Dedicated bank for MSMEs to boost credit access

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Dedicated bank for MSMEs to boost credit access

Friday, 22 November 2024 | A S Mittal

Dedicated bank for MSMEs to boost credit access

This new initiative seeks to bridge that gap and stimulate job creation and economic activity by providing MSMEs with the financial support they desperately need

The government plans to establish a dedicated bank to lend directly to Micro, Small and Medium Enterprises (MSMEs) to enhance credit availability in this crucial sector. The industry has called for increased financial support, as current institutions like the Small Industries Development Bank of India (SIDBI) primarily focus on refinancing loans rather than providing direct funding. In contrast, state financial and industrial development corporations do lend directly to MSMEs.

However, many, such as the Punjab State Industrial Development Corporation (PSIDC) and Punjab Finance Corporation (PFC), are experiencing funds crunch and have stopped credit flow. PSIDC gathered liabilities worth Rs 4700 crore, therefore, has not given any fresh loans to any company for the last 16 years. According to an Ernst&Young(EY) report, MSME credit penetration in India is only 14 per cent, significantly lower than in larger economies like the US and China, where the figures are 50 per cent and 37 per cent, respectively. Indian MSMEs face a critical credit shortage of? 25 trillion, indicating a substantial untapped credit market. Increasing lending to MSMEs can stimulate economic activity and create jobs. The proposed establishment of a separate bank dedicated to the MSME sector would help address these direct credit shortages. However, the government needs to finalise various details, such as the bank’s ownership structure, which may adopt a hybrid public-private partnership model. Although large banks operate in the sector, they often struggle to meet the unique needs of MSMEs.

Countries in Europe provide valuable lessons by grouping MSMEs with home loan customers, both considered small borrowers. If the government does not establish a new bank, SIDBI could be transformed into a full-fledged bank focused on direct lending to MSMEs instead of merely refinancing. SIDBI plays a vital role in financing India’s MSMEs and is owned by a consortium that includes the government and major financial institutions. In 2023-24, the National Bank for Agriculture and Rural Development (NABARD) supported the agricultural sector with a loan portfolio of Rs 6.68 lakh crore, with the agriculture sector contributing 18 per cent to the country’s GDP. On the other hand, SIDBI had a refinancing loan portfolio of? 84,000 crore in FY 2023-24, with the MSME sector contributing 30 per cent to the GDP.For micro and small enterprises to grow, obtaining capital remains one of their most significant challenges.

The Reserve Bank of India (RBI) has designated MSMEs as a priority sector and directed banks to allocate 40 per cent of the Adjusted Net Bank Credit (ANBC) to priority sectors, including MSMEs. However, a study by the RBI has found that most banks do not exceed 25 per cent for MSME credit. SIDBI’s future growth depends on how effectively commercial banks fulfil their priority sector lending targets. A report by ICRA warns that if banks successfully meet their quotas, there could be a reduced need for SIDBI’s refinancing services.Challenges: Despite the vital role MSMEs play in the country’s economy, access to adequate, timely, and low-cost finance poses a significant hurdle to the sector’s growth prospects. Limited credit history, insufficient collateral, lack of knowledge about government support, and high borrowing costs complicate access to funding for MSMEs. Unlike large corporations, MSMEs often lack an established track record, making it challenging to secure loans from banks and other financial institutions.

There are 64 million MSMEs in India, with 99 per cent classified as micro-enterprises. Despite global adversities, the sector has helped cushion the economy from shocks. In a nation marked by significant disparities between urban and rural areas, MSMEs contribute to the upliftment of less developed regions, thereby reducing regional imbalances and inequality. The sector provides over 110 million jobs, accounting for 23 per cent of the country’s labour force, making it the second-largest employer in India after agriculture.

The importance of MSMEs to the Indian economy cannot be overstated. They drive innovation, generate employment, and contribute significantly to exports and GDP. By fostering entrepreneurship and supporting large-scale industrialisation, MSMEs play a pivotal role in reducing regional imbalances, uplifting economically weaker sections, and stimulating socio-economic development.

Their adaptability and resilience make them indispensable in the face of economic adversities, ensuring the continuous dynamism of the Indian economy. With a contribution of 27 per cent to India’s GDP, 38.4 per cent of total manufacturing output, and 45 per cent of the country’s total exports, the MSME sector serves as the backbone of the economy.

Global Models to Emulate:

However, the government has launched several initiatives to promote financing for Micro, Small, and Medium Enterprises (MSMEs), including the Credit Guarantee Fund Trust for Micro and Small Enterprises (CGTMSE), Pradhan Mantri Mudra Yojana (PMMY), and Stand-Up India. While these efforts are commendable, the government must ensure awareness of and effective disbursement for these schemes so that more enterprises can benefit. Additionally, the private sector needs to step up and promote MSME financing.

Without public-private partnerships, alliances, and collaborations, MSME financing will continue to face challenges. One pressing issue is the introduction of interest subvention to address high borrowing costs, which range from 10 to 12 per cent. This creates an uneven playing field when compared to countries like China, where the borrowing rate is 3.1 per cent, the US at 4.37 per cent, and the European Union, which averages 5.1 per cent for MSMEs.

In the US, MSMEs can access funding through various federal and state programmes. The Small Business Administration (SBA) plays a vital role by offering loan guarantees and encouraging banks and other financial institutions to lend to small businesses. The Microloan Programmes provide capital for various business needs, including working capital, equipment purchases, and real estate acquisitions. Furthermore, the US government supports MSMEs through grants, venture capital initiatives, and state-specific funding programs tailored to local business environments. This diverse range of financial products ensures that MSMEs can find suitable funding options for their specific requirements.

In European Union countries, MSMEs benefit from robust financial support frameworks facilitated by institutions such as the European Investment Bank (EIB) and the European Investment Fund (EIF). These entities provide funding through intermediaries like banks and microfinance institutions, offering loans, guarantees, and equity financing. The EU also promotes MSME funding through programs focused on the competitiveness of enterprises and small and medium-sized enterprises, which emphasise innovation and competitiveness.In China, the government has implemented several measures to enhance MSMEs’ access to finance through dedicated banks, such as the China Development Bank, which offers targeted lending. Local governments have established credit guarantee funds as well. Moreover, China’s financial technology sector has significantly grown, with online lending platforms and digital financial services providing alternative funding sources for MSMEs.

Way Forward: The inherent challenges faced by MSMEs cannot be overlooked. It is essential to address the issues within the MSME sector that hinder financial accessibility. As recommended by the Parliamentary Committee on Finance, the comprehensive approaches in the US, EU, and China serve as valuable models for India to enhance its financing landscape for MSMEs, improve credit access, and make these enterprises globally competitive.

The government also proposed establishing a Merchant Credit Card (MCC) Scheme for traders and a Vyapar Credit Card (VCC) for micro-units, similar to the Kisan Credit Card (KCC). Under the Credit Guarantee Fund, a scheme to provide short-term loans with interest subvention is still awaited. There is still much work to be done to ensure that all MSMEs can access affordable and timely financing.

(The Author is vice-chairman of Sonalika ITL Group, vice-chairman of the Punjab Economic Policy and Planning Board, Chairman of ASSOCHAM Northern Region Development Council and president of Tractor and Mechanisation Association; Views expressed are personal)

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