MSME Credit Growth Is Set to Slow, Here's Why Banks Are Turning Cautious

Micro, small and medium enterprise credit expansion is expected to moderate in the 2026-27 financial year from the 15-16 percent growth recorded in FY26, constrained by a larger lending base.

A senior finance ministry official told Moneycontrol that lenders are shifting focus towards deposit mobilisation to bridge widening funding gaps.

"Banks are increasingly focused on deposit mobilisation. Credit growth ultimately has to be supported by deposit growth, and that will naturally influence the pace of expansion," the official said.

Overall bank credit grew by 15.9 percent in FY26, while deposit growth lagged at 13.4 percent, creating a significant funding gap.

Historically, MSME credit growth fluctuated from 12.39 percent in FY23, accelerating to 20.58 percent in FY24, before easing to 14.1 percent in FY25.

"MSME credit growth was around 15-16 percent last year. Some moderation is expected because very high growth rates cannot continue indefinitely, especially when the base itself has become much larger," the official added. "Overall credit growth is also likely to moderate somewhat. Last year, most segments, including corporate and retail credit, witnessed strong expansion. Going forward, growth may normalise, but that should not be interpreted as weakness."

ECLGS 5.0 Relief Scheme

The anticipated slowdown arrives alongside the rollout of the Rs 2.55 lakh crore Emergency Credit Line Guarantee Scheme 5.0. The government launched the initiative to provide state-backed guarantees for additional working capital loans to businesses hit by the West Asia crisis.

The scheme initially launched in May 2020. Across its first four versions, the programme issued nearly 1.2 crore guarantees worth Rs 3.68 lakh crore. MSMEs accounted for over 1.13 crore of those guarantees, securing Rs 2.43 lakh crore in credit, according to SBI Ecowrap, as reported by Moneycontrol.

Under ECLGS 5.0, which the National Credit Guarantee Trustee Company recently notified, eligible MSMEs can secure a 100 percent government guarantee for additional loans. Businesses can borrow up to 20 percent of their peak working capital utilisation in the fourth quarter of FY26 (January-March 2026), capped at Rs 100 crore.

Policy and Supply Pressures

Recent structural reforms aim to support formal credit flows despite tightening lending standards. The 2026 Union Budget introduces the mandatory onboarding of central public sector enterprises onto the Trade Receivables Discounting System platform, alongside reforms to strengthen invoice financing.

To support these changes, the Reserve Bank of India notified the TReDS Directions, 2026. The rules simplify MSME onboarding to boost financier confidence. "We expect MSME credit to maintain healthy double-digit growth in FY27.

Manufacturing, engineering, auto ancillaries, pharmaceuticals, infrastructure, logistics and export-oriented industries are likely to continue driving credit demand," Ketan Gaikwad, managing director and chief executive officer of Receivables Exchange of India Ltd, said.

Supply constraints continue to dictate loan availability. "The moderation is more likely to stem from the supply side. Banks have become more selective in lending because of concerns over asset quality in certain MSME segments, tighter risk assessment practices and continued pressure on mobilising deposits," Ravi Sood, president of the Badli Industrial Estate Association, told Moneycontrol.

Sood projects FY27 MSME credit growth at 12-14 percent, noting that delayed payments from large corporates continue to strain small businesses. "For an MSME, the cheapest source of working capital is not a bank loan – it is the timely payment of its legitimate dues," he added.

Global Headwinds and Costs

Macroeconomic challenges and rising operational expenses are dampening demand further. Anil Bhardwaj, secretary general of the Federation of Indian Micro and Small & Medium Enterprises, expects MSME credit growth to moderate significantly to 5-10 percent in FY27.

"The dip in credit growth is likely due to the Gulf war, disruptions in supply chain and shortage of diesel and PNG," Bhardwaj said.

Profitability pressures are exacerbating the slowdown. "SMEs are struggling with increased costs and reduced margins. Customers are yet to increase purchase order prices because they themselves are facing weaker sales and higher costs. In the automotive space, business is slow," the report cited Sandeep K. Jain, former FISME president as saying.