India’s government is reported to have commenced talks with foreign lenders as it seeks to provide up to a further one trillion rupees (INR) – around US$14.5 billion – in credit to millions of the country’s smaller companies.

According to Reuters two officials told the news agency that New Delhi is in discussions with several foreign lenders, which include the World Bank, Germany's state-owned bank KfW Group, and some Canadian institutions.

Talks centre on extending lines of credit to Indian small enterprises, reflecting concerns that the country’s banking system may be insufficiently robust to do the job singlehandedly. KfW’s India office confirmed the early-stage discussions, saying the main focus was on credit lines to support small businesses' solar power generation.

The officials added that the government was exploring the possibility of securing loans from foreign institutions as Indian banks were not in a position to provide enough capital for the small business sector, which is regarded as a critical source of job creation.

“We are exploring, we are having discussions with various funding agencies if something can be done [for SMEs],” one official told Reuters,

The officials did not offer Reuters full details of the discussions they are having with banks - or confirm the names of those with which they are speaking - but said talks are at a very early stage.

Reviving economic growth

India’s Ministry of Micro, Small and Medium enterprise (MSME) is discussing the proposal to include foreign banks as funding sources with the country's Ministry of Finance, which is expected to make a final call.

The push for foreign loans comes after the Indian government’s announcement earlier this month that it plans to borrow about INR 700 billion (US$10 billion) to issue its first global sovereign bond to fund infrastructure projects

India has an estimated 63 million firms in the MSME sector, which generate more than a quarter of the country's manufacturing and services output and must be re-energised for prime minister Narendra Modi’s government to regenerate the economy.

Although it compares favourably with other major economies, India’s gross domestic product (GDP) growth slowed to a five-year low of 5.8% in Q1 2019, well below the 8%-plus rate that the government is targeting.

At the same time, credit availability for Indian SMEs – which also account for about 45% of the country’s exports – has worsened. A liquidity crisis in the country's shadow banking industry has seen big lenders struggle to remain solvent while state-owned banks, which dominate the sector, have been unable to step up lending as they are burdened with more than US$145 billion in bad loans.

This has created a severe credit squeeze for smaller firms, which pay up to 17%  annual interest on loans from banks. Meanwhile, the shadow banks -  also known as non-banking financial companies (NBFCs) - can charge as much as 20%. Last month, a study by a Reserve Bank of India panel said the overall deficit in credit for the MSME sector is estimated at between INR 20 to 25 trillion rupees.

Lending to such firms can be risky as some lack basic financial information, such as historical cash-flow data, which makes it more challenging for banks to assess the credit risks. To mitigate risks for foreign banks, the loans would be given sovereign guarantees and be routed through Indian government agencies such as the Small Industries Development Bank of India, the officials said.