Financing of SME firms in India

Vol 22, No 3; Article by Ashok Thampy; September 2010

Interview with Ranjana Kumar, Former CMD, Indian Bank; Vigilance Commissioner, Central Vigilance Commission

Growing at over 11% in the last few years, the small and medium enterprises (SME) sector is considered a vital part of the Indian economy. However, one of the major bottlenecks to the growth of the SME sector is its lack of adequate access to finance despite the government policy on priority sector lending by banks. This paper examines major issues in the financing of SMEs in the Indian context, such as the information asymmetry that banks are faced with and whether transaction lending would be adequate to address the information issues or would lending have to be based on relationship with the SME using both ‘hard’ and ‘soft’ information measures; whether credit scoring for SMEs would improve the quality of financial information for banks; whether the size and origin of the bank play a role in the availability of credit to SMEs; whether the legal environment facilitates banks’ lending to SMEs and how international norms such as the Basel capital standards have affected risk weightage of lending to SMEs.

Ranjana Kumar, a prominent Indian banker who has also served as Vigilance Commissioner in the Central Vigilance Commission, spoke to Professor Ashok Thampy and Rohini Ramachandran, the student representative from tejas@iimb, IIMB’s knowledge portal, on the practical aspects of the issues raised in the academic literature on bank financing of SMEs. The issues of credit appraisal, rating, monitoring and management, and the mechanisms of risk assessment in the Indian environment, where banks have to contend with the prevalence of high non-performing assets, unsecured loans and questions about data integrity, were discussed.