Basel II: Perspectives of Austrian banks and small and medium sized enterprises

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1 Study by the University of Applied Sciences of bfi Vienna Basel II: Perspectives of Austrian banks and small and medium sized enterprises March 2005 Study under the direction of Johannes Jäger University of Applied Sciences of bfi Vienna Sponsored by the Austrian Research Promotion Agency under the programme

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3 University of Applied Sciences, bfi Vienna Department Banking and Finance Research Project in Economics (5 th Term-V5) Winter Term 2004/2005 Topic of the research project: Basel II: Perspectives of Austrian banks and small and medium sized enterprises Names of students: Tutor: Group 1 Amtmann, Michael Anderle, Wilhelm Berer, Bettina-Maria Böhm, Werner Bulgarini, Lukas Caj, Hannes Götz, Lukas Hanl, Florian Hartig, Maximilian Heschl, Stephan Hutterstrasser, Michael Jatschka-Eppel, Michael Kleinschuster, Helmut Milabersky, Manuela Motamedi, Achim Schmidt, Bettina Wieser, Eva Zach, Katrin Johannes Jäger Group 2 Aigner, Andrea Alber, Aaron Fiby, Mirella-Naomi Fidesser, Stephan Hadjiivanov, Kamen Kocher, Eva-Maria Kozyga, Julia Lehner, Silvia Novotny-Farkás, Daniel Ratzberger, Michaela Rößler, Alexander Taferner, Michael Varch, Christian Wallner, Johanna Wolf, Georg Zabinsky, Stefan Zupancic, Alexander Date: March 2005 Copyright: BAFI age group 2002

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5 Table of Contents List of Abbreviations...6 Abstract Introduction On Methodology Hermeneutics vs. Positivism Qualitative interview and interpretation Selection of interview partners Basel II: Perspectives of Austrian banks and SME Customer-Bank-Relationship Basel II and Customer-Bank-Relationship Perspectives of banks and SME Competition Basel II, competition and market structure Perspectives of banks and SME Pricing Basel II and Pricing Perspectives of banks and SME Alternative ways of Financing Basel II and Alternative Financing Perspectives for banks and SME Pro-cyclicality Basel II and Pro-cyclicality Perspectives of banks and SME Conclusions...23 Sources...25 Appendix...29 A. Progress of work...29 B. Methodology...31 C. Questionnaire for banks and SME...35

6 List of Abbreviations List of Abbreviations ABS cf. e.g. EU Asset Backed Securities compare for example European Union f. following FMA IFES IT IRB Approach p. page PWC RLB resp. SME vs. Finanzmarktaufsicht (Austrian Supervision Institution) Institution for empirical Social Research Information Technology Internal Rating Based Approach PriceWaterhouseCoopers Raiffeisen Landesbank respectively Small and medium sized enterprises versus

7 Abstract Abstract This paper deals with the possible consequences of Basel II. Whilst in literature many possible effects are heavily debated, this study is built on the assumption that the consequences of Basel II are not to be derived directly from the regulations, but depend on the specific way how the new regulations reshape the behaviour of economic agents. Hence, the study focuses on the perspectives of Austrian banks and SME regarding Basel II in order to deepen the insights about their behaviour. From the analysis of their understanding of the situation, some conclusions about the possible impacts of the implementation of Basel II on the transformation of the financial system are drawn. Die vorliegende Arbeit beschäftigt sich mit den möglichen Konsequenzen bezüglich Basel II. Während in der Literatur viele mögliche Effekte stark diskutiert werden, basiert diese Studie auf der Annahme, dass die Konsequenzen von Basel II sich nicht direkt von den Regulationsbestimmungen ableiten lassen können, sondern vielmehr von der Art und Weise, wie diese neuen Regeländerungen das Verhalten der wirtschaftlichen Akteure beeinflussen bzw. verändern, abhängen. Deshalb konzentriert sich diese Studie auf die Perspektiven der österreichischen Banken und KMU, um speziell tiefere Einblicke in das Verhalten der von Basel II betroffenen Akteure zu gewinnen. Ausgehend von den Analysen in Bezug auf das Verständnis von Banken und KMU für die sich verändernde Situation werden einige Schlussfolgerungen hinsichtlich möglicher Auswirkungen, die durch die Implementierung von Basel II entstehen, auf die Umgestaltung des Finanzsystems gezogen. 7

8 Introduction 1. Introduction The bank as an enemy 1 because of the high dependency of SME on banks and the precarious economic situation as a whole specially because of the high importance of SME for the economy companies often cannot comprehend the new burdens and restrictions of Basel II. According to the public opinion, many companies fear that financial institutions will pass on the implementation and risk management costs of the new equity adequacy framework. This illustrates the worsening and increase of credit costs. These and many other arguments are spooking around in public discussions about Basel II. The debates reach from very positive to very negative opinions and include arguments related to chances, opportunities, fears ("The middle class urgently needs an equity cure" 2 ) and threats ( The bugbear Basel II is showing its impacts 3 ) for the involved parties. The public discussion is accompanied by a considerable number of studies 4 and scientific publications. These works also extract different opinions and views. On the one hand many contributions suggest that Basel II is very positive and will change the financial system in a favourable way, on the other hand a considerable part of the literature indicates that Basel II causes severe problems. Crucial questions in this context are: What will happen to an established financial system? Is it possible to change an established financial system because of its power of inertia? In which direction will this system develop? There is not only one single and objective view of Basel II, but there are subjective perspectives. This means that economic agents have different views, opinions and future expectations about the new capital adequacy framework. Furthermore, a variety of books and papers are offered which underpin these different views and opinions 5. But in our view, these publications do not focus enough on the very close and important relationship between the involved parties, both banks and SME. This changing situation has motivated us to choose the following research question: 1 cf. Handelsblatt (2004a), own translation 2 cf. Der Standard (2004a), own translation 3 cf. Der Standard (2004b), own translation 4 cf. PriceWaterhouseCoopers (2004); IFES (2003); KPMG (2002) 5 A selection of published articles, studies and books is listed in our appendix (part D) 8

9 Introduction How will the relationship and behaviour of small and medium-sized companies and banks change as a result of Basel II? What is the banks and SME s view? Basel II will not be assembled par for par. The question of how Basel II will function depends heavily on the implementation process of the affected parties and on the interaction between banks on the one hand and SME on the other hand. Therefore, we decided to analyse the opinion and behaviour of both banks and SME. To enhance the knowledge about Basel II, we combined theoretical reasoning with the analysis of interviews with banks and SME. The following chapter describes the applied methodology. In chapter 3, perspectives of banks and SME and their implications for the financial system are analysed. Conclusions are summarised in chapter 4. 9

10 On Methodology 2. On Methodology 6 Philosophy of science offers two basic ways to obtain knowledge, the hermeneutic interpretation and the analytic approach. Scientific methods are based either on one or the other approach. 2.1 Hermeneutics vs. Positivism The aim of natural science is to state generally valid perceptions (in form of laws) for causal connections between cause and effect. Two basic ways include the so-called hermeneutic way and the positivist or analytical approach: Basically, for cognitive science it is not important how you get information (e.g. by quantitative or qualitative research), but how you interpret it. Generally, you may evaluate something as positivistic when you believe its findings to be based on experience (from sense data). Anything not sense able therefore cannot be a scientific finding and is untrue. Based on this way of thinking, findings are results of the process of induction, meaning to refer from a single event to an overall perception 7. It is important to differentiate between statements that are generally valid and those that just refer to a singular event. The difference lies also within the statistical verification, but as this is sometimes impossible due to the size of the sample, perceptions that just refer to an isolated event have a scientific value as well 8. Referring to the hermeneutic method, the word itself means to interpret and was used in the beginning to understand religious texts. As religious texts were believed to be of absolute truth, it was important to find out the exact meaning of these words. As a consequence, the central point is the meaning of a situation and not the outcome. This is diagonally opposed to the positivistic way which does not allow any interpretation of things that you cannot perceive by your senses. Thus, the meaning of any information is influenced by the subject and its environment and reflects the subject s own experiences 9. 6 see also appendix B 7 cf. Lamnek (1995), p cf. Kromphardt/Clever/Klippert (1979), p. 37f 9 cf. Kromphardt/Clever/Klippert (1979), p. 80f 10

11 On Methodology As a result, neither understanding nor describing can guarantee truth, but it is an advantage of understanding that it offers to conceive social and intellectual phenomena while describing offers their perception only. To use hermeneutics as a scientific research method, it is often referred to as objective hermeneutics 10. This method does not focus on the subjective sense of a text (or protocols, interviews, videos and so on), but on the objective structure of sense. For our needs, when dealing with the topic Basel II and possible changes in the relationship between banks and SME, we focused on contributing new insights and getting a deeper understanding instead of simply testing hypotheses or prevailing assumptions. 2.2 Qualitative interview and interpretation Our main target was to find out what banks and SME expect from Basel II and to derive new aspects which are neglected in the current discussion. We decided not to restrict ourselves to standardized categories of questions and answers (in order to make them quantifiable) as this bears the risk of cutting out other possible answers, but applied to an important extent qualitative approaches 11 in line with hermeneutic methodology 12. The personal interview on a qualitative basis is followed by a very detailed analysis in order to gain objective and precise conclusions 13. This is called sequence analysis. By analysing interviews and sorting out the essential content, it is possible to obtain an understanding which has to be proved or rejected by other parts of the text. This demands a clear differentiation between the interviews and the findings which are concluded and it is important to follow the scheme of analysing the text in a structured way. The importance of deriving scientific results by analysing a qualitative interview is a key-factor of scientific research cf. Bernstein (1983) 11 cf. Appendix C 12 cf. Lamnek (1995), p cf. Appendix B for the research design 14 cf. Froschauer/Lueger (1992), p. 62f 11

12 On Methodology The method of objective hermeneutics offers an approved way of realising conclusive theories. The essential of objective hermeneutics is that different groups of people achieve the same results by interpreting a text. The process of interpretation follows the hermeneutic circle. By re-reading, re-constructing and reinterpreting a text, a further comprehension of a text and its structures of meaning is achieved. Nevertheless, the subjective interpretation of the author is not the final target, but to derive a non-contradictory understanding by compounding different sections of a text which confirm each other by the same structure. The initial understanding is upgraded and is included in the following understanding. As the interpretation is based on parts of the text, the final goal is a perception of the whole including the understanding of its parts (production of theory) Selection of interview partners Special attention has to be paid to the selection of the interview partners. Concerning the banking side, we focussed on two groups of managers which are considerably affected by the new regulations. On the one hand the executives of corporate customers and on the other hand representatives of risk-management. The seven interviewees were mainly representatives of the dominating groups in the banking sector in Austria and should therefore provide us with a reliable estimation of the current situation. Furthermore, a regional bank has been included in order to integrate the perspective of small scale banks as well. With regard to the interview partners for the SME, it was more difficult to select interviewees as there are around SME with diverse characteristics. Attention was paid to sectors which are believed to be especially affected by the new accord. By using the method of objective hermeneutics, we decided not to obtain a huge number of interviews as it is more important to interpret a text in an appropriate manner rather than rely on the amount of interviews. The characteristics of the selected interviewees were not typical for the SME as they were equipped with a very good equity basis. This has been taken into account when the elaborations of the interviews were made. 15 cf. Schörner (2003) 12

13 Basel II: Perspectives of Austrian banks and SME 3. Basel II: Perspectives of Austrian banks and SME Basel II intends to guarantee more stability in the financial sector. Crises in the banking industry have shown that they may cause severe macroeconomic problems. It is supposed that the new regulations should diminish the probability of bank crises, but the implementation process also demands high costs which consequently ends up in higher loan prices. A possible restrictive lending policy is expected, but the economic gain (the opportunity costs of avoiding financial crises or bankruptcies of companies) should balance out implementation costs. In the following we concentrate on customer-bank-relationship, competition, pricing, alternative financing and pro-cyclicality. Thereby we contrast the findings in the literature with our results. 3.1 Customer-Bank-Relationship Basel II and Customer-Bank-Relationship With the new capital adequacy framework of Basel II, the relationship between customers and their banks will change drastically. This has caused a new definition of affiliation of both parties involved, meaning that the relation in general will become tighter and more intensive 16. The new regulations will lead to an improvement of the customer care system which means that only banks with an active customer care system are able to provide excellent service to their customers 17. Over the last few decades the bank customers have become more and more critical consumers, and new technologies, like the Internet, have made a comparison of the market possible, especially the comparison of prices for different products. As a consequence of this market transparency, a decrease in bank loyalty, which has been dominating the banking sector in Austria as well, can be observed 18. This is in line with our findings. 16 cf. PriceWaterhouseCoopers (2004), p cf. KPMG (2004), p cf. IFES (2003), p

14 Basel II: Perspectives of Austrian banks and SME Perspectives of banks and SME All interviewed representatives of Austrian banks state that due to Basel II an intensification of the customer-bank-relationship is needed. Also the KMPG study confirms that this relationship is playing a central role 19. Measures, which are taken by banks, are on the one hand to meet their customers more regularly - some of them even up to four times a year. On the other hand they have the obligation to inform their customers properly about the consequences of Basel II. Due to the fact that many banks consider themselves to be the main source of information for SME, they are trying to sensitise SME for Basel II, so that they are able to meet certain criteria, e.g. the liquidity requirement. An open and a transparent information policy of SME will have an effect on pricing 20. We detected that the SME are informed about the changes in their bank-relationship due to Basel II. SME are demanding provision of the necessary information about Basel II from their banks and want to know how it will affect especially their existing business 21. In accordance with the view of banks, SME know that transparency is becoming more essential in the future. SME also expect an openly acting bank, especially regarding pricing. Beside that, there are bifocal perspectives within SME, especially traditional family-owned companies are afraid of future developments. These companies are usually unwilling to grant banks too many insights into their businesses. But nevertheless, SME are aware of the duty that they have to provide their banks with more figures as well. Furthermore, we conclude that SME have to face asymmetric information since their bank is often the only source of information. External advisors could become more important and useful partners of SME because they can strengthen the bargaining position in banking affairs. Especially SME which want to protect a higher autonomy require a high equity ratio. 19 cf. KPMG (2002), p cf. Schmoll in Bruckner/Schmoll/Stickler (2003), p cf. IFES (2003), p

15 Basel II: Perspectives of Austrian banks and SME 3.2 Competition Basel II, competition and market structure The European Commission has the opinion that competition between banks is restricted by asymmetric information. That is the reason why banks can keep their considerable yield spreads in a rather monopolistic way. The actual development tends to a disclosure of risk information which could lead to undermining the prevailing structure of competition in the banking sector. This could then lead to an increasing importance of direct financing without a banking intermediary. Another question occurs: Do the companies fulfill all requirements to use direct finance and alternative finance instruments? The PWC Barcelona Study does not assume an automatic handicap for smaller banks. Naturally, the implementation costs are going to turn out proportionally higher for smaller banks 22. Nevertheless, smaller, more specialized banks often have the possibility of deep going data-analyses, especially when they make use of data pooling with other smaller financial institutes. Furthermore, they can benefit from a less complicated IT-structure and the joint-use of data processing centers and associations. The market for clients with a very good solvency is supposed to become more competitive 23. The rating increases the negotiating power and the additional transparency through the rating would lead to greater competition between the banks Perspectives of banks and SME Banks believe that competition for new clients will increase because of rating-based prices. Especially clients who can afford an external rating will enjoy much more price transparency. This is aimed to lead to diminishing asymmetric information. These big players will gain bargaining power in the market. There might also be the risk of 22 cf. PriceWaterhouseCoopers (2004), p cf. IFES (2003), p cf. PriceWaterhouseCoopers (2004), p

16 Basel II: Perspectives of Austrian banks and SME adverse selection for banks using the standard approach since bad retail customers (note: many Austrian SME fulfil the criteria of retail customers) are evaluated more favourable in this approach. Based on the plenty of information offered by different organizations (chamber of commerce, tax consultants ) 25, more and more existing clients compare their present loan conditions. In this context, tax consultants may indirectly increase the competition between banks by providing their clients (SME) with additional information. In general, SME do not believe in a significant change in bank competition because all banks will nearly have to face the same risk structure fees. Moreover, many SME have more bank accounts simultaneously. That implies the possibility of switching the bank if the bank condition becomes obviously excessive 26. Through Basel II, the customer-bank-relationship is supposed to become more intensive. This might be another argument that is becoming harder to change the bank. Nevertheless, companies in very favourable and in very bad conditions might use the option to switch the bank. 3.3 Pricing Basel II and Pricing In the discussion, the pricing topic is very controversial. The major part of the economic agents believes that Basel II will touch a sore spot in the relationship between banks and their customers: the pricing. Also in the past, banks looked at the solvency and the collateral of the client and then made their price decision 27. In general, the opinions concerning the question, if Basel II had a significant effect on pricing, diverge. Whereas the PWC study anticipates a small total effect on pricing because the pressure of competition might create difficulties for banks to simply raise the prices, Credit Suisse 28 has no doubt that Basel II will lead to a general increase of credit costs as they will be forced to pass on at least a part of the implementation 25 cf. IFES (2003), p cf. IFES (2003), p. 6 and p cf. Janssen (2002) 28 cf. Credit Suisse (2004) 16

17 Basel II: Perspectives of Austrian banks and SME costs. The argumentation relating to the pricing problem also deals with the attitude that good debtors will receive more favourable conditions, meaning the better the solvency resp. creditworthiness of the debtor, the lower the interest rate of the credit and vice versa 29. Nevertheless, it is important to mention that competition within the banking sector will prevent banks from increasing loan conditions unreasonably 30. Moreover, average pricing will increase slightly due to implementation costs and customer care. Especially the costs of implementing new processes 31, e.g. new ITsystems and data collection, will, due to Basel II, lead to higher prices. The same effect is caused by a more time-intensive relationship (of related training and change management) between banks and SME. Furthermore, also new regulatory reporting systems will have to be developed and implemented 32. Because of a closer relationship, banks are able to deal in more detail with their customers and are therefore able to price them according to their rating. This makes prices for loans very dependent on the portfolio structure of the bank. Price discriminations which have always been present in the financial market 33, can be better argued and justified through the more detailed data that is now available for banks. Additionally to the risk premiums, also the handling fees are higher for clients with a bad rating. As Basel II results in more transparency cross-subsidisation will be lower Perspectives of banks and SME The perspective of the banks complies with the theory: On one hand, there will be more favourable conditions for good clients, on the other hand, banks will also in the future only tell their customers the conditions in confidence - for the simple reason that banks feel that their formation of prices is kept under strong observation and therefore do not want to act too openly in the market. Banks are arguing that this attitude is an evidence of confidentiality, therefore they do not want to show too much 29 cf. IFES (2003), p. 6 and p cf. Credit Suisse (2004), p cf. PriceWaterhouseCoopers (2004), p cf. PriceWaterhouseCoopers (2004), p cf. IFES (2003), p cf. Übelhör/Warns (2004) 17

18 Basel II: Perspectives of Austrian banks and SME transparency. One example for this is the fact that banks do not want to disclose their rating processes. Different rating systems of the bank will lead to different conditions for loans. This is supported by the fact that pricing is dependent on the portfolios of the bank. Another important point is that banks do not consider collaterals for the rating process, but for the interest conditions of a creditor. On the one hand collaterals play a minor role in the rating process as a whole, and on the other hand, the operating result and the future perspective are protruded. SME will expect a significant change in pricing when their rating is excellent, but feel threatened of the higher bargaining power of larger companies, especially those with an external rating. Another important point mentioned by the interviewed representatives of SME is that they have to uncover their hidden reserves in order to achieve a better pricing. A very problematic situation is the aggravating circumstance for SME with a bad rating because they will come under severe pressure. We therefore may conclude that banks might abuse the house banking system by simply not passing on more favourable conditions. This is supported by the assumption that asymmetric information will occur in favour of the banks. Furthermore, due to the standardised rating process, the bank advisor will face limited scope in settling conditions. This actually implies that arbitrary decisions related to rating and pricing are becoming more difficult. Another important point is that individual weighting of soft facts can strongly affect the pricing. One questionable point is whether banks can grant new clients fair conditions as on the one hand the rating process is time-intensive and, on the other hand, it is becoming even more necessary to know the customer very well in order to offer an appropriate price. 3.4 Alternative ways of Financing Basel II and Alternative Financing With Basel II, getting a loan will become more difficult for a number of SME. Therefore it is obvious to look out for information about alternative financing 35. In the Euro zone the trend and development coming from the Anglo-American region, 35 cf. Handelsblatt (2004b) 18

19 Basel II: Perspectives of Austrian banks and SME towards a market based system will increase. On the one hand, in a market oriented system the disequilibrium of information between investors and debtors is solved via disclosure rules and accounting obligations. On the other hand, in a bank-based system, especially banks are taking over this monitoring function. With Basel II economically motivated risk-earning-thinking of the banks will also be underlined by the regulation authority 36. In this context the influence of balance sheet ratios will affect the financing decisions in the future 37. A study, which has been made by Investkredit Bank AG and Deloitte & Touche has shown that especially Leasing, Corporate Bonds and Mezzanine Capital are regarded as essential alternatives to the ordinary credit policy of banks 38. These alternative instruments also help to increase the bargaining power of a credit seeker and under certain circumstances they are able to avoid ordinary bank loans. Therefore the enterprise is not that dependent on the bank. Namely there are alternative financial instruments like private equity, venture capital, mezzanine capital, leasing, factoring, forfeiting and asset backed securities (ABS) 39. These instruments disburden the company and also have a positive effect on the balance sheet and the equity ratio Perspectives for banks and SME Banks do not agree on impacts of Basel II with respect to alternative financing 41. On the one hand, there are banks that claim that alternative financing will gain in importance. They argue that it will be easier for companies to satisfy their capital needs on the capital markets. Particularly for large (maybe internationally operating) companies, with a well known or generally accepted rating, obtaining money from capital markets should be easier. Some banks seem to be not willing to offer new or up-coming alternative financing tools. Despite that, one of the widely accepted products is leasing. This product is already a regular part of the banking business. Finally, banks agree on the fact that alternative financing is in most cases too big for 36 cf. Riess/Schmied in Bruckner/Schmoll/Stickler (2003), p cf. Riess/Schmied in Bruckner/Schmoll/Stickler (2003), p cf. Riess/Schmied in Bruckner/Schmoll/Stickler (2003), p cf. Klein (2003) 40 cf. Handelsblatt (2004c) 41 cf. PriceWaterhouseCoopers (2004), p

20 Basel II: Perspectives of Austrian banks and SME SME to grant access to capital markets. Furthermore, they do not fear the up-coming option of alternative financing products, because the bank loan is still the common financing tool. Interviewed SME do not consider using alternative finance and it is still widely unknown. But in the future alternative financing could gain in importance because this is supposed to keep SME more independent. 3.5 Pro-cyclicality Pro-cyclicality describes the effect that economic conditions have an impact on the rating of a company and therefore on the conditions for a loan 42. As future loans will be tightly connected to ratings, which on the other hand are determined by economic conditions, a bad economic situation will in consequence also be bad for lending Basel II and Pro-cyclicality Studies show that there is a likely connection between economic development and a further acceleration of an economic trend by adjusting lending policies 43. The mathematical formula for the rating is heavily based on the probability of default which has a negative correlation with the business cycle 44. In the discussion it is not often mentioned that positive economic conditions are favourable for the rating of a company. Going beyond this, the Basel Committee has already considered business cycles in its risk-weighting approach. On the one hand, this gives evidence to the existence of pro-cyclicality, but on the other hand, it is already included in the rating and should therefore not cause any future deterioration. Today it can be mentioned that pro-cyclicality exists, but the real consequences due to this topic will or can be seen only in the future. Therefore, the Committee will react and take measures ex 42 cf. Redak/Tscherteu (2003), p cf. Übelhör/Warns (2004), p cf. Schwaiger (2003), p

21 Basel II: Perspectives of Austrian banks and SME post 45. They are prepared to do so, if these effects occur. Nevertheless, it is widely accepted that a credit crunch is not expected Perspectives of banks and SME Confronted with the problem of pro-cyclicality the statements of banks and companies differ considerably. Banks had different opinions about the impact of procyclicality. One group argued that pro-cyclicality will occur as the solvency of a bank is crucial for its business strategy. If the bank is facing a worsening of its solvency, the terms of a loan will get higher and thus worse for the borrower. The restrictions of Basel II demand more collateral for a bad loan, and this goal has to be obtained by higher prices (if collateral is not sufficient). Although this sounds reasonable, it is not accepted within the banking industry. Furthermore, banks expect their clients to counteract in time as they are aware of negative effects that might arise due to the Basel II Accord. But this would in consequence lead to less investment in bad times and will have negative effects on economic growth. As mentioned above, some banks argue in the opposite direction: They do not expect pro-cyclicality for several reasons. One important point is that loans will become more standardised and therefore tradable. It is widely accepted that loans will be categorised in the future and therefore a bank will be able to buy and sell different loans with different risks. Another reason is a more practical one: It is not expected that small banks can afford to be too restrictive with offering a loan. Especially in rural areas, a bank might not dare to charge higher loan fees for the same type of loans just because of different creditworthiness of the borrowers. So the topic of pro-cyclicality is not expected to play an important role for small banks together with the fact that small banks cannot afford to refuse loans for business reasons. One reason, which has been mentioned by the banking side, is the fact that the rating process already includes the business cycle - or more precisely - the future economic development. If the rating process really accounts accurately for future trends is enthusiastically discussed. In the study of PWC 47 the phenomenon of pro- 45 cf. Schwaiger (2003), p cf. Übelhör/Warns (2004), p cf. PriceWaterhouseCoopers (2004), p

22 Basel II: Perspectives of Austrian banks and SME cyclicality is viewed as a very weak one if at all. It is admitted that at this stage of research one cannot be certain if there will be considerable or moderate effects deriving from it. It is argued that an improvement of risk management will lead to higher sensitivity and therefore decrease the probability of a credit crunch. Nevertheless, the difficulty of predicting pro-cyclicality remains different as the actual discussion is based on data of Basel I. As already mentioned above, the rating process should include the economic cycle and a reduction of a possible cyclical influence is expected by balancing instruments of the banking side as well 48. With regard to SME, the opinion is more consistent. The interviews have shown that there is hardly any divergence concerning the topic of pro-cyclicality. In brief, they agree on the phenomenon of pro-cyclicality and fear it. So this is controversial to the banking side, which disagrees on the effects of pro-cyclicality. Furthermore, the interviewees of the SME bear in mind that the banking side is offering assistance in this field. It is argued that especially in bad economic times banks will offer possibilities to overcome such a period. Another important point is the widespread opinion that pro-cyclicality will trigger an economic shake-out. If this is a positive or a negative effect depends on the point of view of a company. If the company regards itself as a strong and vital enterprise competition might become less intensive as competitors will be driven out of the market. In the medium and long run this may lead to a lower degree of competition with negative consequences for the long-run efficiency of the economy. To sum up, banks and SME widely agree on the possibility of pro-cyclicality, but there are some opinions from the banking side which do not contribute to this fact. 48 cf. Bruckner/Hammerschmied (2003), p

23 Conclusions 4. Conclusions Our analysis from the interviews with representatives of both banks and SME have indicated how the two most affected parties act and react to the new Capital Accord set by the Basel Committee. Several insights could be obtained based on a methodology which allowed for the analysis of interviews in combination with theoretical reasoning. Basel II is not accurate because it is insecure as how exactly economic agents will act. Nevertheless some tendencies can be summarized: Relating to the customer-bank-relationship the affected parties take the view that an intensification of this relationship is loomed. Especially due to the trend that bank customers have become more critical consumers and the bank loyalty is decreasing. Therefore, an active customer care system and an open and a transparent information policy are becoming important success factors and might lead to a diminishing asymmetric information. Competition can be divided into two fields: On the one hand, there is the competition within the banking sector. Especially for smaller banks the implementation costs due to Basel II might be proportionally higher. On the other hand, the competition between banks to obtain new clients will increase. Besides the fact that companies with an (external) excellent rating are supposed to be able to increase their bargaining power, also tax consultants may assist SME because they are able to provide their clients with additional information, although banks are still the main source of information. Another effect of Basel II is that good debtors (having high solvency resp. creditworthiness) will receive more favourable conditions and vice versa. In general we can say that pricing will increase slightly due to high costs of implementation and for time-intensive customer care. Nevertheless individual weighting of soft facts can strongly affect the pricing. Moreover cross-subsidisation will be lower. We can also detect that because of Basel II alternative forms of financing become more interesting, although the interviewed companies are not very well informed about their possibilities because our selected SME are equipped with sufficient equity. These financing instruments are one way to satisfy the capital needs of the companies by avoiding ordinary bank loans or even the dependency on the bank. But in most cases these products are too big for SME to grant access to capital markets. Relating to our last analysed topic, pro-cyclicality, the real impact will depend particularly on the behaviour of banks, regulating authorities and of SME which cannot forecast accurately because it depends on complex interactions. It is generally agreed that if banks face a worsening of heir 23

24 Conclusions solvency, the terms of a loan will get higher and thus worse for the borrower. Overall we can conclude that SME fear pro-cyclicality, whereas banks do not expect too many effects at all. Not merely related to pro-cyclicality but for all the fields we dealt with we conclude that the future development depends heavily on the strategic interactions of banks and SME. At the moment Basel II may be understood as a kind of cultural shock for the financial system. The implementation of Basel II has to be looked at as a process with different agents and forces involved. The crucial question is how this system will cope with this external regulatory framework and to which extent banks and SME will change their behaviour and, in doing so, transform the financial system. The present analysis was to contribute to a better understanding of the perceptions of banks und SME in order to get a better understanding of how the financial system is going to be transformed with Basel II. 24

25 Sources Sources Literature Bernstein, R. J.; (1983); Beyond Objectivism and Relativism; University Press; Oxford. Bruckner, B./Hammerschmied, H.; (2003); Die neue Baseler Eigenkapitalvereinbarung: Basel II; Manz Verlag; Wien. Bruckner, B./Schmoll, A./Stickler, R.; (Hrsg.); (2003); Basel II Konsequenzen für das Kreditrisikomanagment; Manz Verlag; Wien. Credit Suisse; (2004); Basel II Meilenstein der Bankenregulierung; Zürich. Froschauer, U./Lueger, M.; (1992); Das qualitative Interview zur Analyse sozialer Systeme; Wiener Universitätsverlag; Wien. IFES (Institut für empirische Sozialforschung); (2003); KMU-Studie Basel II; Wien. Janssen, S.; (2002); Auswirkungen von Basel II auf Kreditinstitute und Mittelstand; in Springer Bankarchiv Heft 10/2002; S Klein, B.; (2003); Veränderungstendenzen bei der Finanzierung von kleinen und mittleren Unternehmen (KMU); in: Eichhorn, P/Zimmermann, G. (Hrsg.); Finanzierung des Mittelstandes vor neuen Herausforderungen: Basel II. Schriftenreihe der Gesellschaft für öffentliche Wirtschaft Nr. 51; Baden- Baden. KPMG; (2002); Basel II Risiko oder Chance für österreichische Unternehmen; Linz. Kromphardt, J./Clever, P./Klippert, H.; (1979); Methoden der Wirtschafts- und Sozialwissenschaften. Eine wissenschaftliche Einführung; Wiesbaden. 25

26 Sources Lamnek, S.; (1995); Qualitative Sozialforschung, Band1; Psychologie Verlags Union; 3.Auflage; München. PriceWaterhouseCoopers; (2004); Study on the financial and macroeconomic consequences of the draft proposed new capital requirements for banks and investment firms in the EU; Barcelona. Redak, V./Tscherteu, A.; (2003); Basel II, Prozyklizität und Kreditentwicklung erste Schlussfolgerungen aus der QIS 3, Finanzmarktstabilitätsbericht der OeNB 5; Wien Riess, W./ Schmied, C.; (2003); Alternative Finanzierungsformen; in: Bruckner, B./Schmoll, A./Stickler, R. (Hrsg.); Basel II. Konsequenzen für das Kreditrisikimanagement; Manz Verlag; Wien Schwaiger, W. S. A.; (2003); Basel II Auswirkungen auf den Mittelstand; in: Bruckner, B./Schmoll, A./Stickler, R. (Hrsg.); Basel II. Konsequenzen für das Kreditrisikimanagement; Manz Verlag; Wien Schörner, B.; (2003); Wissenschaftstheoretische Positionen Ein Überblick. Skriptum der FH des bfi Wien. Übelhör, M./Warns, C.; (2004); Basel II Auswirkungen auf die Finanzierung Unternehmen und Banken im Strukturwandel; Pd-Verlag; Heidenau. Further Sources Author unknown; (Der Standard, 2004a); Mittelstand braucht dringend Eigenkapitalkur (article: September 28 th, 2004). Author unknown; (Der Standard, 2004b); Schreckgespenst Basel II zeigt Wirkung (article: October 6 th, 2004). Author unknown; (Handelsblatt, 2004a); Die Bank als Feind (article: July 16 th, 2004) 26

27 Sources Author unknown; (Handelsblatt, 2004b); Zum klassischen Kredit gibt es inzwischen viele Alternativen (article: March 27 th, 2004). Author unknown; (Handelsblatt, 2004c); Klassischer Bankkredit wird immer mehr verdrängt (article: March 1 st, 2004). Personal Interviews with representatives of banks Braun, H.; (2004); personal interview with Harald Braun, account manager for corporate customers in the RAIKA Amstetten ; transacted in Amstetten on October 10 th, Geberth, J.; (2004); personal interview with Johannes Geberth, Austrian Corporate Customers in the RZB ; transacted in Vienna on November 5 th, Kaiser, F. und Graf, W.; (2004); personal interview with Franz Kaiser, Key-Account- Manager, and Wolfgang Graf, Filial Key Account Manager in the BAWAG PSK Group ; transacted in Vienna on November 9 th, Propst, K. und Huber, H.; (2004); personal interview with Kurt Propst, area director for commerce, and Heinz Huber, risk manager in the Sparkasse Korneuburg ; transacted in Korneuburg on October 10 th, Prutky, H.; (2004); personal interview with Herbert Prutky, Senior Risk Management Poland in the BA-CA ; transacted in Vienna on October 29 th, Schittenhelm, Chr.; (2004); personal interview with Christoph Schittenhelm, account manager for corporate customers (ICU) in the RLB NÖ-Wien ; transacted in Vienna on November 9 th, Spalt, B.; (2004); personal interview with Bernhard Spalt, area director for risk management in the Erste Bank AG ; transacted in Vienna on November 5 th,

28 Sources Weigl, A.; (2004); personal interview with Alfred Weigl, account manager for corporate customers in the BAWAG PSK Group ; transacted in Vienna on October 10 th, Personal Interviews with representatives of SME Gruber, J.; (2004); personal interview with Jürgen Gruber, director of the financial department of Obersteirische Molkerei GmbH ; transacted in Knittelfeld on October 21 st, Lugner, A.; (2004); personal interview with Andreas Lugner, owner and head of Ing. Lugner Bau GmbH ; transacted in Vienna on October 10 th, Müller, P.; (2004); personal interview with Peter Müller, unlimited partner and owner of Elektro Gönner KG ; transacted in Vienna on October 20 th, Petermann; (2004); personal interview with Petermann, director of the financial department of Do & Co ; transacted in Vienna on November 15 th, Pfingstgräf, G.; (2004); personal interview with G. Pfingstgräf, owner and head of G. Pfingsgräf GmbH ; transacted in Vienna on October 15 th, Steiner, R.; (2004); personal interview with Rudolf Steiner, owner and head of BEST Boutique ; transacted in Judenburg on November 5 th,

29 Appendix Appendix A. Progress of work Objectives The main objective of this BASEL II seminar was the practice and application of quantitative and qualitative research methods. Furthermore the generation of knowledge in the field of BASEL II for both students of BAFI-V5 and the internal FH- Plus project. Process Our project started with the formation of groups with different tasks as following: Group A prepared an overview of quantitative and qualitative research methods to establish a theoretical basis for the ongoing process. Group B was assigned to define crucial questions about the topic BASEL II. At the same time group C was working on the research of already existing secondary data. On basis of the work of group A C the next step by group D-E was the selection of suitable interview partners within the field of Austrian banks and SME, the organisation and accomplishment of the interviews. The task of group F was to analyze the results of the interviews and to incorporate the findings of group C. Finally group G put all the information received together and composed a seminar paper. During the whole seminar group H guided, coordinated and documented the entire process. Moreover group B, C and D-E were divided into two divisions: one group was specialized on the investigation of banks and the other dealt with the special purposes of SME. 29

30 Appendix Timetable The project started in the mid of June with the formation of the groups and the selection of the topic. The groups A, B and C finished their work in the end of October but they supported the following groups further on. After that group D-E conducted the interviews and was finished by the end of November. Based on this material group F analyzed the interviews and was finished by the end of the year. Intersecting with group F group G started summarising the results before Christmas. Group H accompanied the project from the beginning in June until the end of January. Members of working groups Team A Group 1 Group 2 Anderle, Wilhelm Fidesser, Stephan Böhm, Werner Rößler, Alexander Team B Team C Team D & E Team F Team G Team H Götz, Lukas Hanl, Florian Motamedi, Achim Berer, Bettina-Maria Milabersky, Manuela Schmidt, Bettina Hartig, Maximilian Heschl, Stephan Hutterstrasser, Michael Jatschka-Eppel, Michael Amtmann, Michael Bulgarini, Lukas Caj, Hannes Kleinschuster, Helmut Alber, Aaron Wieser, Eva Zach, Katrin Ratzberger, Michaela Wallner, Johanna Aigner, Andrea Kocher, Eva-Maria Kozyga, Julia Lehner, Silvia Fiby, Mirella-Naomi Taferner, Michael Zupancic, Alexander Hadjiivanov, Kamen Novotny-Farkás, Daniel Varch, Christian Wolf, Georg Zabinsky, Stefan 30

31 B. Methodology Appendix Our first problem was to decide which methods of research should be used. The questionnaire had to be designed in a way that the results obtained can be clearly divided from those already existing. Thus the group carefully studied the information and literature to get an idea on what this report should focus. One group was engaged in giving us a detailed overview about the literature already existing and another tried to find out questions which fulfilled the requirements of being innovative. An extensive analysis of both methods let us decide to use qualitative research as preferred method for our requirements. As for our own questionnaire we included elements of quantitative research but particularly of qualitative research. Design of questionnaire Our questionnaire contained elements of both methods. The first part was designed in a quantitative way to find out a basic attitude of the two sides that were interviewed. We therefore used statements that are more or less state of the art to find it either confirmed or not. Typical examples include the following: Do you believe that the entrepreneur s relation towards the banks will be changed due to Basel II? Do you think that alternative financial instruments will gain more importance in the future? As you will recognize by these samples, we tried to find out what the managers of the companies expect in relation to Basel II concerning already existing theories. For a given series of fixed opinions this method is definitely more convenient. The people asked could range their preference from 1 to 4 (an equal number of choices forces the interviewee to decide toward one direction), so that in the end we hopefully obtained an obvious trend. We also focused attention on the qualitative side of the interview, which was very time-intensive, but by far more interesting. Qualitative interviews require high social competence, a good relationship and a good feeling which questions you should ask, but the results therefore are more accurate (due to the possibility of asking not just simple questions) and highly valuable (because you can also record nonverbal 31

32 Appendix communication and other details except the interview content). We have therefore created three main parts which are Information, preparation and requirements Chances and risks Effects Questions that were included focused on personal experience as well as personally taken actions to confront the new challenges. We tried to find out what kinds of expectations the managers have concerning the near future. We also wanted to know how the new regulations might affect their enterprises in conjunction with the movements of the business cycle. Our main target was to find out a very personal view of Basel II, then deriving hopefully new aspects which have been neglected in the actual discussion. Typical questions that were asked are the following ones: Which concrete steps did you take to prepare yourself for Basel II? Do you see any chances and risks concerning Basel II? Do you expect alternative instruments of financing to come up in the next future? The interviews were recorded originally and then analysed in a very detailed way. There are two ways of analysing the obtained material. First, you can take the whole interview, listen to it, and find out a rough interpretation of the content. Second, you can divide the whole interview in shorter parts and make a very detailed analysis. The advantage of the second method is that you deal with the material in a very fundamental and precise manner that allows you to be very objective and distanced but it is very time-intensive. In accordance with the positive effects of this detailed way we decided to do it like this. This so called sequence analysis gives you the possibility of gaining a so to say mathematical view on the words and find out as well contradictions. The next chapter will give you a short introduction on how you approach the content of an interview, and furthermore, how you can analyse the received material in a correct manner. 32