Persistent tight lending conditions in Europe stoke demand for alternative capital

22 November 2024

The European Union needs investment to boost its flagging competitiveness. Securities-backed finance can be a valuable tool in accessing the financing required.

Concerns over weak growth in the European Union have become all the more pressing following the election of Donald Trump in the United States, the bloc’s biggest trading partner.^[1] Mario Draghi, former President of the European Central Bank, said that Trump’s threat to slap a universal 10% tariff on imported goods had made it more urgent than ever to address the continent’s flagging competitiveness.^[2]

Draghi in September 2024 published a detailed report “to rescue the European economy”, which has been losing ground to the US and China on productivity and innovative capacity.^[3]

In short, Draghi argued that Europe would need to embark on a massive investment drive to keep pace with other major advanced economies. The increased investment demanded by the report, commissioned by European Commission President Ursula von der Leyen in 2023, is almost 5% of the EU’s GDP.

Draghi’s blueprint includes some 170 proposals, but the crux of it is that “radical change” will be needed for Europe to remain competitive while making its economy greener and more digital at a time of heightened geopolitical friction.

The trouble is, even though interest rates in the UK and the rest of Europe are finally on the way down, it has not become appreciably easier for businesses to borrow to finance investments.

After two years of successive tightening, euro area banks reported that credit standards for loans or credit lines to businesses remained unchanged in the third quarter of 2024.^[4] The European Central Bank (ECB) revealed in its October 2024 bank lending survey that banks expected a renewed, albeit moderate net tightening for the fourth quarter.

In a separate ECB survey on the access to finance of enterprises in the euro area, firms perceived the general economic outlook to be the main factor hampering the availability of external financing, with this issue becoming more pronounced in the third quarter of 2024 compared to the second quarter.^[5]

At the same time, demand for loans among both corporates and consumers improved in the third quarter, largely because of declining interest rates.^[6] This suggests that the gap between supply and demand has widened, and businesses are potentially facing even more difficulties in accessing credit at a time when insolvencies are still rising.^[7]

Access to credit

The difficulty European businesses face in getting loans from banks has become a long-running phenomenon. Small and medium-sized enterprises’ access to credit has not fully recovered from the deterioration experienced during the 2008 financial crisis.^[8]

Meanwhile, Europe also suffers from relatively weak access to growth funding from venture capital (VC).^[9] The continent’s biggest VC deals tend to be led by US firms, suggesting a need to shore up the capacity of local growth investors to enable European startups to achieve their full potential.

The European Investment Bank has highlighted the need to address financial market constraints that are currently holding back innovative firms in the EU.^[10] It noted that “European companies are more likely to suffer from insufficient access to finance compared to US peers,” with funding constraints becoming more pronounced as companies scale.

As a consequence of shortfalls in bank lending and venture capital, non-bank financial intermediation is playing a growing role in providing credit to the real economy and the financial sector.^[11] Having exploded in the wake of the 2008 financial crisis, non-bank lending now accounts for about 50% of business debt financing in Europe.^[12]

Alternative financing could also play a greater role in funding startups and scale-ups. And by providing diversified sources of funding, it can make an important contribution to resilience against adverse financial and real shocks, according to the ECB.^[13]

Securities-backed financing is one form of specialty financing that is especially well suited to the current environment of heightened geopolitical and macroeconomic uncertainty. It can provide a convenient, flexible and cost-effective source of capital for entrepreneurs and business owners looking to fund ongoing operations or invest in growth.

Crucially, securities-backed financing provides businesses and investors with a stable source of capital without sacrificing the upside potential of their core holdings. In light of all the unknowns that lie ahead, including questions about how fast interest rates will start to decline, whether inflation will remain under control and when banks’ credit risk appetite might return, that stability could prove invaluable.

[1] https://www.europarl.europa.eu/factsheets/en/sheet/160/the-european-union-and-its-trade-partners

[2] https://www.politico.eu/article/mario-draghi-warns-greater-urgency-after-donald-trump-election-eu-hungary-economy-single-market/

[3] https://www.cer.eu/publications/archive/policy-brief/2024/draghis-plan-rescue-european-economy

[4] https://www.ecb.europa.eu/stats/ecb_surveys/bank_lending_survey/html/ecb.blssurvey2024q3~f30e9a3fd6.en.html

[5] https://www.ecb.europa.eu/stats/ecb_surveys/safe/html/ecb.safe202411~451cceb0f4.en.html

[6] https://www.ecb.europa.eu/stats/ecb_surveys/bank_lending_survey/html/ecb.blssurvey2024q3~f30e9a3fd6.en.html

[7] https://www.allianz-trade.com/en_global/news-insights/news/insolvency-report-2024.html

[8] https://www.centralbank.ie/docs/default-source/publications/research-technical-papers/sme-acces-to-finance-in-europe.pdf?sfvrsn=10

[9] https://sifted.eu/articles/europe-growth-funding-gap-myth

[10] https://www.eib.org/attachments/lucalli/20240130_the_scale_up_gap_en.pdf

[11] https://www.london.edu/news/eu-non-bank-finance

[12] https://acc.aima.org/static/fd4f0c07-a4d9-43ce-805759c2559a0ebd/Financing-European-Business-NBL-and-the-Economic-Recovery.pdf

[13] https://www.ecb.europa.eu/press/economic-bulletin/articles/2020/html/ecb.ebart202004_02~80dcc6a564.en.html

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