Where's the magic?

Project Merlin, the much-vaunted attempt to bring banks and the small business community closer together appears to reached an enpasse because of governance issues. In essence, the banks are saying that the risks to their shareholders of having lending targets are too high.  Some of the businesses that they might lend to are simply too risky or too small to warrant the amount of cash being lent to them that they might be asking for.  And if the government sets a lending target, then it forces the banks into making loans which have a higher risk premium attached to them.

There are always two sides to an argument so let's examine both.  The banks are quite right in a technical sense: if the government is forcing them to lend more, then the law of averages dictates that proportionately more of those loans will be risky and the downside potential is increased.  The reason why we are in the tight credit environment we are in is because, for the last three years, banks have been trying to squeeze risk out of the system.  Banks made risky loans in the past meaning that they stopped trusting each other and unprecedented government intervention to keep credit moving, including myriad banking bail-outs were the result. 

None of us want to see systemic risk return.  It's not in anyone's interest, least of all the small businesses that will go to the wall if the banks tighten up their lending again.

But equally we have to look at this from the demand side as well.  According to the latest Delta Economics research only 16% of growth-oriented entrepreneurs are currently looking for external finance. Instead, they say they can find the money they need to finance growth themselves.  This corroborates the banking story - that actually demand for finance is low and, hence the need for expanding the amount of credit available is not going to help - we need to get more small businesses to approach their banks.

And this is really the nub of the issue.  Every commentator, every business advisor and every entrepreneur has a story about a friend, a colleague a small business who has been unable to access finance in the last year.  By their own admission, banks have tightened the process of access to finance - it is largely electronic and the role of the "boring banker" who understands every line and wrinkle of the business is important only as a filter between the business owner and their computerised adjudicator.  Business plans, cashflows, pipelines and future growth plans mean less than a flawless credit record and contracts.

So the real issue isn't increasing or decreasing the size of the loan pool at all.  It is actually about restoring the relationship between the bank and the business so that banks become "trusted advisors".  This isn't about access to credit at all - it's about putting the relationship back into "relationship manager".