Insufficient access to finance was the most widely cited problem for firms doing business in Indonesia. SMEs find it difficult to secure bank loans because interest rates are too high or because they cannot demonstrate that they have the required collateral to cover the loan in case of default. To lend money to firms without collateral, banks have to charge high interest rates, making it more difficult for firms to pay back the loans. As a result, many SMEs do not use the formal banking system and instead rely on informal sources of capital to finance their business operations and investment, such as personal savings or loans from family or friends.
Historically, the Indonesian government has used a series of programmes to divert financial capital to SMEs. In 1990, the Suharto government introduced the Small Enterprise Credit programme (Kredit Usaha Kecil or KUK). Under this programme, all commercial banks were required to allocate 20 percent of their loan portfolio to small enterprises and cooperatives at market interest rates. The programme proved difficult to implement because banks had trouble meeting the 20 percent requirement and, instead of lending to SMEs for investment purposes, the programme often resulted in loans for consumption purposes. Furthermore, the SMEs that benefited tended to be larger and more successful than other SMEs. The limited success of this programme led to it being discontinued after the Asian financial crisis.
In late 2007, another major credit programme, the People’s Business Credit programme (Kredit Usaha Rakyat or KUR) was launched by the Yudhoyono administration. This programme was a mechanism to increase lending to SMEs by providing government-sponsored credit guarantees to enterprises with limited collateral. Instead of interfering directly with how banks determined what portion of their lending portfolio to allocate to SMEs, the government simply offered guarantees for loans given to SMEs in case of default. Loans in default would be partially paid back by the government, at 70 percent of their face value. Interest rates for these loans were also kept lower than market rates, for example People’s Business Credit “Mikro” loans have an interest rate cap of 22 percent, while the “Retail” loans have an interest rate cap of 14 percent. Eligible banks, which are only partly state-owned, are free to determine the borrowers of these loans. To date, the programme has reached millions of borrowers, lending close to USD10 billion since its inception (Toth 2014).
According to Bank Indonesia data, 21.6 percent of total loans in 2011 went to micro firms and SMEs. Most of that lending went to firms involved in trade, hotels, restaurants, construction and agriculture, with 40 percent going to firms in Java and Bali. Interestingly, most of the credit (70 percent) was for working capital rather than investment. Of the lending to MSMEs, 21 percent went to micro firms, 31 percent to small firms and 47 percent to medium-sized firms.
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In our survey, several SME owners and managers discussed their experiences of attempting to or successfully acquiring additional funds for their businesses. One respondent had extensive administrative experience working with an international firm and another gathered the collateral needed for the loan by tapping into her mother’s finances. Despite being able to access credit programmes and loans, most SMEs had heard of these programmes but had opted not to apply for them for a broad range of reasons.
There were a number of factors that SMEs perceived as barriers to applying for credit programmes like the People’s Business Credit. Some respondents believed they needed an official licence to access these programmes, which reduced the number of firms without registration or licences that applied for credit or loan programmes. Many SMEs doubted they could acquire the necessary collateral for the loan they were hoping to get and firms expressed the collective perception that the potential loss of collateral was simply too high a risk for them to go ahead with the application. In addition, firms mentioned that the limits on the amount of funds they could apply for did not meet their needs. Currently, People’s Business Credit loans are limited to a maximum of Rp25 million (approximately USD1,972). For many businesses interested in acquiring new production technologies or renting a storefront at a local market, this loan is inadequate. Moreover, in order to be eligible for repayment in case of default, loan officers are required to collect a lot of information about the firm, including detailed revenue and expense statements, which many SMEs do not typically collect. The lengthy application process meant that applying for government credit programmes was not worthwhile for several firms. They felt they would not be able to get enough back financially in return for their efforts. A few other SMEs did not apply because they did not feel they had the right connections and they thought government credit programmes favoured certain firms over others.
Box 8 Recounts one firm’s interactions with industry associations in trying to meet its capital needs.
One of the problems experienced by SMEs is that credit lenders and credit programmes avoid lending to SMEs because of the default risk. This was experienced by some SME owners in the furniture and coffee sectors in our survey.
For example, Ihsan has a lot of experience in the coffee business. He started work in a coffee-processing firm in 1998 and decid- ed to start his own export-oriented coffee business in 2001. Ihsan said that the coffee business in North Sumatra was not strong and a lot of coffee export firms had had to close their businesses because it was difficult to access raw materials (coffee beans). In 2010, he too went bankrupt. One reason he cited for this was that he did not have adequate financial capital. That, combined with numerous customer purchase orders and limited availability of raw materials, meant that he could not meet demand.
As a result, he decided to borrow money from a bank to increase the supply of coffee beans. However, the bank did not trust him with a loan and Ihsan found it hard to rebuild his business. Fortunately, he received useful information from the fair trade coffee association that he joined. As a member of the association, he was eligible for financial assistance and he received USD10,000 from the Islamic Development Bank at an interest rate of 5.5 percent per year. With this assistance, he was able to rebuild his business. He has now expanded to the point where he hires hundreds of temporary workers at the height of the harvest period.
Recommended policy actions
We recommend the following policy actions to help support SMEs in accessing credit:
• The government should thoroughly review the purpose, design, effectiveness and implementation of existing lending programmes for SMEs.
- Very small micro firms should be offered loans primarily by microfinance lenders with experience in offering non-traditional lending contracts, such as group lending, “teaser” loans (where small loan amounts are offered initially, then larger amounts offered later, on repayment) or dynamic incentives where successful repayment leads to future lower interest rates. Such loans are particularly helpful in overcoming the information problems that lead to under-provision of credit for small firms. - Lending to micro firms with non-traditional contracts involves large transaction costs and some
of these costs require banks to charge higher interest rates. Additionally, existing evidence on the rates of return to capital for smaller firms suggests that high interest rates may be accepted by SMEs (Karlan and Morduch 2010). Because of this, interest rate caps, such as those mandated by the People’s Business Credit, may create credit shortages, preventing some firms from accessing loans they would be willing to accept.
- A programme like the People’s Business Credit may be useful for subsidising loans for growth- oriented SMEs but the loan amounts need to be raised to accommodate the demands of these firms. Given the Rp25 million cap on loan amounts, it is not surprising that only small percentages of these loans are being used for investment.
- Lending programmes, for both micro firms and growth-oriented SMEs, may be more effective if they are coupled with financial education and business management programmes to help entrepreneurs learn about keeping better records, managing their inventory and committing to repaying loans. - The government would benefit from a rigorous, quantitative evaluation of the People’s Business
Credit programme to guide reforms to this and other credit programmes.
• In addition to reforming SME-specific lending programmes, the government should carefully review its approach to overseeing the broader banking sector to address and reform regulations that lead to inefficient market structure and behaviour that can create barriers to entry into bank lending.
• SMEs need to be able to present alternative sources of collateral to apply for loans. Existing sources of collateral, such as property ownership, could be strengthened by clarifying property rights and reducing regional variations due to different property rights systems. Alternative mechanisms to secure loans could include certificates of completion of managerial training courses (for example, courses in business development, training on building advanced business plans) or collateralised streams of revenue. Lowered interest rates paid over a longer period of time should also be considered.
• The government should require that transparent information be provided to all SMEs (even those that may not be considering credit programmes currently) on the terms and conditions of loan agreements, including interest rates offered through formal banks. The ability to compare interest rates between formal and informal lending institutions could help SMEs make better-informed borrowing decisions. • Information technology could help match borrowers and lenders, especially lenders that are not formal banks. The government could support infrastructure to develop web-based lending markets, allowing firms to access private sources of credit outside their city or province.
• Information systems could also help banks collect and analyse repayment histories. This could help banks identify which firms are successfully repaying loans and which ones are not successful which would lead to better lending outcomes.
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