Banks 'must free up lending to small businesses'

Surveys find small and medium-sized enterprises still struggling to get credit

The Government kept up the pressure on banks to stand by their small business customers yesterday as concern mounted that a squeeze on the sector that is the lifeblood of the economy could force healthy firms out of business.

The Treasury minister, Ian Pearson, told a parliamentary committee that banks had failed to meet commitments to make credit available to small and medium-sized enterprises (SMEs). "We will continue to want to hold banks' feet to the fire to make sure that they do the right thing by small businesses and by people who want mortgages for the future," Mr Pearson told MPs on the Commons Treasury sub-committee.

The banks insist that they are doing their bit by lending to SMEs. British Bankers' Association figures this week showed that lending by the major banks was up by almost £1bn in the third quarter. Yet Confederation of British Industry and the Federation of Small Businesses surveys show small firms struggling to raise credit or paying cripplingly high rates to refinance loans. The Chancellor, Alistair Darling, has ordered an inquiry to find out the facts behind the banks' behaviour towards their SME customers.

Michael Thommes, managing director of General Finance Centre, a broker of loans for businesses, said the truth was that banks had increased their lending to earn hefty margins because smaller lenders had been squeezed out by the credit crunch. Finance companies that offloaded their loans in the market can no longer do so, leaving the banks to mop up all the best business while shunning many solid firms.

"The banks won't tell you this because they are in a win-win situation," said Mr Thommes. "If you are the only pizza restaurant in a city, you will put up prices or reduce the size of the pizza. They can go to the Government and say they are lending as much as last year, but they are lending to better-quality customers at higher rates."

The Government and the Bank of England are scared about the prospects for SMEs because they have grown to become the linchpin of the economy. More than 99 per cent of companies employ fewer than 49 people and SMEs account for £1.4trn of turnover or 51 per cent of UK gross domestic product. Banks are traditionally wary of small businesses when the economy slows, but SMEs face tougher conditions in this recession because the bursting of the credit bubble has cut off many lenders' funding and left them with balance sheets loaded with debt.

Royal Bank of Scotland, Lloyds TSB and HBOS, which are all taking government capital injections, have all agreed to make credit available at the same level as last year and the Government expects others to do likewise. Barclays rejected state funding to avoid government pressure to lend in the UK but insists that it has increased business with small companies.

Kelvyn Marketis, the owner of Fun 'n' Frolic, a party and fancy dress store in Reading, said he had experienced a change of heart by his bank, Barclays, since the Government upped pressure on the banks. He asked Barclays for a £24,000 loan to pay for air-conditioning in his new premises six weeks ago, but was turned down. After rejection by struggling leasing companies he went back to Barclays three weeks ago and got the money at 5.4 percentage points over base rate, which compared well with a year ago. "The manager we dealt with at Barclays indicated there had been a change in attitude, which is a good thing," said Mr Marketis.

The Treasury hopes that its pressure will feed through to influence behaviour further, but Mr Thommes said the Government's campaign overlooked the exit of the independent financing companies from the market.