Kirk Hope: Why NZ needs to fill the funding gap

The collapse of many finance companies has left a hole in the funding market. Photo / Northern Advocate

For some time the analysis of the finance company failures has focused on the immediate and devastating impact on investors, and the necessity for tougher regulation - and rightly so.

However, some recent articles on the sector have started to touch on another significant consequence of the failures, that is, the large gap they have left in the funding market, and the potential implications for the economy.

A recent article in the Sunday Star-Times detailed the significant decline in the number of mortgage lenders in the market, and according to the "deep freeze" list on the interest.co.nz website, 59 finance companies have either failed or have gone into moratorium since 2006.

Many of those companies will have been providing funding for New Zealand businesses, funding that will be needed to further grow and develop New Zealand's business base - funding that will need to be sourced from elsewhere.

There are two important questions that have been largely ignored in relation to this gap to date - who or what is going to fill it, and the flow-on effect if it is not filled.

So just who will fill the gap?

If you look at the recent low growth in bank business lending it becomes pretty clear that the banks alone aren't willing or able to make up the difference.

The good news is that contrary to popular belief, there are still a considerable number of strong and viable financiers with long histories outside the large bank sector providing funding to businesses and other borrowers.

These companies differ significantly from those which failed. In the main the failed finance companies were seeking quick growth at high lending margins lending into sub-prime markets such as used vehicle financing, or they provided mezzanine or bridging funding for property developers.

Today, the remainder of the finance company sector is doing some limited commercial property financing, but primarily non-bank financial sector financiers have moved back into asset, equipment, vehicle and some business financing, which provides much greater certainty in cash flow through regular weekly payments.

The Financial Services Federation represents forty such financiers left in the market.

While these companies have "stuck to their knitting" and have the potential to grow and close the funding gap left by their failed counterparts, they do face some significant challenges as a result of the failures.

First, to the extent that they rely on public money, their priority is convincing the investing public that they are worth investing in, that they have sound and robust risk management, plenty of capital and strong business models. The government guarantee provides some "cover" over the period of time that they are working to maintain and restore public confidence.

The second issue faced by finance companies today is the type of business lending they will do to ensure that they can maintain the public confidence that is crucial for them. This inevitably means managing credit risks tightly, pricing appropriately for that risk, and managing cash flow.

The flow-on effect of any failure by today's finance companies to bridge the funding gap created by those that failed is relatively straightforward when you consider the scale of the sector.

Altogether, the non-bank financial sector provides loans in the order of $20 billion to New Zealand households and businesses, for homes, equipment, vehicles and business investment. Collectively, it provides investment, lending or transactional facilities to over 500,000 New Zealanders.

To the extent that the businesses which rely on this finance are unable to access it, they will find it tougher to invest for growth, contributing to a slow grind out of recession for the New Zealand economy.

Combined with New Zealand's poor productivity record, limited access to credit for business investment in key areas such as technology, plant and equipment will lengthen any recovery period.

In this context the Financial Services Federation is committed to ensuring that New Zealanders understand, and have the confidence to invest in, the non-bank financial sector, to provide the funding needed for the sector to make the loans that will play an essential role in fuelling New Zealand's economic recovery.

* The Financial Services Federation is an incorporated society that has represented New Zealand's non-bank financial sector since 1965. www.fsf.org.nz

* Kirk Hope is the Financial Services Federation's executive director.