credit-guarantees-to-msmes

Context: In the second tranche of the relief package,the main thrust was a relief to Medium, Small and Micro Enterprises (MSMEs) in the form of a massive increase in credit guarantees to them. 

More on the news:

  • The government has not resorted to directly infusing money into the economy or giving it directly to MSMEs in terms of a bailout package.
    • The government has resorted to taking over the credit risk of MSMEs should they want to remain in business. 

Rationale behind credit guarantees

  • The government was faced with an odd problem.
    • Banks had the money but they were not willing to lend to the credit-starved sections of the economy.Banks are apprehensive of the fact that any new loans will only add to their non-performing assets (NPAs).
    • While the government itself did not have enough money to directly help the economy.There are speculations of a GDP contraction of 5% to 10% in the current financial year. That will result in a revenue loss of anywhere between Rs 5 to 7 lakh crore
  • The solution came in the form of credit guarantees that should help the formal banking system meet the credit demand of the MSME sector.
    • The government is hoping that this credit guarantee will help those MSMEs take out another loan and recover.

An insights into the Working of Credit guarantees 

  • Loans to MSMEs are mostly extended against property (as collateral) because often there isn’t a robust cash flow analysis available. 
    • But in times of crisis, like theCOVID-19, property prices fall and this inhibits the ability of MSMEs to seek loans.
    •  It also means that banks are less willing to extend loans.
  • A credit guarantee by the government helps as it assures the bank that its loan will be repaid by the government if the MSME falters. 
    • For example, if the government provides say a 100% credit guarantee up to an amount of Rs 1 crore to a firm.
      • It means that a bank can lend Rs 1 crore to that firm, in case the firm fails to pay back, the government will pay back all of Rs 1 crore. 
    • In the similar manner, if this guarantee was for the first 20% of the loan, then the government would guarantee to pay back only Rs 20 lakh.

 

Self-reliant India

About

  • The PM observed that in order to fulfill the dream of making the 21st century India’s, the way forward is through ensuring that the country becomes self-reliant. 
    • He also talked of the example of PPE kits N-95 masks, whose production in India has gone up from almost being negligible to 2 lakh each, on a daily basis.

What does it mean ?

  • The Prime Minister remarked that the definition of self-reliance has undergone a change in the globalized world and clarified that when the country talks about self-reliance, it is different from being self-centered. 
  • He said that India’s culture considers the world as one family (Vasudhaiv Kutumbkam), and progress in India is part of, and also contributes to, progress in the whole world.  
  • The Prime Minister remarked that self-reliance will prepare the country for tough competition in the global supply chain.
 

Five pillars of a self-reliant India

A self-reliant India will stand on five pillars

  1. Economy, which brings in quantum jump and not incremental change.
  2. Infrastructure, which should become the identity of India.
  3. Technologically driven system, based on 21st century technology driven arrangements
  4. Vibrant Demography, which is our source of energy for a self-reliant India
  5. Demand, whereby the strength of our demand and supply chain should be utilized to full capacity.

Atmanirbhar Bharat Abhiyaan

  • The Prime Minister observed that the Rs 20 Lakh Crore package will also focus on land, labour, liquidity and laws
    • It will cater to various sections including cottage industry, MSMEs, labourers, middle class, industries, among others. 
  • Talking about the positive impact of reforms like JAM trinity and others, brought about in the last six years, the Prime Minister said that several bold reforms are needed to make the country self-reliant.
    • These reforms include supply chain reforms for agriculture, rational tax system, simple and clear laws, capable human resources and a strong financial system. 
    • These reforms will promote business, attract investment, and further strengthen Make in India.

Quantum of Credit guarantee provided to MSMEs

  • There are three proposals but the main one is for standard MSMEs which includes those MSMEs which were running fine until the Covid-19-induced lockdown disrupted their functioning.
    • For such MSMEs, the government has provided a credit guarantee of Rs 3 lakh crore. 
      • It  is like an emergency credit line, and it is for MSMEs that have an already outstanding loan of Rs 25 crore or those with a turnover less than Rs 100 crore. 
      • The loans will have a tenure of 4 years and they will have a moratorium of 12 months.

Other Measures

  • There is a subordinate debt scheme, worth Rs 20,000 crore, which will allow loans to MSMEs that were already categorised as stressed, or struggling to pay back. 
    • In this case, the government’s guarantee is not full, but partial.
  • The next measure is the creation of a fund with a corpus of Rs 50,000 crore to infuse equity into viable MSMEs, helping them to expand and grow.
    • The government intends to put in Rs 10,000 crore and get other institutions like LIC and SBI, to fund the remaining amount.
  • Further, there is a change in the definition of an MSME that will now be judged on turnover and there will be no difference between a manufacturing MSME and a services MSME.

Expected benefits of the Credit Guarantee measures

  • The Rs 3 lakh crore credit guarantee comes as a substantive measure as it will help MSMEs pay salaries and keep floating in times of such a downturn.
    • This measure holds the potential to help as many as 45 lakh MSMEs. 
  • The change in definition of MSMEs will also help because turnover is the more efficient way to identify an MSME.
    • It also allows a lot of firms, especially in the services sector like mid-sized hospitals, hotels and diagnostic centres to be eligible for benefits as an MSME.

Way Forward

  • It should be noted that a 100% credit guarantee leaves no incentive for either borrower to pay back or for the lender to check for the credit worthiness of the borrower
    • A more financially prudent option would have been a split (like an 80%-20%) wherein the government assures to pay back only 80% of the new loan. 
    • This circumvents the problem of a moral hazard.

State of MSMEs

Definition

  • Formally, MSMEs are defined in terms of investment in plant and machinery. But this criterion for the definition was long criticised because credible and precise details of investments were not easily available by authorities.
  • Owing to this reason, in February 2018, it was decided to change the criterion to annual turnover, which was more in line with the imposition of GST, which has been announced lately.

Source: BusinessToday

Source: The Indian Express

Contribution to Economy

  • Together, they account for roughly 30% of our gross domestic product, about 40%  of our exports, and employ at least 120 million people. 
    • There are over 63 million MSMEs roughly, offering assorted services and making stuff that ranges from machine parts and specialist paints to bread and shopping bags.
    • Around 51 per cent of these are situated in rural India. Together, they employ a little over 11 crore people but 55 per cent of the employment happens in the urban MSMEs.
    • A significant number of MSMEs are suppliers of intermediate products to large companies

Stratification of MSMEs

  • 99.5 percent of all MSMEs fall in the micro category. 
    • While micro enterprises are equally distributed over rural and urban India, small and medium ones are predominantly in urban India. 
    • In other words, micro enterprises essentially refer to a single person working on their own from their home.
    • The medium and small enterprises i.e.the remaining 0.5% of all MSMEs,  employ the remaining 5 crore-odd employees.
  • The distribution of enterprise by caste reveals that :
    • About 66 per cent of all MSMEs are owned by people belonging to the Scheduled Castes (12.5%), the Scheduled Tribes (4.1%) and Other Backward Classes (49.7%).
    • The gender ratio among employees is largely consistent across at roughly 80% male and 20?male.
    • In terms of geographical distribution, seven Indian states alone account for 50 per cent of all MSMEs
    • These are Uttar Pradesh (14%), West Bengal (14%), Tamil Nadu (8%), Maharashtra (8%), Karnataka (6%), Bihar (5%) and Andhra Pradesh (5%).
  • If this sector suffers a collapse, it would not just leave too many Indians jobless, it would grip the rest of the economy.
    • The pain will mostly be felt among the vulnerable sections of the society.


Source: https://indianexpress.com/article/explained/nirmala-sitharaman-credit-guarantees-to-msmes-6408533/