A Study on the Macroeconomic and Institutional Determinants of Capital Structure for Micro, Small and Medium Enterprises in India

Abstract

This research examines the various institutional and macroeconomic variables that affect the capital structure of micro, small and medium enterprises in India using the available empirical data. The analysis focuses on the cyclicality of leverage, the role of collateral and the effect of macroeconomic regimes on leverage adjustment based on the CMIE Prowess database and World Bank Enterprise Survey (2022) and firm-level panel studies of Indian SMEs for the period of 1999-2023. The study finds that in India SMEs are countercyclical and in the case of big companies, it is procyclical. Indian company leverage is correlated with GDP growth, inflation and real interest rates. These variables influence procyclically the Indian company leverage and collateral, which has a significant impact on SME leverage procyclically. However, around 97% of informal non-agricultural enterprises remain beyond the reach of institutional finance, as per the Enterprise Survey of the World Bank, which covered 6,383 SMEs. The research found institutional factors that play a significant role in SME's financing outcome are collateral, creditor rights and financial market development. The research concludes that there is a need for context-specific policy interventions to improve the outcomes of the capital structure of Indian MSMEs, where policies can eliminate the role of collaterals and open doors to formal finance.