Powering MSMEs: An Agenda for Growth

According to Nobel Laureate Professor Paul Krugman, Productivity isn’t everything, but, in the long run, it is almost everything. A country’s ability to improve its standard of living over time depends almost entirely on its ability to raise its output per worker.”

India’s productivity growth is pale in comparison with its peer countries over the last 250 years. Limited free markets, rigidity of factor markets and the eventual low levels of total factor productivity are all responsible for India’s mediocre performance. To reverse this low-performance trajectory, we need to focus on prescriptions to uplift the micro enterprises because these firms dominate the Indian business landscape, and their success has far-reaching social and economic consequences. 

A distinct fact is that most micro-firms never grow into small, medium, or large firms and act as a drag on overall productivity levels. Our analysis of the latest data from the Annual Survey of Industries, conducted by the Ministry of Statistics and Programme Implementation (Government of India), and OECD finds that the net value added per person employed for micro firms stands at US$ 1,600 in India compared to an average of around US$ 30,000 for Rapid Reformers (including Croatia, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Slovakia, and Slovenia).  Two critical challenges that have consistently emerged for Micro, Small and Medium Enterprises (MSMEs) over the last decade are ‘access to finance’ andaccess to markets.’ 

Access to Finance

One out of every three MSMEs in Dun & Bradstreet’s survey conducted last October and November consider access to finance as a top challenge in scaling their business. The outstanding value of MSME loans from commercial banks as a percentage of GDP stands at 6.4% in India against 10.9% for Rapid Reformers and 16% for the Asian Tigers (Singapore, South Korea, Taiwan, and Hong Kong), according to the 2019 data from the IMF. The significant obstacle they cite for securing finance is lack of or low credit scores. This financing challenge impacts them in two ways: 

  • High-interest rates: As per the research and 2018 data from the OECD shows that real interest rate for MSME loans is 9.1% in India against 0.7% for Rapid Reformers and 2.8% for Asian Tigers. Further, the interest rate spread between MSMEs and large companies is 4.7% in India against 0.7% for Rapid Reformers, despite lower default rates in India’s MSME segment. Unweighted average Non-Performing Asset (NPA) levels for the MSME segment in India is 12.7% compared to 19.1% for large companies for the quarter ended December 2019, as reported by TransUnion CIBIL. 


  • High Collaterals requirements: In the absence of credible information regarding the borrower’s credit history, lenders often rely on personal relations and soft information to determine the borrower’s creditworthiness, which results in complex and lengthy procedures and high collateral requirements. MSMEs cited the latter as the second biggest challenge in getting access to finance.

Rapid reformers have been able to achieve comparatively favorable terms of credit than India by implementing market-oriented initiatives. Among other things, these initiatives include:

  • Strengthening credit reporting mechanism. On average, private credit bureau and public credit registry coverage stands at 94% of the adult population (≥15 years) for Rapid Reformers (excluding Croatia and Estonia), and 87% for BRICS nations (excluding India) compared to 63% in India, according to the latest data from the World Bank.
  • Improving insolvency regime. Rapid reformers rank 34 on the insolvency regulatory framework parameter under the World Economic Forum’s Global Competitiveness Index 2019; BRICS nations (excluding India) rank 33, and India 88. 

The initiatives mentioned above have resulted in a decline in interest rates, a reduction in the proportion of loans requiring collateral, and an increase in the maturity tenor. 

We witness Indian micro-enterprises with access to external finance report a 19% Return on Capital Employed compared to only 2% for micro-enterprises without equal access. Therefore, financing such enterprises is a vast opportunity for creditors. By partnering with trusted advanced analytics service providers, financial institutions can fill up the white space in the MSME credit market. A private label credit card company could automate 80% of its credit decisions, reduce bad debts by 25%, and improve collection efficiency by nearly 20% through custom analytic models. 

Access to Markets

Four out of every ten MSMEs consider access to markets a top challenge in scaling up their business. The major obstacle in expanding market access for MSMEs is information asymmetry. This inference is corroborated by other surveys, too. For example, about 45% of Indian MSMEs said “finding business partners” was the biggest challenge in selling to foreign markets, according to the 2019 Future of Business Survey, a joint initiative by Facebook, OECD, and the World Bank. The latest data from the World Bank shows that, less than 1% of MSMEs in India are engaged in direct exports compared to 17% in Rapid Reformers, suggesting that Indian MSMEs have a low level of participation in global trade. Understandably, this has emerged as a significant challenge given the financial and legal risks involved in partnering with other businesses. 

The key to successful globalization is to harness technology and data to achieve the ‘single customer view’ needed to expand a business while mitigating compliance risks. In our experience over 80% of MSMEs that did not use any marketing or sale intelligence tools felt access to global markets was not easy. 

Business linkage data helps in staying on the right side of corporate compliance, strengthening the understanding of a target market, and opening up cross-selling and upselling opportunities. A study commissioned in 2018 to evaluate data activation practices across the B2B space found that, on average, 73% of companies that are leaders in using data to gain new insights reported an increase in their sales cycle, average deal size, and customer lifetime value. By contrast, on average, only 40% of companies used data but not as extensively as did the leader companies reported an increase in the above marketing metrics.

One of the best ways for MSMEs to boost their credibility in international markets is to get their business vetted by a neutral third party. This approach directly addresses the problems of information asymmetry discussed earlier. MSMEs whose credibility was rated found it easier to expand their business overseas, obtain favorable credit terms, and on average, have doubled their net sales growth.

To conclude, MSMEs that scale up in size have a considerable positive impact on employment creation, innovation, and export competitiveness of an economy. Fostering MSMEs that have growth potential but are constrained by the above-discussed challenges will enhance aggregate productivity, narrow wage gaps, facilitate upward mobility, and result in a more equitable distribution of national income. Hence a tide of meticulously crafted initiatives that ease MSMEs’ constraints will lift all boats and not just some. 



Views expressed above are the author’s own.


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