateral, and failure rates which horrify most high-street banks – commercial banks have traditionally steered clear of lending to SMEs, despite the powerful job creation potential of the best ones.
One possible tool which client governments are increasingly contemplating – are credit guarantee mechanisms. Such schemes de-risk commercial bank lending by covering a share of the risk (generally between 50% to 90% of the loan) for a guarantee fee. The demand for World Bank assistance and advice in helping to design or re-design credit guarantee schemes has increased at a rapid rate over the past three years.
Indeed, a well-designed credit guarantee scheme has been shown to deliver positive results in terms of increased SME lending, lower collateral requirements, longer tenor loans, and in some instances, lower interest rates. On the other hand, poorly designed CGS schemes have proven to be an expensive drain on resources with poor commensurate returns on public resources. Consequently, an effective design appears to be the key – and the World Bank’s recent development, in conjunction with regional credit guarantee associations, of 16 Key Principles in designing such well-functioning schemes – has played an important role in helping to re-popularize CGSs as well as provide professional guidance on their establishment and design.
Recent work in South Africa illustrates this point. South Africa has an existing public sector CGS (as well as a smaller privately operated CGS) with low guarantee volumes resultant from various operational issues, high levels of non-performing loans and onerous claim payout procedures. Nevertheless, there is a strong desire by the South African authorities to revisit this tool and redesign the scheme to make it more effective and sustainable. They approached the World Bank for assistance in these endeavors and technical support is on-going.
As part of this work a delegation from South Africa visited the Malaysian Credit Guarantee Corporation (CGC) in Kuala Lumpur for a three-day study tour under the auspices of the World Bank program with the Government of Malaysia. The study tour also included a half day visit to SME Corp – Malaysia’s dynamic SME development agency.
With 45 years of operation , the Malaysian CGC has vast experience in what works and what doesn’t with respect to credit guarantee lending for SMEs – and a wealth of experience for other countries in Africa and Asia which are looking to develop their own national schemes. It offers a wide portfolio of products in addition to its traditional SME guarantee product – including Biz-Mula for Malaysian start-up companies, Biz-Wanita for women headed SMEs, schemes for indigenous Malays, and other schemes in support of businesses which are involved in green technologies. Coverage ratios differ by product type but typically cover between 50% to 90% of the risk of the loan – for a fee which ranges between 2% to 3.5% (although the fee structure is variable and is designed to reward financial institutions with low levels of NPLs while penalizing banks with deteriorating loan portfolios). It has also established a verified system for paying out claims on the guarantees which is well accepted by the banks in Malaysia – an important design issue on which many such schemes have faltered in other countries.
CGC also plans to shortly launch an On-Line SME Aggregator which will act as a one stop center, and safe matching platform, for SME financing products and services – bringing together banks, government agencies, micro finance institutions, and others onto a single digital space.
The South African participants learned a lot about the Malaysian Credit Guarantee Corporation’s comprehensive and established – yet still dynamic – credit guarantee model. Several of the participants noted that such South-South learnings are so important in helping to design their own schemes. The Malaysian experience provides one such robust and potentially useful design for the South African delegates to take home and further test, as they contemplate the next stages of their own CGS design.