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The latent demand for bank debt: characterizing “discouraged borrowers”

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Abstract

Concerns that small firms encounter credit constraints are well entrenched in the literature, despite widespread empirical evidence that a relatively small proportion of small firms have their loan applications rejected. However, many firms may be discouraged from applying for fear of rejection. These businesses are the focus of this paper. Based on responses to a large-scale postal survey of UK small and medium-sized enterprises (SMEs), we find that twice as many businesses were discouraged from applying for a bank loan than had their loan request denied. More particularly, we observe a number of distinguishing characteristics of “discouraged borrowers” (relative to applicants). These include: strategy, sector, prior entrepreneurial experience and banking relationships. The implications of our findings for policy and future research are briefly discussed.

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Notes

  1. Our ability to disaggregate further is constrained by technical and interpretive considerations. Here, “production” includes manufacturing, construction, mining and quarrying, electricity, and gas and water supply; “knowledge services” includes financial services, business services, computer and related services, research and development (R&D) services and real estate services; “wholesale and retail” is largely self-explanatory and also includes sale and repair of motor vehicles.

  2. The proportion of personal wealth invested may also indicate confidence or attitude to risk. However, it certainly signals the availability of resources beyond the firm that banks may call on in the event of default. We are grateful to a reviewer for raising this point.

  3. We are grateful to the editor and an anonymous reviewer for guidance on this point.

  4. We also tested for the possibility of a non-linear relationship by including a quadratic term in firm size. However, this was not significant and was dropped from the final model.

  5. Chi-grams compare the expected and observed frequencies, such that \( \chi {\text{score}} = {\raise0.7ex\hbox{${\left( {O - E} \right)}$} \!\mathord{\left/ {\vphantom {{\left( {O - E} \right)} {\sqrt E }}}\right.\kern-\nulldelimiterspace} \!\lower0.7ex\hbox{${\sqrt E }$}} \).

  6. See the variables comprising this factor in Appendix A.

  7. Of course, this assumes that existing interventions are both appropriate and adequate. Assessment of this is beyond the scope of the current paper.

  8. We are grateful to David Storey for suggesting the terms “appropriately discouraged” and “inappropriately discouraged”.

  9. Multicollinearity diagnostics are given in the models (Han et al. 2009, p. 421). The condition numbers for the various manipulations of the D&B score are all greater than 10 and as high as 43.

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Acknowledgements

We are grateful to the editor and two anonymous reviewers of earlier drafts of the manuscript, whose comments and guidance greatly improved both the technical aspects of the paper and conceptual framing of our work. Nonetheless, any errors remain our own.

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Authors and Affiliations

  1. University of Ottawa, Ottawa, ON, Canada

    Mark Freel

  2. University of Strathclyde, Glasgow, Scotland

    Sara Carter, Stephen Tagg & Colin Mason

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Correspondence to Mark Freel.

Appendix A

Appendix A

See Table 5.

Table 5 Factor analysis of strategic focus
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Freel, M., Carter, S., Tagg, S. et al. The latent demand for bank debt: characterizing “discouraged borrowers”. Small Bus Econ 38, 399–418 (2012). https://doi.org/10.1007/s11187-010-9283-6

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