Theories of Change for High-Growth Small and Medium Enterprise Development

They form the majority of the business base and are popular targets of donor assistance. To help the United States Agency for International Development (USAID) design activities that will best stimulate SME growth in profit and/or employment, the Bureau for Economic Growth, Education and Environment (E3) Office of Trade and Regulatory Reform (TRR) Trade and Competitiveness Activity (TCA) reviewed the latest research and interviewed SME development experts to articulate popular theories of change (ToCs) and to present available evidence around them. The analysis reveals that the level of impact varies greatly among different types of interventions. Business management interventions, such as training and consulting services, have a strong level of evidence supporting high impact results. However, training is expensive relative to other interventions, so it should be targeted and ideally paired with access to finance initiatives. Matching grants have a weak level of evidence, but they can be effective when used to address underlying market failure(s) and mitigate externalities. Access to credit interventions, such as credit information and collateral laws, have a moderate level of evidence supporting high impact results. Reducing information asymmetries and expanding collateral laws to include moveable assets have positive effects on SME growth. Subsidized loans have not demonstrated a strong return on SME profitability, while credit guarantees can help SMEs grow faster but are associated with an increased risk of default. Business registration and taxes interventions, such as firm registration and tax policies and administration, have limited evidence that formalization has a positive impact on SME growth. Simplifying the costs of tax compliance and reducing the tax burden have been shown to increase SME profitability. Market access interventions, such as market linkages and export promotion and support, have been shown to increase SME sales and employment. Market linkages programs must go beyond basic matchmaking to include incentive-based SME capacity building. Innovation interventions, such as product innovation support, have been shown to have an overall positive effect on SME employment. The best ways to support innovation are by improving the enabling environment, targeting capacity-building to improve SMEs' use of human and capital resources, and facilitating access to finance. Donors should consider accelerator models to help build effective, self-sustaining innovation systems. The analysis also highlights gaps in the evidence base that make it more difficult to conclusively determine the impact of other interventions. Donors should take both of these factors into consideration when designing projects. The report provides a number of recommendations for donors, including focusing on interventions with moderate to strong evidence supporting high impact results, taking cost-effectiveness into consideration, and carrying out context-specific project design. In many developing countries, SMEs make up the majority of enterprises, account for a substantial share of GDP, and employ a significant proportion of the workforce. Early-stage SMEs can be drivers for achieving economic growth outcomes, such as increased GDP, particularly in countries with a nascent private sector. Policymakers and development practitioners recognize the importance of entrepreneurship and firm development in developing country contexts and have designed and implemented initiatives and programs focused on a range of SME development activities. Building the skills of SME business owners and employees is a priority for government and donor stakeholders for a variety of reasons, including increasing the competitiveness of products or services in the global marketplace, relying on SME suppliers for high-quality products and on-time deliveries, and providing employment and poverty alleviation via the goods and services provided by SMEs.