The delivery challenge in the government’s MSME package

In 2000-01, the Central government launched a scheme for small businesses that did not have collateral such as property and were unable to secure bank loans. Under this scheme, the Centre guaranteed 75-85% of the loan, with the lender bearing the balance risk. In 2018-19, this scheme extended guarantees worth ₹30,168 crore. Till now, the increase in these guarantees had been incremental rather than exponential.

A promise of the exponential came last week. The Union government said it would provide such businesses an additional and full guarantee of ₹3,00,000 crore in the next five months—about 10 times of what it gave in 2018-19. While a liquidity infusion of that size can significantly help micro, small and medium enterprises (MSMEs) thaw the two-month economic freeze, many of the 63.4 million enterprises in the sector were seeking more.

They were hoping for a cash handout, payment of employee wages, or tax waivers. Instead, the government is telling them to borrow some more, albeit on easier terms, to reboot. But past data on MSME lending suggests three challenges in the government’s biggest measure to revive small businesses.

The first challenge is eligibility. Only a small pool of MSMEs will effectively be eligible for this working-capital facility: those that have existing loans. They can now borrow up to 20% more of their loan outstanding on February 29, 2020. Thus, if a business has a loan outstanding of ₹1 crore, it can borrow another ₹20 lakh. A slide in finance minister Nirmala Sitharaman’s presentation on May 13 stated: “45 lakh units can resume business activity and safeguard jobs”.

A unit count of 45 lakh, or 4.5 million, is a fraction of MSMEs in India. According to government numbers, there were about 63.4 million MSME units in 2015-16, accounting for about 28% of the GDP and 30% of India’s labour force.

About 99% of these enterprises have invested less than ₹25 lakh in their business. Most of these ‘micro’ enterprises won’t be eligible for this additional liquidity. There will, however, be a new set of larger firms that will be eligible as ‘medium’ enterprises, following the relaxation in definitional norms.

That brings us to the second challenge: size. Previously, the basis of MSME categorization was investment in plant and machinery/equipment. The ceiling for the ‘medium’ category was an investment of up to ₹10 crore. This has now been doubled to ₹20 crore. Further, a turnover criteria has been added, and the ceiling for ‘medium’ is now ₹100 crore.

This will result in larger firms being considered as MSMEs. They account for a greater share of borrowing in the banking system and could crowd out smaller players for this additional working-capital facility.

Banks, on their part, prefer to deal with a large account than process 20 smaller accounts, and present the third challenge for the latest policy initiative. Even before the Indian economy landed in a corona-coma, credit growth to MSMEs was on the decline. According to a TransUnion CIBIL report, at the bottom end of the MSME spectrum (enterprises with a loan book of below ₹10 lakh), year-on-year growth had dropped from 18% in the December 2018 quarter to 6% in the September 2019 quarter. Similar declines were seen even at the top end of the MSME band.

Part of the reason for this decline was the pull-back from public-sector banks, who have been the dominant lenders to MSMEs. The same TransUnion CIBIL report shows that the share of public-sector banks in MSME loans dropped from 57% in September 2017 to 48% in September 2019. Meanwhile, private-sector banks gained share from 32% to 39%.

Public-sector banks are saddled with bad assets in the SME space. In the ‘medium’ segment, 29% of their assets are non-performing.

It could get worse. The government is now asking them to lend more to MSMEs, and it’s nudging them towards the very segment that is the biggest MSME pain point for public-sector banks. Even the 100% guarantee provided by the government can end up biting public-sector banks at a later date. .

In the absence of due diligence, companies can misuse this facility in collusion with bank-branch officials and politicians. A pile up in bad assets of public-sector banks means they will need more capital, for which they will turn to a cash-strapped government.

The analysis suggests that both MSMEs and banks face big hurdles in availing the new credit facility. How they navigate this landscape till October 31—the last date to borrow—will influence the MSME bounce-back and India's economic recovery.

*howindialives.com is a database and search engine for public data