Theory to assess impact of bank credit on the growth and development of SMEs

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22nd Jun 2020 Business Question Reference this

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Question

what is the best theory for the topic an assessment of the impact of bank credit on the growth and development of SMEs?

Answer

The finance led growth theory believes that activities of the financial institutions serve as a useful tool for increasing the productive capacity in the economy. Schumpeter’s (1911:1934) theory of economic development can be used to assess the impact of bank credit on the growth and development of SMEs. Schumpeter identified the banks’ role in facilitating technological innovation through their intermediary role such as supply of credit to the productive sector. He theorised that to achieve this objective, banks should allocate savings through identification and funding of entrepreneurs with the best chances of successfully implementing production processes and innovative products. The transmission mechanism posits that, in order to reduce the quantity of money in their portfolios, the bank organisations purchase securities with characteristics of the type sold by the Central Bank, thus stimulating activities in the real sector such as SMEs. Using Schumpeter’s (1911:1934) theoretical framework, a model can be employed to help assess the impact of bank credit on growth and development of SMEs. For example, an SMEs output proxy by wholesale and retail trade as a component of GDP as a function of independent variables such as commercial banks’ credit to small scale enterprises, interest rate, savings and times deposit with commercial banks and the exchange rate.

References

Schumpeter, J., A (1934) The theory of economic development: An inquiry into profits, capital credit, interest and the business cycle. Harvard Economic Studies 46

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