The Impact of Financial Literacy on SME Growth with the Mediating Role of Financial Decision Making

Abstract

Small and Medium Enterprises (SMEs) are widely recognized as crucial drivers of economic growth, employment generation, and innovation, particularly in developing countries like Pakistan. However, their growth is often hindered by inadequate financial knowledge and weak decision-making capabilities. This research explores how financial literacy influences SME growth in Pakistan, emphasizing the mediating role of financial decision-making. The study is grounded in the theory of planned behavior and resource-based view, which argue that internal capabilities such as financial competence significantly affect a firm’s strategic decisions and performance outcomes. The research employed a quantitative methodology, collecting primary data through structured questionnaires distributed among 250 SME owners and managers across various industries in Pakistan. Structural Equation Modeling (SEM) was utilized to examine the direct and indirect effects of financial literacy on SME growth. Financial decision-making was tested as a mediating variable, while firm size and age were controlled to ensure the accuracy of the results. The analysis revealed that financial literacy has a statistically significant and positive impact on SME growth. It was also observed that financial decision-making serves as a meaningful mediating factor, reinforcing the idea that financially literate entrepreneurs are more likely to make sound business decisions, leading to sustainable growth. The inclusion of firm size and age as control variables further validated the robustness of the model, showing that younger and smaller firms tend to benefit more from enhanced financial knowledge. The findings carry strong theoretical and practical implications. From a theoretical perspective, the study contributes to the growing body of literature that connects human capital attributes, such as financial literacy, to firm-level performance. On a practical level, the results suggest that policymakers, financial institutions, and SME support organizations should prioritize the development and implementation of financial literacy programs. Such initiatives could empower SME owners to make better financial choices, manage risks effectively, and pursue growth-oriented strategies. Future research may consider longitudinal data and cross-country comparisons to deepen the understanding of this relationship further.