SME Financing: A Challenge in a Vulnerable Economy Presenter Saqib Farid (UMT, Lahore) Co-Author Abdul Rafay (UMT, Lahore)

Brief Summary We empirically investigate the impact of terrorism on external financing extended to SME sector in Pakistan We use financing extended by banks to SME as proxy of SME development and number of terrorist attacks as proxy of terrorism Two controlling variables non performing loans of SME sector and Counter Terrorism Funding Quarterly data from January 2004 to June 2016 JJ cointegration test, vector auto correction model, impulse response functions and variance decomposition analysis

Manufacturing Employment Government Support initiatives Background SMEs Economic Growth Manufacturing Employment Inadequate financing Government Support initiatives

Trivial Credit History Underdeveloped bank and borrower relationship SME Access to Finance SME Opaqueness Trivial Credit History Absence of Collateral Creditworthiness Meager cash flows High Risk Premium Underdeveloped bank and borrower relationship

Factors Driving SME Development Business Environment Institutional Development Lending Technologies Uncertainty Shocks

Economic Costs of Terrorism Poor Economic Growth Adverse impact on Small Firms Credit Rationing Unshielded Sectors Emerging Economies

Linking Terrorism and SMEs Development in Pakistan

Civilian Fatalities in Terrorism 2003-16 Year Terror Fatalities 2003 189 2004 863 2005 648 2006 1471 2007 3598 2008 6715 2009 11704 2010 7435 2011 6303 2012 6211 2013 5379 2014 5496 2015 3682 2016 1640

GDP Growth Rate 2002-15 Year GDP Growth Rate (%) 2002-03 4.7 2003-04 7.5 2004-05 9 2005-06 5.8 2006-07 5.5 2007-08 5 2008-09 0.4 2009-10 2.6 2010-11 3.6 2011-12 3.8 2012-13 3.7 2013-14 4 2014-15 4.2

SME Financing and NPLs in 2004-16

Data SME Financing SME NPL Counter Terrorism Funding Terror Incidents Quarterly Review of SME Financing SME NPL Counter Terrorism Funding Pakistan Economic Survey Terror Incidents Global terrorism index South Asian Portal of terrorism

Empirical Model SMEF = f ( TI, SMENPL, CTF)

Unit Root Test First Difference Second Difference SMEF SMENPL TI CTF   First Difference Second Difference Model None Constant Constant and Trend t-statistic SMEF -2.0370** [3]   - -4.3224* [5] -19.8336* [2] SMENPL -4.8894* [0] -5.1382* [0] -5.5007* [0] TI -9.9762* [0] -9.9408* [0] -10.0678* [0] CTF -9.6607* [2] -7.1966* [1] -7.4723* [1]

Multivariate JJ-Cointegration Test Trace Statistic Critical Value Max-Eigen Statistic Max-Eigen Statistic 72.3174** 55.2457 27.3274 35.0109 44.9899** 30.8150 18.4075 24.2520

VECM Granger Causality Results Dependent Variable Short Term Causilty Long Term Causality TI SMENPL CTF ECT t-1 SMEF 3.0724** (0.0463) 0.03272 (0.9678) 7.3400* (0.0006) -0.2780* (0.0000)

VECM Granger Causality Results Direction of Causilty Long Run (ECT t-1) Short Run (F-statistic) TI causes SMEF Significant at 1 percent level Significant at 5 percent level SMENPL causes SMEF No CTF causes SMEF

IRF of SMEF

IRF of SMENPL

Variance Decomposition of SMEF Period SMEF TI SMENPL CTF 1 100.0000 0.000000 2 93.10653 1.052010 2.275145 3.566314 3 89.36009 0.751228 7.115604 2.773074 4 79.57147 1.063021 14.49105 4.874463 5 74.44129 2.869330 18.63684 4.052545 6 68.83164 4.698284 23.17272 3.297353 7 60.33666 6.390410 27.63318 5.639742 8 54.57568 9.249971 30.26787 5.906476 9 50.49566 11.69457 32.53129 5.278484 10 45.44281 13.20377 34.69484 6.658578

Variance Decomposition of TI Period   SMEF TI SMENPL CTF 1 0.253288 89.11383 2.318153 8.314730 2 0.548137 91.51664 1.997948 5.937274 3 0.825753 87.98647 1.400799 9.786973 4 2.526803 87.41460 2.577262 7.481333 5 2.328272 89.22153 2.476690 5.973505 6 2.665062 86.80558 2.028963 8.500395 7 3.357563 87.31761 2.222896 7.101930 8 3.402711 88.19505 2.211462 6.190773 9 3.395229 87.28901 1.927464 7.388293 10 3.833571 87.27460 1.855123 7.036709

Variance Decomposition of SMENPL Period SMEF TI SMENPL CTF 1 16.05481 0.000000 83.94519 2 25.56666 0.447063 72.17620 1.810071 3 30.97371 0.245970 60.11164 8.668687 4 34.47701 0.429015 56.81672 8.277255 5 36.35569 0.654058 54.97105 8.019208 6 37.20763 0.883331 51.41762 10.49142 7 38.30808 1.302550 49.26237 11.12700 8 39.21303 1.669710 48.29357 10.82369 9 39.57088 1.949022 46.47530 12.00480 10 40.00768 2.310689 44.85373 12.82789

Long-Term and Short-Term Role of Business Environment Findings Novel Evidence Causality Long-Term and Short-Term Role of Business Environment

Policy Implications SME Performance and Access to Finance large stagnant SME Lending Technologies Need for Higher level of innovation and competitiveness

Thank You !