SMBs Suffer as Cost of UK Business Loans Increases

U.K. SMBs are feeling the pinch as business loan costs have increased to 4.7%.

As British banks react to a difficult macroeconomic environment, the cost of borrowing for small- to medium-sized businesses (SMBs) has nearly doubled from the 2.5% rate at the end of 2021, the Bank of England (BoE) recently reported.

The report added that total outstanding SMB debt has also increased by around 20% since 2019, while the proportion of SMB debt in arrears has increased to 2.4% from 2% over the past year.

The increase in the cost of borrowing is to be expected, given that the BoE has implemented a series of rate hikes this year, the most recent being last week, when it raised the base rate from 3% to 3.5% — its highest level in 14 years.

But while the increase in cost of new SMB bank debt maps a broader pattern affecting all borrowers, smaller businesses are especially at the mercy of macroeconomic headwinds, given their typically lower levels of liquidity and already higher cost of borrowing.

For example, the British Business Bank — a government-backed development bank established in 2014 to help increase the supply of credit to SMBs — warned in its annual report that “serious headwinds” pose a material risk to smaller businesses for whom “the coming years are likely to be challenging.”

To make matters worse, the increased cost of borrowing coincides with rising operational expenses driven by inflation. That, and the U.K.’s declining consumer sentiment, combine to paint a bleak picture for the country’s small businesses.

For instance, corporate insolvencies have risen above their pre-COVID levels and are expected to rise further over the coming quarters, the BoE reported, adding that the insolvency rate stood at 46 per 10,000 firms in the third quarter of 2022.

Although this is relatively low compared to historic peaks of 88 and 265 per 10,000 firms in 2009 and 1993, the BoE said that the “large majority” of the recent increase has been driven by “very small, younger businesses that hold little debt.”

Implications for UK Economic Stability

The data on SMB debt and the insolvency rate come from the BoE’s banking-focused Financial Stability Report, which primarily assesses the resilience of the U.K. economy.

In general, it found that British banks are sufficiently capitalized to weather a worsening economic situation, while the rising SMB insolvency rate doesn’t pose any unbearable risk to the financial sector.

The report further stated that “rising [SMB] arrears are largely on government scheme debt, meaning banks will not face significant losses on these exposures.”

But while U.K. banks are well equipped to absorb shocks and meet the credit needs of households and businesses, the BoE raised concerns about the wider financial market following September’s market turmoil, which saw the cost of government borrowing spike and several of the U.K.’s pension schemes come dangerously close to collapsing.

As a result, the BoE has announced that it will begin stress testing non-bank financial institutions for the first time. Of particular concern to the BoE are liability-driven investment (LDI) funds, to which many of the U.K. citizens’ pension schemes are exposed.

For all PYMNTS EMEA coverage, subscribe to the daily EMEA Newsletter.