Industrial Sector Updates – Industrial Policy, Ease of Doing Business, etc.

[op-ed snap] Going beyond the credit requirements of MSMEsop-ed snap


Mains Paper 3: Economy | Changes in industrial policy & their effects on industrial growth

From the UPSC perspective, the following things are important:

Prelims level: Mint Street Memo, RBI

Mains level: Role of MSME sector in India’s manufacturing sector and interventions required for their growth


Various sops for MSMEs

  1. There was a big announcement of support to micro, small and medium enterprises (MSME) by PM Modi last week
  2. Apart from improving ease of doing business, the most important announcements were regarding access and cost of credit
  3. MSMEs can now get in-principle approval for loans of up to ₹1 crore in 59 minutes
  4. Additionally, goods and services tax (GST)-registered MSMEs will get an interest subvention on fresh or incremental loans
  5. Interest rate rebates have also been announced for exporters

Need for special intervention for MSMEs

  1. Any improvement in the sector’s operating environment will help the Indian economy
  2. The share of MSMEs in the country’s gross value added is estimated to be about 32%
  3. It also contributes about 40% to total exports and 45% to manufacturing output
  4. Availability of credit from formal sources has been a problem for the sector
  5. MSME credit is also one of the reasons behind the ongoing rift between the government and the Reserve Bank of India (RBI)

Liquidity crunch and its effect

  1. The share of credit to MSMEs has declined as a proportion of overall bank credit in recent years
  2. A Mint Street Memo, published by the RBI in August, mapped the flow of credit to the sector
  3. While about 90% of credit from formal sources comes from banks, loans extended by NBFCs to MSMEs have increased in recent years
  4. But since NBFCs are now facing a liquidity crunch, it is likely that the flow of credit would have been affected
  5. Credit flow was affected in the aftermath of demonetization, though it subsequently recovered from February 2017

MSME sector is mostly informal

  1. India has a large number of tiny firms that work in the informal sector and do not scale up
  2. More than 90% of MSMEs operate in the informal sector
  3. These firms largely depend on informal sources of credit at higher interest rates
  4. It is difficult for these firms to get loans from banks because they do not maintain proper documents and records
  5. At a broader level, since most firms are very small, besides non-availability of formal finance, they are also not in a position to adopt technology to improve productivity
  6. Further, most firms in the informal sector are unlikely to attract skilled labour
  7. The sixth economic census showed that enterprises on an average employed only 2.24 people
  8. All this has not only affected growth and output, particularly in the manufacturing sector, but also employment generation

Associated hazards of liberal lending

  1. While incentivizing credit flow will help improve activity in the sector, government intervention and directed lending can affect proper credit appraisal
  2. This could not only result in higher NPAs, but also affect the flow of credit in the future
  3. Public sector banks already have significant NPAs in the MSME sector and a push by the government can increase the risk
  4. The Credit Guarantee Scheme for MSME (CGTMSE) run by SIDBI is a growing contingent liability and needs to be examined with urgency

Way forward

  1. What is needed is a simplification of processes so that more firms can access formal finance
  2. Banks should improve their credit appraisal capability to work with firms that are perhaps dealing with a financial institution for the first time
  3. The government should work to improve the overall regulatory architecture that would incentivize smaller firms to scale up

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