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Government intervention to enhance the SME development becomes a critical issue in the debate of SME literature. Several scholars claim that government intervention for removing developmental obstacles and for empowering and boosting competitiveness of the SME are urgently required. However many studies show that most of the SME particularly that are located in traditional industrial clusters where government intervention is absent, have an ability to survive and grow. This paradox is examined in this study by analysing the impact of the government policy and the role of governmental institutions on the SME survival in labour-intensive clusters in East Java Province in Indonesia. Using qualitative approach, this case study discovered that the survival of SMEs is more influenced by their capability to gain collective efficiency and by their ability to maintain social capital rather than impact of government intervention. Thus, this study contributes to the SME literature by highlighting the importance of local wisdoms in viewing the development of the SME and provides a policy recommendation for the government and other institutions to consider these factors seriously in designing and implementing the SME empowerment polices.
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