1. SME Finance constraints in China Lessons from Benchmark Countries Walter García-Fontes Universitat Pompeu Fabra (Barcelona – Spain) Regional Conference on Investment Competitiveness in East Asia 21-23 November 2005 Kuala Lumpur - Malaysia

2. Investment Climate and Competitiveness in East Asia 2 What are effective policies? Improve social welfare by removing market imperfections or failures Policies may also fail (as markets) Requisites for effectiveness –Policy designer has to have detailed information –Adequate administrative authority –Forecast of medium and long term effects

3. Investment Climate and Competitiveness in East Asia 3 What arguments are in favor of the direct financial support for SMEs? SME enhance competition and entrepreneurship: positive impact on innovation and productivity SME more productive than large firms but their development constrained by lack of finance SME labor intensive and their development helps in reducing unemployment and poverty

4. Investment Climate and Competitiveness in East Asia 4 What arguments against on direct financial support for SME? Advantage of large firms: economies of scale, better position for innovation, stability of employment and high wages Distortions in the optimal distribution of sizes across firms may reduce employment General business environment most important factor for firm growth: –Low entry and exit barriers –Well defined property rights and contracts –Competitive financial system

5. Investment Climate and Competitiveness in East Asia 5 What instruments have been used to support SMEs? Direct credit support –Justified by imperfections in capital markets –Infant industry arguments –Problems: resource allocation distortion and favor incumbents Credit guarantee schemes –Face deficiencies in collateral provision –Problem: moral hazard Venture capital –Important after solving some other more basic constraints

6. Investment Climate and Competitiveness in East Asia 6 What can be highlighted of SME policies in Japan? Different stages: SME traditional sector in Japan Three main components (complements of private sector): –Finance (Japan Finance Corporation for Small and Medium Enterprise – JASME, National Life Finance Corporation – NLFC, Shoko Chukin Bank, and others) –Credit supplementation (JASME, Credit Guarantee Corporations) –Enhancement of capital (Small and Medium Business Investment & Consultation Co. Ltd.) Financial support provided under competitive conditions

7. Investment Climate and Competitiveness in East Asia 7 What can be highlighted of SME policies in Japan? (II) Support comes from interaction between public and private sector Technical, financial and marketing assistance Subcontracting: auto parts and synthetic textiles –Technical support : parent firms, equipment suppliers and other providers

8. Investment Climate and Competitiveness in East Asia 8 What can be highlighted of SME policies in Japan? (III) How does support to SME through subcontracting networks work? –Competition for subcontracts: technical improvements for quality requirements of large firms –Public support subordinated to private relations: creation and development of private networks –Marketing support: parent firms or trading companies

9. Investment Climate and Competitiveness in East Asia 9 What can be highlighted of SME policies in Korea? SME support started after development period How could firms get support despite underdevelopment of financial sector: –Credit rationed on the basis of export performance –Competition in the international sector help in screening and monitoring of credits –Overcome the adverse selection problems

10. Investment Climate and Competitiveness in East Asia 10 What can be highlighted of SME policies in Korea? (II) Support system for SMEs –Technical External support system: technical assistance, training programs, information services, joint research opportunities Financial incentives Public research institutes: technology transfer Non-profit private agencies

11. Investment Climate and Competitiveness in East Asia 11 What can be highlighted of SME policies in Korea? (III) Support system for SMEs (ctd.) –Marketing Overcoming marketing costs: external markets for exports Korea Trade Promotion Corporation (KOTRA): information about foreign opportunities, market research, assistance with trade fairs, overseas marketing trips. Korea Traders Association (KTA): private support for public relations, lobbying and information- sharing.

12. Investment Climate and Competitiveness in East Asia 12 What can be highlighted of SME policies in Korea? (IV) Support systems for SME (ctd.) –Financial assistance Originally: Unregulated non-bank financial institutions (mutual savings and loan funds, popular funds, private finance companies) After the 1980s: –Credit funds to encourage collective and cooperative activities among SMEs –Tax breaks for restructuring –Subcontracting: increasing role

13. Investment Climate and Competitiveness in East Asia 13 What types of policies have been implemented? Association and cooperation –Vertical and horizontal integration of SMEs and other firms. –Special credit and tax exemptions to SMEs that belong to associations –Joint marketing and information exchange –Cooperation with universities and research centers (special training) –Subcontracting

14. Investment Climate and Competitiveness in East Asia 14 What types of policies have been implemented? (II) Technical assistance –Public R&D research centers for the diffusion and adoption of new technologies –Facilities: in-house technical assistance and provision of infrastructure for testing and prototyping –Support centers: technology transfer, patents, foreign and domestic technology acquisition and adoption –Proximity: Local and regional branches

15. Investment Climate and Competitiveness in East Asia 15 What types of policies have been implemented? (III) Marketing assistance –Joint marketing projects for associations and cooperatives –Marketing technical services: diffusion of information on local and foreign markets –Promotion of internationalization of SMEs –Promotions of trade fairs, exploratory tours, identification of foreign services –Special training for international trade and product promotion

16. Investment Climate and Competitiveness in East Asia 16 What types of policies have been implemented? (IV) Financial assistance –Loan assistance channeled through cooperatives and associations –Public funds as a signal for the involvement of the private sector –Tax exemptions and depreciation allowances: investments in equipment, R&D, export promotion and training

17. Investment Climate and Competitiveness in East Asia 17 Some best practice criteria Financing programs: sector-specific, well focused and limited duration Direct subsidies: no clear evidence on their effectiveness – functioning business environment Export orientation: most successful SME support is related to promotion of access to international markets

18. Investment Climate and Competitiveness in East Asia 18 Some best practice criteria (II) Policies as part of long term development strategy Credit programs channeled through well- capitalized and professionally managed autonomous institutions Market-based criteria for the assessment of the loans Monitoring criteria: clear and objective information

19. Investment Climate and Competitiveness in East Asia 19 Some ideas for improving SME access to finance in China Adapting the credit system for the financing of SMEs Specialized financial institutions oriented towards SME credit Social-credit environment and credit rating Increased transparency in financial and accounting information of SMEs

20. Investment Climate and Competitiveness in East Asia 20 Some ideas for improving SME access to finance in China (II) Favorable external environment for SME: legal guarantee system, venture support, fiscal and taxation support, professional and technical training, information and consultation system Improvement in financial information systems Support for inter-firm cooperation: –marketing support in local and especially international markets –Associations to facilitate efficiency-enhancing information-sharing –Help in the establishment of subcontrating networks between large and small firms