Kamalamma has been in the business of manufacturing uniform accessories for Karnataka Police for over two decades. Her model is profitable, and she can scale up her staff from six to 20, if she gets additional working capital. Despite her best attempts, she couldn’t get bank funding because she didn’t have any collateral. A loan from NBFCs is not an option due to the high interest rates.
Such stories abound of deserving small and medium enterprises (SMEs) whose growth and ability to generate employment are impaired for want of credit. While MSMEs are critical for employment generation, the credit flow into the segment remains abysmally low. An estimated 15 per cent of MSME debt demand is funded by the formal financial sector and only 32 per cent of MSMEs are served by financial institutions.
Credit Guarantee Schemes (CGSs) offer government intervention to unlock finance for SMEs. A CGS provides third-party credit risk mitigation to lenders through the absorption of a portion of the lender’s losses on the loans made to an enterprise in case of default, typically in return for a fee.
In 2000, the government put in place the Credit Guarantee Fund Trust for Micro and Small Enterprises (CGTMSE), promoted by the Ministry of MSMEs and SIDBI. Till March 2021, CGTMSE cumulatively accorded guarantee approvals for ₹2.6 lakh crore to a total of nearly 66 lakh accounts, under guarantee schemes, which indeed is significant.
But despite this achievement the reach is poor, driven by factors such as poor unit economics for bigger lenders, low levels of formalisation of enterprises, a high level of information asymmetry between enterprises and lenders, and an incentive system that favours risk aversion of the lending officers. Though CGS itself may not be a panacea, it could be leveraged more effectively to speed up the credit flow to unserved segments.
The Budget has indicated that the CGTMSE, set up to catalyse the flow of institutional credit to SMEs, will be revamped with necessary funds. While this is a welcome move, more funds alone may not be the solution.
This fund could benefit from the following factors:
(i) a sharper focus on learning the credit profiles to create lending solutions with agility, and aim to amplify successful solutions in the ecosystem;
(ii) A comprehensive measurement tool to assess the strength and weakness of the key links of the value chain;
(iii) Deeper engagement from private sector and MSMEs in the program for learning and quicker adoption of successful outcomes.
Correspondingly, the following considerations may be pertinent:
‘A Test and Learn’ Framework with focus on ‘New to Credit’ SMEs: Given the general apprehension that SME loans are risky, bankers seek collaterals. Several Fintechs /NBFCs have solutions that provide for other viable models. Based on their success they can be scaled.
3-5 per cent of the overall trust fund can be set aside for a ‘‘test and learn’ initiative, wherein a set of ‘sand boxes’ can be designed with promising partners to expand lending.
A mechanism may be framed to allow people/consortia to come forward with specific proposals to avail this. Unlike the rest of the fund, this pool may have expanded risk appetite to test new-age solutions. The mechanism could be operationalised through a set of Member Lending Institutions (MLIs) and branches across the country to cover a statistically significant population to measure the impact.
It is imperative for this framework to have a robust assessment and measurement tool and a mechanism to share the key learnings from these ‘sand boxes’ with the broader ecosystem. This could enable wider participation from the private sector.
Comprehensive Tracking and Measurement Mechanism: Currently, the prerogative of extension of credit guarantee to a MSME borrower remains with the branch functionaries and lacks transparency for oversight/review by the MLI’s higher authorities. Also, there is no mechanism to assess the demand for credit guarantee in the sector. CGTMSE could evolve a suitable tracking system to help MLIs review cases that are denied CGMSTE cover by its branches and also capture the data regarding the need for CGTMSE-backed assistance in the sector.
Such an initiative, will sharpen the understanding of the prospects and geographies, and enable focus on the weak links in the lending process for targeted interventions.
Deeper Engagement with the Broader Ecosystem: For SME lending to open up at a faster pace, early and deeper engagement with a broader set of stakeholders would help. Whilst the above two recommendations would be helpful regarding borrower insights and newer lending solutions, it would be prudent to involve private sector lenders and borrower representation in the governance and advisory of the programme. This would also enable early adoption of solutions and help them scale.
These three measures can go a long way in discovering a battery of solutions that can scale, debottleneck the clogs that stymie the credit flow, and help figure a more effective incentive system that could be a win-win, rather than pitting the lender and the borrower against each other.
The writers are advisors at GAME-Global Alliance for Mass Entrepreneurship.