The Big Picture: Why do governments use CGs?

1. Partial Credit Guarantee Schemes ConferenceDiscussion Session VErik Feyen, World BankMarch 14, 2008, Washington, D.C.

2. The Big Picture:Why do governments use CGs? • One of main goals of CGs: Spur development by targeting SMEs • Information issues, externalities, etc. (Honohan) • Papers study CG schemes in the US and Japan over time • Both papers find that CGs increase the supply of loans, more so than increases in bank capital… • ...And both (implicitly) find positive association with economic outcomes • More directly tested in the US paper and postulated in the Japan paper • However, these papers describe schemes in two completely different settings... • …so besides Spur, they seem to imply two other (related) motives: • Stabilize access to finance since CGs less sensitive to the credit cycle • Salvage insolvent companies (“zombies”)

3. Emphasis differences

4. Stabilize: The US experience • Context of Small Business Administration: • Guaranteed up to around $13 billion in 2005 (could be described a bit better) • Collateral needed • Screening: Coverage up to 80%; prior other sources needed • Methodology: • Aggregated data up to the state-level for period 1990-2000 • Simple OLS, but taking first differences amounts to fixed effects • Main results: • SBA lending less cyclical • Less responsive to bank capital and income • Rises if delinquencies rise • SBA negatively associated with failures and bankrupties (not significantly though) • Channel to affect SMEs mainly through small banks • SBA positively associated with employment, # of firms, payroll

5. US: Questions • Methodology: • Endogeneity: why not an IV approach like in Japan paper? • SBA loan disbursements: not just a proxy for total (SME) loans? • Why not use county-level data to exploit more sources of variation? Data available to pinpoint channel better • Statistical issues: • Interpretation of results: puzzling signs cannot be easily addressed by just counting the “right” number of signs • Should use formal tests to compare results in different regimes? • Why no interaction effects to test effect for different climate? • Isn’t an insignificant GSP variable for loans troubling? • Clustering SE on the state level? • Where are the descriptive statistics? Correlations? • Main results: • SME intensity decreased and the scheme is not that big: Why should there be a positive effect on aggregate welfare? (E.g. Italy is pretty small: Ventura, Zecchini) • Explain the link with lower default rates? No moral hazard? • Does it really spur innovation? Interesting to link it to patents?

6. Salvage: The Japan Experience • Context: • Economic turmoil; many insolvent companies • Japan scheme is huge • (40% of SME loans covered; 10% of total bank loans; $250 billion, GDP is around $4 trillion) • Developed countries typically 0.3% of GDP; Asia 5% (Klapper, Beck, Mendoza) • Japan 100% coverage, lower capital requirements • Arping et al. showed the negative consequence of that • High compared to world standards (Klapper, Beck, Mendoza) • No seniority • No risk-based pricing • Japan low entry requirements (only not to be blacklisted) • Theory model: • Calculate LGD with and without guarantee • Comparative statics: ∂ l/ ∂ g>0, given dLGD=0 if r>e/l • Makes sense: it already bad, so there is only upside for the bank • Empirical methodology: • IV estimates-> instrument initial share of guarantees • Bank-specific effects • Main results: • Massive increase of non-guaranteed loans b/c of guarantees • Capital injections had smaller effect than effect of guarantees

7. Japan: Questions and comparison to US • Theory model: • Low net worth induces gambling; should be modeled too? • Validity assumption of keeping LGD constant? • Only works in practice when net worth is negative. Can you show the numbers? • Empirical methodology: • Why not also show simple regressions and the first stage to build intuition? • Why use stock of guarantees variables instead of the flow? • Statistical issues: • Where are the normal IV tests (overidentifying restrictions, relevance, etc.) • Where are the descriptive statistics? Correlations? • Results: • Low effort, bad pricing, risk shifting, bad screening, refinancing poor loans: how can this be good for the economy? • Interesting to see how this worked out! • This was not a guarantee scheme, this looked like a bail out! • “True” additionality seems impossible

8. Partial Credit Guarantee Schemes ConferenceDiscussion Session VErik Feyen, World BankMarch 14, 2008, Washington, D.C.