What drives banks’ willingness to lend to SMEs? An ARDL approach

SMEs have been recognized as an important engine for driving economic growth and job creation both in developed and developing countries. However, there is concern that financial constraint is impeding growth in these SMEs. Bank is a major source of SME financing in most countries. In Malaysia, banks provide 90% of total financing to SMEs (SME Annual Report, 2014/15). Focusing on three aspects; the macroeconomic environment, demand for large enterprise loans and property prices, this study aims to find out the effect of these factors on banks’ willingness to lend to SMEs and which of these three is most influential. Using ARDL approach applied to Malaysian quarterly data for the period from 2003Q2 to 2015Q4, the study finds macroeconomic environment significantly influences banks’ willingness to lend to SMEs. Thus, policy makers have a tall order of creating and maintaining a healthy macroeconomic environment in an attempt to improve banks’ willingness to lend to SMEs. The finding that property prices also play a role in influencing banks’ willingness to lend to SMEs appears to suggest banks’ dependency on property as collateral for SME financing. Thus, policy makers should continue to develop and improve SME financing schemes that encourages banks’ participation in financing SMEs with potential but lacks collateral.