The Government’s wage subsidy scheme has a lot going for it. After a few early wrinkles were ironed out the evidence suggests it has achieved its purpose, helping connect more than a million New Zealand workers with their employer.

The scheme extends to every business that needs it (with “need” defined as projected revenues for any month during the scheme’s 12-week term down 30% compared with the previous year). It applies to all businesses, big and small. Cash is now flowing to businesses at lightning speed compared with the equivalent Australian scheme (under which payments to businesses began only in the last week).

Unfortunately, none of these positive attributes apply to the Government’s other major business support scheme, the Business Finance Guarantee Scheme (or “BFGS”). Indeed, if the BFGS’ objective was to get credit to firms quickly, it was designed to fail.

Small businesses initially overlooked

Last Friday, Minister of Finance Grant Robertson took steps to shore up one of the BFGS’ shortcomings by announcing the removal of the $250,000 minimum turnover requirement for businesses accessing the scheme, while relaxing other restrictions.

Robertson also blamed the banks for failing to meet the needs of small and medium-sized businesses. However, his criticism of the banks was unfair.

The BFGS’ stated objective is to help businesses with cashflow and operating expenses. Under the scheme, the Government is using its balance sheet to offer a total of $6.25 billion in loans to Kiwi businesses. The Government guarantees 80% of the risk, while the banks cover the remaining 20%.

Yet, when launched, the BFGS was blind to the needs of New Zealand’s SME ecosystem. The scheme was only available to businesses with annual revenues exceeding $250,000. This condition effectively excluded all sole traders or those with a handful of staff.

Even more critically for small businesses, the BFGS only applies to bank lending. Yet non-bank lenders such as Motor Trade Finance, Avanti Finance and ANZ-owned UDC Finance fund between a third and a half of New Zealand’s 500,000-odd businesses. The customer base of these non-bank lenders is primarily SMEs which, collectively, employ over 600,000 Kiwis.

Restricting the application of the BFGS to banks – and excluding the non-bank sector – precluded many sole trader businesses and a considerable number of other SMEs from accessing the BFGS.

The decision to extend the BFGS to small businesses is welcome. But the minister was wrong to blame the banks for the Government’s earlier oversight and he has not gone far enough in extending the BFGS to crucial non-bank lenders.

A fundamental flaw

The BFGS has an even more significant shortcoming. In setting the rules for bank lending, the Government has insisted banks apply their “normal credit assessment processes.” Yet there is nothing “normal” about a Government-enforced Covid-19 lockdown.

Businesses face three primary costs: labour, land and capital. The wage subsidy scheme helped with the first. But until last Friday’s interest-free loan scheme for small businesses, the Government had done nothing to help businesses forced to close by Alert Level 4 regulations from the principal ongoing costs of the latter two: rent and interest costs.

Consequently, businesses have seen both revenues and cash reserves consumed by costs. Even when offered deferred terms by landlords or lenders, most businesses’ balance sheets will have been badly disfigured. With consumer demand also impaired by the Covid-19 crisis, there will be nothing “normal” about forecast revenues either.

If businesses’ balance sheets are broken and revenue projections are poor, the Government cannot expect the BFGS to achieve its objectives if it requires banks to apply “normal credit assessment processes.” The scheme is simply a formula for frustration.

It will satisfy neither businesses looking for relief nor a Government looking to support the economy. And as custodians of a flawed scheme, the banks have been unwittingly cast in the role of villains. It is they – not the Government – who must make life-and-death decisions over which businesses can survive the “normal credit assessment” judgment. And when businesses fail to leap this hurdle, the banks will be blamed when it is the scheme that is at fault.

A better way?

The Government could have avoided these pitfalls by offering earlier emergency finance, for instance.

Switzerland unveiled its package of emergency loans to support small businesses on March 25. In its first week of operating, it disbursed more than $25 billion to 76,000 businesses. Capped at $850,000, the loans required only a one-page application form. By contrast, the New Zealand Government is playing catch-up.

But fast, emergency finance to meet immediate liquidity problems does nothing to mend balance sheets damaged by the lockdown. To do this, some form of “make good” payment is needed to compensate businesses for losses suffered from the most extraordinary regulatory intervention the economy has seen since the Second World War.

Economist and former Reserve Bank official Michael Reddell has suggested the Government could underwrite 80% of the revenues of every business in New Zealand. The scale of such intervention would be eye-watering.

More realistic might be a subsidy towards land and capital costs (that is, rent and income) benchmarked off the business wage subsidy. That would go some way to socialising the losses businesses have suffered in the public interest during the lockdown restrictions and to restoring businesses balance sheets. It would also enable more businesses to meet the high hurdle set by the BFGS’s “normal credit assessment processes” requirement.

Short of this, the Government could consider overhauling the BFGS by specifying different credit criteria, reflecting the greater risk of the Covid-19 economy. It could do this by writing into the BFGS rules that banks’ normal credit criteria should be adjusted for the 80% share of the risk assumed by the Crown. Indeed, that may have been Robertson’s intention when he set up the BFGS, but it was not carried over into the scheme’s rules.

Alternatively, the Government could establish a contestable marketplace for the provision of portfolios of Government-guaranteed credit in a way that directly and transparently changes the credit market’s rules for lending to Covid-19 affected businesses. To do this the Government could follow the Crown Infrastructure Partners model and establish a “Crown Credit Agency” to manage the Crown’s exposure under an enhanced version of the BFGS.

Such a marketplace could be built using credit default swaps to both incentivise the banks to lend and create transparent pricing for the Government of the cost of doing so. A more flexible, bottom-up approach, administered by experts who understand credit, would then enable the Government to undertake cost-benefit assessments to evaluate the scheme’s effectiveness on an ongoing basis. Such a scheme would be far superior to the “set and forget” approach of the BFGS.

After moving last week to address the BFGS’s small business myopia, the Government must now address the scheme’s other problems. If it does not, the BFGS is doomed to fail.