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Finance Wales could have offered lower interest rates says Prof Dylan Jones-Evans

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Following the publication of the access to finance review for the Welsh Government, it is right and proper that there has been debate in the pages of the Western Mail and Walesonine about the interest charges being charged by Finance Wales.

And even though the review is about far more than the performance of this one organisation, I thought it would be useful to respond directly to some of the criticisms made about the conclusions of the report relating specifically to Finance Wales and present the facts so that readers can decide for themselves.

Let me start by making the point that the main concern in the report has not been about Finance Wales' equity investments but specifically in terms of its lending policies on loans to SMEs.

In this respect, Finance Wales responded to the review by stating that it has been bound by European State Aid regulations that restrict it from offering lower rates of interest.

As its investment director noted, “state aid legal advice has consistently been based on the view that provided we are lending at a rate that is at least at the EC Reference Rate plus the appropriate risk margin, this is strong evidence that the loans do not contain State Aid.”

In this matter, he is absolutely correct and according to EC regulations, a state-backed funder such as Finance Wales must offer standard loans at rates that reflect market rates and the risk being taken i.e. the credit worthiness of the business and the collateral (security) offered against any possible default.

For example, let’s take an SME (small to medium sized enterprise) with a satisfactory credit rating and a high level of collateral that is applying for a loan. In this instance, a financial institution utilising public funding to provide loans to businesses must, to avoid a breach of state aid rules, charge a minimum of 2%  in interest rates as this takes into account the level of risk for such a loan. However, Finance Wales are currently pricing such loans at 8 per cent for Welsh SMEs.

Similarly, businesses with an average level of collateral and a weak credit rating could be borrowing at an interest rate of 5%. Finance Wales are charging 10%.

Therefore, the evidence shows that Finance Wales, even allowing for any risk element, is charging far higher margins to its customers on loans than that required by regulators to satisfy state aid regulations.

But surely bodies similar to Finance Wales are doing the same elsewhere?

Actually, the evidence shows that publicly owned funds across the rest of Europe have kept their interest rates relatively low during the last five years. For example, the normal cost of borrowing by Finland’s state-owned bank to Finnish SMEs is in the range of 1.5% to 4% and this strategy, during the last recession, is estimated to have saved over 28,000 jobs.

More importantly, advice received from independent experts suggests that Finance Wales could have used various exemptions from state aid to reduce interest rates even further if they had chosen to do so.

For example, with two thirds of Wales classified as qualifying for the highest level of European aid, the cost of lending to SMEs located in West Wales and the Valleys could have been heavily discounted by Finance Wales without breaching state aid regulations for many of the businesses it funds.

And for the smallest of businesses that have found it difficult to gain finance from the banks, the same experts told the review that lending to these micro-businesses could also have been provided at a far lower interest rates. Whilst

Finance Wales’s new Micro-business Loan Fund charges an average interest rate of 11.2%, similar funds across Europe charge far less - MicroFinance Ireland offers a fixed rate of 8.8% to micro-businesses being supported under its remit.

Therefore, the review has shown that, since 2008, Finance Wales has been charging higher interest rates than it could have and has also failed to use legitimate ways of reducing the cost of borrowing to small firms across Wales.  As a result, Welsh firms have faced a situation where the cost of capital provided by Finance Wales  is greater than might otherwise have been the case.

During the last two weeks, commentators in the Western Mail have made the argument that Finance Wales has provided the debt finance needed by firms at a time when banks were not lending.  However, it is also reasonable to speculate that the policy of high interest rates may have affected the financial management of those in receipt of funding during an economically challenging period and also discouraged others from applying for support.

There may have been legitimate commercial reasons for this approach if Finance Wales were a private investment fund that is there to generate a profit for its shareholders. However, it is not and is actually a publicly owned arm of the Welsh Government which is committed to creating jobs at this economically uncertain period.

Given all of this, the question remains as to why Finance Wales has charged the high rates on loans to Welsh businesses during the worst recession in living memory when it actually didn't have to and there was little competition from the banks?

That is something that only the senior executives within organisation itself can answer. However, what is more important to the Welsh economy is whether the business community wants this situation to continue when something could, and should, be done to deliver the type of affordable finance that SMEs in other countries across Europe currently enjoy.

Source: Wales Online

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