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With the country’s focus on attracting foreign investment for large projects and privatisation of inefficient government corporations, there is a danger that it will ignore the other option which has been increasingly relied upon by both the developed and developing nations for sustained economic growth and job creation.
The SME sector has the advantage of inclusive growth that permeates deeper into the population and is more resistant to recessionary cycles. But the SME sector in Pakistan is need of sustained assistance and reform if it is to live up to its potential.
Pakistan has a huge population with a workforce estimated at 65m, one of the largest in the world. However its economic output places it among the lower of the middle income countries. Less than 21pc of the workforce is regularly employed. The country has not been able to organize itself into a sufficient number of enterprises that facilitate regular employment and skill development, such as manufacturing and processing industries.
With its population advantage and benchmarked against higher income countries, Pakistan’s SMEs certainly have the potential to contribute significantly more than their current contribution of about $86bn towards GDP.
Pakistan’s business sector is dominated by food establishments and (retail and whole sale) trading, which in general require very few employees and low skills. The global consensus is that of two scenarios where a number of micro enterprises are compared with one enterprise which employs the same number of workers, the second provides significantly more direct economic contribution as well as serves as a model for other similar ventures and encourages the development of supporting industries.
Pakistan’s SMEs certainly have the potential to contribute significantly more than their current contribution of about $86bn towards GDP
The last government survey established that out of 3m SMEs, approximately 26,000 enterprises employ more than 10 workers and of these approximately 1,600 employ more than 50 workers. This sector profile sets limits on the potential for economic contribution.
The SME owners reflect the demographics of its population — less than 55pc literacy, low quality education available to majority of our population and mobility restrictions on females. Lack of sufficient number of large lead enterprises which could sustain an ecosystem of smaller SME clusters means that, most SMEs have to look towards foreign markets or compete with foreign goods in the local market for growth.
However, they face tremendous difficulties which limit their ability to rise to the challenge. Most don’t know how to manage and scale their business beyond a very basic operational model. They have limited exposure to global best practices in design, production and quality. Our vocational training programmes are antediluvian and do not produce the skilled force required to be globally competitive.
Globally, the major growth constraint for SMEs is information symmetries and financial inclusion. Interestingly, in a recent World Bank survey on enterprise growth constraints, Pakistani SME owners ranked electricity, corruption, court systems, crime, transportation and inadequately trained workforce ahead of access to capital.
Pakistan ranking has steadily declined over the past decade and is a lowly 138th out of 189 countries in the ease of doing business Index. The government has been accused of adopting an inconsistent strategy towards SME development vacillating from high priority to neglect and at times indulging in political nepotism through the SRO regime.
None the less, once a business is established, access to capital is a prerequisite for rapid growth. Pakistan lags behind all other south Asian countries in taking advantage of the formal banking sector. There are both demand side and supply side reasons for this.
On the demand side, SME owners are suspicious of the banking system and feel more comfortable borrowing from friends and family rather than banks. The majority of the smaller SMEs are not really focused on growth as for them their enterprise is a vehicle for livelihood generation only.
In light of the draconian laws relating to secured lending and the high lending rates, they are averse to taking risks associated with growth and do not seek long term financing. Debt is also very expensive –at 5.7pc on average; Pakistan has the highest net interest margins (added to KIBOR by banks to determine lending rate) compared to Bangladesh at 4.3pc and India at 3pc.
An illustrative example is the Prime Minister’s Youth Scheme. According to National Bank of Pakistan, “the scheme has been dormant for the last one year and has not been able to achieve its desired targets. People have lost interest in the scheme and we are receiving very few applications” In the first two ballots, out of 10,442 people declared eligible, less than 6,126 choose and received the loan.
The problem is further compounded by the supply side constraints. Over the last five years, in spite of SBP efforts, commercial banks have reduced their investment in the SME sector. Part of the problem was the flawed handling of the government owned, specialised SME Bank which is in limbo. In the absence of a functional model they could emulate, most banks tried to create SME departments from the lens of their corporate sector legacy while experience has shown that SME lending more closely resemble consumer lending or micro lending. They did not invest much effort in developing sector specific expertise and consequently made bad investment decisions which lead to very high NPLs (30pc) in the recent past. This negative experience has caused ‘flight to quality’ with bank lending increasingly concentrated around minimal risk, government and lower risk, corporate lending.
The writer is a management consultant, entrepreneur and technology evangelist with expertise in product development and commercialisation strategies.
Published in Dawn, Business & Finance weekly, November 30th, 2015
