Despite an elaborate and dynamic policy framework, the road to the next level for MSMEs continues to be hindered.

Globally considered as the driver of all economies (developed & developing) and a medium for promoting equitable development, SMEs in India contribute significantly to the manufacturing output, employment and exports of the country. According to the 4th All India Census by GoI, Ministry of MSME, it is estimated that in terms of value, the sector contributes 45% to manufacturing output and 40% to total exports. The sector is an umbrella for around 30 million units and is the biggest employment provider after agriculture; providing employment to 59 million people (2006-07), which is supposed to grow to around 70 million by 2010. However, the sector is still suffering from some fundamental problems.

Of all the problems faced by MSMEs, non-availability of timely and adequate credit at reasonable interest rates is the most significant. Despite its commendable contribution to the nation’s economy, SMEs do not get the required support from the concerned government departments, banks, financial institutions and corporates, which hampers its competitiveness in the national and international markets. One of the major causes for low-availability of bank finance is the high risk perception of the banks in lending to SMEs and consequent insistence on collaterals (despite strict RBI guidelines not to insist upon collateral against a loan), which are not easily available with these enterprises. Manas Kumar Nag, CGM-SME, SBI, adds another perspective to the problem, “Generally, SMEs coming for loans are not aware of their financial position, which leads to lack of transparency and hesitation from our side.” The problem is most acute for micro enterprises and first generation entrepreneurs requiring small loans.

In India, the situation is further complicated by the fact that the preferred mode of finance is either self or other sources. According to the MSME Annual report 2009, more than 85% SMEs source finance either through the self-finance route or are unable to get funds, while only around 15% of the total approach financial institutions and non-institutions like moneylenders. In addition to the above, the government has recently emphasised on the importance of ‘credit rating scheme’ to help smoothen the loan facility process by banks and financial institutions for the SMEs. Under this scheme, the credit rating agencies assess a company’s credit worthiness and give it a rating which is widely accepted by the financial institutions. This certainly helps SMEs by facilitating hassle free flow of credit. To add to it, the government reimburses 75% of the fees charged by the rating agency subject to a ceiling amount. T. R. Bajalia, Executive Director, IDBI Bank says, “Credit agencies have played a vital role as we wel
come independent and reliable credit assessment. As credit agencies have done due diligence for an enterprise, it lessens our work and fastens the entire loan granting process.” Still, MSMEs are facing a lot of trouble as most of them are not aware of this credit rating facility. And it's clear from the fact that only 1.5 million of the 30 million odd MSMEs are registered in the country.

Micro finance is another booming industry, which directly comes to the rescue of the MSME sector. In India, micro-credit programmes are run primarily by NABARD in the field of agriculture and SIDBI in the field of Industry, Service and Business. In case of programmes in partnership with SIDBI, the institution accepts security deposits from MFIs (Micro Finance Institutions)/NGOs and in lieu of the deposits (25% by the MFI/NGO and 75% paid by the government) doles out loans to MFIs/NGOs. The cumulative loan amount provided by the Government of India so far under these schemes stands at Rs 12.99 billion (March 31, 2010) benefiting around 2.021 million individuals.

However, the lead sources of funds in the micro-finance space in India are global Non–Profit Organisations (NPOs) like Unitus and the Grameen Foundation-US. Overseas funding had dropped from 31.4% in 2002 to 25.8% in 2005 after the government imposed regulatory restrictions external commercial borrowings (ECBs) as it was the cheapest loan provider for the MFIs charging a minimal interest of 2% to 6%. However, after the removal of the restrictions in 2005, in flow of funds through this route has flourished like never before. But in the mean time, usage of domestic funds too have surged notably. According to a CRISIL study, while the share of traditional sources of funding like NABARD and overseas funds dropped from 63% to 59%, MFI borrowings from banks have more than doubled from 13% to 28% in 2005, mostly due to the removal of interest rate ceiling on MFI loans and declaration of treatment of the sector as a priority sector lender.

Despite easing of restrictions, MFIs continue to face major problems. And the biggest of the lot is the financial viability, which refers to maintaining the operational costs of running small-scale firms. MFIs have always been criticised for charging high interest rates to lenders (SHG’s charging 24% to 36% per annum). But then, the average borrowing costs are already at a high (12% in 2005). Thus, high borrowing costs coupled with high operating expenses (ranging between 4% to 19%) constrain MFIs’ ability to offer competitive rates. Nevertheless, the government has been pressurising them to reduce their lending rates.

MSME sector has always provided the thrust of progress both in the economic and social sense by creating large scale job opportunities, which, in turn, help in reducing regional and rural-urban disparities in terms of growth. Apart from this, it has acted as a shock-absorber during crucial times like the 2008-09 global economic crisis. When developed economies were reeling under complete financial instability, powerful developing economies like India were not affected to that extent, in part due to the strong resilience of MSMEs. India, after all, has largely been a bottom up story; unlike the Chinese. But it need not necessarily stay that way. MSMEs need to be able to fulfil their entrepreneurial ambitions and expand in scale to unleash the next wave of growth, which would be a great boost for the Indian economy as well. For that to happen, it is a must for the capital impediments to be removed.

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