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Government may setup a Separate Bank to Boost MSMEs in India


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The Indian government is considering a proposal to establish a separate bank specifically for micro, small, and medium enterprises (MSMEs). The aim is to enhance credit flows to this under-penetrated sector, boost economic activity, and create more job opportunities. Currently, the Small Industries Development Bank of India (SIDBI) primarily provides refinancing to banks that lend to MSMEs, reducing the cost of finance for these units. Additionally, state financial corporations and state industrial development corporations directly lend to MSMEs.

Need for a Separate Bank

According to a report by EY, credit penetration for MSMEs in India is only 14%, while it stands at 50% in the US and 37% in China. This highlights a significant credit gap of Rs 25 trillion in the Indian MSME sector, indicating a large untapped credit market. To address this issue, there is a growing consensus that a separate bank dedicated to the MSME sector is necessary. The government is currently considering the proposal and will make a decision at an appropriate time. One aspect to be determined is the ownership structure of the bank, which might involve a hybrid model, potentially a public-private partnership.

Importance of Access to Finance for MSMEs

Access to adequate, timely, and low-cost finance is a key bottleneck that hampers the growth of MSMEs into larger enterprises. The outstanding credit to MSMEs by scheduled commercial banks grew by 20.9% annually, reaching Rs 26 trillion by the end of December 2023. However, there is still a need to bridge the credit gap and provide better financial support to MSMEs.

Significance of MSMEs in the Indian Economy

MSMEs play a crucial role in the Indian economy. With approximately 64 million MSMEs, they account for over 110 million jobs, making them the second-largest employer in India after agriculture. In addition, MSMEs contribute 27% to India’s GDP, 38.4% to the total manufacturing output, and 45% to the country’s total exports. Given their significance, it is essential to establish a bank that understands the needs and workings of MSMEs.

Perspectives on the Separate Bank Proposal

Sandip Kishore Jain, President of the Federation of Indian Micro and Small & Medium Enterprises, emphasized the need for a separate bank that comprehends the requirements of MSMEs. He pointed out that large banks often struggle to understand the specific needs of MSMEs. Jain highlighted how some European countries treat MSMEs similarly to home loan customers, recognizing their status as small borrowers.

Vijay G Kalantri, President of the All India Association of Industries, suggested that if not a new bank, SIDBI, which currently provides refinancing, should be converted into a full-fledged bank for direct lending to MSMEs. Kalantri also proposed that MSMEs should receive loans at the same interest rates as housing loans, which are significantly lower than the current rates for MSMEs. He pointed out that the current bank interest rates for MSMEs range from 11-13% and 8-9% for exports, while housing loans have rates as low as 6% for exports and 8% for regular domestic production activities. Kalantri also highlighted the decline in MSME credit as a share of their output, which now stands at around 8.3% compared to 12% previously.

Background on SIDBI

SIDBI was established in 1990 under an Act of Parliament. Its major shareholders are the Government of India (20.85%), State Bank of India (15.65%), Life Insurance Corporation of India (13.33%), and National Bank for Agriculture and Rural Development (9.36%). SIDBI has access to low-cost funds made available by banks to fulfill their priority sector lending (PSL) targets. In the fiscal year 2023-2024, the micro and small enterprise (MSE) Refinance allocation was Rs 84,000 crore.

It is important to note that SIDBI’s growth prospects are tied to the extent to which scheduled commercial banks (SCBs) meet their PSL targets. As SCBs progressively achieve higher PSL targets, the overall allocation under MSE funds may decrease, potentially affecting SIDBI’s long-term growth prospects, as indicated in a report by Icra.

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