Today, the fourth anniversary of the official launch of the Kosovo Credit Guarantee Fund, found us in an unprecedented situation, being challenged with the consequences of the crisis caused by the COVID-19 pandemic. Unlike other years, this year, we mark this anniversary by adapting to the current circumstances, resorting to distance communications, while addressing our chosen topic of discussion focusing on the role that guarantee schemes, with special emphasis the role that KCGF, has in the process of national economic recovery, respectively Kosovo’s economic recovery, following the COVID-19 crisis.
The fact that the health crisis caused by the COVID-19 pandemic will have a negative impact on the real economy is now an obvious reality, almost all across the globe. Kosovo’s economy is no exception to this situation and will not remain immune to economic slowdown, caused as a result of the shocks that the aggregate supply and demand have suffered from the current crisis. While the SME sector, which is the main pillar of Kosovo’s economy and is considered the main generator of new jobs, will undoubtedly be hit the hardest. Shutdown of certain business activities, such as hospitality, restaurants, passenger transport, shopping malls, trade, metal processing, etc., as a result of government measures to stop the pandemic, has caused economic slowdown, rising unemployment, but more importantly reduced consumer spending confidence while also significantly reducing the willingness of the private sector to invest. The decline in purchasing power and willingness to purchase, supply chain disruptions, as well as the reduction of lending operations by commercial banks, will notably result in insolvency situations for some businesses, while a large part will face a pronounced lack of liquidity leading to either failures to fulfill liabilities or, in the best case scenario, postponement of payments or restructuring of liabilities towards suppliers, banks, and possibly failure to fulfill liabilities towards employees. Such phenomena, as highlighted above, will continue to nurture this vicious cycle in the economy, further deepening the crisis arising from the drop in employment, declining aggregate demand (or what Adam Smith would call “effective demand”), deteriorating financial condition of businesses, shrinking investments by the private sector, degradation of asset quality in the residential sector that will reflect bank conservatism in lending as a result of increased credit risk perception.
The role of state intervention using fiscal and monetary policy instruments to help revive the economy and catalyze the banking sector following economic and financial crises is crucial. Worldwide experience from past financial crises has shown that the financial crisis gap, in addition to the cause of the financial crisis, depends heavily on the response and willingness of policymakers to combat the effects of the crisis and restore confidence in the economy. In this regard, the given statement would not be complete without mentioning a very important fact, that the state’s interventionist policy should be optimal to the point where it would not affect the discouragement of innovative entrepreneurial ideas, and promote bad practices that would harm meritocracy, free competition, and the action of market forces in the economy. Notably, interventionist economic policy, as much as it is necessary to combat the consequences of the crisis, should be implemented with an exit strategy, so as not to create economic dependence and inefficiency.
Lending is one of the main instruments for combating the lack of liquidity in the market, stimulating aggregate demand and consequently supporting economic recovery after the financial crisis. This is vital for the recovery of the private sector, represented by SMEs, for whom the only source to financial access is in the form of loans from banks. However, judging by history, after economic and financial crises, banks are usually more cautious in lending. This approach is somewhat rational, due to the new reality created after the market crisis. This behavior of banks, not being able to accurately judge the market absorption capacity for products and services for their customers, and consequently not being able to assess the financial performance of their customers, while at the same time trying to be responsible for protecting depositors (any deterioration in the quality of assets of the banking sector is not such good news for depositors), will inevitably result in slowing down credit activity (lending) in the economy, focusing on lending to a selected number of customers, who will be not enough to play an impact role of change in the economy. To make possible the overcoming of this credit crunch, arises the need to create certain instruments through which it would increase the supply and demand for credit. While different forms of interest subsidy, partial grants to cover investment, are instruments that directly affect the promotion of demand, on the other hand guarantee schemes as instruments that enable financial intermediation directly affect the growth and improvement of supply. If established and functionalized on basis of responsible principles, guarantee schemes have been shown to be very fruitful instruments to help access finance for the private sector after the financial crisis. As such they can be considered an instrument or “a given hand” of the state’s economic policy, through which, by sharing a part of the credit risk with commercial banks it could effect on the return of trust in the banking sector to boost lending that is highly desirable in the first days after the crisis. Accordingly, financial packages introduced by different countries or international financial institutions, under mechanisms to combat the current COVID-19 crisis, as a subcomponent have envisaged the creation of new or strengthening of existing guarantee schemes aiming to boost lending in the economy.
Why Are Guarantee Schemes a Suitable Facility?
The logic is simple and straightforward; in the post-crisis period, banks, due to the higher perceived risk in the market, tighten their lending standards, which inevitably leads to credit crunch. Credit deficit is the last thing needed in a post-crisis period when the economy needs money and liquidity. To encourage banks to lend and reduce conservatism, due to new circumstances as a result of the crisis, a facility is needed – one that provides risk-sharing with the banks and offsets the lack of collateral, which has no value in times of crisis anyway. In such circumstances, no other facility can play a more adequate role than credit guarantees, for three key reasons:
• As mentioned above, the risk-sharing feature will boost confidence among banks to start lending, as it will serve as a buffer in case of losses from defaults.
• The impact of credit guarantees on the real economy, due to the multiplier effect of these schemes, is much greater than that of other forms of financing facilities, e.g. grants or interest rate subsidies. The EUR 1 million credit guarantee scheme, depending on the leverage ratio (usually used 3-5 times), will yield an average of 6-10 million in investments in the real economy.
• Credit guarantee schemes do not promote misleading economic incentives, as is the recorded practice of other financing facilities which by assuming full responsibility for the last beneficiary (borrower) to repay the loan are dominated by the “free money” syndrome and thus give rise to dependency and inefficiency. This way, guarantee schemes promote that they are a good example in the market, between different players (bank – credit guarantee scheme – borrower), promoting that there is no “free lunch”, but on the contrary everyone will have responsibilities and obligations of their own.
History tells us that guarantee schemes were born in the periods after the financial crises, in order to fight the credit crunch, and as such date back to the beginning of the 20th century. Such was the situation in the last financial crisis of 2008 when there was a marked increase in credit guarantee scheme activity.
Today, according to a study in 100 different national economies, there are about 2,200 different guarantee schemes, with different legal and ownership structures, however almost all of them are aimed at creating facilities for SME financing. Their participation in this intermediation, expressed as a percentage of the active portfolio of guarantees in relation to GDP varies from 7-8% in the countries of Asia, where Japan and South Korea dominate and are also considered pioneers in the application of guarantee schemes, while in Europe the average of this financial intermediation ranges from 0.8-1.0%. Italy, Portugal and France have a strong tradition of using this mechanism for decades, and the guarantee scheme in Turkey has made the most progress in recent years, compared to all other schemes in the region.
Fortunately, the COVID-19 crisis finds Kosovo with a well-established and well-consolidated institution to provide guarantee schemes. The Kosovo Credit Guarantee Fund as an institution established in 2016 by the joint cooperation of international donors operating in Kosovo, led by USAID and KfW, and the Government of the Republic of Kosovo, has this particular role. Therefore, the duly introduced fiscal packages in the emergency phase and the economic recovery after the COVID-19 crisis, supported by the Government of the Republic of Kosovo and by international donors, provide special measures to boost lending and to inject liquidity into the economy, leading to the creation of guarantee windows in the KCGF. Coordinating activities with the Government of the Republic of Kosovo and with international donors to combat the adverse economic impact will be a priority for the KCGF at this stage. In light of the crisis, the KCGF as an institution established to help the development of private sector entrepreneurship, shares the concerns of private sector and banking sector members, many of whom are already our clients or partners. KCGF, as well as its counterparts throughout the region and beyond, with the support of its donors and partners, will not shy away from responsibility throughout the stages of economic recovery, during and after the crisis. It is a battle that the governing structures of the KCGF have committed to willingly undertake, with the sole purpose of going through it together and coming out even stronger than before the crisis.
Finally, on behalf of the Board of Directors and the KCGF staff, allow us to thank our international donors and the Government of the Republic of Kosovo for their continued support to the KCGF. We would also like to thank all our other partners, above all the Central Bank of Kosovo (CBK) and the Partner Financial Institutions for their continued cooperation. At the same time, we wish all of you good health and hope that next year we will celebrate together the fifth anniversary of the official launch of the KCGF, in a different way compared to this year, where we will be able to engage in person and, why not, even raise a toast to successfully overcoming the consequences of the COVID-19 crisis.