Liquidity Crunch Threatens Recovery of India’s Microfinance Sector

New Delhi, Oct 8 (KNN) The Indian microfinance sector is facing a critical turning point, as improved credit discipline is being overshadowed by a severe liquidity crunch, slowing its recovery, according to top industry experts.

While the asset quality stress seen in FY25 has largely eased, limited access to fresh capital now poses a serious challenge to sustaining recent gains.

Alok Misra, CEO and Director of the Micro Finance Industry Network (MFIN), said that credit underwriting discipline has improved by nearly 99 per cent after new regulatory measures were introduced, according to CNBCTV18.

However, loan disbursements have sharply fallen—from around Rs 85,000–Rs 90,000 crore per quarter to just Rs 48,000–Rs 50,000 crore—due to tight liquidity.

Misra warned that without adequate funding, it will be difficult to maintain the sector’s progress. Currently, stressed loans (1–60 days past due) stand at 2.28 per cent. “If borrowers see no chance of future loans, their motivation to repay existing ones reduces,” he cautioned.

Jinay Gala, Director at India Ratings & Research, said that the sector’s peak stress occurred in late FY25 but added that the July–September 2025 quarter could bring seasonal challenges due to monsoons and festivals.

He expects stress levels to stabilise, though smaller microfinance institutions (MFIs) remain vulnerable. Many mid-sized and small players have seen their loan books shrink by up to 50 per cent, worsening their asset quality ratios and pressuring debt covenants.

Gala attributed much of the funding shortage to banks and small finance banks slowing their purchase of MFI portfolios, a key liquidity source.

Misra added that structural shifts, such as the weakening of the joint liability group (JLG) model, have further strained operations.

He expressed optimism that a government-backed credit guarantee fund and strong rural demand could revive lending, calling the October–December 2025 quarter “critical” for the sector’s recovery.

(KNN Bureau)