Impact of public guarantees on optimal debt levels following the COVID-19 pandemic: efficiency in their allocation

Abstract

The COVID-19 pandemic triggered a sudden drop in companies’ sales and turnover, which resulted in serious liquidity and solvency problems. In an effort to cushion these unfavourable effects, a credit guarantee plan was launched in 2020 by the Spanish Government to mitigate the effects of COVID-19 by injecting firms with liquidity. This paper seeks to analyse the impact of this public policy on SMEs’ optimal debt levels and to examine whether the allocation of this public funding has been efficiently targeted at those SMEs suffering temporary distress as a result of the pandemic. Based on a sample of 3,305 Spanish SMEs, our results show that the government’s interventionist policy swelled excess debt levels–mainly due to the increase in excess long-term debt–and deviated them from the optimum. Moreover, although these public guarantees should mostly have been aimed at SMEs experiencing a temporary decline due to COVID-19, we find that these SMEs were the least likely to receive liquidity injections.