As geopolitical tensions in West Asia raise concerns about a broader economic slowdown, India’s micro, small and medium enterprises may find themselves under pressure, especially when it comes to access to credit owing to a trust deficit. MSMEs account for over 90% of Indian enterprises, employ nearly 60% of the workforce, and contribute around 30% of the GDP. The Rs 10,000-crore growth fund announced in the budget is modest relative to the scale of unmet credit demand.
The report, Understanding Indian MSME Sector, points to some structural financing constraints. For instance, while many MSMEs struggle to access credit, ventures linked to merchant or trading communities show stronger entry and survival outcomes. This raises a sharper question: what institutional mechanisms enable some entrepreneurs to overcome credit constraints that continue to hinder others?
Historically, India’s merchant communities performed functions that formal finance either could not or would not. Pre-Independence, they operated not only as traders but also as moneylenders and local bankers, supplying capital in environments where institutional banking was weak or absent. Over time, these communities built dense commercial networks that extended far beyond their regions of origin, enabling them to combine trade, information, and finance within the same social architecture. This legacy persists. Research on publicly listed firms during 2001-2009 finds that roughly 44% of firm owners belonged to three communities — Marwaris, Gujaratis, and Parsis.
The report shows that barriers are not just about capital scarcity. While 36% of respondents cite access-related constraints such as high interest rates and limited local banking presence, an even larger share, 47%, identifies trust-related impediments: limited financial histories, stringent collateral requirements, complex loan procedures, and documentation burdens they cannot meet.
Merchant communities function through dense, relatively closed networks that combine rapid information flow with credible social sanctions. Reputation carries economic weight and members are disciplined not only by markets but also by continuous peer scrutiny. Long before a loan application is filed, information about an entrepreneur’s conduct, reliability, and commercial capability circulates within the network. Capital thus flows not merely on the basis of collateral, but on accumulated trust. Credit is often extended at standard, non-penal rates because risk is continuously monitored rather than retrospectively assessed.
India’s digital public infrastructure should have reduced information asymmetry in MSME lending. But much of credit appraisal still hinges on collateral and historical balance sheets, placing first-generation entrepreneurs at a structural disadvantage. Microfinance institutions have widened access by digitising borrower data but often compensate for residual uncertainty through high interest rates. Banks, despite policy encouragement to scale up MSME lending, remain cautious because asset quality concerns persist.
What trading networks demonstrate is that risk can be monitored, not just measured. These communities generate ongoing reputational signals long before formal underwriting begins. In effect, they institutionalise decentralised due diligence. Formal finance need not replicate these networks. Instead, financial institutions and policymakers designing MSME credit programmes could draw on this logic more systematically by incorporating verifiable indicators of peer reputation, repeated commercial engagement, and stable buyer-supplier relationships into credit appraisal models.
The conditions under which merchant-community networks operate — familiarity, repeated interaction, and embedded accountability — cannot be readily scaled across a heterogeneous economy. The point is not to transplant social structures into banking, but to recognise what they achieve: continuous trust verification. Formal finance must adapt this insight within transparent, rules-based systems.
Abu Rehan Abbasi is an Assistant Professor at IIM Kashipur. Views expressed are personal
