A novel approach to support firms

Firms in developing countries face multiple constraints in accessing input and output markets, yet most firm support programs intervene to address one constraint at a time: be it upgrading firm capabilities, access to finance, and rarely so, to markets. Commonly offered firm upgrading programs are business skills trainings, management consulting, and so on. Programs to support access to finance include cash or in-kind grants, concessional or soft loans, while efforts aimed at improving access to markets include buyer vouchers, supplier development, or export promotion programs. Firm support programs can help address market failures; however, the design of the program should reflect the underlying problems and a clear pathway for resolving them.

What lessons do we learn from firm support programs?

To inform the design of the Financial Inclusion and Entrepreneurship Scaling project in Malawi, I reviewed the evidence on firm support interventions implemented in Sub-Saharan Africa. The lessons derived from available experimental evidence are documented in a new working paper. Although access to finance programs have positive effects on capital investment and employment, their impact on productivity and profitability is not significant (Kersten et al., 2017). The size and mode of financing matter. Large grants in a business plan competition setting in Nigeria’s YouWin! had positive effects on firm survival, sales, profits, and innovation (McKenzie, 2017), while in-kind grants had larger and significant effects on profits of micro firms in Ghana than cash grants (Fafchamps et al., 2014). Loans had weak effects on firm performance in several countries (Banerjee et al., 2015).

Access to finance is not enough for firms to succeed because many of them often lack appropriate knowledge to combine finance with inputs in an efficient manner.  To this end, firm capabilities complement improved access to finance. Although firm training programs are successful in many contexts (McKenzie 2020), developing country firms rarely invest in upgrading for several reasons. This may be related to information asymmetry on the content and quality of trainings, but also because the impact of training can be heterogeneous, depending on the content and modality of the training and the target group (McKenzie and Woodruff, 2014; McKenzie, 2020). There are two broad lessons here:

• Content is critical. Experienced as well as less exposed firms can benefit. For example, in South Africa, marketing training effects were larger for firms with less exposure (Anderson et al., 2018). Female-led firms can also improve outcomes, as evidenced in the personal initiative skills training in Togo (Campos et al., 2017).
• Mode matters. Onsite visits and mentorship can be more successful than formal classes, especially for microenterprises (for example, on Kenya, Brooks et al., 2018).

What are the gaps in evidence?

One, huge knowledge gaps exist in experimental evidence on the success of instruments supporting firms.  While grants are most commonly used (Kersten et al., 2017), other instruments, such as early-stage equity finance, incubators, and accelerators, remain untested due to lack of a good results framework or monitoring and evaluation systems and so on (Grover, Medvedev, and Olafsen, 2019). Such design and implementation gaps do not bode well for the success and scalability of public efforts to support firm growth. Two, since firm support interventions are expensive, policy makers expect such programs to be designed more effectively to pursue their objectives. However, the evidence provides little guidance on the criteria for selection and screening of firms because the instruments that are tested reveal little information on the heterogeneous impact by firm characteristics such as the age, size, sector, and location of firms. Three, given that there is already a huge publication bias in that only “interesting” results from experiments that are implemented get published, lessons from implementation are usually lost (see Campos et al., 2012 for an exception). Lastly, given that several factors simultaneously limit firm growth, interventions addressing multiple constraints can be more effective but evidence remains scant due to complexity in implementation and impact evaluations.

How can policy makers address the multiple constraints facing firms? A novel approach

An intervention in Tanzania that simultaneously resolved skills (business training) and finance (grants) constraints for micro firms was successful in improving sales and profits relative to a program that addressed only one constraint (Berge et al., 2015). Such an evidence offers the hope that addressing multiple constraints to firm growth can be more effective. With this objective, the Financial Inclusion and Entrepreneurship Scaling project of the World Bank adopts a three-stage “graduation” or “funneling” approach to sequentially build firm capabilities and improve access to market and finance. The first stage aims at changing the mindset, through offering a psychology-based personal initiative training. Firms graduating from this stage move to the second stage, which builds the technical capabilities of firms to access the financial or product markets. Finally, firms that successfully complete this stage move to the third stage, which will establish linkages with their potential customers, as well as offer financial assistance. While the design of the program is approved and the firm “funneling” approach is being adopted in other countries and contexts, only a rigorous impact evaluation can tell us whether this will be successful and scalable. There is a long journey ahead of us!

Figure 1: Firm Capability Development Framework

Financial Inclusion and Entrepreneurship Scaling Project

References

Anderson, S. J., R. Chandy, B. Zia, 2018. Pathways to Profits: The Impact of Marketing vs. Finance Skills on Business Performance. Management Science, 64, 12, 5559–5583.

Banerjee, A., D. Karlan, J. Zinman, 2015. Six Randomized Evaluations of Microcredit: Introduction and Further Steps. American Economic Journal: Applied Economics, 7, 1–21.

Berge, L. I. O., B. Kjetil, B. Tungodden, 2015. Human and Financial Capital for Microenterprise Development: Evidence from a Field and Lab Experiment. Management Science, 61, 4, 707–722

Brooks, W., D. Kevin, T. R. Johnson, 2018. Mentors or Teachers? Microenterprise Training in Kenya. American Economic Journal: Applied Economics, 10, 4, 196–221.

Campos, F. M., A. Coville, A. Fernandes, M. Goldstein, D. McKenzie, 2012. Learning from the experiments that never happened: Lessons from trying to conduct randomized evaluations of matching grant programs in Africa. Policy Research Working Paper Series 6296, World Bank.

Campos, F., M. Frese, M. Goldstein, L. Iacovone, C. H., Johnson, D. McKenzie, M. Mensmann, 2017. Teaching personal initiative beats traditional training in boosting small business in West Africa. Science. 357. 1287–1290.

Fafchamps, M., D. McKenzie, S. Quinn, C. Woodruff, 2014. Microenterprise growth and the flypaper effect: Evidence from a randomized experiment in Ghana. Journal of Development Economics, 106, C, 211–226.

Grover, A., D. Medvedev, E. Olafsen, 2019. High-Growth Firms: Facts, Fiction, and Policy Options for Emerging Economies. Washington, DC, World Bank.

Kersten, R., J. Harms, K. Liket, K. Maas, 2017. Small Firms, Large Impact? A Systematic Review of the SME Finance Literature. World Development, 97, C, 330–348.

McKenzie, D., C. Woodruff, 2014. What Are We Learning from Business Training and Entrepreneurship Evaluations around the Developing World? World Bank Research Observer, World Bank Group, 29, 1, 48–82.

McKenzie, D., 2017. Identifying and Spurring High-Growth Entrepreneurship: Experimental Evidence from a Business Plan Competition. American Economic Review, 107, 8, 2278–2307.

McKenzie, D., 2020. Small business training to improve management practices in developing countries: Reassessing the evidence for "training doesn't work." Oxford Review of Economic Policy, forthcoming.