The Impact of Trade Liberalization on Micro Enterprises: Do Banks Matter? Evidence from Indian Manufacturing

This paper looks at the impact of trade liberalization on output, factor intensity and labor productivity of micro enterprises with differential access to banks. It uses Indian data on micro enterprises employing fewer than ten workers in the manufacturing sector and finds that trade liberalization, measured by a fall in the tariff, is associated with higher enterprise output, capital-labor ratios and labor productivity in districts with a larger number of bank branches per capita. Evidence is consistent with strong complementarities between trade liberalization effects and better access to credit and greater economic dynamism due to greater bank presence in the enterprise’s location. In addition, the research points to greater likelihood of outsourcing of production activity to micro enterprises in more open industries. The study highlights the role of credit market institutions, labor regulation and linkages between micro enterprises and large firms in determining the effects of trade liberalization on developing country manufacturing.