SME financing gaps in Europe

My former EUI colleague Natalie Kessler and I have just published a working paper, written for an EIB evaluation project, documenting SME financing gaps across sectors and countries, using different methodologies, one reliant on firm balance sheets and one on firm-level surveys.  The most striking finding for me is the limited correlation that we find between different gauges of financing gap, but then again, maybe not surprising given their very different nature.

First, we use Orbis balance sheet data to compute proxies for how much SMEs in a certain industry/sector typically borrow under ‘ideal’, i.e., friction-free conditions. We assume that the demand is similar across different countries and sectors with financial market frictions as in the benchmark country (where debt/sales is highest), given similar technologies and investment cycles. If actual financing is below the benchmark, i.e., if actual supply is lower than the potential demand (as found in benchmark country), this would suggest a financing gap.  The advantage of this first method is that it is observable for a large number of enterprises with financial statements and that is objective as not self-reported by firms. On the downside, it relies on specific benchmarks for a ‘natural’ level of external funding and it does not take into account explicitly demand-side and other firm-specific factors.

The other measure relies on firm-survey data collected via the ECB’s SAFE survey  and explores the difference between the self-reported desired and actual bank financing that firms receive. The advantage of this measure is that it takes demand directly into account and allows to isolate demand from supply-side constraints and thus firm-idiosyncratic circumstances. On the downside, it focuses on self-assessed and not bankable demand, is subjective, as based on survey and available for a much smaller sample than the first methodology.

Using data over 2013 to 2020, we show significant variation in financing gaps across countries and sectors. The account-based measures point to Czech Republic, Latvia, Hungary, Sweden, Poland and Bulgaria as the countries where firms have largest financing gaps, while the survey-based measures point to Greece and Slovenia as countries with firms’ largest financing gaps. Variation over time, on the other hand, is not as strong or intuitive. As already mentioned, the account- and survey-based measures are only weakly correlated with each other, reflecting their different nature, and both are only weakly correlated with a survey-based measure of self-reported firm financing constraints.

What can we learn from our analysis? First, there is not ONE correct financing gap measure. Each measure we presented captures a different dimension; the ORBIS measure a technological distance from a given benchmark and the SAFE measure distance from self-reported demand. Second, financing gap is not necessarily the same as financing constraint. Self-reported financing constraints refer to access to and conditionality of funding, while financing gap is purely focused on loan amounts. Third and consequently, properly capturing financing gaps across countries and sectors requires the simultaneous use of different methodologies and metrics.