India’s government hopes new measures announced yesterday will safe guard a long-running - and now troubled - scheme that helps banks to boost lending to SMEs.
Following a cabinet meeting by Prime Minister Narendra Modi (pictured above), the central government said it will inject a further 50 billion rupees ($733m) into the Credit Guarantee Trust Fund for Micro and Small Enterprises (CGTMSE), lifting the scheme's capital to 75 billion rupees.
It follows a December measure in which the government doubled the threshold for loans that can qualify under the scheme, to 20 million rupees ($293,000).
Banks are able to use the fund to guarantee up to 85% of any loan they provide to small businesses. The fund acts as a safety net, reimbursing banks when small firms fail to repay loans. In turn small firms don’t have to rely on providing collateral to secure a loan.
The government hopes that this will encourage more banks to provide credit to small businesses, which are more risky to lend to than larger companies (Reserve Bank data shows that only 10.98% of the total credit by the banks when to small, medium and micro businesses as of 30 September last year).
Since its inception in 2000 the scheme has approved over 2.4 million applications with guarantee cover totalling over 16.5 billion dollars as of May 31 last year, according to a report by Indian newspaper Business Standard.
However the massive ramp up in lending since 2007 by banks using the scheme (see the below graphic) has brought with it problems.
In a circular at the time the scheme noted that in some banks non-performing assets were over 40%.
More recently, in a circular issued last year the scheme said it was concerned that recoveries made from borrowers who failed to honour loan repayments were not being passed onto the scheme.
The scheme also noted that it had found that borrowers often presume that they are not liable to repay lenders (banks) once they default on repayments and the scheme settles the guaranteed amount with the respective bank.
Adding to the problem is that the gearing under the scheme has shot up - with guarantees 14 times the value of the scheme's capital on the scheme's book as of September 2015 to now 37 times more than its capital according to one recent commentator.
Bring in private sector
The new capital injection would therefore help. As will December measures to extend the scheme to allow non-banks, such as insurers to utilise the scheme.
Ironically most of the banks that subscribe to the scheme are government owned (figures for 2009 show that they accounted for 43% of amounts advanced).
The new move could encourage more involvement from the private sector. It's not clear whether online peer-to-peer (P2P) lenders, which are gaining ground in India despite the country's poor internet coverage, will also be able to subscribe to the guarantee.
The Reserve Bank released a discussion paper on guidelines for P2P lending in April last year (see this earlier post).
The new CGTSME measures follow Prime Minister Narendra Modi's controversial decision to remove all 500 and 1,000 rupee notes. The move has swelled banks' balance sheets.
The government will hope that a greater part of this new cash will be directed at small firms.
Timm is a South African who writes on small business. He studied the CGTSME in 2010 (see this paper). Follow Small Business Insight on Twitter at @Smallbinsight.
Stephen Timm is a