How Can The Government Help Small Businesses

How Can The Government Help Small Businesses – Governments around the world are promoting the participation of small businesses in government tenders. They do this directly through purchase orders or set-asides, indirectly through policies encouraging the participation of small businesses in tenders, or by supporting measures to level the playing field for small businesses to compete in the tender process. Greater small business participation in the government procurement process benefits not only small businesses, but the government and the economy as a whole. In India, policies to promote small business participation in government procurement have focused on micro and small enterprises (MSEs). At the central government level, there is a MSE procurement policy for central ministries, departments and public sector units. At the state level, policies to increase the supplier base of government MSEs vary across states. This white paper provides key international examples of promoting small business participation in government procurement, while also citing best practices by Indian states in scaling up their MSE supplier base. Finally, a list of 21 recommendations is provided for Indian states as they formulate and revise their procurement policies. This white paper is the first in a series of four white papers focusing on state-level trade reforms in India.

Small businesses account for 90 percent of all companies and 50 percent of all jobs worldwide. In emerging markets, small businesses account for seven out of ten formal jobs. Therefore, small businesses not only contribute to the economy; They are the economy. In India, small businesses are classified into micro, small and medium enterprises (MSMEs), known as the MSME sector. This differs from international small business measures that often (but not always) focus on the small and medium enterprise (SME) sector. In this paper, MSME refers to the broad classification of small businesses. The term MSE is used in the Indian context only when referring to micro and small enterprises. SME is used when referring to small and medium enterprises. All three terms are different and refer to different groups of small business classifications.

How Can The Government Help Small Businesses

As elsewhere, MSMEs are the engine of economic growth in India. They employ the largest number of people after the agricultural sector and represent 95 percent of the industrial units and 45 percent of the country’s industrial output. The MSME sector generates about one-third of India’s GDP, total value output, and services; MSMEs also account for half of the total exports from India.

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Given the important role of MSMEs in driving economies, governments around the world are implementing policies to support them in the hope that they grow into large, successful companies. One of the ways governments directly support MSMEs is by prioritizing procurement, creating demand for their products and (in some cases) giving them concessional terms to secure orders.

A major motivation for governments to implement such policies is the benefits they accrue not only to small businesses but to the wider economy. Government Small Business Procurement:

Economic multiplier effect, strengthening local supply chain and local economy. For example, a 2009 study found that the state of California generated nearly $4.2 billion and created 26,000 new jobs from 2006 to 2007 by contracting with disabled veteran-owned businesses and local small businesses instead of large companies. Studies consistently show extensive socio-economic benefits through MSME participation.

A literature review of recent efforts in Brazil suggests that government procurement can provide significant protection to MSMEs, and that this can have implications beyond the life cycle of government contracts.

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MSMEs also gain soft skills and other benefits by participating in the government procurement process, such as improved information systems and greater professionalism. Winning government contracts increases the volume and strength of demand for small businesses, providing a stable and favorable environment for them to invest and grow.

However, it is important to note the failures that can occur when public procurement policies are not properly implemented. Corruption in preferential procurement can lead to market capture, rent seeking, and other problems. Weak implementation creates long-term inefficiencies and leads to higher costs by increasing SME dependence on government favors and set-asides. Evidence is also inconclusive on whether the economic returns from MSME development offset any inefficiency losses from preferential procurement, and while some studies show that small business participation in government procurement promotes innovation, there are competing studies that suggest the opposite. Finally, set-asides – the most common means of promoting MSME participation – depend on erecting barriers that create market distortions. Therefore, it is important to ensure transparency and monitoring of procurement and to have a targeted approach to ensure that the benefits provided help companies grow. One thing governments can consider is limiting MSME procurement benefits to certain years, so that poor MSMEs that fail to grow do not continue to enjoy the benefits and spend on the government.

Governments around the world promote small businesses through both direct and indirect government procurement, and implement various support measures to encourage their participation in the procurement process.

Indirect measures and supports are as important as set-asides; It is important that governments adopt an integrated approach to promoting small business procurement.

Supporting Small Businesses

The text box below outlines some of the practices adopted by countries to promote the participation of MSMEs, MSEs, or SMEs in government procurement processes.

The procurement scenario in India is governed by policies and measures put in place by the central and state governments to promote small business procurement. Procurement policies are focused on MSEs, which constitute more than 99 percent of all MSME enterprises in India.

Public Procurement Policy for Micro and Small Enterprises The central government promotes MSE procurement. Central orders and policies apply to all Central Public Sector Enterprises (CPSEs), Ministries, and Departments of the Central Government.

To varying degrees, financial and non-financial constraints inhibit MSEs’ participation in government procurement processes. Prequalification requirements – such as turnover, previous government supplier experience, years of operation, etc. – may limit MSE participation. Meanwhile, financial requirements—such as tender fees for applications and subsequent securities—can restrict the free flow of money to MSEs, preventing them from applying and affecting their ability to complete tenders.

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For central procurement, registered MSEs are exempted from tender fee. Although Earnest Money Deposit (EMD), or bid security, has been removed for MSEs as per the General Financial Rules, 2017 amendments, and other orders, EMD may still be required if deemed necessary. In many cases, EMD has been demanded from MSEs despite being waived – which the government accepted when it suspended EMD again and reduced performance bonds as part of the Covid-19 regulatory crackdown. Even after ordering and delivering goods, services, or works, MSEs face locked assets and restricted cash flows due to late payments. Despite the 45-day payment timeline, interest penalties for late payments, and other government measures, late payments continue.

At the state level, state functions guide MSE procurement policy. States with procurement orders may incorporate them into their stockpile procurement regulations; soft rules; industrial policy; MSME Policy or MSE Promotion Policy; procurement policies and regulations; or any other act, rule, or state policy, depending on the state.

Additionally, Meghalaya gives 20 percent preference to buy startups. Uttar Pradesh has announced a 25 percent procurement preference policy for MSMEs after cabinet approval, but the policy has not been formally announced. Maharashtra has advised state institutions to procure 20 per cent from MSMEs whenever possible. Andhra Pradesh’s MSME policy expires in 2020 but mentions the use of the central government’s procurement mandate.

Incentives and policies to promote MSE participation in government tenders vary across states. According to the Ministry of Micro, Small and Medium Enterprises, the primary responsibility for the development and promotion of MSMEs lies with the state governments. The central government, at its best, complements the efforts of the state governments through various initiatives. Therefore, it is important for states to play a leading role in formulating effective procurement policies that help promote MSMEs and MSEs. Many states have taken measures such as exempting or exempting tender feeds, EMD, and performance securities. Some give exemptions for pre-qualification requirements such as turnover, prior experience, etc. Some additional key best practices from Indian states are listed below.

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Based on the above, Haryana and Rajasthan have taken the lead in formulating appropriate policies for small business procurement. While Rajasthan does not have a clear MSE procurement mandate, Haryana offers the highest procurement priority, offering concessions on tender fees, securities, and pre-qualification requirements.

Considering the important role that MSEs play in the economy, it is important for state governments to have their own MSE promotion policy, including an MSE procurement promotion policy. Listed below are some of the elements and reform measures that state governments can adopt as part of MSE procurement promotion policies. These recommendations are based on international best practices as well as leading examples from Indian state governments.

1. MSE purchase orders as a proportion of total purchases by state institutions. Such mandate should be equal to or higher than the 25% mandate of the Central Government.

6. Abolish EMD, tender fee, performance security, and additional performance security for ALBs

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