Essay: UK Credit Conditions - Analysis And Strategies.

1. Explain the term credit conditions and describe the state of credit conditions for UK non-financial firms before, during and after the financial crisis.
2. Describe how policy makers have tried to expand the financing choices available to UK firms in the years following the financial crisis.
3. Has the UK financing landscape changed for small, medium and large firms since the financial crisis? Use publicly available data to support your arguments.
4. What are the benefits to non-financial firms of possessing a credit rating?

Credit Conditions in UK Economy

Credit Conditions refers to the overall situation of credit which is available in the market and also reflects the various factors which affect the credit availability in the market. The assessment considers the credit conditions in for non-financial firms which are operating in UK which will be done on the basis of Credit Condition survey reports. The credit conditions in an economy heavily depends on the market conditions in the economy and to some extent depends on the policies which are implemented by the banking officials.

As per the estimates which are available, during the last two decades, UK has faced in three situations where the credit conditions were significantly tightened and the most recent one which was 2007-08 was most severe one of them all. Apart from these three episodes, the flow of credit is not ridged at all. The period of 2007-08 was a period wherein not just UK but other countries were also affected and the period was termed as global financial crisis period.  During this period, there was significant reducing in the lending amounts which was offered by banks to non-financial institutions and also corporate houses (Karanikolos et al. 2013). In such times, some of the banks faced significant fall in the liquidity position and thereby experienced financial distress which forced them to stop the flow of credits in order to maintain liquidity situation. The credit conditions situation and the maturity period of loans fell significantly during the period of financial crisis of 2007-08. Therefore, in such a situation, the popularity of bond market became eminent as a potential for raising capital for a business (Lee, Sameen and Cowling 2015). The financial crisis had led to a decline in Gross Domestic Product and the same reached around 5.6% which is recorded as the lowest fall. During the period of financial crisis, a strong control over the credit policies and lending of the banks was maintained in order maintain stability in the country.

After the financial crisis, that is post 207-08, the government made significant efforts to bring about improvements in the credit conditions and the same is shown to have improved. The analysis also shows that the policy of the UK Government during the time of financial crisis is to effectively control the flow of credit in the economy (De Haas and Van Lelyveld 2014). The period of 2007-08 shows effectively that all banking institutions had tighten the flow of credit so that to ensure that the banks can maintain their overall liquidity.

Impact of Financial Crisis on Credit Availability

The economy of UK in most of the circumstances have been hit by financial crisis in the most severe way. The worldwide financial turmoil that begin in 2007 have affected the banking sector of the country severely. The economy of UK has significantly suffered from financial crisis during the period of 2007-08. The banking institutions reduced the credit flow during such periods in order to maintain the overall liquidity situation of the banks and also avoid a situation which may result in financial distress (Hardie and Howarth 2013). The country in post crisis period effectively taken some serious steps with a view point of improving the conditions in the economy. The policy makers effectively have formulated ad hoc policy co-operation and also incorporate proper financial supervision in order strengthen the financial system. The national policies of the country have also been changed due to revive the economy from the conditions of financial crisis.

After the period of financial crisis, the policy makers started to undertake new plans for the purpose of reviving the economy. A new labour came into force post crisis period and they formulated strategies for the purposes of ensuring a conservative approach for meeting the inflation targets and also apply monetary policies for the purpose controlling the credit flow in the country (Claessens and Van Horen 2015). The policy makers also made changes to the fiscal policies of the country in order to ensure that the flow of credit is appropriate and the banks can available to such credit facility. Some of the steps which can be taken by policy makers for reviving the conditions after a financial crisis situation are listed below in details:

Supply in Credit

The supply of credit in the market is an important policy which the policy makers need to consider while formulating any strategy. There are two types of credits facilities which are secured credit and unsecured credit facilities in the economy. The policies should be formulated in such a way such that the credit which is available to the corporate houses of UK are freely available and the unsecured credit which is provided to the household sectors can contain certain restriction. The aim of the policymakers is to provide a boast to the corporate houses as they significantly contribute to the GDP of the country. The changes in the availability of the unsecured credit of a country depends on the level of risks which the banks can assess in case of unsecured credit provided to household sectors.

Improvements in Credit Conditions

Demand for Credit

The policy makers need to incorporate strategies which can attract borrowers for taking more credits and thereby improving the flow of credit and credit condition in the economy. Banks effectively attract borrowers with attractive loan period, lower interest rates and other benefits which are associated with the loan. The defaults in credit is a major setback and depicts the overall level of risks which are associated with the credit facility which is provided by the banks. The bank can effectively prevent and manage the risks by following the credit rating system for corporates as well as individuals. The banking institutions need to offer credit facility to corporate sectors in order to finance projects which can generate revenue and contribute to the total earnings of the economy.

The business which were moistly affected during the financial crisis were the small and medium sector businesses. Small and medium-sized enterprises are instrumental in the overall development of an economy and can effectively contribute to the economic growth and development of a country. In case of UK, the economy suffered significantly during the financial crisis as the availability of funds was scarce. An estimate suggests that there are around 5.4 million Small and medium-sized enterprises in UK and the same employs around 24.3 million people on approximation basis (Kuppuswamy and Villalonga 2015). According to the estimates of British Banking Authority, their banking business is worth some £2 billion in revenue and SME business loan balances are around £90 billion.

The smaller businesses which are operating in the economy do not appropriate amount of capital and therefore they are in need of adequate requirement of funds. The finance to a business should be provided on the basis of the credit ratings which they receive and the credit should be provided to appropriate business. The main challenge for policy makers is to ensure that the finance facility which is being provided can help in contributing to the needs of the economy. There has been a marked decline in lending to small businesses by UK banks who traditionally dominate this market since 2008. The lending to small businesses has decreased significantly after the Global financial crisis period which is due to the fact that the banks are now more concerned with showing a favorable balance sheet and also avoiding any high-risk lending. In general terms, lending funds to small businesses are considered to be high risk lending even though the business has a good track record. The Government has noticed such a depletion of credit facility to the small business groups and therefore brought about changes which has resulted in availability of funds in the market. The increase in availability of credit facilities has allowed new entrants to enter the market and thereby also establish themselves in the market. The policy makers have introduced alternative form of funding such as peer-to-peer lending and crowdfunding. The overall competition in the banking sector has also increased the availability of credit facility in the market. The market of UK had experienced significant contraction in terms of credit facilities up until 2015 so much that even high corporate houses were also having problems in securing appropriate credit facility.

Strategies for Improving Credit Conditions

The new form of funding which is being promoted has the capability of financing the needs of the companies operating in UK. The equity crowdfunding is now the second fastest growing source of finance in UK and has the capacity of providing significant amount of finances. In 2015, Small and Medium-Sized Businesses were provided with £245 million from such a source. The alternative funding sources which are available to businesses are important sources of funding and sources like peer-to-peer lending is also being considered as an appropriate source of capital in business (Tse, Rodgers and Niklewski 2014). The new measures which are introduced would enhance the level of credit facility in the economy and thereby lead to growth and development of the entire country. The policies which are formulated by the government are also depended on the financing facilities of the country. The liquidity conditions in the country is an important factor which can bring about development and growth in the business. Another major impact which can be identified in UK is the technological development in the country which has brought about changes in the businesses which are operating in UK. The regulation which are set by the Government plays an important role in maintaining the credit function in the economy. The credit functions has significantly improved from the period of 2007-08 and the same is shown further improvement. The other factors which can have an influence on the availability of the credit facilities is the inflationary pressure in the country.

Credit Rating may be defined as the process of setting a credit score on a business or a particular individual on the basis of which the loan amount is provided to that particular individual (Alp 2013). The process of credit rating is an efficient technique for avoiding instances where default can take place. The process of Credit rating allows banks to minimize the level of lending risks which the banks faces when providing credit to non-financial firms or individuals. The credit rating for an individual is done on the basis of the capacity of the borrower and also by judging the past track record of the individual (Angilella and Mazzù 2015). The credit rating of an individual effectively shows the ability of the borrower to appropriately service the loan which is taken.The benefits which can be identified relating to credit ratings of non-financial firms and individuals are;

• The credit rating is an important tool for borrowers in modern times to easily avail loans from various sources. Good Credit ratings for any businesses or individual is always a good way to get access to loan from a financial institution.
• From the point of view of the bank, the loan which is to be provided is risk free and the rating is provided by independent credit rating institution (White 2013). Therefore, the bank can rely on the ratings and provide the loan without much consideration.
• In cases of foreign investments, foreign investors rely heavily on the credit ratings which are provided to individuals and institutions for the purpose of taking any decisions relating to taking any debts or making any investments. In country level as well, the foreign direct investments can help in investors to take appropriate decisions.
• The credit rating in an organization allows the businesses to effectively apply for a higher amount of loan as well from banks.

Reference

Alp, A., 2013. Structural shifts in credit rating standards. The Journal of Finance, 68(6), pp.2435-2470.

Angilella, S. and Mazzù, S., 2015. The financing of innovative SMEs: A multicriteria credit rating model. European Journal of Operational Research, 244(2), pp.540-554.

Claessens, S. and Van Horen, N., 2015. The impact of the global financial crisis on banking globalization. IMF Economic Review, 63(4), pp.868-918.

De Haas, R. and Van Lelyveld, I., 2014. Multinational banks and the global financial crisis: Weathering the perfect storm?. Journal of Money, Credit and Banking, 46(s1), pp.333-364.

Hardie, I. and Howarth, D. eds., 2013. Market-based banking and the international financial crisis. Oxford University Press.

Karanikolos, M., Mladovsky, P., Cylus, J., Thomson, S., Basu, S., Stuckler, D., Mackenbach, J.P. and McKee, M., 2013. Financial crisis, austerity, and health in Europe. The Lancet, 381(9874), pp.1323-1331.

Kuppuswamy, V. and Villalonga, B., 2015. Does diversification create value in the presence of external financing constraints? Evidence from the 2007–2009 financial crisis. Management Science, 62(4), pp.905-923.

Lee, N., Sameen, H. and Cowling, M., 2015. Access to finance for innovative SMEs since the financial crisis. Research policy, 44(2), pp.370-380.

Tse, C.B., Rodgers, T. and Niklewski, J., 2014. The 2007 financial crisis and the UK residential housing market: Did the relationship between interest rates and house prices change?. Economic Modelling, 37, pp.518-530.

White, L.J., 2013. Credit rating agencies: An overview. Annu. Rev. Financ. Econ., 5(1), pp.93-122.