Over 90 percent of all jobs are created by the private sector. In emerging economies, small and medium enterprises provide the vast majority of those jobs. Yet every second small and medium sized business remains credit constrained in emerging markets, and is struggling to raise the financing necessary to invest and create new jobs. Some 70 percent of the micro, small and medium enterprises in these countries do not use any external financing from formal financial institutions, and another 15 percent are underfinanced from formal sources.
Young people are more than 2.5 times more likely to be unemployed than older people, with over 620 million young people world-wide are neither working nor in training. Emerging market countries must create another 600 million jobs by 2020, mainly in Asia and Africa, just to keep employment rates constant. Women make up 49.6 percent of the world’s population, but only 40.8 percent of the formal labor market. Growing formal jobs for women also may be constrained by the relatively limited role of women in the ownership and control of SMEs. Women entrepreneurs control less than 40 percent of formal microenterprises, less than 36 percent of small firms, and less than 21 percent of medium sized firms. Women operate more in the informal sector and lower value added service sectors, and more in home-based businesses – all of which are less likely to grow and add jobs.
SMEs world-wide consider access to finance their greatest obstacle to growth. Firms that have access to finance have higher job growth rates. Higher proportions of enterprises receiving external finance correlates with higher start-up rates, and with higher indirect job creation affects when firms receiving finance are part of larger supply/value chains. Detailed case study work in Sri Lanka, for example, showed bank clients receiving loans growing jobs at more than twice the country’s jobs growth rate between 2009 and 2012.
The estimated credit gap for formal and informal MSMEs worldwide has been revised upwards to $3.2-3.9 trillion globally, of which $2.1-2.6 trillion is in emerging markets. Lumping formal microenterprises with the formal SME population, the credit gap for the 100 million-plus formal MSME sector alone may be as high as $1.7 trillion. For formal SMEs, the new analysis estimates a total value gap for credit of $1.5-1.8 trillion, of which $0.9-1.1 trillion is from emerging markets. The vast majority of formal SMEs in emerging markets, unlike informal SMEs and microenterprises, have bank accounts with formal financial institutions. Fewer than 30 percent of SMEs reported that they did not have a deposit account. Thus, the financial access/inclusion gap for SMEs is qualitatively quite different than that for the informal sector and for poor households in general. Banks already have these customers inside their doors – but the sector is substantially underserved, particularly on the credit side of their business in emerging markets.
Three areas, in particular, hold promise for closing the SME finance gap:
1. Improving enabling environments. Support initiatives that increase knowledge of the main obstacles to SME Finance, and of good practice polic/regulatory models promoting SME Finance. These might include:
a. Simplifying documentation requirements from regulators and financial institutions for opening SME accounts,
b. Broadening collateral recognition for SME lending from regulators,
c. Reexamination of directed lending programs that may be discouraging innovation,
d. Expansion of electronic payments system as alternatives to cash transactions,
e. Reducing restrictions on non-bank financial institution activities and products (such as leasing and factoring)
f. Reexamining requirements by the regulator for credit reports(where these are causing delays)
2. “Big Data” Based Innovation in SME Finance. Promote exchange with fintech companies from developed markets, and further innovation in “big data” mining by financial institutions in emerging markets. Data-driven solutions hold increasing promise in larger emerging markets and larger institutions, as more and more sources of electronic financial information on clients become available.
3. Collaborative platforms to accelerate learning and good practice dissemination. The G20’s Global Partnership for Financial Inclusion has spawned several such initiatives which merit further support and attention. These include the SME Finance Forum/Women’s Finance Hub (knowledge exchange, networking and advocacy), the SME Finance Compact (support for policy reform), the SME Finance Initiative (blended finance and capacity building support for financial institutions and infrastructure), the Alliance for Financial Inclusion’s SME Finance Working Group (peer learning for policy reform), and the Financial inclusion Support Program (expertise for policy reform).
(for more information see www.smefinanceforum.org)
One Response
Dear Matt,
Great blog and I am also 100% in agreement with you about the financing gap. Over the past 13+ years, I have worked in developing countries as well as lead many national consultations in Canada. The problem is relatively the same in the USA or Canada…but to a lesser degree since entrepreneur-to-be have access to more services that helps them have access to knowledge and fine-tune their skills to potentially fit investor’s requirement.
I have worked on the Canadian Banking Reform and conducted regional studies on bank’s investment/disinvestment. In Canada it’s more difficult to see if the banks are meeting demand and/or discriminating against a certain type of borrowers (a certain profile). Banks tend to portray SMEs as high risk — riskier than the big business deals. A quick look at banks corporate lost shows that they tend to lose more money on big deals than from SMEs investment.We have conducted a few studies based on some of the data available….we are starting to work on this on emerging markets.
In the US, as you most likely know, the Community Reinvestment Act (CRA) helped in making data public on banks activities with different consumer profiles. Banks have to disclose data on their clients (Race, Sex, type of loans, etc.) This helps banks and legislators understand who is being under-served. With that information, banks and other lenders have created CDFI that help target certain client.
Banks in Latin America, like in many other part of the world, are extremely profitable but we know little about their lending behaviors. They most likely use the same techniques that banks have used for many years (Redlining http://en.wikipedia.org/wiki/Redlining). Hence funds like Acumen or Bamboo Financing come in the region with limited knowledge and very demanding profile for lending. They are all looking for the next facebook of development even though successes would be increasingly achieve by supporting SMEs and not so much just big replicable projects.
At the other end of the scale comes the Micro-Credit fund or predatory lenders with extremely high rates. They are doing extremely well since the gap in access to affordable finance is hard to find and very demanding.
Without good data, it’s hit and miss when it comes to delivery of effective programs. There are many opportunities for collaboration (co-investment) in the way finance is channeled to support SMEs. Financing is also one side of the coin….opportunities for capacity building and technical assistance would go a long way if both are connected.
The recent launch of the OECD’s Development Co-operation Report points to the massive untapped global financial resources available for investment. Somehow someone will have to assume the currency and political risk to attract this money to LDCs/MICs and unless there is large investment in capacity building, investment will stick to big business not so much SMEs.
Legislation like the CRA in the US allow for collaborative lending and design of effective and targeted programs. Better disclosure mechanism like the CRA would help use local financial resources to support SMEs and global financing could help complement these investment.
Hope we can connect eventually to share more information about our initiative.