How Indian Startups Are Leveraging Tech To Bridge The Gap In SME Lending

Taking into account the majority of businesses worldwide, SMEs are an important contributor to job creation as well as global economic development. Capable of stimulating private ownership and entrepreneurship skills, they are able to quickly adapt to changing market conditions.

Representing about 90% of all businesses and more than 50% of employment worldwide, formal SMEs contribute up to almost 40% of the GDP in emerging economies. According to estimates by World Bank, there are 600 Mn jobs that will be needed by 2030 to absorb the multiplying global workforce. This makes the development of SMEs a high priority for governments worldwide. 

To ensure systemic stability and protection of SMEs against monopolistic exploitation, there is a growing need to ease the credit process. Startups and SMEs need quick and easy access to credit. While a small business loan can be the best thing for small and micro businesses, traditional lending institutions shy away from this segment. This is because traditional lenders view them as a risk factor because of the instability involved. 

Traditional lenders offer loans based on collateral, which is a difficult ask for SMEs. This is where new-age SME lending startups come in. These startups are taking the traditional NBFC processes in an entirely new direction with the use of deeptech such as artificial intelligence (AI), machine learning (ML) and data analytics.

These startups understand the role interest rates play in determining the cost of capital. When the interest rate levels of an economy are set right, they can help induce savings and stimulate investment spending, which in turn promotes growth in the segment. Let us delve deeper and understand the way interest rates can influence how businesses operate.

What Is The Impact Of Interest Rates On SMEs?

• Increase In Prime Rates: The prime rate is described as the lowest at which a bank will lend money. If there is an increase in interest rates, then the prime rate tends to go up as well. When such a thing occurs, lenders will end up increasing credit card rates and loan rates. This makes it much more expensive for businesses to be able to borrow the funds that they need.

This means that as a business owner, you will end up paying more to pay off your debt. It will subsequently become much more difficult to take short-term loans, pay for unexpected expenses, or expand your business.

• Cash Flow: Small businesses that operate with limited cash flow are impacted the most by high-interest rates. Generally, small business owners need to set aside more money to repay debts which can effectively reduce the income that is available to them. Higher rates of interest can also end up lowering the cost of assets, which makes it harder to sell them for capital.
• Decrease In Consumer Income: If there is a hike in interest rates, consumers end up with less discretionary income. This means that their ability to buy products and services is reduced, which results in businesses suffering due to a decrease in sales. When interest rates are high, banks too, issue fewer loans. This not only affects consumers but businesses as well, who have to cut back on expenses on equipment. 

Often, luxury products and services ventures end up being hit the hardest, since it is the first expense that consumers eliminate when their discretionary income is reduced.

• Difficulties In Obtaining Loans: For businesses, their daily financial business operations are impacted in two ways when there is a hike in interest rates. Firstly, any long-term debt becomes more expensive, especially if the loan has a variable interest rate. As the loan becomes more expensive, it will take longer to pay off. This results in increased financing costs and a lower income.

Short-term loans become more expensive as well with high-interest rates. This means it is more difficult for small businesses to meet their financial obligations, especially if there is an increase in unexpected expenses. If businesses do not have adequate cash flow, they may have trouble carrying out their operations. 

Other than difficulty in obtaining loans, a large segment of Indian SMEs is just not comfortable with transacting online. So how do the fintech players increase their reach to service MSME customers at the remotest places in India? The answer lies in data!

Startups are choosing other ways to bridge the human-digital gap. They are offering a range of digital assets to support the loan products. They hope to expand their reach to a larger population of underserved micro-enterprises by utilising AI/ML beyond the current use cases of fraud detection, underwriting and backend operations. The future for the fintech startups in India might just be a varied deeptech use case — designing ML algorithms, automating credit approvals, image processing capabilities, etc.

Further, government policies that compel commercial clients to relax restrictive regulations and offer more credit facilities to SMEs are the need of the hour. The recent budget saw the announcement of varied policies to bridge this gap. From linking existing MSMEs portals, to a blended NABARD capital fund, and the extension of ECLGS — all of which hope to help in credit facilitation to the MSME sector. Empowering them with access to credit from commercial banks will help them to develop their capabilities and become creditworthy. 

To bring a meaningful change to the SME credit lending industry, it is vital to leverage technology for the future sustainability and growth of the Indian SME sector. 

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