Is lack of funds the main obstacle to growth? ebrd's experience with small- and medium-sized businesses in central and eastern europe

Abstract

Small- and medium-sized enterprises (SMEs) potentially constitute the most dynamic firms in an emerging economy. They are the ones most likely to move into areas of comparative advantage and high value added, though they often face economic, institutional, and legal obstacles. Obstacles include limited access to working capital and long-term credit, legal and regulatory restrictions, inadequate infrastructure, high transaction costs, and limited managerial and technical expertise. Despite the presence of multiple and often interrelated constraints, however, the widespread belief, on which policies to support SMEs are based, is that the lack of finance constitutes the main obstacle to the growth of SMEs. Enterprise survey work is the tool generally used to deepen our understanding of constraints affecting SMEs formation and growth. The European Bank for Reconstruction and Development (EBRD) is no exception in this respect: during its early years it drew substantially on a set of enterprise surveys conducted by the World Bank between 1991 and 1993 in Hungary, the Czech and Slovak Federal Republic (CSFR), Poland, and Russia investigating the obstacles faced by SMEs. As the volume and geographical spread of its operations increased, the EBRD felt the need to design and run its own surveys, effectively addressing specific issues encountered in the context of its increasing lending and investment activity in central and eastern Europe (CEE). The findings of this analysis confirmed the belief that credit constraints constitute one of the main obstacles to growth of SMEs and encouraged the EBRD to tailor its financing instruments to the stage of transition of the country in question and the ability of the local financial system to assume key responsibilities. This paper analyzes the way in which the EBRD strives to correct this capital market failure in the region in which it operates. The fundamental principles on which EBRD policy is based are: a preference for reaching the SMEs via local financial intermediaries, a commercial approach to the provision of finance, and finally a focus on development of the local financial system as a whole. It is still too early to draw conclusions on EBRD activity in the field of SMEs financing based on other types of indicators than data on volume of signed commitments. A large part of the loans is still in the grace period, therefore investments are in an early phase and operation performance evaluation reports on this type of operations are still too few. Aggregate data on volume of EBRD financing through financial intermediaries paint an encouraging picture. A 250% increase in the volume of such operations between 1994 and 1997, a nine-fold increase in the number of subprojects between 1995 and 1997, and an ever-widening geographical spread of activities and decreasing size of subprojects indicate that the experience of the EBRD in financing through financial intermediaries is on the whole positive. Financing provided to intermediaries is not necessarily always intended, nor guaranteed to reach SMEs. It is, however, guaranteed to create the appropriate financing channels which are necessary to ease the SMEs' liquidity constraint. This paper discusses the shortcomings of the financial system in the CEE countries. It outlines the EBRD policy to support SMEs and the various instruments employed so far and presents selected case studies to throw light on how good project design can help overcome difficult environments and lower the perception of risk connected to indigenous SMEs. A summary of the findings of the survey work conducted by the EBRD in the region is also presented.