Economic Survey warns growth-driven microfinance may undermine household welfare

The Economic Survey said on Thursday that prioritising metrics which track household well-being over indicators of scale, such as the number of borrowers and total loans will strengthen the microfinance firms sector, which has been plagued by periodic stress.

It said commercial capital has played an important role in expanding the reach of India’s microfinance sector. It added, however, that incentives embedded in private equity and venture capital investment structures have, in some contexts, encouraged growth-driven expansion that may not always align with long-term household welfare.

The survey called for more consistent alignment between impact objectives and investor incentives by linking exit decisions and valuations to the achievement of social purpose metrics rather than exclusively to financial performance.

“For instance, investor exits could be conditioned on evidence of sustained household-level welfare gains, improved resilience indicators, or responsible credit intensity in borrower portfolios,” it said.

It said in order to re-centering the sector on its original social objectives, scale-based impact metrics will have to be replaced with household-level welfare indicators.

Overleveraged borrowers

Data from microfinance industry body Sa-Dhan showed that the combined microcredit portfolio of 285 microlenders – banks and non-bank financiers, among others — was ₹3.4 trillion as of 30 September 2025, down 16% year-on-year. The quarterly microfinance report of Sa-Dhan said the industry experienced a pronounced slowdown, with the total portfolio shrinking by ₹62,726 crore over the past year and nearly ₹1 trillion over the past 18 months.

India’s microfinance sector has been prone to stress, though it has started recovering of late after two years of pressure. Repayment difficulties have largely been on account of borrowers taking several loans at once, leading to the creation of industry-level guardrails. In April, self-regulator Microfinance Institutions Network (MFIN) capped the number of lenders per borrower at three and restricted the total debt of a single borrower to ₹1.5 lakh.

The share of microfinance accounts with exposure to more than four lenders fell to 10% in June 2025 from 19% a year earlier, and for those with over three lenders to 24.8% from 34.7%, according to a report by India Ratings and Research dated 30 October.

‘Impact-washing’

The survey said microfinance was initially conceptualised as a model that could improve household resilience, support income stability, and enable gradual asset accumulation. However, as MFIs became integrated into capital markets, their operating environment increasingly reflected the incentives associated with growth-oriented commercial investment.

“A more appropriate approach would require replacing such ‘impact-washing’ metrics with indicators that track household-level welfare and financial resilience over time,” it said.