For the head of a small manufacturer sitting at the loan window, the first items a bank checks are still collateral and credit rating. Whether a plan to convert equipment to a low-carbon process changes the first digit of the interest rate is hard to get a straight answer on at the window. A stretch that has not been crossed remains between the policy announcement and the loan agreement. Widening the classification criteria and lowering SMEs' funding costs are not the same task.
Three things came out together on the same day. A plan to overhaul the green classification system, a plan to expand green lending, and wording that would widen the scope of that lending to SMEs. All three share the goal of changing the flow of capital. Sharing a goal does not prove a result.
A classification system is a device that defines what counts as green. A definition is a precondition for allocating capital, and it does not become the allocation of capital itself. When the criteria widen, the range of projects judged eligible grows, and so does the balance counted as green on paper. A larger balance and a lower interest rate borne by the borrower are different indicators.
The form of the indicators needed for verification is not difficult. How many basis points the loan rates moved for SMEs in the same credit rating band under the same maturity terms before and after the overhaul, whether that change is separable from the trend in the base rate, and how approval rates and the time taken until loans are executed have changed. An increase or decrease with no basis for comparison attached does not tell you what the movement means. What is being disclosed now is mostly target amounts and scope of coverage, and no price indicators at the borrower level have been disclosed.
The counterargument is clear and weighty. Without classification criteria, financial institutions cannot decide what to count as green, and if they cannot count it they cannot build products. It must also be acknowledged that there have been countries where related products and balances grew after the criteria were put in order. Since a system operates with a lag from design to execution, it is also possible to counter that demanding a price effect right after an announcement is premature.
Even so, the lag argument has to come with conditions. To accept a lag, it must be presented together with what will be measured by when. A lag with no measurement date and no indicator functions as a device for postponing verification indefinitely. What is stamped on an SME's books is the interest that goes out every month, with no target amount attached.
SMEs' transition investments have long payback periods and thin assets to pledge as collateral. Under these conditions, if funding costs stay the same, equipment will not be replaced no matter how refined the classification criteria become. The possibility that capital classified as green flows toward companies with higher credit ratings also has to be weighed. Whether the place the policy aims at and the place the capital reaches diverge will determine whether the overhaul succeeds or fails.
The indicators to watch come down to three. Instead of the green loan balance, the interest rate SME borrowers actually bore, the ratio of approvals to applications, and statistics breaking those two indicators down by company size. Until these three appear, the effect of the overhaul will be discussed only in terms of the size of the plan. The size of a plan differs from the size of a result.
