Strengthen credit creation

Updated: Aug 5 2005, 05:30am hrs
Adequate and timely credit flow to the small sector continues to be an area of concern. The share of SSI credit from scheduled commercial banks declined from 14.6% in FY 1998 to 8.6% in FY 2004. The declining trend in bank credit to the sector since FY 1999 is despite liberalisation in the definition of SSI credit. Banks SSI credit data includes investment made by banks in special bonds issued by Sidbi, SFCs, bank loans to venture capital funds/ NB-FCs, deposits by private banks with Sidbi etc. If this indirect assistance is excluded, bank direct credit flow to the sector would not be too significant. This explains the drastic fall in the number of SSI accounts with PSU banks, from 32 lakh in the mid-90s to 16 lakh in FY 2004.

Further, this indirect assistance has not resulted in a corresponding rise in SSI credit from non-bank institutions. This unusual slide in bank/FIs credit channels to the sector since the late 90s reflects a downward shift in their SSI credit risk appetite.

More than the shifts in bank credit channels (BC), the downward shift in credit-risk appetite in non-bank credit channels (NBC) consisting of heterogeneous entities, such as NBFCs, trade creditors, indigenous money lenders, finance firms, etc. is having a greater impact on SSI credit availability.

Higher credit-risk perceptions in BC and NBC feed on each other as credit from different sources form an inter-dependent relationship. NBC is an essential part of financial intermediation as a high proportion of savings, investment and credit in the economy is still managed informally. According to the third SSI census, 4.6% of the units had loan outstandings with banks/FIs.

Credit supply side shifts were triggered by a string of adverse developments in the financial and economic world whose cumulative impact on liquidity and consequent risk-aversion to credit were of systemic proportion. These developments include the meltdown of NBFCs in FY 1998, rise in defaults/ delays in payments in company deposits, unfavourable external developments, losses suffered by investors due to the securities scam, failure of a large number of projects in the post-liberalisation period, spurt in NPAs etc.

Financial markets tend to lose liquidity rapidly during periods of disruptions in the financial system and crisis of confidence. Negative experience of many depositors/investors/creditors etc result in deterioration in perceived credit-worthiness in the minds of many creditors. This impacts SSIs more, as in the absence of reliable accounting and other business information, credit to this sector is dependent on gut feel and risk sentiments. Negative perceptions affect financial flows in NBCs, impacting its financial intermediary role.

With the fast-vanishing fear of socio-business stigma on credit default/bankruptcy and the consequent fear about borrowers dishonest behaviour, there is a cautious approach to dispensing credit. This propagates a growing preference for cash sales.

SSI credit from BCs is also constrained by higher margin and collaterals, legacy woes of NPAs, accountability syndrome and the consequent play-safe attitude.

Various expert committees have focussed on bank credit without considering the critical role played by NBC and mutually inter-dependent role of both in financing the sector. This has resulted in an incomplete diagnosis of the problems. A better understanding of systemic consequences of weaknesses in NBCs since the late 90s and their impact on deterioration in risk perception about SSI credit permeating both BCs and NBCs is needed.

Today, credit carries higher risk of bad debt, delays, uncertainty and even possibilities of spoiling business relations. Strengthening of credit creation capacity, confidence, trust and integrity of the credit system are absolutely essential for the resurgence of the SSI economy. Besides strengthening creditors rights, trade and industry may need self-regulatory organisations to enforce credit discipline. To ensure credit availability to all sectors, there is a need to develop/strengthen a diversified network of financial intermediaries/products.

Further, for facilitating access and integration of SSI into global supply chains, besides credit, a supportive structure and collaborative efforts are needed to bridge the gaps in business information, commercial intelligence, supply chain management, technology etc.

The writer is DGM, Small Industries Development Bank ofIndia (Sidbi). These are his personal views