Banks’ prudent approach to small business lending

Sydney, 6 April, 2010: The Australian Bankers’ Association (ABA) said it continues to be vital to the long-term health of the Australian economy that banks apply risk-based pricing in relation to lending to small business.

The ABA has outlined its position in its submission to the Senate Economics Committee’s Inquiry into access to finance for small business.

Steven Münchenberg, Chief Executive of the ABA, said: “Throughout the global financial crisis and as we continue to experience its impacts, banks have rightly re-priced for risk over the last 12 – 18 months in relation to their small business customers.”

“Banks must lend prudently. They must do this to comply with prudential regulation as well as meeting commercial objectives for their shareholders. Capital required by the Australian Prudential Regulation Authority (APRA) to be held by banks for small business loans is generally three times higher than for home loans, and can be seven times higher for some products. We have to remember that it was irresponsible lending in the US that was the trigger for a lot of the global financial problems.”

“Your business needs to make a profit, so does a bank. When you approach a bank for a loan, you are asking the bank to go into business with you. You are asking the bank to consider your business plan, agree with your strategy, approve your expenditure and accept some of the risk that the business may not succeed. Banks are in the business of supporting sound and viable financial decisions, therefore every request is considered on its own merits and priced accordingly,” Mr Münchenberg said.

Access to finance
 
Banks’ doors are open and they are lending to viable businesses. At the end of January 2010, the stock of lending to business by ABA member banks was $368 billion, an increase of more than $52 billion from the beginning of the global financial crisis.
 
Australian Bureau of Statistics data shows that the demand from small business for new lending has been falling and the Reserve Bank has noted that small businesses have scaled back their capital expenditure and focussed on reducing their existing debt.

Cost of finance
 
Since the credit crisis started, banks have faced continual pressure on their cost of funds. The three sources of funding: deposits, short-term funding, and long-term funding have all contributed to this pressure, although short-term funding is starting to ease. This pressure is affecting the prices of all loans including small business.
 
Banks also build in a risk premium to cover the higher probability of default of business loans. Interest rates for most small business products have increased by 70 – 80 basis points since October 2009. The Reserve Bank’s cash rate has moved 75 basis points over that same period.
 
Mr Münchenberg said: “History has proven that small business enterprises have a higher probability of default compared with retail home loan customers. A higher risk margin is therefore required on business loans to cover this increased risk.”
“The difference between the home loan rate and business rates which are secured by residential property is a direct result of the higher probability of default experienced by the banks in the small business sector. Again, this is a prudent approach by banks.”

Competition in small business banking

Throughout the global financial crisis, Australian banks continued to lend to small business. There is a wide variety of product and pricing options.

Mr Münchenberg said: “Undoubtedly the global financial crisis has meant there is less choice. Some players have left the market and others have had to fill the gap.”

For further information:

Heather Wellard
Director, Public Relations
Phone: 02 8298 0411
Mobile: 0409 830 439

ENDS