ABSTRACT
The burgeoning private sector is playing an increasingly important role in developing and transitional economies. Access to bank financing is critical for this sector to develop. However, lending to private small and medium-sized enterprises (SMEs) in the transitional economies is a challenging task for all banks. Previous empirical studies concur that private SMEs tend to be high-risk borrowers, with an inadequate basis for calculating risk when lending to private firms in transitional economies. The countries’ market and financial institutions and legislative frameworks are often underdeveloped; property rights are not well defined, and private sector legitimacy is not always well protected (Boisot & Child, 1996; Peng & Heath, 1996; Nguyen, 2005). Data on private firms and the general business environment in which they function tends to be unavailable or unreliable. Further, most banks and private firms are newly established, and they have little history of working with each other. Thus, conventional risk management techniques, such as credit scoring or pricing for risk, are of limited use in such contexts. This raises a very basic question: how – in the absence of more robust market institutions and business data – can banks lend to private businesses?
