SMALL BUSINESS LOAN PROGRAMS IN UZBEKISTAN

Valentina BATURINA


Valentina Baturina, Ph.D. (Econ.), head of the Small Business Department at the Institute of Macroeconomic and Social Studies with the Ministry of Macroeconomics and Statistics of the Republic of Uzbekistan.


Private enterprise is becoming part and parcel of Uzbekistans socioeconomic development, a high-priority strategy and a key to the countrys economic prosperity and security. This is especially visible from the share of the private sector in GDP which in the past two years has grown from 4.2 percent to 14.2 percent1. Nonetheless, the rate of development of small businesses poorly compares to corresponding indicators in industrially developed countries. Small businesses account for a little more than 60 percent of the overall number of industrial enterprises2 whereas in the United States and Japan it is 90 percent to 95 percent.3 The trend that has evolved recently is not conducive to a competitive environment and therefore perpetuates monopolization of the national economy, especially considering that the state still regulates the bulk of large enterprises, factories, and joint-stock companies which produce 87.8 percent of industrial output.4 There is also extensive regulation of commodity markets. Despite the fact that higher priority has been given to small businesses recently, this segment of the market lags far behind large monopoly enterprises in terms of industrial output (3.4 percent5), profitability, and potential.

Small businesses are rather an insignificant factor in saturating the consumer market with domestic goods and in ensuring the countrys food security. Estimates show that there are two small businesses per 1,000 residents in the republic whereas in the United States, Germany, and France this indicator stands at more than 20.

The small business sector employs approximately 5 percent6 of the republics total working population, which creates problems with the formation of the middle class as the bedrock of social stability and the immutability of market reforms, also depressing investment activity insofar as it concerns the use of household savings, and can lead to higher unemployment and decline in the populations income and living standards.

The structure of the small business sector in the republic is still far from optimal.

The Structure of the Small Business Sector in 1999 (sales proceeds),7 percent

Total

Industry

Agriculture

Construction

Trade,

public catering

Commercial

activity

Science

Other

100

13.6

0.8

8.3

68.8

0.9

0.6

7

Meanwhile, in developed market economies, small businesses constitute a stable structure and dominate in the production, construction, trade, services, and high technology spheres.

Basic Indicators of Small Business Development in the Republic of Uzbekistan in 1999, percent

Share of GDP

Share in the total

number of industrial

enterprises

Share of industrial

output

Share of employed

Number of

enterprises per

1,000 people

14.2

64

3.4

5

2

All sorts of obstacles posed by authorities at all levels as well as flawed legislation with a large number of ordinances limiting the freedom of action (as provided for by the law) and eroding legal security guarantees for businessesall of this seriously complicates the organization of new companies and hinders successful development and operation in a market environment.

One of the most acute problems is the provision of loans to small businesses. Unhindered access to financial sources is a key not only to successful economic activity but also to the very survival of small businesses in a market economy.

Addressing a Cabinet of Ministers session dedicated to the countrys socioeconomic performance in 1999, President I. Karimov of Uzbekistan laid a special emphasis on the need to promote advanced funding, in particular, small-business lending, schemes. A simplified procedure for the provision of small loans to small enterprises, farmers, one-man (individual), and family businesses is a key factor in their promotion and successful development. The basic principles of creating a small business loan system, including in foreign countries, are well known.

In the 1990s, small investment and loans, in particular, micro-credits, became an effective means of supporting private and one-man businesses in the worlds financial services practice. The first country to use a small business lending system with a very low default rate was Bangladesh, where loans were made on a Gramin Bank group monitoring model. More than two million people (94 percent of them women) got loans under this program. In Indonesia, state-supported banks successfully use recommendations/testimonials, attracting local lending agents. Various small business lending systems are working successfully in Mexico, India, the United States, Canada, Germany and other countries.

Interaction between Small Businesses and the Banking Sector

In Uzbekistan, the banking sector is a key to operating effective lending schemes for small businesses. However, with the current money crunch and a strong aspiration to get maximum profits, banks have little incentive to provide loans to small businesses. Even despite the fact that the state has granted tax breaks and other exemptions to banks that provide loans to small businesses, the banking system does little to invest in this sector of the economy. Banks consider such loans to be high-risk: small businesses have a relatively high bankruptcy (default) rate. Moreover, all sorts of formalities and bureaucratic obstacles deter private entrepreneurs from going to a bank.

It is essential to provide new types of financial services responding to the needs of the private business sector: provision of short-term loans, new collateral schemes, and streamlining and simplifying the lending procedure.

Even a relatively small sum of money can be critical for a considerable part of the population, especially in the countrys rural areas. Yet, the difficulties involved in getting loans and the need to pay high interest on them force many businesses to seek unofficial intermediary services, which only strengthens the shadow sector of the economy. Private services are typically sought by trade and intermediary firms. The difficulties involved in obtaining loans discourage them from seeking bank loans through official channels. At this point the advantages of the informal lending market come into play: no credit insurance or property collateral requirements, time saving, and better interest rates than at banks.

Lending through Extrabudgetary Funds

The republic has an established small business lending program based on credit lines operated through extrabudgetary funds. Small loans thus provided are used to develop and expand farming businesses, including to acquire agricultural machinery, buy cattle and mixed feed, veterinary preparations, chemical crop protection means, and mineral fertilizer; to process raw materials; to produce handicrafts and applied folk artworks; to provide consumer and other services to the population; to promote private heath-care and pharmaceutical projects; to develop the tourist industry; and to organize small consumer goods production and family businesses.

Such credit lines are popular among businessmen. Yet the high interest rates negatively affect the financial market. Commercial banks providing such credit lines have no incentive to finance small businesses. Moreover, the current procedure is complicated by a number of mandatory requirements and additional instructions and regulations from the Central Bank.

Analysis of the target specific use of credit resources provided by the Fund for Support of Small Businesses showed that the bulk of resources is invested in the development of infrastructure and production in rural areas. Furthermore, money is funneled to increase property assets. As a result of stage by stage utilization of loans provided to these businesses, according to the AO Business Fund, in 1999, more than 51,000 new jobs were created and more than 10 billion soms worth of consumer goods were produced and services provided. The number of borrowers is growing; by now it is nearly 3,500 while the sum total of the value of loans granted has exceeded 4.2 billion soms. Despite the dynamic growth of loans provided by the Business Fund, the monetary and credit market is yet to be saturated with banking services.

The problem of small business lending should be addressed by the state, in particular by setting up and developing extrabudgetary state and non-state funds. This will help create new jobs and resolve the employment (self-employment) problem, especially in rural areas. Since many forms of labor activity were legalized, self-employment has gained much ground with more than 500,000 people being self-employed at present. In the early years of independence and reforms, self-employment was highly instrumental in alleviating tension on the labor market, averting mass unemployment, and maintaining social stability in the country.

Small loans at moderate interest rates can become a starting point in raising start-up capital and setting up many new businesses.

Small business lending programs in commodity production and the services industry can not only attract new sections of the population to entrepreneurial activity but also help overcome the old, deeply ingrained stereotypes and parasitic attitudes, generally facilitating a real market environment.

In this connection it is of paramount importance to expedite the drafting of a small business lending program for individual, privately run, and family businesses based on the existing laws and also by putting in place a new regulatory base, in line with international norms and regulations, inviting international partners and legal experts to make their contribution.

Cooperation with International Organizations

The Institute of Macroeconomic and Social Studies under the Ministry of Macroeconomics and Statistics has developed a program to promote cooperation with international organizations and institutions. Its implementation will provide new and effective incentives to small businesses and help reform social infrastructure with public funds and credit unions, and also through institutional consolidation of small commercial banks.

According to the Central Bank, approximately $400 million was funneled to promote the small- and medium-sized private sector, about $300 million of which has been successfully used. A substantial part of resources was received from international financial organizations: the Central Asian-American Fund for Support of Enterprises, the European Bank for Reconstruction and Development, the Japanese Fund for Economic Cooperation, and others. Nonetheless, foreign investment mainly ends up in the medium-sized business sector, with small businesses seeing virtually nothing of it.

The EBRD opened a credit line for a number of projects worth a total of $180 million and the Asian Bank for Development, a total of $50 million. In a second credit line, the EBRD took on 117 projects worth $32.1 million and the Asian Bank, eight projects, worth $11.3 million. Yet, these credits are being used very slowly. Hard currency loans are only available to export oriented enterprises.

Uzbekistan, which has some specific experience and a corresponding mentality, needs to put in place its own national small business lending systemalong several lines, including through international organizations that have relevant experience in the field. By far the most effective small business lending scheme, however, could be provided through the Makhallya Foundation, the Association of Business Women, and other public organizations.

The Association of Business Women of the Republic of Karakalpakstan, using UN methodology, is already implementing pilot UNDP individual small loan projects in Karakalpakstans cities of Kegeyli, Chimbai, and Akmangit. This program is based on collective guaranteed borrowing methodology that is being successfully used in many countries by a number of organizations, including by the Gramin Bank, Action International, and FINCA in Latin America. Its distinguishing feature is that those wishing to obtain a small loan do not need to pledge property as collateral. The discipline of loan repayment is based exclusively on mutual trust and public control within lending groups.

Potential participants in the small business lending program are low-income families wishing to set up, say, a sewing workshop, small-scale trade operation, a small farm, and so forth. Under the project, the national partner (Association of Business Women) receives funds and technical assistance and trains its personnel, which has enabled the Association to become a reliable financial organization that can promote effective small business lending projects. At the initial stage of the program, approximately 200 people were involved, mainly women. In January 1999, after the implementation of the pilot stage was reviewed, it was decided to expand the project to provide assistance to low-income families living on the Aral Sea coast. As a result, 519 clients benefited from the program right from the start. As of now, 377 loans have been granted, totaling 9.2 million soms. In all, more than 32 million soms worth of loans have been provided. The average size of a loan (current and gross) is approximately 25,000 soms. It is noteworthy that loan repayment rates are lower in cities than in rural areas, where the concept of collective borrowing and public control has turned out to be more effective.

The Association of Business Women actively cooperates with the Open Society-Uzbekistan Institute (Soros Foundation) with whose assistance about 300 women working at non-banking financial establishments received training at the Microfinance Center in Warsaw, at the Wingrock Institute (U.S.), and in the city of Kora-Bolt (Kyrgyzstan). A public small business lending pilot project sponsored by NOVIB (Netherlands) and the UNDP is also being implemented in the town of Beshchashma, Chirakchi tuman, Kashkadaryin viloyat.

Still, there are a number of problems that are yet to be addressed: the lack of a legal, regulatory framework for the development of small business lending programs; unfavorable terms for small loan programs, including high interest and tax rates and credit security requirements; cash availability problem; shortfalls in coordination of the activity of international organizations and institutions; difficulties involved in obtaining information and establishing contacts with foreign partners; insufficient personnel training standards, and gaps in the study of international experience in organizing small business lending projects and the activity of credit unions.

Further cooperation with international organizations should above all be aimed to put in place an appropriate regulatory framework and to adapt the modern financial and credit and credit-union technology to Uzbekistans environment.

Small Business Loans Through Public Funds

One promising line of work, responding to the republics national specifics, traditions, and mentality, is the organization of small business lending projects through the Makhallya public foundation with special status being given to Makhallya committees. These committees are able to effectively assess an applicants business experience, track record, and qualifications, as well as his commitment; also to control the use of funds provided and to ensure the timely repayment of loans. Once they have obtained preliminary data, Makhallya committees submit the exact number of applications to district, city, and regional khokimiyats. For their part, the khokimiyats, together with Makhallya committees, determine the total value of loans to be granted. Khokimiyats submit the applications with the appropriate data to the Central Foundation which for its part decides how much money it can make available to each particular district. Loans may only be granted based on an businessmans application and business plan. To ensure the timely repayment of the loan, a system of collective responsibility for repayment needs to be put in place. In this respect, the Makhallya is again called upon to play a major role. This small business lending system is considerably simplified and available to a considerable number of entrepreneurs, especially at the initial stage when start-up capital needs to be raised.

Success of small business lending projects will also be contingent on such organizations as the AO Business Fund, the Chamber of Commodity Producers and Entrepreneurs, the Association of Business Women, and the Association of Farming Businesses and Private Farmers as well as on credit lines opened at small (private) banks. To consolidate them, it is essential to promote and expand cooperation between the Central Bank and such partners/donors as the International Bank, the European Bank, and the Asian Bank for Development.

Credit Liberalization Measures and Mechanisms

Successful development of the small business lending system is impossible without resolving a number of outstanding problems. First of all, there is an urgent need to draft a package of laws and regulations, primarily a law on small business loans providing for a simplified lending procedure and free market relations between the partners; a law on credit unions, and regulations on the activity of credit unions. Possible partners in the drafting of these laws and regulations are as follows: the UN Development Program, the European Bank, the Asian Bank for Development, the World Council of Credit Unions, and the Central Asian Fund for Support of Enterprises. It is critical to streamline and simplify the existing procedure for providing small loans to commercial banks, loan repayment mechanisms, small loans in cash, and collateral-free lending. It is vital to put in place an appropriate legal framework to regulate the operation of extrabudgetary credit organizations. It is high time to upgrade and amend the Law on Citizens Self-Government Bodies, which will help enhance the role of Makhallyas both in the sphere of individual labor activity and in providing small business loans; to establish a central fund responsible for formulating a general mechanism for a non-banking small business lending system and distributing small lending resources in the republic; to organize effective training programs for businessmen, Makhallya and khokimiyat officers, and commercial bank employees. It is just as important to put in place an effective system to support small-sized private enterprises on an emergency assistance principle.

All of these measures will help facilitate the development of the small business sector not only in Uzbekistan but also in neighboring countries of the Central Asian region which are faced with basically the same problems of socioeconomic development and are going through a transition period in building a market economy.


1 Calculated by the author based on the statistical bulletin Osnovnye pokazateli deiatelnosti malykh predpriiatii i mikrofirm RUz za ianvar sentiabr 1999 goda, Tashkent, 1999.

2 Calculated by the author based on Statisticheskii biulleten po trudu po formam sobstvennosti za 1998 g.

3 See: V. fanasiev, “ Maliy biznes: problemy stanovleniia,” Rossiiskii ekonomicheskii zhurnal, No. 2, 1993.

4 Calculated by the author based on the statistical bulletin Proizvodstvo promyshlennoi produktsii v stoimostnom vyrazhenii po Respublike Uzbekistan za 1999 god, Tashkent, 2000.

5 Ibidem.

6 Calculated by the author based on statistical bulletins Osnovnye pokazateli deiatelnosti malykh predpriiatii i mikrofirm RUz za 1998 g. and Statisticheskii biulleten po trudu po formam sobstvennosti za 1998 g.

7 See: Statistical bulletin Osnovnye pokazateli deiatelnosti malykh predpriiatii i mikrofirm RUz za ianvar sentiabr 1999 g.


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