(Excerpt of the article was published by The Economic Times on February 5, 2009.
Around mid 2008, a small industry from Bangalore contracted for import of lead ingots through MMTC @ $ 2015 per MT. By the time the consignment reached Indian shores couple of month later, the prices of lead crashed to $ 925 per MT, along with synchronized fall in all other commodities. Net loss for the small company in a single import consignment: Rs. 1 cr 9 lac! It had contracted couple of more consignments, the total damage of crash has been collateral. MMTC threatened to invoke bank guarantees enough to bring down the company to grinding halt.
In 2007, a Faridabad based small auto manufacturer was asked by its largest buyer- one of India’s auto majors, to put up a plant in Uttrakhand -where it had set up another plant to avail tax breaks. Without much choice, the small manufacturer leveraged its existing assets and put up the new manufacturing unit. Within one year, the buyer stopped ordering due to demand slump. By end of 2008, the small company was with left with mortgaged assets, no cash and unpaid receivables. It is defaulting on repayments. The entrepreneur is in ruins.
In 2007, alarmed with continued rise of Rupee vis-à-vis Dollar, another small garment exporter in Delhi employing 250 skilled workers, listened to the financial experts from its own large private sector bank and signed on dotted lines on a exotic forex derivative contract. With one year, the Rupee started falling and the losses started mounting. The profit of the company in 2007-08 was Rs. 31 lac but losses due to the derivatives have crossed Rs. Rs. 4.76 Crore! Its owner is running from pillar to post to seek succor to tide over this calamity.
Stray incidents? No. A very large number of SMEs have got caught in turmoil unleashed by global financial crisis since Sept 2008. The tragedy is that the segment that has been hurt the most is the one that has been most progressive one among the sector: SMEs that went for technological upgradation and expansion; joined global supply chains and made inroads in exports during the growth period.
Bulk of the SME sector was further hit by another double whammy in Indian domestic markets: slackening of demand and scarcity of capital. The index of industrial production (IIP) is sliding- having touched 0.4 in October 2008, its lowest ebb in last 13th years. Exports have also registered a negative growth for the two recent consecutive months, while the specific statistics is agonizingly lacking in the SME sector constituting majority of informal sector, situation of a few large SME segments are too glaring to need any statistical evidence to prove the adverse impact.
There is consensus now that much of economic growth in the world since 1990s was the result of excess liquidity. Trillions of dollars unlocked from banking systems found their way in markets due to lax regulations especially in US market and massive leveraging through use of new financial instruments like derivatives, credit SWAPS, CDOs etc. India was one of major beneficiary countries of these global financial developments attracting huge portfolio investments, FDIs and Venture Capital. Besides giving a fillip to our exports, this was particularly reflected in rising sectors such as housing, white goods and auto in domestic market. Growth in these sectors was largely driven by hugely unmet demands of young nation thriving on demographic dividend and buttressed by easily accessible finance through EMIs.
With financial crunch and tightening of liquidity, these sectors that were leading growth started turning turtle one after another. Housing sector alone encompasses 40 of the top 200 products manufactured by SME sector including building hardware; electrical fitting; paints; wooden products/ furniture, home furnishing among others. Second came, the auto and white goods sectors. It needs to be remembered that a very large number of SMEs are parts and component suppliers to these two sectors which includes auto, refrigerators, colour TVs, washing machines, ACs etc. Another sector taken the hit has been capital goods sector: suppliers of plants and machines in almost all sectors including power equipment manufacturers such as transformers, cables and conductors etc. Though exports in general have been hit, SME sectors that were affected adversely are textiles and garments, handicrafts, and gems and jewelry.
There are four critical challenges that affected SMEs face in India today:
- Working capital crunch and difficulty in accessing needed funds in view of recent reversals;
- Antithetical regulations of NPAs and restructuring norms in banking which have become irrelevant in crisis situation including complete lack of insolvency and bankruptcy codes for those SMEs which have already been damaged beyond repair;
- Continued slide in demand
- Rising tendencies of protectionism led by large raw material producers through tariff and non-tariff barriers exacerbating competitiveness pressures on user SMEs
The policy response needs to be seen in the context of these challenges. In this regard, the Reserve of India has indeed taken measures to ease liquidity and direct flow of funds. It has also issued guidelines for banks to be ‘sensitive’ to SMEs’ needs and take decisions on ‘case to case basis’. Moot question is whether these steps have changed situation at ground. The sectors’ verdict is divided on liquidity and a unanimous NO on most other measures. Barring liquidity related measures, the steps look incremental in nature and not ‘contra cyclical’ - the need which the RBI Governor himself swears by.
India is yet to see a coherent well thought out strategy to boost demand to sustain fledgling industrial activity. There have been discussions on demand creation through public spending. Nobody knows when and how such spending would go under way. And even of it does, how much of it would reach for SMEs. If one goes by the trend of crowding out of SME supplies in large tenders, one cannot remain non-skeptical of the virtues of public spending. With the current government in winding up mode, postponement of full budget and sword of model code of conduct hanging, the situation is pretty grim in short term. Much depends on intention of the Government of the day how serious they are in turning the tide around for SMEs. There is a need to find the answers of questions that 13 million small enterprises are asking today.
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