The Forum of Private Business is urging the European Commission not to force the UK’s part-nationalised banks to abandon more than two million of their small business customers.

According to reports, the Commission is preparing a ruling under which Lloyds TSB and the Royal Bank of Scotland (RBS) will each be required to shed 10 per cent of the small businesses on their books in order to avoid contravening its ‘state aid rules’. The final decision will be made by the EU’s Competition Commissioner Neelie Kroes.

In October 2008 the Commission published new guidelines relaxing the rules governing the state funding of financial institutions, which are imposed to avoid distorting competition across the EU. State aid can be provided for ‘as long as it is necessary to cope with the current turmoil in financial markets’. However, it must avoid ‘unjustified benefits for shareholders of financial institutions’.

The UK has injected £37bn into three of the country's largest financial institutions in the past 12 months. Along with its subsequent Enterprise Finance Guarantee (EFG) scheme, the move was designed to stimulate the flow of credit to consumers and businesses at a time banks are trying desperately to recapitalise.

Yet the FPB’s research shows that, despite recent indications of marginal improvements, access to commercial finance has plummeted during the past year.

Despite relatively high levels of optimism about future growth, an overwhelming 77 per cent of respondents to the FPB’s latest quarterly Referendum survey reported seeing the terms and conditions of lending deteriorate in the last year, with many being forced to provide more security to cover their current lending levels.

Just four per cent of FPB members said they had seen access to working capital improve in 2009, with 58 per cent believing it had worsened.

Of those surveyed, 65 per cent said it was harder to access finance for growth and 68% said the cost of finance had increased.

When asked how the issue of finance could be improved, 36 per cent of small business owners said they wanted to see a reduction in the cost of lending.

Further, 27 per cent said greater flexibility in negotiating and adapting terms and conditions to meet the changing needs of their business would be welcome.

Earlier research from the FPB shows that, at 6.5 per cent, average interest rates for both loans and overdrafts remain well above the 0.5 per cent Bank of England base rate.

It is believed the Government is probing the lending mechanisms of Lloyds TSB and RBS amid criticisms that both banks are pricing corporate loans at unrealistic levels.

Ministers have also extended the scope of the EFG to cover overdrafts and invoice financing arrangements, as well as loans, in an attempt to ensure that UK bank lending meets its targets.

The banksare reassessing how they manage their lending portfolios, and holding them to the letter of the European Commission’s state aid rules would mean small firms bearing the brunt of competition law. The FPB believes that sacrificing these firms would unfairly punish them for the actions of the banks and significantly undermine economic recovery in the UK.

“Our members are telling us that the banks are dragging their heels and driving up prices when it comes to lending to small businesses,” said the FPB’s Policy Representative Matt Goodman. “This is despite the Government bailing them out at record levels and underwriting lending via the EFG. But it would not be acceptable to allow two million small businesses to be cut adrift in retribution for contravening European State Aid Rules. The European Commission must demonstrate understanding for businesses on the ground as well as the financial markets.”