SME Financing in Pakistan: The Role of Collateral-Free Lending and Digital Credit Scoring

Abstract

Small and Medium Enterprises (SMEs) play an essential role in Pakistan’s economy, with a 30% contribution to the GDP and almost 40% of employment. Nevertheless, a majority of SMEs in Pakistan operate without formal business financing. This study assesses the effects of business collateral-free lending and digital credit scoring on financing and performance of SMEs in Pakistan. Quantitative data were collected by the researcher from 400 SMEs in Sindh, Punjab, and Khyber Pakhtunkhwa. Regression analysis revealed that business collateral-free lending (β = 0.39, p < .001) and digital credit scoring (β = 0.31, p < .001) are keys to decreased access to credit, and together explained close to half (46%) of the financed SME outcomes variance. This shows that the combination of innovative and digitalized financing services, the first of its kind in Pakistan, can significantly mitigate the financing market gap faced by SMEs. This research proposes specific policy actions to promote SME financing in a more inclusive manner to the policy maker and lender of last resort institutions such as commercial banks and fintech companies in Pakistan through credit guarantee schemes, digitalized scorecards, and responsive regulations in the cashless economy. The results also add to the understanding of the Credit Rationing Theory, the Technology Acceptance Model, and the Financial Inclusion Framework, while providing actionable insights to foster sustainable SME growth in emerging economies.

Keywords- SME Finance, Collateral-Free Lending, Digital Credit Scoring, Financial Inclusion, Fintech Innovation, Pakistan