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Private Sector Development and Small and Medium Sized Enterprises. Stephanie Vella University of Malta International Conference on Small States and Economic Resilience April 2007. Main Themes. Economic Vulnerability and Resilience Private Sector Development and Economic Resilience
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Private Sector Development and Small and Medium Sized Enterprises Stephanie Vella University of Malta International Conference on Small States and Economic Resilience April 2007
Main Themes • Economic Vulnerability and Resilience • Private Sector Development and Economic Resilience • SMEs as the backbone of an economy • Business Reform in Small States Conducive to Private Sector Development • Doing Business Index (World Bank) • Managing Reform
Economic Resilience and Private Sector Development • Economic vulnerability of small states (Briguglio 1993, 1995) • High dependence on international trade and thus susceptible to external economic conditions • High unit costs • Lack of economies of scale • Indivisibility of overhead costs • High transport costs • Large public sector/capita
Economic Resilience • Globalisation has brought on a new set of economic challenges for small states (Review of the Small States Agenda) • Faster than anticipated preference erosion for traditional exports • Globalisation facilitates the extent to whichshocks can be passed from one economy to another • These challenges will translate into greater risk unless backed by appropriate resilience policies in the macroeconomics sphere, microeconomic market adjustment, social development and governance. • With appropriate policies these challenges can be translated into opportunities
Private Sector Development and Economic Resilience • Competitiveness provides the means by which countries survive and thrive in a globalised market environment. • Competitiveness is encouraged in a market based approach • In small states appropriate polices to foster private sector development in a competitive environment could actually determine the extent to which the inherent openness of small states translates into a weakness or strength.
Economic Resilience and Private Sector Development • One of the pillars of economic resilience is microeconomic market efficiency. • The efficiency and effectiveness with which resources absorb or adjust to economic shocks, be they positive or negative. • The efficiency of the market depends on • Number of economic players in the market • Absence of externalities • Extent of flexibility
Economic Resilience and Private Sector Development • Lewis (2004) explains that the key to increasing productivity and efficiency is through intense, fair competition which tends to prevail in an environment where private sector initiatives are encouraged • Loayza and Soto (2003) also indicate that the prerequisites for the proper functioning of markets include private participation and the existence of competition among private agents
Economic Resilience and Private Sector Development • The private sector is generally more exposed and therefore responsive to market realities when compared to the public sector. • Private sector is equipped with entrepreneurial skills while the public sector is often encumbered by inefficiency and over employment.
Economic Resilience and Private Sector Development • There is a tendency for market failure in the absence of the conditions required for the effective operation of the market. • This situation seems to prevail even more so in small states as domestic markets in small states are often small and thin (Downes, 2006) • Therefore there are typically only a small number of players arising in monopolistic and oligopolistic market structures. • Policy intervention such as competition law is required to minimise welfare loss.
Economic Resilience and Private Sector Development • The existence of market failure however does not exclude the importance of the private sector nor the key role it plays in nurturing the economic resilience of small states
Economic Resilience and Private Sector Development • Joint Commonwealth and World Bank Report recognises that that while small states face huge competitive challenges, for most small economies, investment in small and medium sized enterprises particularly in the export sector offers the best chance of rapidly creating jobs, increasing national income and widening the tax base.
Economic Resilience and Private Sector Development • ADB encourages private sector development through three main thrusts • Creating enabling conditions • Generating business opportunities • Catalyzing private sector investment These thrusts have been anchored in four main areas which are governance, financial intermediation, public private partnership and regional and sub-regional cooperation
Economic Resilience and Private Sector Development • Government’s supporting role • Influencing costs through the regulatory burden • Taxes • Infrastructural services • Labour market regulations • Policy predictability • Enforcing property rights • Competition policy • Public infrastructure plays a complementary role to providing an environment conducive to private sector development
SMEs as the backbone of an economy • Typically most of the enterprises in small states are micro enterprises. • By international standards, firms in small states would be considered SMEs. • SMEs currently account for over 85% of firms and 60-70% of employment in OECD countries.
Limitations • Early economic theory was based on the notion that small enterprises were at a disadvantage • Limited capacity in reaping economies of scale • High fixed costs of learning about foreign environments • Difficulties in negotiating with national governments
Overcoming limitations • Fragmentation of production processes and strategic corporate alliances has made it possible for networks of small firms to overcome their limitations and to compete
Positive features of SMEs • Flexibility in responding the dynamic market condition and evolving consumer preferences • Motivation and commitment • Ability to exploit market niches • Stronger competitive tendency • Two areas of focus • Economies of speed • Strategic corporate alliances, networks and clusters
Challenges faced by SMEs • Obtaining financing • Exploiting technology • Heave regulatory burdens
Business Reform in Small States • Doing Business Index published by the World Bank (2007) • Starting a business • Dealing with Licences • Employing Workers • Registering Property • Getting Credit • Protecting Investors • Paying Taxes • Trading Across Borders • Enforcing Contracts • Closing a Business
Starting a Business • Easing start-up was recently listed by a panel packed with Nobel laureates as one of the most cost effective ways to spur development ahead of investing in infrastructure, developing the financial sector and scaling up health services. • Experience shows that removing obstacles to business start-ups is associated with new formal business, added jobs and more investment(World Bank, 2006)
Dealing with Licenses • Procedures are typically long and costly thus stifling the development of SMEs. • In St.Vincent and the Grenadines it takes 11 procedures to acquire the license over a period of 74 days. Cost of dealing with licenses is among the lowest at 10.6% of income per capita. • In Papua New Guinea it costs 110% of income per capita to deal with licenses and an impressive 1657% of income per capita in Sao Tome and Principe. It takes over 200 days to deal with licenses in both small states.
Employing Workers • Employment regulations: designed to protect workers from unfair or discriminatory actions by their employers. • However each point of regulation tends to create a restriction on the company’s ability to use its workforce effectively.
Registering Property • Defining property rights is one of the most important prerequisites required in developing the private sector. • When it is too burdensome to go through official channels, owners transfer ownership informally. • loss in tax revenue for the government owners lose clear title to their land thus making financing more difficult.
Getting Credit • Access to credit is critical to ensure strong business growth. • Areas for reform include: • Weaknesses in the regulations which affect the legal rights of borrowers and lenders. • Weak credit information systems and weak collateral laws.
Protecting Investors • This variable measures the strength of minority shareholder protection against misuse of corporate assets by directors for their personal gain. • Most small states fair reasonably well in this indicator with Antigua and Barbuda, Dominica, Fiji, Grenada, Samoa, St.Kitts and Nevis, St.Lucia and St.Vincent and Grenadines all scoring a rank of 19 out of 175 countries measured in this category. • Most of these small states score highly in terms of liability of self-dealing and possibility of suing but low in terms of transparency of transactions.
Paying Taxes • High progressive income tax rates tend to discourage private initiative. • Type of tax systems and complexity of the system. • Compliance costs
Trading Across Borders • This category includes the extent to which international trading is encouraged. • In Singapore it takes 6 days to export and import and the average cost per container is over $375 container. • In Guyana it takes approximately 60 days to import and export and the cost per container averages at $1600 thus discouraging the extent of trade.
Enforcing Contracts • Commercial courts should be fast, fair and affordable and efficient in their operations. • In Jamaica, it takes 415 days to enforce the contract the costs of which are over a quarter of the debt. • In Trinidad and Tobago it takes over three and a half years to enforce the contract • In Papua New Guinea the cost of enforcing the contract is 110% of the value of the debt.
Closing a Business • This topic identifies the weaknesses in existing bankruptcy law and the main procedural and administrative bottlenecks in the bankruptcy process. • Most small states do not have procedures for closing a business
Managing Reform • Excessive Regulation and ‘Dead Capital’ • Establishing the optimal level of regulation • Prioritising reforms • Required to build economic resilience • Small states cannot afford to fall behind
