Is support for small firms in developing countries really in the interest of the specific countries?

“Formal SMEs contribute up to 60% of total employment and up to 40% of national income (GDP) in emerging economies.” (Bell, 2015)

This quote, published by the Worldbank points out the high significance of small firms in developing countries. But amongst others they face one relevant problem: they cannot profit from economies of scale the way bigger companies do. This is because they mostly have lower production quantities and thereby less labor division (Ceglie, Dini, 1999). For small firms in developing countries this can lead to a vicious circle: with low income and productivity they can only get expensive credits which likely increases their poverty. The literature suggests certain approaches of support for small firms that somehow include cooperation with other business players to make economies of scale more reachable.

Due to this unfavorable position other countries, companies and organizations provide them with different kinds of development aid. Whether and how this foreign aid really helps the developing countries to grow is strongly questioned since decades (Hermes, Lensink, 2001). The goal of development aid is to create positive impacts on employment, infrastructure and market development. If implemented successfully, this will ideally lead to self-sustained development (Kirsten, Sartorius, 2002). Unfortunately, the past teaches us that the desired aims can often not be reached or even worse; poorer outcomes are obtained. These can for example be dependencies on foreign aid or the exploitation of the small firms in the developing countries.

Research perspective

For this kind of research it is important to point out that most of it is done by authors from developed countries: thereby it can happen that literature focuses more on advantages for bigger companies in the researchers’ home countries. More generally regarded, these approaches often focus on the economical perspective and skip social, cultural and behavioral aspects. However, behavioral aspects like trust between the different players are of high relevance for success of networking approaches in developing countries (van Dijk, Rabelotti, 2005).

Contract farming

To show how different approaches in support of small firms perform regarding procedure as well as achieved results I will briefly present some different kinds. A well-known practice is contract farming: a contract between farmers and buyers is made which can be of different extent. While some kinds of contracts just give support in certain business fields, others include fixed requirements like quality or price standards (Sartorius, 2002). When it comes to this extent of contract agreements, dependencies for the developing countries are likely created and the firms might be forced to sell their products below standard prices. Ultimately, this kind of support which is intended to help small firms privileges big companies since they can achieve high profits and improve their product management (Key, Runsten, 1999).

Network approaches

It should be noted that small firms can only take small risks. Most kinds of aid come with certain obligations that have to be fulfilled, which can be financial, but can also be about contracts that create dependencies. By keeping that in mind it is becoming clear that huge supportive approaches can have fatal consequences for small firms. A slogan that matches this situation is: ‘Doing more with less’. I hereby suggest that smaller network approaches are more appropriate to help foster self-sustained development.

To be more precise network approaches mean that small firms connect with each other with the intention to find common interests like combined bulk purchases or the shared use of machines. They can for example jointly procure raw materials or also launch product lines together. The role of foreign aid could then be limited to providing networking facilitations. By using new networking approaches small firms can share knowledge and experiences to improve their business (Ceglie, Dini, 1999). Since it is not definitely proven that small firms really are that much more inefficient than big ones (Tybout, 2000), the approaches to foreign aid should not always question the whole business structure and size in developing countries. Instead of this the core businesses should be supplemented with what can be really helpful.

References

Ceglie, G., Dini, M. (1999). SME Cluster and Network Development in Developing Countries: the Experience of UNlDO, United Nations Industrial Development Organization, New York.

Key, N., Runsten, D. (1999). Contract Farming, Smallholders, and Rural Development in Latin America: The Organization of Agroprocessing Firms and the Scale of Outgrower Production, World Development, 27(2), 381-401.

Hermes, N., Lensink, R. (2001). Changing the Conditions for Development Aid: A New Paradigm?, The Journal of Development Studies, 37(6), 1-16.

Kirsten, J., Sartorius, K. (2002). Linking agribusiness and small-scale farmers in developing countries: Is there a new role for contract farming?, Development Southern Africa, 19(4), 503-529.

Tybout, J. R. (2000). Manufacturing Firms in Developing Countries: How well do they do, and why?, Journal of Economic Literature, 38(1), 11-44.

Van Dijk, M. P., Rabellotti, R. (2005). Enterprise Clusters and Networks in Developing Countries, Routledge, Abingdon, UK.

Internet sources

Bell, S. (2015), in: http://www.worldbank.org/en/topic/financialsector/brief/smes-finance, 12th july, 2017.

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