Credit to the small-scale sector has been an overriding objective of state policy, irrespective of the political parties in power at the Centre or in the states. Over time, several government departments and the central bank have set up commissions and institutions to remove the hurdles and pace up the flow of credit to the small-scale industry.
Decades of plodding over the trodden path seems to have not borne much fruit. The situation seems to have deteriorated sharply in recent years. In fact, the report of the Committee on Financial Sector Assessment (CFSA), brought out this March, points to both a decline in the share of credit to SSIs and a widening of the credit gap to unreasonable levels.
So the real big question that haunts us now?even as it did some decades ago?is why aren?t the repeated efforts to meet the credit needs of this buoyant sector making much headway? It is equally important to go into the reasons for the growing gap between credit needs and its availability. This is indeed a high-stake issue since SSI is a huge sector, comprising about 12.8 million units, employing 31 million people and producing goods & services worth Rs 5, 85,112 crore (2006-07 figure.)
To get an idea of the extent of the credit problems one has to only look at the Third All-India Census of Small Scale Industries?latest available?done at the start of the decade. The numbers show that of the 2.3 million registered units surveyed in 2001-02, only 1.3 lakh or 17.9% had availed of credit. Out of these, only 1.1 lakh or 14.9% units could have had access to institutional credit. The survey showed that though inadequate demand was the biggest problem causing sickness in the small-scale sector, the lack of credit was next in line, with almost half (48%) of the sick and incipient sick units complaining about a shortage of working capital.
The CSFA report goes a step further and points out that even in cases where credit is available for investment, the loan tenures are far too short to pay off any sizeable investment. Also, the small-scale units do not have access to competitive rates, which are usually reserved for blue chip companies. The practice, in fact, is that when banks lend to SSIs they tend to charge a commission for the additional risks and apply tougher screening measures, which drive up costs.
Consequently, the share of SSI credit in gross bank credit has steadily declined by more than half from 15.5% in 1994 to just 6.5% in 2007. What is especially shocking is that this steady decline in credit has happened even as the sector?s contribution to the gross national product grew from 11.4% to 14.2% during the period.
CFSA made an attempt to gauge the extent of the credit gap by assuming the credit that would have been available if the share of the small-scale credit in total bank credit has remained at 13%, its average share during the 1998-2007 period. The figures show that credit gap expressed as a percent of the actual lending to SSIs has steadily increased from 9% in 2002 to nearly 100% in 2007, the average gap being 69% during the period.
The report cites three reasons for banks? increasing reluctance to lend to SSIs. The first is, banks see them as high-risk borrowers as they have insufficient assets and high vulnerability to market fluctuations and have high mortality rates. Secondly, there are issues related to the high transaction costs, as the small amount of credit used by each unit raises administrative costs. Thirdly, the difficulties in assessing the credit worthiness of the units because of the lack of accounting records or financial statements and enlarging business plans.
The third factor is especially relevant in the Indian context, where the growing sophistication of lending technologies has become a barrier to accessing credit for small units, which are dependent on relationship lending where decisions are based on soft information gathered by the lender on the borrower.
In relationship lending, the banker has personal knowledge of a borrower?s managerial skills and the business strategy of the loanee firms over a period. This substituted for transparency of records. But as lending technologies of large banks became dependent on quantifiable transactions based information, which is electronically stored and communicated across the institutions, the credit flows based on relationship lending is bound to fall.
In India, 90.1% small units are proprietary concerns, with minimal records and book keeping. So as banks increasingly turn to hard information sourced from audited financial statements and ratios calculated from them, the bulk of the small-scale sector is placed at an extreme disadvantage.
The only avenue for bankers in this scenario is to focus on traditional lending practices like asset-based lending, where the level of transparency is relatively inconsequential. But even here, the prospects of sizeably pushing up bank credit flows are equally limited, given that the average investment in the fixed capital of small-scale units is just Rs 7.1 lakh. Banks in more developed countries also use other instruments like factoring and small business credit scoring to increase credit flows to SSIs. It is time Indian bankers also came up with innovative ways to meet the growing credit needs of the small-scale sector.