Role of Credit Guarantee for Financing MSMEs: Evidence from Rural and Urban Areas in Indonesia

Abstract

The development of MSMEs has become a great way to increase economic growth and employment. One of the reasons that banks are reluctant to lend to SMEs is information asymmetry. In order to solve this problem, the development of a nationwide SME credit risk database similar to the credit risk database of Japan that accumulates SME databases and acts as a credit scoring company for SMEs needs to be established in Indonesia. This could be a useful soft infrastructure for the development of SMEs in this country (Kuwahara et al. 2015). The sector in which an MSME operates also affects the decision to grant credit. In addition, the location of an MSME in rural or urban areas is a determining factor for financial institutions in granting credit. In addition, banks have to follow more rules and regulations in granting credit than nonbank financial institutions do. The rules include collateral requirements, financial reports, and business licenses and other prudential provisions

that should be obeyed by potential customers. On the other hand, most MSMEs, particularly micro and small enterprises, generally have not yet been informed about the system and the procedures for borrowing from banks. Consequently, in many cases, their loan applications are not complete in terms of document requirements and are returned by the bank. The procedures are then thought to be time consuming for the MSME. What is more, the banks have little information on the business or potential commodities to be funded and on other MSME data. The other problem is the relatively high operational cost of providing credit for micro and small enterprises compared to credit for large enterprises both in rural and urban areas.