OPINION - In a previous post, I addressed the reasons why Sub-Saharan businesses are more likely to default and provided suggestions about how to overcome them. The first and biggest reason mentioned was high interest rates making any borrowings unaffordable for most businesses. Whilst central banks may lend to banks at alarming high rates, credit guarantees are an instrument that can be used to not only get around this issue but truly stimulate economic growth especially in an economic downturn.

The shocks of COVID-19 has reverberated around the world like an earthquake with ongoing tremors. We are clearly yet to reach the pinnacle of this shock with it taking a continuing toll on healthcare systems, the economy and government coffers. Unsurprisingly, African banks are even more risk adverse than usual with uncertainty of how businesses are going to be able to pay their debts in the current economic climate, alongside weakened credit profiles. This comes at the exact time when businesses desperately need access to finance to survive bearing in mind the losses that they've already experienced during the first and second quarter. African SME's have low or limited financial resilience to survive such a shock much less the after shocks. Banks initial reluctance to lend revolve around issues such as:

  • Weak accounting information including a tendency to provide multiple books, if there are any at all
  • Poor information on overall business activities
  • Poorly designed business plans and loan applications
  • Lack of types of collateral demanded by banks, fixed assets likes land and building which can be quickly liquidated in the event of a default

Admittedly, this mainly applies to smaller rather than mid sized businesses. Credit guarantees were created to help mitigate against these precise issues.

Whilst business recovery grants and funds have being set up by governments across Europe, African governments do not have such liquidity or capacity to absorb further sovereign debt to set up similar grants or funds. To compound things further, oil dependent economies like Angola and Nigeria have experienced depletion of central reserve funds, markedly reduced revenue generation and currency devaluation due to the oil price crash. Again, this is where credit guarantees come in, they can act as shock absorbers during crises helping SME's weather the storm. Co-funded by multilateral finance institutes (MFI's) like The World Bank or development finance institutes (DFI's) like the AfDB with central banks, private investors and/or large enterprises, credit guarantees de-risk lending by providing a number of benefits for both banks and SME's including:

  • Partial guarantees against default, normally covering 50 - 70% of the loan value
  • Decrease the transaction cost of lending to smaller businesses
  • Banks can afford to reduce their interest rate
  • Banks can choose to extend their grace period
  • Allow banks to lend ot new types of customers
  • Leverage scarce public resources by unlocking private capital
  • Encourage further lending after guarantee expires
  • SME's don't need to provide collateral against the loan or provide additional collateral to creditworthy borrowers with insufficient collateral

Ghana and Nigeria's existing programmes are the Ghana Incentive-Based Risk-Sharing System for Agricultural Lending (GIRSAL) set up in 2018 and the Agricultural Credit Guarantee Scheme Fund (ACGSF) which started operating in April 1978. Both focus on rural agriculture which I am not convinced are the best way to utilise credit guarantees. Even by partnering with cooperatives, trade or professional organisations, funding micro and small businesses especially in rural areas have limited long term impact on the business, local community or economy. Whilst the issues around lending above may be mitigated, there are other challenges still faced by small holder farmers including:

  • Lack of mechanisation
  • Under-utilised farm land
  • Poor farming methods
  • Lack of access to market
  • Low production volume

ACGSF has done little to improve the livelihoods of rural farmers in Nigeria. If credit guarantee programmes diversified by targeting mid sized companies in other industries such as manufacturing, logistics, construction etc or even agribusiness, especially those on a growth trajectory, the trickle down effect would result in a net positive impact on smaller businesses that act as suppliers or distributors to these mid sized companies. Focus on giving the small businesses working capital through a factoring facility, enabling them to fulfil orders placed by businesses further up the supply chain. So, textile manufacturers or potato chips farmer gets the credit guarantee and the potato and cotton farmer get the working capital. Funding the businesses further up the supply chain enables them to continue to be a revenue source for smaller business. And more importantly, as they grow due to product demand, they increase the number of suppliers they work with driving job creation and economic growth.

There are clear examples of successes with this more diversified approach:

Malaysia's Credit Guarantee Corporation was established in 1972 to help diversify the economy was from heavy reliance on rubber and tin as well as move beyond the agricultural sector. The corporation has provided over 400,00 guarantees with a cumulative value of $14.8 billion. Over time, it has diversified its product offering which includes now supporting startup enterprises, female headed enterprises and green tech financing.

South Korea established KODIT in 1976 funded by government, banks and large private sector companies. By 2017, it had outstanding guarantees to the value of $41.1 billion - making it one of the largest credit guarantee agencies in the world. Nigeria's ACGSF had issued guarantees to the value of $11.7 million by 2018 in comparison. KODIT research has demonstrated that its guarantees have resulted in lower interest rates for SME's due to the de-risking flowing from the guarantee. KODIT also actively uses the credit guarantee mechanism as a tool of counter cyclical policy in periods of economic down turn.

Both of these countries economies per capita income level were similar to Ghana and Nigeria in the 1970's, yet they now far outstrip both countries economies.

With no indication of how long or big the COVID outbreak will get, public credit guarantee programmes are an important instrument in unlocking much needed access to finance for businesses.

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