Stricter Microfinance Regulations in India to Contain Sector Risks: S&P Global Ratings

New microfinance regulations in India aim to control sector growth and reduce risk for overleveraged borrowers. S&P Global Ratings notes that stricter lending standards could impact asset quality. As credit caps intensify, the lending slowdown may add to asset pressures, with nonperforming loans peaking by March 2026.

S&P Global Ratings indicates that the tightening of regulations and underwriting standards within India's microfinance sector is expected to reduce growth potential for lenders while mitigating risk among overleveraged borrowers. Shinoy Varghese, a credit analyst at S&P, suggests stricter guidelines may influence asset quality as many borrowers depend on new loans to settle existing debts.

Microfinance loans, typically issued for terms of less than two years and extended without collateral to borrowers earning up to Rs 300,000 annually, play a crucial role in India's financial inclusion strategy. Such lending practices enable low-income individuals to contribute to the nation's economic development.

Despite recent regulatory easing to aid post-pandemic economic recovery, a deregulation in microfinance lending rates in 2022 attracted lenders, spurring a credit boom. However, in response to concerns over unchecked growth, the Microfinance Institutions Network (MFIN) began enforcing stricter borrowing protocols by August 2024, leading to a lending contraction.

S&P Global Ratings highlights that this lending slowdown could exacerbate asset quality issues, as prior practices saw borrowers refinancing loans from multiple sources. The MFIN plans to tighten further by capping lender exposure to individual borrowers from April 2025, aiming to alleviate broader risks.

S&P's Varghese notes that many microfinance institutions are already going beyond MFIN's guidelines to ensure asset quality remains in check. The nonperforming loan ratio is anticipated to reach its peak by the fiscal year ending March 31, 2026.

(With inputs from agencies.)