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Steve BoxSteve Box, International CEO at BFS, discusses why falling interest rates could be a risk to the economy and SMEs.

Never mind the productivity puzzle, another macroeconomic problem looms over the global economy. In August, ratings agency Standard and Poors released a report which analysed the impact of sub-zero borrowing costs. The report found that almost 500 million people are living under negative interest rates. Central banks in Denmark, Switzerland, Sweden and the Eurozone have all set rates in the negative.

While lower borrowing rates are, in theory, good for businesses looking for funding, such loose central bank activity carries its own risks. The biggest headache for policymakers and bank chiefs is that borrowers could become dependent on the credit binge. Standard and Poors warned that low rates could create a “feedback loop”, encouraging excessive risk, sowing the seeds of the next crisis, which would require even further central bank stimulus.

For SMEs, however, there have been some positive outcomes from lower interest rates, especially in Europe. The European Central Bank (ECB) reported that, during October 2015 and March 2016, SMEs considered access to finance the least important problem that they faced with results showing this concern was 10% down on the previous study.

This could be a sign that negative policy rates are working to coerce banks to lend more. Furthermore, in recent years SMEs have become more aware of the range of options available, spreading their gaze beyond high street banks and accessing alternative forms of finance which are – often – better suited to their businesses. PwC reports that the market for Asset Based Lending has grown by 33% since 2006 as a result.

However, the ECB also found that finding new customers was a problem for SMEs, with more than a quarter highlighting this as the main challenge they face.  This lack of demand prompted another round of ECB quantitative easing earlier this year with bond purchases worth €80 billon, as demand remained weaker than expected. For now the policy seems to have a trickledown effect as credit conditions have since improved.

The latest figures show that growth in the Eurozone economy slowed in the three months to June, having accelerated in the first quarter. But the European Purchasing Managers Index suggests the economy is on track to grow at a similar pace in the third quarter  to reach 1.7% in 2017 .

However, there is a lingering concern that further stimulus may be needed if the Eurozone continues to face headwinds from Britain’s decision to leave the EU. The risk for European SMEs is that, unless policy makers are careful, a prolonged negative rate could lead to an increase in lending but a decrease in the amount of credit available to SMEs. This would be a disaster for businesses that need additional credit to meet their growth objectives. So far it is as if the ECB is treating their sick patient with the same medicine and expecting a different result. There is some effect but the fundamental condition of the European patient remains ill.

Whilst quantitative easing has ultimately led to better credit conditions for lenders, the Eurozone needs further structural reforms to prevent another crisis from happening. Policymakers will need to look long and hard at the future progress of the capital markets union.