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SMEs Dance to the Basel III Shuffle

cap structure sme eu.PNG
I often wonder, what if Basel II capital accords had been in place prior to the Great Recession? 
 
Could the devastating crisis fueled by the serial pops of credit bubbles rumbling through the dismal landscape of G20 principalities been avoided with better capital adequacy safeguards? 
 
Could the precious Post Cold War Peace dividend been preserved; had the fiduciaries of global solvency not toppled the dominoes of economic prosperity and political stability through extreme selfishness and irrational behavior?
 
Some economists assert that had the guidelines of Basel II been in place it would not have mattered. That may certainly be true, but one is still left to wonder if Systemically Important Financial Institutions (SIFI) had followed better governance frameworks the fissures emanating from the epicenter of the global economic meltdown would not have been as deep or as widespread.
 
The lessons learned from the crisis are being codified in the new governance frameworks of Basel III. Whereas previous Basel Accords focused on capital adequacy and loss reserves aligned to risk weighted assets and counterparty exposures, Basel III looks to strengthen capital adequacy by addressing liquidity and leverage risk in the banks capital structure. Basel III recognizes the primacy of mitigating the systemic risk concentrated in the capital structure of a SIFI and lesser designees, and the contagion threat it poses on its counterparties and the greater economy. 
 
To ally solvency concerns, Basel III installs a leverage ratio and bolsters its Liquidity Coverage Ratio (LCR) which will require all banking institutions to increase its regulatory capital reserves of High Quality Liquid Assets (HQLA). An increase in HQLA reserves will raise the cost of capital for all financial institutions requiring it to raise its spreads on credit products. 
 
SMEs will be particularly affected by Basel III initiatives. SME’s are highly dependant on bank capital and credit products and remain highly sensitive to the cyclicality of macroeconomic factors. D&B’s Small Business Health Index reports that SME business failures in the US were in excess of 140,000 per month in 2013. The OECD reported that during 2012 over 800,000 EC SME’s closed shop in 2012. 
 
Eurofact reported that 60% of all non-financial value add to the EC economy is attributable to SMEs. Though SMEs are generally recognized as principal economic drivers in both the developed and lesser developed economies; during the economic crisis SME’s were rationed out of the credit markets. Large capital infusions and accommodative monetary policy by the central bank authorities principally sought to bolster bank capital and inject liquidity into the faltering global banking system. 
 
As such much of the low cost capital provided to banks did not trickle down to SMEs. Better returns were realized by deploying capital to investment partnerships, energy resource development, the acquisition of strategic commercial enterprises and underwriting speculative trading in the global security markets. 
 
Little of the low cost capital found its way onto Main Street; driving the bifurcating wedge between the real and speculative economy. As a more conservative political landscape emerges from the wreckage of the economic calamity created by “elitist” financial institutions and “remote” Brussels based government bureaucrats, the cause of the SME is resonating in the rising voice of a middle class spoken with a distinct nationalist accent. 
 
Politicians, legislators and advocacy groups are fully invested in the cause of the SME. Stakeholders are advocating more government involvement to underwrite and guarantee sponsored loans. In an era where government involvement in markets is under severe attack, political expediency and prudent economics coalesce to fund the incubation of SMEs. Even if greater government intervention is counterintuitive to laissez faire proclivities of the politically engaged, higher taxes would be required to fund the risk of capital formation initiatives. The securitization of SME loans is also a consideration; but aversion to leverage and the risk to encourage poor lending practices raise fears of creating yet another credit bubble.
 
The Government of Singapore recently rose its guarantee on SME loans to cover 70% of principal in response to the increase in cost of capital banks will charge as a result of Basel III. Spreads on SME loans are estimated to increase between 50 to 80 basis points. This rise in the cost of capital will allow banks to recoup Basel III compliance expenses associated with the segregation of regulatory capital requirements to service SME loan portfolios.
 
The risk premia on SME loans is justified by regulators because it guarantees the availability of credit through the business cycle. The financial health of SME’s are highly correlated to the vicissitudes of the business cycle. During times of cyclical downturns risk factors for SMEs are magnified due to the prevalence of concentration risk in products, regions, markets, client and critical macroeconomic factors germane to the SME’s business. Mitigation initiatives are inhibited due to liquidity constraints, resource depletion and balance sheet limitations. The closure of credit channels exacerbates this problem and Basel III risk premia pledges to fund SMEs through a trying business cycle.
 
To maintain profitability of SME lending, banks will enhance quality standards and haircut collateral margins; a potentially onerous demand since asset valuations remain severely distressed from the effects of the Great Recession. Banks will avoid SMEs with enhanced risk profiles, make greater use of loan covenants, expand fee based services and hike origination fees to protect margins and instill enhanced credit risk controls to minimize default risk.
 
As the strictures of Basel III take root within commercial banks alternative credit channels are opening to better match an SME’s credit requirements and market situation with a financial product that best addresses their business condition. D&B has initiated a timely capital formation initiative for SMEs. Access to Capital – Money to Main Street is an event tour that is bringing together regional providers of funding for SMEs and startups. 
 
The economic recovery is combining with technology to energize innovations in SME funding options. Crowd-funding, micro-lending, asset financing, leasing, community bank loans, credit unions and venture capital channels are a few of the many options available for small business funding. Each channel offers distinct terms and advantages that match a funding option to the specific situation of an SME. 
 
SME associations and advocacy groups are surfacing in the EU that seek to harness the residual capital created by SME failures. Second Chance and Fail2Suceed are initiatives that seek to harness the intellectual capital garnered by entrepreneurs in unsuccessful enterprises. It is a clear recognition that a great failure can be the mother of greater wisdom. This may augur well for the success of Basel III as it seeks to build on the shortfalls of its forebears to better protect the global banking system as it promotes the wealth of nations by equitably funding the growth of the global SME segment.
 
Sum2 offers a portfolio of risk assessment applications and consultative services to businesses, governments and non-profit organizations. Our leading product Credit Redi offers SMEs tools to manage financial health and improve corporate credit rating to manage enterprise risk and attract capital to fund initiatives to achieve business goals. Credit Redi helps SMEs improve credit standing to demonstrate creditworthiness to bankers and investors. On Google Play: Get Credit|Redi
 
Risk: SME, Basel III, commercial lending, political stability, economic growth, USA, EU, alternative credit channels, credit risk, global banking, business failure, OECD, SIFI
This article was originally released on Daft Blogger.  

April 14, 2014 Posted by | Uncategorized | , , , , , , , , , , , , , | 1 Comment

Gulags and Gitmos

For participating in an Economist Intelligence Unit (EIU) Survey I received The Pocket World In Figures for 2009. Its filled with all kinds of interesting statistics to measure, compare and contrast economic and social indicators for countries of the world. Included in this useful little tome is the usual mundane statistical econometric measures like GDP, income levels, life expectancy, agricultural output and similar macroeconomic indicators. The Survey also includes many other quality of life statistical measures and one that immediately grabbed my attention were the entries concerning Crime and Punishment.

The Survey tabulates Crime and Punishment statistics in four areas; murders, death row inmates, total prisoner count and prisoners per 100,000 of a country’s population. Sadly the EIU Survey reports that the United States leads the list in two out of the four categories. Those include prisoner population and prisoners per 100,000 of total country population. The US holds the dubious distinction of the number two spot behind Pakistan in the number of death row inmates.

I find these telling statistical measures most perplexing and equally disturbing. The United States prison population of 2.253,000 is 30% higher then second place China with 1,566,000 inmates and third place Russia with 885,000 inmates. These numbers become more significant when measured as a percent of 100,000 of the country’s population. The United States again occupies the top spot with 751 inmates per 100,000 followed by Russia with 627 per 100,000. As a percent of total population the US incarceration rate is 17% higher then that of Russia. China which occupied the number two spot in total prison population falls off the list of the top 23 nations with the highest level of incarceration due to its large overall population.

One needs to ask what is it in the cultural, social, political and economic DNA that places the United States as the world leading gulag?

It has been long known that people of color comprise the majority of death row and prison inmates in the United States. The glaring racial and social class dimensions of imprisonment and how it is disproportionally borne by minorities and the working poor is a direct causal effect of the dismantling of the manufacturing base of the US economy. This has exacerbated the inequality of wealth distribution in the US economy. It has accelerated the deterioration of our urban economic zones thereby fostering the growth of illegal underground economic activities and petty economic crime.

The economic and social factors that contribute to crime and imprisonment are usually the central topics that take center stage in the debate between conservatives and liberals. Ironically this debate obfuscates underlying causal factors that can be ascribed to the political culture in the US. The preponderance of law and order candidates running for public office, the political clout of police and public safety unions, the emergence of industry sectors that build and manage prisons, the vibrant security and protection industries, the use of cheap prison labor and dramatic wealth disparity creates powerful market and cultural forces that incubate and sustain the growth of penal industries and the political sentiment that supports it.

Since 9/11 our political culture has been saturated with messages of fear, suspicion , demonization of “the other” and the pervasiveness of terrorism. This political climate has spawned two wars, the dramatic growth of prison privatization, suspension of some basic rights of privacy with the passage of FISA and the creation of special rendition prison camps like Gitmo that suspend habeas corpus and other internationally recognized standards of basic prisoner rights. The revelations about the Iraqi prison Abu Ghraib has shamefully placed torture at the forefront in the political debate concerning appropriate practices and acceptable tools interogators can use in the fight against terrorism. The US is clearly in danger of losing the moral high ground in its self proclaimed defense of human rights as it continues to extol the righteousness of its law and order society by building and populating an ever expanding network of gulags.

Sadly our penal culture creates some horrific abominations. The US taxpayer conveys its eager willingness to pay up to $40,000 a year to incarcerate a prisoner; while claiming that its good fiscal policy to balk at paying anything over $8,000 to educate a child in a public school.

This Sunday we will be marching in Newark NJ in Support of Solidarity Sunday. Our mission will be to join forces with those who are dedicated to ending violence and crime in our communities. We believe this objective can only be realized if we respond with unity, love, peace, hope and help.

Information on Solidarity Sunday can be found here.

It is our fondest hope and most fervent prayer that we will build more schools and factories and less prisons. We also pray that our fellow citizens and elected officials will find mercy in their hearts and proclaim 2009 as a Jubilee Year and grant amnesty and set free those who are worthy of freedom and have paid the price for their crime. We also pray that those who imprison others will recognize the humanity of their captives.

You Tube Music Video: The Midnight Special, Odetta

You Tube Music Video: Gil Scott Heron, Angola Louisiana

Risk: civil liberties, rule of law, Bill of Rights, social justice

November 26, 2008 Posted by | commerce, crime, culture, folk, jazz, prisons | , , , , , , , , , , , | Leave a comment