11 November 2013

Getting the settings right on SME policy in PNG

GROWING the small and medium enterprise (SME) sector has emerged as one of the key priorities of the O’Neill-Dion Government in Papua New Guinea. Countries such as Malaysia and Indonesia have been held up as examples for PNG to follow and SMEs have been proposed as the key mechanism to create jobs, drive growth and develop non-extractive industries.

The government approved a 12 point SME Stimulus Package with wide ranging implications at the end of 2012 and is working to finalise a new SME Policy and ‘Masterplan’ by the end of this year. The Asian Development Bank (ADB) has been providing input into this process through membership of a national working group and was also one of the presenters at a recent consultative workshop in Port Moresby.

It is quite natural for the Government to attach a high importance to the SME sector. The countries that PNG’s leaders would like to emulate each have large SME sectors and the majority of PNG’s formal and informal businesses are SMEs. However, each country has its own definition for SMEs and cross country studies[1] have suggested that as an economy grows, the businesses within the economy also get larger.

Data source: ADB

SMEs make up over 97% of registered businesses in each of the countries included in the chart above but income in these countries and the contribution that SMEs make to employment and GDP vary widely. One interpretation of this data is that having SMEs as the major source of production and employment is no guarantee of prosperity.

Many of the virtues that are claimed for SMEs are not supported by rigorous research. For example, a major cross country study[2] found that having large numbers of SMEs did not cause faster growth. In most circumstances, large firms are more productive and provide better conditions for their employees. Research also suggests that large businesses make a greater contribution to net job creation than SMEs[3].

Recognising that SMEs are not a panacea, governments that want to harness the potential of the private sector should seek to achieve three complementary objectives: 
  1. make it as easy as possible to start and run a formal business; 
  2. create an environment in which successful businesses are able to grow; and 
  3. support the development of human capital through education and training.   
In most cases, these objectives are best served through broad policy settings that apply equally to all businesses. However, targeted policies can also be used to assist businesses that face specific constraints relating to their size or some other characteristic. This is the primary rationale for an SME Policy. Special policies can have unintended consequences and can ultimately undermine the broader objectives of social and economic development.  It is therefore important that policy development is guided by good quality data, rigorous analysis, and relevant experiences from other countries.

It can be difficult to access good quality data in PNG. The government has acknowledged this and is working to improve its understanding of the SME sector and to establish an ongoing program of data collection. In the meantime, data from business surveys undertaken through a collaboration between the ADB and the Institute of National Affairs in PNG provides some interesting insights into the business environment in PNG and the key priorities for reform.

Detailed surveys were carried out in 2002, 2007, and 2012. The surveys featured a wide range of questions but in each year companies were asked to rate on a 6 point scale the severity of a range of constraints to doing business. By comparing the mean responses to these questions across surveys we can form a view of the key trends in the general business environment.

What we see is that the largest improvements relate to the increased political and macroeconomic stability that followed the passage of the Organic Law of Integrity of Political Parties and Candidates (OLLIPAC) in 2002. In most other areas there has been minimal improvement over the past 10 years and in some cases things may have got worse.

Top 5 areas of improvement in the business environment from 2002 - 2012

Trends for other aspects of the business environment from 2002-2012

The data can also be analysed to see whether there are specific constraints that only apply to SMEs. For this analysis SMEs were defined as businesses with turnover of less than K5 million per annum with analysis restricted to data from the 2012 survey. Under this definition it appears that SMEs in PNG suffer from the same problems faced by larger businesses. The chart below shows the five areas in which there was the largest difference between the perceptions by respondents from SMEs and those from larger businesses towards particular constraints. Even in these areas the perceptions of the different types of business issue areas are very similar.

Analysis of the responses to some of the other survey questions suggest that business people in the SME sector are far more concerned about the potential impact of changes in government policy and regulation. They are also more likely to cancel planned investments because of problems complying with government regulations.

All of this provides food for thought as PNG works to develop its SME Policy. It seems clear that there is a huge need for improvements in the overall business environment and this is becoming more pressing as commodity prices soften and the investment boom associated with the LNG Project comes to an end.

If policy makers take note of the principles and evidence summarised in this article then the new SME Policy could set the stage for reforms to improve the business environment. If it ignores them then it risks making a bad situation worse. Getting the policy settings right will be a challenge but the government has taken a positive step by welcoming broad consultation and participation in the development of the policy.

David Freedman* is PSDI Coordinator in Port Moresby, PNG.

* The views expressed in this article do not necessarily reflect those of ADB or its partners.

[1] Snodgrass, D. and T. Biggs. 1996. Industrialization and the Small Firm: Patterns and Policies. International Center for Economic Growth.
[2] Demirgüç-Kunt, Beck and Levine, Small and Medium Enterprises, Growth, and Poverty: Cross-Country Evidence (December 2003). World Bank Policy Research Working Paper No. 3178
[3] Biggs, T, And Shah, M. (1998) The Determinants of Enterprise Growth in Sub-Saharan Africa: Evidence from the Regional Program on Enterprise Development. RPED Discussion Paper World Bank.