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LESSONS:

Small and Medium Enterprise Regional Development Project

sector: Industry and Trade | country: Sri Lanka

1. ADB’s Financial Sector Operational Plan supports the market-based pricing approach and stipulates that projects involving credit lines need to be designed to strengthen the capacity of financial institutions intermediating the credits and such a project should comply with the Operations Manual (D6) to avoid undermining the commercial incentive for the participating financial institutions to competitively mobilize finances and distorting the credit and interbank market. As such, it is the norm to adopt the average weighted deposit rate (AWDR) as a local anchor for determining subloan interest rates for ADB financial intermediary loans. Adopting the AWDR is considered generally consistent with best practices. However, adopting a local interest rate anchor is not widely practiced by other development partners, which in many cases adopt fixed interest rates, often lower than prevailing market rates. There may be a need to promote a standard local anchor for interest rates, as it will bring assistance from development partners into conformity with the local environment and avoid market distortions. Project formulation missions need to be mindful of consistency with other projects with financial intermediary loans. If a significant discrepancy in the interest rate exists with projects funded by other development partners, there will likely be implications for disbursement.

2. Small and medium enterprises (SMEs) generally suffer capacity constraints and lack skills in business development, marketing, planning, human resource management, and other business skills, which makes them less bankable. Had it been done, the capacity development technical assistance would have provided necessary skills training and improved the capacity of borrowing SMEs. Sri Lanka’s Credit Information Bureau also covers SMEs. Participating commercial bank (PCBs) reported that they accessed the bureau’s credit information report to appraise the SME subloans to be financed under the project. Despite the existence of fairly adequate institutions for SME risk assessment, PCBs emphasized the need for stronger support institutions, including training institutions for SMEs, and reliable funding sources for SMEs.

3. Delay in ADB’s internal business processes, including the disbursement of withdrawal applications, often frustrates smooth implementation progress. Timely disbursement is critical, especially for financial intermediation loans, because financial institutions set the subloan interest rate based on the relending rate from the government and approve subloans to final borrowers only after they receive refinance from the government. Project administration requires closer attention to efficient and timely disbursement and other internal business processes.

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