In a recent speech at the annual day of the Foreign Exchange Dealers’ Association of India, FEDAI, RBI Deputy Governor Swaminathan J underscored the imperative need for financial institutions to provide greater support to micro, small, and medium enterprises.
These firms really form the backbone of India’s economy, and their ability to thrive has much to do with the general good economic health of the nation.
From lack of access to affordable finance to inordinate delays in payment and infrastructural bottlenecks, there are various challenges that most of the MSMEs commonly do face.
Much-needed empathetic and supportive approach by the financial sector in tiding over the problem will help the MSMEs continue their growth process, said Swaminathan J.
The Importance of MSMEs in the Indian Economy
MSMEs have a significant contribution to the Indian economy in providing employment to millions and creating innovation and competition. They account for almost 30 per cent of India’s GDP and around half of the country’s exports.
The enterprises many a time fail to get adequate finance, more so during the times when the economic conditions are not very conducive. The finance institutions thus have to bridge that gap and make available bespoke solutions to these one-of-a-kind challenges faced by such enterprises.
Challenges Faced by MSMEs
Limited Access to Affordable Finance
Probably the most significant challenge among the MSMEs is the issue of access to affordable finance. Most of the MSMEs lack sufficient assets to pledge for collateral and hence cannot access credit due to this significant barrier. Banking is largely based on an asset-based, which is collateral-based rather than cash-flow-based lending.
This at times becomes quite challenging, particularly in the context of MSMEs in the informal sector, where financial information may be scant and hence banks cannot effectively establish issues of creditworthiness.
Delays in Payments and Infrastructure Bottlenecks
The MSMEs, in most cases, receive delayed payments from large enterprises. This definitely hurts cash flow and operability. Besides this infrastructural bottleneck, there exist deficiencies in transport and logistics networks that hurt the development and productivity of these enterprises. These are challenges to really scaling up in order to compete in the market.
High Compliance Costs
Another critical barrier to MSMEs is high compliance costs. The regulatory environment can be very complicated and costly to a small business, especially with regard to compliance in tax regulations, labor laws, and environmental standards. These costs, all combined, reduce their thin profit margins and erode the possibility of sustaining and growing operations.
The Role of Financial Institutions in Supporting MSMEs
Swaminathan J pressed for active support from financial institutions to facilitate such measures as restructuring options, grace periods, and customized repayment plans that can revive an MSME from financial setbacks.
Restructuring Options and Grace Periods
Financial institutions can think of restructuring options that will allow MSMEs to reorganize their debt into more manageable terms by extending loan tenures, reducing interest rates, or offering grace periods during which no payments have to be made. Such measures shall give a needed breath of air in space for the recovery and stabilization of operations of MSMEs.
Tailored Repayment Plans
Apart from restructuring, financial institutions should develop and implement flexible repayment plans that are tailored to individual BSMEs and based on cash flow patterns. For example, a seasonal business may require one kind of repayment schedule where there can be reduced payments in the low seasons and increased payments in the high seasons.
In other words, financial institutions, by reframing their structures of repayment plans according to MSMEs’ different characteristics, can assist them in keeping better management control of their finances and reduce the risk of falling into arrears.
Leveraging Digital Tools for Better Financial Support
The digital footprint of more and more MSMEs within their digital payment systems, mobile banking, and online accounting tools is expanding with such an application. This basically enables financial institutions to harness greater information on financial health, transaction history, and patterns of cash flow regarding MSMEs.
In response, Swaminathan J stated that this superior data should allow for more informed risk appraisal as well as the creation of tailor-made financing products.
Digital Footprint and Data Collection
Further usage of these digital tools by MSMEs will enable more data to be available to financial institutions in assessing credit worthiness of the MSME. It will then enable more accurate risk assessment regarding MSMEs, breaking the clutch of excessive dependence on willing collateral.
The more the digital tools in managing the loan application and approval process, the greater the efficiency of the process, which then becomes more friendly and faster to source the needed finances.
Customized Financing Products
Such improved data will empower financial institutions to roll out financing products tailor-made to the needs of MSMEs. This can be effected in the way of working capital loans that have flexibility in repayments, invoice discounting facilities, and microloans to small-scale businesses. In this way, the financial institutions would finally be in a position to support the growth and sustainability of the MSMEs through such tailored solutions.
Promoting Innovation in MSME Financing
The RBI has already taken steps to promote innovation in MSME financing, and in that connection, it ~ had initiated the Trade Receivables Discounting System in 2014. TReDS facilitates MSMEs seeking finance for their trade receivables to have prompt access to working capital.
However, Swaminathan J found that there is yet a long way to travel for the platform to properly realize its potential by onboarding more corporate buyers and MSME sellers.
The Role of TReDS in MSME Financing
TReDS is a very important innovation in the area of working capital finance for MSMEs. By monetizing the trade receivables of businesses promptly, it is likely to work in favor of MSMEs to better their cash flows, in order to reinvest in their operations for business growth.
However, for TReDS to succeed, both corporate buyers and MSME sellers have to come on board. Financial institutions can create a catalyst for many firms to join the platform and take advantage of its benefits.
Capacity-Building and Training Programs for MSMEs
According to Swaminathan J, therefore, capacity-building programs would need to be specially designed for MSMEs, covering financial management, products dealing with credit and forex, and the effective use of digital tools. Financial institutions can help MSMEs acquire knowledge and skills for better management of their finances, making them more resilient and competitive.
Financial Management Training
Such training programs in financial management would enable the MSMEs to understand how one can manage his cash flow, budget properly, and make sound financial decisions.
The assurance of improved financial stability with a reduced risk of default becomes quite probable. The financial institutions can offer such programs as part of the broader support services for the MSMEs.
Understanding Credit and Forex Products
It is common to find most MSMEs with very scant information on credit and forex products, which makes it quite limiting in accessing the required financing.
Through such training, financial institutions can help the MSMEs have a better utilization of the financial products at their disposal and be able to manage their risks effectively.
Boosting MSME Exports through Targeted Support
The financial services sector can also provide highly valuable support to the sector in its efforts geared toward enhancing MSME exports. This may involve making sure that a number of services are provided, including export credit insurance and hedging against currency risks—these designed to help the MSMEs manage the risks associated with exporting.
Second, the capability of financial institutions to provide services related to export credit insurance, hedging against currency risk, and other support to MSMEs helps to make them more competitive in terms of entering new markets and enhancing their competitive advantage on the world stage.
Export Credit Insurance
It protects MSMEs from the risk of non-payment by any foreign buyer, hence giving them the confidence to penetrate new markets and increase exports. The export credit insurance can be provided by financial institutions as part of an overall package of support services for SMEs.
Currency Risk Hedging Solutions
MSMEs involved in international trade may face a huge risk from currency fluctuations. It can provide for currency risk hedging solutions to help protect the MSME from adverse currency movements and stabilize its revenues. This would ease the path for MSMEs in planning and budgeting export activities.
Conclusion
The speech of RBI Deputy Governor Swaminathan J. actually underlines the potential role that financial institutions can play in the capacity to help MSMEs.
Only by being more sensitive and supportive, through customized financing solutions and promotion of innovation in MSME financing, can the financial sector help these important businesses continue to sail through their problems and grow further in their contribution towards the development of the Indian economy.
Stepped-up embracing of digital tools and enhanced digital footprint among MSMEs open up opportunities for financial institutions to capture better data, and risk profiles, and produce tailored products that meet the specific needs of enterprises.
Furthermore, capacity-building interventions and dedicated support to MSME exports can further enhance their resilience and competitiveness, ultimately rendering them more able to stay afloat within an increasingly globalizing economy.
