Ed Hamilton needs a bank loan to replace some of the equipment at his advertising and design firm. But, discouraged by high interest rates and what he says is lack of support from his bank, he has put that investment plan on ice for now.

Based in peaceful English countryside, Hamilton's Artful Limited is one of the businesses on the frontline of British leaders' battle to breathe life into the struggling economy.

The raging euro zone crisis which threatens to tip Britain back into recession has raised pressure on finance minister George Osborne to support growth. With more public spending off the agenda as he tries to erase a huge budget deficit, he has pinned great hopes on boosting lending to small firms.

Osborne has flagged a credit easing plan that aims to make it easier for small and medium-sized enterprises (SMEs) to borrow and invest, and has promised to unveil more details at his key autumn statement on November 29.

Easier credit would be welcome news for Artful's Hamilton.

There's a couple of things I want to do: upgrade some machinery, some software, he said in his small offices cluttered with purple boxes of confectionery by Cadbury, one of Artful's clients.

(I need) a bit of finance and it's like: how much? What sort of interest? Forget it... If you're going to do that, the last place you would get a loan from is a bank at the moment.

Early this year ministers set lending targets for Britain's top banks in return for legislative restraint in the so-called Project Merlin. Yet many firms still say they are not getting enough help from the banks.

SMEs' lack of finance has also been troubling the Bank of England, and its governor Mervyn King has urged the government to set incentives for banks to beef up lending to credit-strapped firms.

In an effort to encourage investment by businesses and so stimulate growth, the BoE has kept interest rates at a record low of 0.5 percent since March 2009.

But the ultra-low rates have not reached small firms as hoped. Data by the BoE shows that the difference between its interest rates and the higher rates British lenders charge firms for new loans almost doubled between January 2007, before the financial crisis struck, and September 2011.

Lenders have also raised those credit costs relative to the rates at which they themselves borrow from money markets.

Small firms are the hardest-hit, with their costs of credit now much higher than their larger peers' compared to both 2007 and 2009, according to Citi economist Michael Saunders.


High interest rates are not the only problem.

Fear of repricing or withdrawal of existing facilities continued to discourage many small business from approaching lenders altogether, the BoE said in a report last month.

A recent survey by BDRC Continental showed that 15 percent of SMEs had not applied for a bank loan or an overdraft in the previous 12 months but would have liked to. Discouragement was cited on par with the weak economy as a reason for not applying, the independent market research firm noted.

In a poll by Eurostat and Britain's Office for National Statistics (ONS), SMEs said banks were less willing to provide finance and the cost of obtaining it was higher than in 2007.

This negative perception of banks comes partly from the well-publicised rejection rates for SME loans, said John Walker, chairman of the Federation of Small Businesses.

The proportion of British SMEs that were turned down for bank loans quadrupled between 2007 and 2010 to 20.8 percent and was larger than in other major European economies. The share of applications rejected without a specific reason given almost doubled to 15 percent, the Eurostat/ONS survey showed.

There are some sound reasons for banks' reluctance to lend as easily as in pre-crisis times.

They're being told on the one hand to lend more to SMEs, they're being told on the other hand to rebuild their balance sheets. The two do not necessarily go together, said Adam Marshall, policy director at the British Chambers of Commerce (BCC), a business lobby.

More recently, said Business Secretary Vince Cable, usually a fierce critic of the banking industry, the euro zone crisis added to constraints on bank lending.


While the government hopes credit easing is the answer, there may be no quick fix for a rather complex problem.

For a start, banks should repair their relations with SMEs. When it comes to the culpability of the banks, it's really around relationship management, BCC's Marshall said.

Over the past 20 years, banks have reduced the power of local relationship managers to decide whether to grant a firm finance and moved to a more centralised and computerised decision-making system, he said.

The stereotypical bowler-hatted banker was replaced by, as Marshall put it, a 23-year-old ex-mobile phone salesperson.

Artful's Hamilton sounds more downbeat still. They are not managers anymore. All they are is salesmen, they desperately try to sell you any product that you don't want, he said.

Firms' frustration with the way banks make their lending decisions boiled over when the era of cheap and plentiful credit came to an end, Marshall said. If banks invest in improving relations with their business customers, they could unlock some of the depressed demand for finance, he added.

But businesses must up their game, too. Many SMEs lack skill or experience to put together a compelling business plan when they seek finance, business lobbies admit, proposing mentoring and cooperation schemes between large and smaller firms.

For its part, the government is considering buying billions of pounds of corporate bonds. Other options include proposals for the state bond-buying agency to buy up bundles of loans to firms too small to issue corporate bonds on their own.

However, economists have doubts about the practicality of this credit easing scheme.

BoE governor King also said that only banks were in a position to properly assess the strength of companies' businesses and the risks attached to lending to them.

Moreover, it is far from certain that easier access to finance for SMEs would provide the magic cure for Britain's anaemic economy, many analysts say.

The October survey by the Confederation of British Industry, a leading lobby group, showed that by far the biggest worry for SMEs was uncertain demand for their goods and services.

Or, as JPMorgan economist Allan Monks sums it up: An improvement in the global outlook would be the best medicine for UK growth.

(Additional reporting by Keith Weir; Editing by Toby Chopra)