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Sustainable Livelihoods and Micro Enterprises

Achla Savyasaachi, November 1998

With almost 80 per cent of the Indian population fighting for survival everyday, it is of utmost importance to identify new ways and means to provide resources they need to better their lives. Grant or subsidies are far too small in macro-economic terms to do much in the face of the vastness of the problem. There is a need to identify ways to encourage survivors rather than creating helpless dependents. This necessitates a basic change in the mindset of both givers and takers.

One sustainable way of dealing with the situation is to create sustainable livelihoods. Government agencies and the formal sector clearly cannot absorb the entire workforce. In this scenario, there is a need to promote entrepreneurship in the informal sector.

In 1993, a United Nations Development Programme workshop took place in Delhi, in collaboration with the World Business Council for Sustainable Development on Micro and Small Enterprises and Eco-friendly Technology. At this workshop, World Business Council for Sustainable Development, International Development Research Centre, Canada and Development Alternatives, New Delhi spelt out and demonstrated the micro/small enterprises and sustainable development linkages based on experiences of FUNDES, an institution to promote micro enterprises based in Latin America, and TARA - the micro enterprises arm of Development Alternatives. The workshop recommended that steps be taken to create an institutional mechanism in India to provide finances and support services to technology-based micro/small enterprises for promoting sustainable livelihoods and providing income-generating opportunities.

Any enterprise, whether in the formal or informal sector, needs financial resources for working capital and investment purposes. As far as the formal sector is concerned, it is well serviced by various commercial banks and other financial institutions.

Informal units operate under conditions of extreme shortage of all types of resources. These include a poor endowment of fixed capital and working capital. The qualitative and quantitative limitations in terms of having access to outdated technologies, lead to a low level of productivity and extremely high cost. The low level of working capital will force small producers to buy inputs in small quantity. This will result in considerable loss of time, interruption and lack of continuity in production processes. The shortage of funds also makes it difficult to even keep minimum inventories and explore more favourable market options.

During the year 1997-98, out of the total net bank credit of Rs 2,18,219 crores by public sector banks, only 18 per cent i.e. Rs 38,109 crores has been disbursed to the small scale sector. The tiny sector has been given Rs 9,515 crores out of Rs 38,109 crores. It clearly indicates that the various credit institutions which are working to channel credit to help people establish small or micro enterprises including national development banks, commercial banks, rural banks and co-operative banks allocate a very small portion of their portfolio for the informal sector. Nationalised banks and formal credit institutions are not attuned to deal with this section of the society requiring small loans and having no collateral security to offer. The cultural gap between the institutions and the community that needs to be bridged is wide. These institutions are more accustomed to dealing with the more confident, literate borrower of urban areas.

Credit is a powerful development tool. Institutional credit can make it possible to:

1. finance simple technological improvements and consequently attain greater productivity, and
2. provide the necessary working capital to improve quality, timely availability and cost of inputs as well as to find market opportunities.

But like any tool, its effectiveness depends on how it is used. Any credit programme must be designed keeping in mind the needs, aspirations, skills and the social, economic, cultural and political system of the population to be served. The most important element of any credit institution to work with the informal sector, is to demonstrate that the credit to the informal sector is financially viable.

Formal financial institutions cover their credit risks and profit from a mix in their loan portfolio. Adding small producers to the portfolio would increase the credit risk. Further, it generally costs more to administer a portfolio split up into very small loans than a theme involving only a few large customers. Traditional banking practice tends to give much weight to a portfolio involving large customers who can provide guarantees when considering an application for credit but sufficient attention is not always paid to the analysis of factors affecting the risk of default i.e. lack of non-financial support services.

This has a number of important implications. Formal financial institutions prefer to finance a customer with sufficient assets that can be pledged as security. Secondly, these institutions consider recovery of their portfolio as the only major factor to be taken into account. They are not determining the composition of the portfolio according to the needs of the financial resources of the informal sector. They also have a very high operating cost.

In this scenario, credit though important, cannot by itself resolve all of the structural and functional problems. Credit is a condition that is necessary though it is not sufficient for the development and transformation of small-scale informal production.

Small producers, who traditionally have no access to institutional credit, have greater needs for training and technical assistance as well. Therefore, it is becoming increasingly important for the lending agency to work in association with, or in coordination with, promotional agencies specialising in training and technical assistance for informal activities.

At the same time, it is important to find ways to make the financial operations attractive and profitable in funding small scale operations to attract the inflow of funds in the lending agency. To be able to meet the credit needs of a small, informal unit, financial intermediaries have to reduce the relatively high operating costs, increase revenue, reduce risks and undertake organizational adaptation.

It is of utmost importance, therefore, to have an efficient and competent promotion agency with experience or capability of quickly adapting to the circumstances. It also requires a financial intermediary that agrees to adjust requirements, criteria and procedures, without sacrificing financial viability.

One of the most significant global changes in the 1990s is the increasing use of public-private partnership approaches to finance infrastructure development and in other areas with the assumption that the benefits of such partnerships would trickle down in the system and would create better living conditions.

The 1993 UNDP Workshop emphasised the need to create an institutional mechanism at a micro level which should be flexible, low in cost and simple in procedure for providing finances and rendering support services at close proximity to the borrower.

As a result of the efforts for promoting an innovative mechanism for providing finance and support services to Micro Small Entrepreneurs (MSEs), two corporate entities have been recently established in India. Indian Micro Enterprises Development Foundation (IMEDF), incorporated in 1996 under Section 25 of the Companies Act, 1956 as a not-for-profit organization, and Indian Micro Enterprises Development Finance Corporation Limited (IMEDFIN) incorporated in 1997 as a for-profit entity.

The Foundation will help in creating an enabling environment for micro and small enterprises. The Foundation will provide support services to Micro Small Entrepreneurs (MSEs) and Micro Credit Finance Institutions in the NGO Sector; and the Finance Corporation will provide credit to the MSE sector using innovative financial instrumentalities (including venture capital financing).

The working of the Foundation and the Corporation together is an initiative towards developing a model of an innovative mechanism in India to cater to that class of people who are otherwise excluded from the formal credit system because of their lack of material collateral. The joint effort will also provide support service input to promote sustainable enterprises.

The financial package offered by the Finance Corporation has features such as close proximity, quick and uncomplicated disbursement of credit, credit sanctioning on the basis of actual requirements, suitable credit duration and repayment modalities and credit disbursement to be linked with non-financial support services.

In the formal sector, two common sources of failure of development financial intermediaries are imperfect information and imperfect enforcement. The Foundation and the Corporation have plans to tackle this gap in a strategic way by setting up an information centre to have a strong database.

For the purpose of the Corporation and the Foundation, micro and small enterprises have been defined to include those enterprises which have a total investment in plant and equipment ranging from Rs 10,000 to Rs 10 lakhs and from Rs 10 lakhs to Rs 1 crore, respectively and whose operations/outputs are eco-friendly and technology-based with inputs of market-driven indigenous or imported technology.

The geographic target initially will be the Delhi National Capital Region, followed by the Bombay-Pune region. The following sectors will be targeted initially:

• Ancillary industry related to engineering, automotive, food processing and pharmaceutical sectors
• Information technology (hardware, software and services)
• Service sector
• Location-specific industries such as the glass industry in Firozabad, pottery industry in Khurja, leather industry in Agra and brass industry in Moradabad
• Distribution industry

The Foundation will provide support service in the following areas:

• Market/feasibility, studies
• Technology acquisition
• Marketing
• Skill development
• Identification of supplier
• Facilitating access to information
• Credit rating of micro and small enterprises
• Catalysing horizontal and vertical linkages of MSEs with big business, finance institutions, and integration with global markets.

The Foundation will also provide support services to Micro Credit Finance Institutions (MCFIS) through strategic alliances with appropriate private and public sector agencies and NGOs, and engage itself in capacity and skill development of MCFIS to enhance their capabilities for adequate and sustainable supply of micro and small enterprises. Support services to MCFIS would be as follows:

• Innovations in micro credit finance technologies, systems, and infrastructure support
• Development methodologies and systems for monitoring flow and end-use of funds of micro credit finance institutions
• Designing performance criteria for micro credit finance institutions
• Development methodologies for credit rating of micro credit finance institutions
• Facilitate replication of best practices and innovative financial technologies by developing borrower-friendly process documentation

The strategies adopted by the Finance Corporation and the Foundation to ensure regular flow of funds, on a sustainable basis, focus upon strengthening a new business relationship between the private sector and the informal financial intermediaries, by providing viable investment opportunities in a huge untapped market.

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