Learning to grow: Revitalizing the SME agenda

That SMEs are critical to inclusive growth has become axiomatic. SMEs employ a large share of workers in developing countries – the largest share in lower income countries – and create more jobs than larger firms. The growth and productivity of SMEs has far-reaching implications for quantity and quality of jobs, as well as income levels. Systemic reforms of factor and product markets can reduce the costs and risks that SMEs face, and also expand their opportunities. Targeted efforts that expand access to finance and enhance SME capabilities can also make a difference.

For the greater part of the past decade, the development community committed billions of US-dollars to support SMEs around the world. Over the 2006–2012 period, World Bank Group commitments totalled US$ 10.5 billion in IFC investments, US$ 4.9 billion in World Bank investments, and US$ 2.3 billion in gross exposure of MIGA guarantees. Other major financiers of SME programmes are the European Commission, multilateral development banks, and bilateral agencies. More recently, G20 countries have emphasized the role of SMEs post crisis in promoting economic recovery with jobs. They are joined by the B20 coalition, which represents over 6.7 million businesses and advocates for coordinated efforts to promote competitiveness and jobs.

Even as it takes centre stage, the SME agenda sits at crossroads. Recent research questions the relevance of firm size in and of itself as a special factor in spurring job growth. Recent evaluations by the World Bank’s Independent Evaluation Group also point to its mixed track record of targeted SME support. When effective, support programmes that bundle finance, business development services, and technology extension lead to incremental improvements in productivity and job creation. However, most SMEs are not fast growing. Only a small proportion is reflected by the high growth ‘gazelles’ that contribute to the bulk of job creation of value added. Identifying and cultivating high-potential SMEs remains a significant challenge.

Despite these challenges, policymakers, private sector actors, and the international community continue to have high expectations for SMEs as engines of inclusive growth. To this end, the World Bank Group’s Trade and Competitiveness Practice is revitalizing its approach. Our priority is to enable firms of all sizes, in particular SMEs, to be innovation-ready. Integration with global value chains offers new opportunities for innovation-ready firms.

This emphasis on ‘accelerated organizational learning’ in firms – an important but often overlooked aspect of the Asian growth miracles – centres around five lessons:

• Open and reliable ecosystems for firms of all sizes rest on well-functioning product, labour, and credit markets. Smaller firms typically experience economic constraints more acutely than larger firms. Hence, they stand to benefit from systemic efforts to reduce the costs and risks of entry and exit for firms regardless of size. Such an economy-wide framework comprises open trade and competition policies, a favourable investment climate, flexible labour market policies, and
national innovation systems. Equally important are banking systems that ensure access to credit to increasingly well-managed SMEs at long horizon or manageable interest rates.

• Integration with global value chains offers new opportunities for innovation- ready firms. There is growing recognition that SMEs are less likely to be involved in direct exports than larger firms. Integration with global value chains offers opportunities for SMEs to partner with lead firms – whether multinationals or larger domestic exporters – in pursuit of cost-based or quality-based export strategies, and thereby increase growth. A key issue is the capacity of SMEs to learn, to innovate specialized products and processes, and meet lead firm standards. Supplier development programmes, technology extension, and business management training can promote SME readiness.

• Hands-on technology extension efforts are critical in cultivating high growth firms. Capabilities and technology spillovers from larger firms or multinational corporations to SMEs are not automatic. Intensive, hands-on initiatives designed to foster technology absorption featured prominently in countries such as Japan and Singapore. Unlike traditional SME support efforts, these initiatives cut across size classes of firms. They emphasize early engagement through low-cost diagnostics, provision of financial resources for R&D and training, and ongoing ‘relational support’ with the help of both public and private sector institutions.

• How SME support is delivered matters. Effective support programmes integrate and sequence delivery of SME finance (lines of credit, partial risk guarantees, private equity schemes and matching grants), business development services and technology extension. They also take a flexible approach to targeting firms based on size classes or other characteristics, while emphasizing continuous improvement.

• Ensuring SMEs a voice is vital. Understanding the concerns of SMEs, in particular
‘gazelles’, is critical to the design of effective public policies. There is scope for public-private dialogue mechanisms to enable this class of firms and entrepreneurs to shape public policies and provide feedback on support efforts.

These lessons offer guideposts for countries seeking to revitalize their SME policies and programmes. Success entails experimenting with new approaches, identifying workable solutions, patiently developing support systems that are fitted to – not limited by – the economic and institutional realities that SMEs inhabit. The ultimate test will be the demonstrable growth and performance of this class of firms, and their contribution to inclusive and dynamic private sector- led growth.

This article is a part of ITC's SME Competitiveness Outlook 2015.