Microfinance in Small and Medium-Sized Enterprises (SMEs) in Pakistan: Practices and Problems in the Prevailing System and Prospects for Islamic Finance

Abstract

Almost all governments, administrative authorities, cooperative and social organizations, and NGOs support programs providing credit and finance and policies for alleviating poverty in the relatively less developed communities and societies of their respective countries. In Pakistan too, since the establishment of the banking and financial institutions, the primary emphasis of economic planning and policies has been on the provision of the basic infrastructure needed for the development of Large Scale Enterprises (LSEs) and the development of Small & Medium Sized Enterprises (SMEs). 1) Unfortunately, the initial efforts were unable to garner favorable results for SMEs, despite the fact that SMEs account for a significant part of the country’s economy and provide employment for villagers, generate skilled labor for Large Scale Enterprises and retard the tendency of villagers to migrate to mega cities in search of a livelihood. Even now, SMEs in Pakistan are facing a lack of capital funds and financial resources because conventional banking and financial institutions are located mainly in urban areas and mega cities. There is immense potential in SMEs for development as it is still an untapped segment of the country, which has been neglected by the authorities for a long time, resulting in societal disparity on a vast scale, economic imbalance and inequality, and social discrimination between urban and rural inhabitants. As the foundation stone of these development polices was not layed with an ethical and balanced economic approach, so the gap between rural areas and mega cities continues to widen at a very fast pace. A major constraint for the development of the small rural industries of Pakistan is the absence of financial linkage between those potential clients and the financial institutions. There are approximately 2 million SMEs in Pakistan. These include 400,000 manufacturing units, 600,000 Service sector units and 1,000,000 Trade sector units (retailers). In their contribution to the GDP, they constitute well above 90% of all enterprises in the country in terms of numbers, but because they are by definition small, their share in the GDP is not quite as dominant. They are estimated to be contributing approximately 11% to the GDP. In their contribution to employment, the SMEs employ roughly 80% of the total non-agricultural labor force in the country [Gallup Cyber letter on SMEs in Pakistan 2004]. 2. Prevailing Sources of Financing in Rural and Suburban Areas of Pakistan Pakistan’s economy is based on agriculture. The livelihood of more than 70% of the population is directly or indirectly associated with agriculture. The financing options for agricultural businesses are confined to the following three sources.