Choice between formal and informal financing in cottage industry firm: The application of robust regression

• Published in: Journal of public affairs 2022-02, Vol.22 (1), p.n/a
• Main Authors: Wahab, Salman, Safi, Adnan, Wahab, Zeeshan, Shah, Nawaz Ali, Zhang, Xibao
• Format: Article
• Language: English
• Subjects: Companies; Financial institutions; Financing; Home based businesses; Interest rates; Owners; Small & medium sized enterprises-SME; Small business
• ISSN: 1472-3891; 1479-1854
• DOI: 10.1002/pa.2241

This article aims to analyze the effect of formal and informal financing on the growth of cottage industry firms in village Islampur in Swat one of the districts of Khyber Pakhtunkhwa Pakistan. Primary data were collected through Focused Group Discussions (FGD) and a total of 208 cottage industry firms were surveyed. Robust Regression techniques were employed to analyze the data. The results show that informal financing has a higher impact than formal financing on the growth of the small firms in the study area. There is a tendency for informal borrowing among the small size firms' owners due to the fact that access to formal sources is hindered by a multitude of factors including high interest rate, complex application procedure, and demand for a collateral among others. On the contrary, we find that in case of large size firms, formal financing has a significant influence on firms' growth for cottage industry. Moreover, in co‐financing where the ratio of informal is greater than formal financing has a significant positive effect on the firm's growth. The findings of the study have implications for devising loan policies of the financial institutions to take into account these factors. The financial institutions need to come up with packages that meets the need of the small and medium enterprises.