India’s financing shortfall for MSMEs: What can be done?

Micro, small, and medium-sized enterprises (MSMEs) form the foundation of the Indian economy. They account for 29% of the nation’s GDP and 49% of its exports, and are looking to grow their share of total exports to 75%. However, as is the case globally, MSMEs in India are underfinanced, widening the country’s trade finance gap.

To unpack India’s unique financing ecosystem and understand the reasons behind this shortfall, as well as the possible solutions, Doğa Usanmaz, Reporter at Trade Finance Global (TFG), spoke with Ajitabh Bharti, Executive Director and Co-founder, and Taranjit Jaswal, CEO and Managing Director at Mumbai-based CapitalXB Finance.

Doğa Usanmaz (DU): The global trade finance gap sits at a staggering $2.5 trillion. Is this due to a lack of capital, or are there other forces driving the gap?

Ajitabh Bharti (AB): Capital is not the binding constraint. Global banks hold enough liquidity; development finance institutions are flush. The gap is structural. 

Basel III’s risk-weighted asset framework penalises short-tenor, self-liquidating trade assets disproportionately – a 90-day receivable from an Indian textile small and medium-sized enterprise (SME) attracts the same capital charge as a leveraged buyout. When know your customer (KYC) and anti-money laundering (AML) compliance costs are added to that, a $50,000 invoice becomes uneconomical to underwrite for a non-bank financial company (NBFC). Correspondent banking retrenchment is shrinking coverage in frontier corridors, and there is information asymmetry, where buyers in developed markets cannot assess supplier creditworthiness. 

The gap is widest, precisely where growth is fastest – Asia, Africa, Latin America – because local financial infrastructure hasn’t scaled with trade volumes. Fix the risk-weight methodology, digitise trade documentation, and build shared KYC utilities: the capital will follow.

DU: Despite accounting for 49% of total exports, MSMEs in India are disproportionately impacted by the financing gap. What causes the government financing shortfall for MSMEs in India?

Taranjit Jaswal (TJ): The shortfall is not a policy failure. India has the Pradhan Mantri MUDRA Yojana (PMMY) government scheme, which facilitates loans to micro-sized enterprises, the Credit Guarantee Fund Trust for Micro and Small Enterprises (CGTMSE), emergency credit lines, and public sector banks’ (PSBs) lending mandates. 

This shortfall is rather a transmission failure. PSBs, which hold around 60% of MSME credit exposure, operate on collateral-first underwriting because their incentive structure punishes non-performing assets (NPAs), far more than it rewards incremental lending. A branch manager’s career risk from a bad MSME loan vastly exceeds the reward from 10 good ones. 

CGTMSE guarantees exist but are chronically underutilised: banks treat the guarantee fee as a cost, not as capital relief. Meanwhile, the definitional churn around MSME classification creates eligibility gaps. Enterprises that cross turnover thresholds mid-cycle lose access to priority sector benefits, precisely when they are scaling and most need credit. 

The deeper structural issue is that India’s formal financial system was designed for large-balance-sheet borrowers. The MSME financing problem is the system working exactly as designed – just for the wrong constituency.

DU: Which Indian industries suffer most from the financing shortfall, and why?

AB: Three clusters bear the brunt. First is textiles and apparel, India’s largest goods exporter by employment. 60 to 90-day buyer payment terms from European and US retailers create working capital gaps that PSBs, focused on collateral, cannot bridge. 

Second is engineering goods and auto components – high invoice values but thin margins mean even a 30-day delay is existential for a Tier-2 supplier in Pune or Coimbatore. 

Third is chemicals and pharma intermediates. Post-COVID supply chain realignment is pulling enormous order volumes to India, but pre-shipment finance for raw material procurement is chronically unavailable. 

The common thread between the three is that these are all process-manufacturing clusters, dominated by proprietorships and partnerships that sit below banks’ minimum viable underwriting thresholds.

DU: How can the government work with banks and alternative lenders to narrow the gap?

TJ: The most productive architecture is a three-layer stack. The government provides the risk absorption layer, which is the first-loss guarantees through CGTMSE, Export Credit Guarantee Corporation of India (ECGC) cover for export receivables, and priority sector lending (PSL) classification for alternative lender portfolios. 

Banks provide the wholesale funding layer. Co-lending frameworks allow banks to put 80% of capital into MSME loans originated and serviced by NBFCs, combining bank funding costs with fintech underwriting capability.

Alternative lenders operate the origination and servicing layer. They are closer to the borrower, faster to disburse, and structurally positioned to underwrite against cash flow rather than collateral.

The missing link is a government-mandated data-sharing protocol – the goods and services tax (GST), Employees’ Provident Fund Organisation (EPFO), and utility payments – flowing into a common credit registry that both banks and NBFCs can access on equal terms. Without that, the co-lending model works on paper, but not at scale.

DU: Do alternative lenders have a more expansive risk appetite than traditional banks?

TJ: Yes, but the reasons matter. Alternative lenders are not reckless; they are differently informed. An NBFC doing export factoring underwrites the foreign buyer’s creditworthiness and the invoice’s authenticity, not the Indian MSME’s net worth. A supply chain fintech underwrites the anchor buyer relationship and GST transaction history. Their risk appetite appears wider because their information set is richer and more current. 

Traditional banks use point-in-time financial statements, which are stale and manipulable. Fintechs use real-time invoice flows, shipping data, and payment velocity; proxies for business health that are harder to fake. The caveat: alternative lenders face a funding cost disadvantage over PSBs, which compresses their ability to serve the lowest-ticket MSMEs. Government-backed refinance lines, such as the National Bank for Agriculture and Rural Development (NABARD) for agri-exporters, partially bridge this, but coverage remains thin.

DU: How can supply chain finance be used as a tool to improve cross-border trade for MSMEs in particular?

AB: Supply chain finance flips the credit equation: instead of lending against the MSME’s weak balance sheet, it lends against the anchor buyer’s strong one. 

A Walmart or Tata Motors confirming a purchase order is effectively a sovereign-grade credit signal. Reverse factoring programs allow the MSME supplier to receive early payment at the buyer’s credit spread, not its own. For cross-border trade specifically, this matters acutely because the MSME faces a double liquidity gap: pre-shipment (raw materials, manufacturing) and post-shipment (60–120-day receivable). 

The missing piece in India is a digital infrastructure layer. Trade receivables discounting system (TREDS) has proven the model domestically, but its cross-border equivalent doesn’t exist at scale. Connecting export data processing and monitoring system (EDPMS), GST invoice data, and shipping bill records into a single receivables verification stack would allow NBFCs and fintechs to underwrite export receivables in near real-time, collapsing the information asymmetry that keeps capital out.

DU: How can export factoring and receivables finance enhance liquidity access for MSMEs?

AB: Export factoring directly monetises the receivable. The MSME sells its invoice at a discount and receives immediate liquidity, transferring collection risk to the factor. The elegance is that the credit decision pivots to the foreign buyer’s creditworthiness, not the Indian exporter’s net worth. For a ₹15 lakh garment exporter in Ludhiana with no fixed assets, this is the only viable instrument. 

Receivables finance goes further. With recourse structures, the MSME retains skin in the game, reducing the factor’s risk and lowering the financing cost. 

DU: How can technology and AI be harnessed to improve credit assessment in trade finance, ensuring that MSMEs with weaker credit histories are not penalised?

TJ: The core innovation is replacing backwards-looking balance-sheet underwriting with forward-looking cash-flow prediction. Three applications are transformative at scale.

Alternative data underwriting: GST return filing consistency, EPFO headcount trends, utility payment regularity, and e-way bill volumes are stronger predictors of MSME credit health than audited financials, which the majority of micro-enterprises don’t produce. Artificial intelligence (AI) models trained on these signals can generate risk scores for borrowers who are effectively invisible to traditional credit infrastructure.

Invoice intelligence: Natural language processing (NLP) models can parse shipping bills, purchase orders, and invoices to verify authenticity, while detecting duplicate financing and assessing buyer concentration risk. Tasks that took a credit analyst three days now take three seconds. TREDS already does this domestically; the gap requires extending it to export receivables with cross-border buyer data integration.

Dynamic credit limits: Instead of annual limit reviews, AI-driven systems can adjust MSME credit limits monthly based on order pipeline, GST outflows, and repayment velocity. This is critical for season exporters. A Diwali handicraft exporter in Moradabad needs four times their base limit in August and near-zero in March. Static limits either over-lend or under-serve. Dynamic limits optimise both risk and access simultaneously.

The regulatory prerequisite – and this cannot be overstated – is the account aggregator framework becoming mandatory for MSME lending decisions above ₹5 lakh (around $5300). Consent-based data sharing is live, but adoption is fragmented. A regulatory nudge making digitally verified data the baseline for PSL-qualifying MSME loans would compress credit assessment timelines from weeks to hours.

DU: What is the single most effective change (regulatory, financing, etc.) which would allow MSMEs to drive economic growth for India?

AB: Make GST invoice data the universal underwriting input (with MSME consent) for all trade finance products. Today, an MSME’s transaction history sits siloed inside the GSTN, invisible to lenders. 

A regulatory mandate requiring GSTN to issue machine-readable, lender-verified invoice trails would collapse underwriting costs, make collateral-free lending economically viable, and allow AI-driven credit models to price risk accurately across 63 million MSMEs. This is not a capital intervention; it is an information intervention. India’s productivity gap is a resource misallocation gap. GST-linked underwriting would route credit to where returns are highest – working capital for exporting MSMEs – rather than where collateral exists.

TJ: With MSME consent, mandate that GSTN invoice data, EPFO contribution history, and e-way bill records flow into a unified export credit underwriting commons. This should be accessible to all Reserve Bank of India (RBI)-regulated lenders on equal terms, with risk weights for loans underwritten against verified receivables reduced to 75%.

This single intervention eliminates information asymmetry, makes collateral-free export lending economically feasible, and levels the playing field between PSBs and NBFCs, intensifying competition and compressing spreads for MSMEs. It allows ECGC and private trade credit insurers to price insurance more accurately, reducing cover costs. And by connecting export documentation directly to the EDPMS framework, it accelerates RBI’s own goal of full export realisation tracking, which is a regulatory win that creates a political coalition behind the reform.

This is a coordination fix, not a subsidy fix. It requires institutions that already hold the data to share it under a common protocol. India has built the pipes – GSTN, OCEN, Account Aggregator, EDPMS – but they remain siloed. 

Through connecting them, the export MSME financing gap narrows structurally, without a single rupee of budget allocation.