If, like me, you had a banking relationship with either of Ulster Bank or KBC Bank, you cannot have helped notice the upheaval this year of their closure and departure from the Irish banking sector. One departure might be ascribed to the fortunes of that particular bank. Two departures suggests a wider trend and one that has been gathering pace since the global financial crisis (GFC) years of 2007-8, not just in Ireland but across Europe.
The retreat of traditional bank lending
The traditional banking sector has undergone significant changes since the GFC. These have primarily been brought about by increased and far-reaching regulation, increased capital reserve requirements and marked significant reduction in risk appetite, particularly in areas in which they were heavily leveraged.
These changes have led to the exit of two long-established banks from the Irish banking market. So, if there are fewer banks and fewer sources of capital, who is filling the gap?
The rise of alternative lenders
The extension of credit by non-bank financial institutions (NBFIs) has grown year-on-yearsince the GFC. Recent estimates value this market at $1.4tn worldwide, and expectations are that it will continue to expand rapidly for the remainder of the decade.
In Ireland, evidence of the arrival of NBFIs and their increasing prominence is hard to miss.
Last year, M&G acquired a 41% stake in Finance Ireland, the country’slargest NBFI, whose lending exceeded €1bn ($1.07bn) in 2021 to a variety of sectors including real estate and leasing.
Bunq, a Dutch NBFI, acquired Capitalflow, an established specialist Irish NBFI lending into real estate and equipment, greatly increasing the newly combined entity’sreach and influence. Even the residential mortgage market felt the effects, with NBFIs increasing their share of the Irish market from 3% to 18% in just three years.
SMEs bear the brunt
The biggest impact of NBFIs, however, can be seen in lending to small and medium-sized enterprises (SMEs). SMEs are the backbone of the Irish economy, accounting for the vast majority of corporate enterprises and employing well over half of those in work.
It is the SMEs in particular which have been hardest hit by the retreat of the traditional banks in Ireland, and indeed across Europe, leaving them with little option but to look elsewhere for their capital needs.
The Central Credit Register is not a perfect guide to the size of the alternative lending market in Ireland, but it can provide some interesting data nonetheless. What is clear is that these new alternative lenders are already crucial to the SME sector and their importance continues to increase.
In 2019 these lenders collectively provided €2.1bn in loans to SME entities and €1.6bn in 2020 with a total figure of €4.3bn owed to alternative lenders by the end of 2020. Encouragingly they are picking up the slack of the traditional banks with the majority of this lending going towards real estate projects with wholesale/retail and general corporate lending being the other dominant sectors.
NBFI loan agreements with SMEs
What is also clear is that a wide range of alternative lenders is active in the market. There are more than 60 and they vary greatly in size. Broadly speaking, these lenders each have a particular sector expertise and which they are comfortable lending into, bringing their knowledge and experience to the borrower. The result is borrower and lender working in partnership to provide a tailored and flexible lending solution.
The road ahead for Ireland’s banking scene
Ireland and Europe as a whole have some way to go to catch up with the now normal practice in the US market, where the majority of corporate lending comes from NBFIs. But things are moving in that direction not only in Ireland but also in the UK, France, Sweden and the Netherlands in particular. In all these jurisdictions, NBFIs have a significant foothold and are continuing to build market share.
However, take-up across Europe is patchy at best, with Spain, Poland and in particular Germany (relative to the size of its economy) some way behind the curve on NBFI lending. A number of factors are at play in the lack of proliferation in these countries, but chief among them is the options SMEs and consumers have from the traditional banking sector, which seemingly meet the needs of their customers to date.
Perhaps the most important trend, however, is the way NBFIs typically embrace technology to deliver their products. Despite all the setbacks over the past number of years to the economy, from the invasion of Ukraine to the end of the low-interest-rate era, it is perhaps the Covid-19 pandemic which has perversely provided NBFIs with their chance to really gain market share.
As SMEs and corporates struggled to deal with traditional banks during the pandemic, many businesses, and in particular SMEs, turned to NBFIs (especially those with strong fintech solutions) for loans to see them through the bad times. These relationships seem to have endured, and it is the embedding of their technology into the borrower’s business platforms in a seamless manner which has really changed the game.
As Colin Goldstein, commercial growth director at fintech iwoca,recently said: “We believe that embedded finance is the future of SME lending across Europe,” and it is hard to argue otherwise. As the traditional banks exit stage left, the way is now open for a more seamless, technology-driven product that fits with the modern way of doing business.
This article was first published in The Banker.
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