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Financial Implications of Globalization for the Small Scale Sector in Goa

Prita D. Mallya & Lira Menezes Gama Dept. of Economics Margao (This paper was read at a Seminar on "The Impact of Globalization on Small?scale Industries in Goa", organized by Government College of Arts & Commerce, Pernem on March 2,2001.) Globalisation: For almost a decade now, policy makers in India have been talking about liberalization, globalisation and global integration. The establishment of the WTO and its functioning through the last decade have raised further issues regarding India's participation in world trade and production, her integration with the world economy and the costs and benefits of this integration. In its simplest sense, globalisation refers to integrating the economy of a country with the world economy. In the Indian context, this has had several implications, such as: a) Opening up the economy to Foreign Investment by providing foreign firms with several facilities; b) Removing constraints and obstacles to the entry of MNCs; c) Allowing Indian companies to enter into foreign collaborations in India and encouraging them to set up joint ventures abroad; d) Carrying out massive import liberalization programmes involving, firstly, a tariffication of existing Quantitative Restrictions (QRs) and secondly, a reduction in the overall tariff rates; and e) Opting for exchange rate adjustments rather than export promotion schemes as a means to improve export performance. The Small Scale Sector in India The small scale sector in India has, over the years, recorded an impressive performance in terms of range of items produced, contribution to Value Added in the industrial sector, contribution to exports and contribution to employment. The significance of the small scale sector to the Indian economy can be seen from the following: Of all the manufacturing units in India 92% are in the SSI sector. The investment in fixed assets in the sector is about 7% of that of the entire industrial sector, but it accounts for about 25% of gross output, 20% of value added, 40% of employment, and 30% of exports. 94% of SSI exports are in non-traditional items with low import content. The sector is responsible for 92% of marine products exports, 90% of garment exports, 80% of semifinished leather exports and 30% of engineering goods exports (all non-traditional, low import-intensive, high value added items). 62% are established in areas declared as industrially backward by the Government of India. An investment of Rs. 1 million provides employment to about 173 persons in this sector; to create the same employment in the large-scale sector requires approx. Rs. 5 million.

This impressive performance has been possible due to a range of policy initiatives such as: Reservation of items for exclusive production and purchase; Priority in the disbursement of financial assistance by banks and other financial institutions; Concessions in the import of raw materials and machinery; and

Setting up of a network of organizations and promotional bodies.

The basic accent of India's policy for SSIs has been defensive, aiming to insulate the small sector from the dynamics of competitive growth. In the world of today, such insulation is not practicable. To begin with, the definition of a small unit is in financial rather than economic terms. Instead of focusing on areas that should be the province of the small scale sector by economic rationale, the SSI policy has traditionally concentrated on exclusive reservation of activities of the sector. In the process, it has lost sight of the simple logic of a market system that it cannot make sense for a large company to do anything that can be done more competitively by a small unit. A policy of exclusive reservation for the SSI sector therefore is at best, unnecessary and at worst, inefficient. New Small Industries Policy 1991 In keeping with the overall deregulation and liberalization of the economy, the Government announced a package of measures for the SSI sector on August 6, 1991. With regard to financial support measures, the policy statement made some important provisions: 1. Emphasis would now shift from cheap credit to adequate and timely credit. A special monitoring agency would be set up to oversee the genuine credit needs of this sector. 2. It was also decided to allow other industrial undertakings to hold upto 24% equity in small units. The purpose behind this move was to enable small units to have easier access to finance and to encourage modernization and technology upgradation. 3. The introduction of limited liability in partnership through appropriate legislation (the Limited Partnership Act) was expected to encourage the flow of risk capital into this sector. 4. The policy also proposed the setting up of factoring services through SIDBI. This services would be operated through commercial banks throughout the country. In 1995, the Government of India constituted the Expert Committee on Small Enterprises. This Committee was asked to address the need for reforms in the existingsmall industries policy and to design new policies for small and medium enterprises which will facilitate the growth of viable and efficient enterprises that can adjust to technological change and remain internationally competitive. The Committee, popularly known as the Abid Hussain Committee had made several recommendations, some of which related to the restructuring of financial support to SSIs. To start with, the Report recognized that the access of SSIs to credit is generally inadequate. The Report endorsed the Narasimham Committee plan for local area banks and specialized branches of commercial banks to service the needs of SSEs. The mechanisms of credit recovery should be strengthened by community guarantees, credit rating and creation of databases on the credit record of companies. Better credit recovery will help reduce the cost of credit to SSIs. The Report has also recommended that SIDBI, in cooperation with national credit rating agencies should promote the establishment of local credit rating agencies. Other sources of finance can also be tapped if the 24% ceiling on equity participation by large companies and FDI in SSIs is removed. The Delayed Payments Act has not been effective in helping SSIs collect their dues. A more practical approach would be to encourage a bills culture and to expand factoring services. Another recommendation made by the Committee is that in the annual accounts of large companies, information be provided on a statutory basis on the extent of accounts payable to small enterprises. SSIs in the New Open Scenario In almost exactly a month's time, on April 1, 2001, the government is obliged to remove the QRs on all remaining imports, which are 715 in number. Is the SSI sector ready to face a QR-free competitive regime? A number of industries are already feeling the effect of competition from imports from other nations. In the last 2 -3 years, there have been instances of large-scale dumping

of cheaper imports, mainly due to the worldwide recession and consequent slump in world prices. Examples of such cheap imports range from coconuts to batteries, from toys to bicycles. Late last year, the Government reduced customs duties on a host of inputs used in the manufacturing of final products by the SSI sector. This step combined with the enhancement in the exemptionLimit on excise was expected to go a long way in helping the sector compete against cheap imports, particularly from a country like China. According to the Economic Survey, there's a new twist to Chinamania now. While the spurt of imports from China is confirmed, having grown by 28% in the first 7 months of this fiscal, what is less known is that exports to China increased by a whopping 53% over the same period. The increase in exports to China focuses attention on the conflicting views within domestic industry over the correct extent of tariff protection. While large sections of industry have been demanding protection from cheap imports, the CII has gone on record to state that China is a major opportunity and India should benefit from it both in terms of imports and exports. The real issue of concern in the entire Chinamania, viz. underinvoicing and smuggling, have remained unaddressed while all attention has focused on the anti-dumping investigations launched by the government and the inability of the small sector to cope with import competition. In the budget for 2001-2002, presented in Parliament on February 28, the finance minister has already laid the groundwork for moving to the QR-free regime. Import restrictions on toys and 13 other items produced by the small sector have already been removed. The removal of QRs will lead to an anomalous situation in the case of products reserved for the small sector, as the reserved items could be imported freely. It would obviously not make sense to continue with reservation of product lines along with free imports. Thus SSI policy is going to have to change drastically in a month's time. The ministry of SSI has mooted a proposal to raise the investment limit selectively for certain hightechnology and export-oriented industries reserved for the small sector from Rs. 1 crore to Rs. 5 crore to admit of suitable technology upgradation and to enable them to maintain their competitive edge. The Government is also expected to discuss the issue of raising the foreign investment limit in this sector from 24% to 49%. These changes are likely to be implemented soon so that the small sector, can brace itself for meeting the impending situation arising out of the total removal of all QRs. Globalization of Small Industries The provisions of the WTO regime will alter the global manufacturing and trading scene. In specific segments, small and medium enterprises will have a decisive advantage, while in others it will be the larger enterprises that dominate. In this context, the Indian government has a vital role to play. Firstly, these firms should be encouraged (not merely allowed) to modernize their operations and they should also be provided facilities to network. Secondly, domestic institutions need to be created and reforms introduced to face the global challenge. It is vital that financial services like factoring, leasing, merchant banking and venture capital be made available to this sector. Since modernization of this sector should be a priority, India should relax the restrictions imposed on FDI in this sector. We could learn from the experience of China and other East Asian countries and promote the globalisation of the small enterprise. Difficulties of the SSI sector in Goa in respect of finance

Banks are expected to lend a minimum of 20% of the sales turnover to SSI units. In Goa this does not happen: there is underfinancing by banks. Similarly, banks agree in principle to finance a new project, but the actual disbursement is tremendously delayed, forcing units to delay the start of the project, by which time many of the influencing and decisive factors will have changed. Entrepreneurs cite non-availability of timely finance as one of the major causes of industrial sickness among SSIs in Goa. The authorities however cite lack of managerial expertise as the main causal factor in this respect. As part of the financial sector reforms, banks are expected to reduce their Non Performing Assets and clean up their balance sheets. Neither the Government of India nor the RBI are willing to bail out banks for lending failures. Higher levels of NPAs imply a higher level of provisioning which in turn means greater amount of capital, which is something that banks wish to avoid. Thus in the new liberalized scenario, banks are more cautious while extending credit. The interest on the part of banks in Extending credit facilities to new SSI units or in assisting sick units is dwindling sharply. The lenders' perspective is now diametrically opposite to that of the entrepreneur seeking finance. The entrepreneur sees that (a) He has orders, (b) He needs finance to purchase raw materials (c) On receiving the finance he can execute the orders, i.e. produce, and (d) He will then recover the money The bank manager sees the following problems: 1. He has seen paper orders that have often failed to materialize 2. He has lent money to buy raw materials that never arrive 3. He has seen production lines that could not deliver whatever the customer wanted, whenever he wanted. 4. He has seen bills drawn on reputed customers standing unpaid for long stretches of time. Today, the entrepreneur needs to change the way he works and to convince bankers of his sincerity and the viability of his proposal. The incidence of sickness in the small-scale sector has been a subject of great concern and debate. There is however, a very valid point made by some researchers, that data on sick units does not present a true picture of the SSI sector. The data does not present a true picture of the SSI sector. The data does not distinguish between regular small units and those set up under special schemes such as SEEUY, SEPUP, and others. Thus one cannot exclude the possibility that many of the sick units are the result of the "mela" or programmes mode of lending, wherein targets of number of beneficiaries have overridden economic considerations. GSIA is demanding a level playing field by rationalization of the tax structure and introduce of an industry-friendly labor policy, which they may have got in yesterday's budget. To conclude, globalisation is here to stay. Nothing anyone says or does to reverse this process. The entire Indian economy is feeling the pains of transition from a protected economy to an open, competitive one. Sections of the small sector are certainly being hit hard. On the financial front, the problems this sector is facing are the result of the entire process of liberalization. The solution appears to lie in extending the reach of financial services such as leasing, factoring, venture capital and so go on to this sector. Modernization and technology upgradation hold the key to unlock the true potential of this sector. References: 1. Expert Committee on Small Enterprises: Report, 1997.

2. Hussain Abid: Globalisation: A Contemporary Reality Leslie Sawhny Memorial Lecture, 2000. 3. Kamat Keshav: SSI Sector in WTO Scenario - A Bleak Future pg.10 GSIA News Bulletin, Dec 2000 - Jan 2001. 4. Kher Anil: An Alternative Strategy to Fund SSI Working Capital Quarterly News Bulletin of GSIA, Vol. IX (2), 1996. 5. Kher Anil: The Role of GSIA in Redressing Problems with Banks/EDC/MSFC Quarterly News Bulletin of GSLI, Vol. IX (2), 1996.