The role of public policy in debt level choices among small-scale manufacturing enterprises in Ethiopia: conditional mixed process approach

This paper explores the determinants of debt financing choices among small-scale manufacturing enterprises in Ethiopia—with special focus on the role of government policies. The study exploits survey data gathered from 1321 enterprises in the Amhara region of Ethiopia and employs conditional mixed process (CMP) system estimation technique to test the effect of public policy on firm debt levels. The relevant econometric findings confirm that policy activism through the provision of training and related intervention schemes boosts debt utilization in startup finance mix while it lowers the probability of firms' falling into higher debt levels over time. The results also show that enterprises that had some debt mix in their startup capital are more likely to be in higher debt categories than those enterprises that kick start exclusively with their own internal resources. In addition, the findings also reveal that self-reported profitability, firm age, and ownership structure have strong effects on the degree of firms’ indebtedness. One major bottleneck to the survival and growth of SMEs is their relatively large default rates. One strand of the existing literature shows that firm default rates are strongly correlated with debt levels. As default rates driven by high debt levels have devastating implications for creditors, debtors, and regulators, it is very important to understand the determinants of debt levels. This study is the first to apply conditional mixed process system estimation on firm level data from Ethiopia to test the effects of government policies on debt level choices.