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Loan Market Heats Up, Then Cools Down
The micro and small enterprise (MSME) lending sector, which saw rapid expansion for over four years, is now facing significant stress. This segment, which provides loans up to Rs 100 crore, grew by more than 25% annually. Now, many lenders report that their non-performing assets (NPAs) have doubled. Some in the industry are blaming geopolitical tensions for this rise, a reason previously used to explain financial difficulties.
Aggressive Lending Fueled Growth
However, industry watchers suggest the current crisis resulted from overly aggressive and unchecked lending. This rapid growth mirrors an earlier boom in microfinance institutions, where initial warnings of excessive borrowing were ignored, only for the industry to later admit that too much lending caused its downfall. MSME lenders relied heavily on Goods and Services Tax (GST) records and Unified Payments Interface (UPI) data for loan approvals. With many lenders competing for business, this led to fast growth. Questions are now surfacing about whether loans, some secured by property or gold, were properly monitored after they were issued.
Shifting Strategies and Regulatory Support
Signs of trouble appeared last year when Bajaj Finance noted issues in its SME segment, a warning that was initially seen as overly cautious. Many financial institutions are now slowing their growth in this sector and adjusting their strategies. The Reserve Bank of India (RBI) has introduced measures to improve MSME financing, such as easier online applications and considering factors beyond credit scores, like cash flow and GST returns. The RBI also mandated that banks do not require collateral for loans up to ₹20 lakh for Micro and Small Enterprises (MSEs) and suggested the same limit for PMEGP units. Banks can offer collateral-free loans up to ₹25 lakh based on a borrower's history.
Geopolitical Worries and Government Aid
Some lenders attribute the current stress partly to the West Asia crisis, which could disrupt trade and increase MSME costs. In response to these geopolitical risks and funding pressures, the government launched the Emergency Credit Line Guarantee Scheme (ECLGS) 5.0. This program offers full guarantee coverage for MSMEs on new credit facilities, aiming to provide Rs 2.55 lakh crore in additional credit. The scheme is intended to help businesses with short-term cash flow problems, prevent job losses, and maintain supply chains.
Analyst Outlook and Future Needs
Despite a general trend of falling NPAs in the MSME sector over the last five years, from 11% in FY20 to about 3.6% by September 2025, concerns persist about future increases due to current geopolitical pressures. While MSME credit outstanding has surpassed Rs 35 lakh crore, growing at a Compound Annual Growth Rate (CAGR) of 15.1%, the improvement in asset quality has slowed. Some analysts warn that continued geopolitical shocks could force lenders to prioritize balance sheet strength over growth, making liquidity and asset quality key focuses. The MSME Financing Market is expected to grow at an 8.62% CAGR from 2025 to 2035, supported by technology and government policies. However, the current stress in MSME lending highlights the need for stronger underwriting practices and careful risk management, moving beyond a simple reliance on digital data and geopolitical explanations.