How India’s Non-Bank Financial Companies are Closing the MSME Credit Gap — And What Other Emerging Markets Can Learn from Their Success

 

How India’s Non-Bank Financial Companies are Closing the MSME Credit Gap — And What Other Emerging Markets Can Learn from Their Success

Micro, small, and medium-sized enterprises (MSMEs) are widely recognized as the backbone of emerging economies—and for good reason. Globally, they account for roughly 90% of all businesses and employ more than half the global workforce. In emerging markets, formal MSMEs alone contribute up to 40% of GDP and generate 70% of formal jobs—a share that would be substantially higher if informal enterprises and employment were factored in.

Despite their critical role in economic development, MSMEs continue to face a persistent financing shortfall. In India, this gap is especially acute. According to a recent report by NITI Aayog—the Indian government’s leading policy think tank—and the Institute for Competitiveness, only 19% of the MSME sector’s credit demand was met through formal channels in fiscal year 2021, leaving an estimated ₹80 trillion in unmet need. This chronic lack of capital constrains MSMEs’ ability to operate, scale, and create jobs, ultimately dampening broader economic growth.

**Alternative Financing as a Solution to India’s Credit Gap**  

Traditionally, MSME lending in India was dominated by banks, which required collateral and a documented credit history—barriers many small businesses couldn’t meet. Over the past five years, however, alternative lenders—particularly non-bank financial companies (NBFCs)—have stepped in to fill this void. NBFCs offer more flexible, responsive loan products, often serving entrepreneurs with minimal paperwork or thin credit files.

This shift is reflected in lending trends: between 2022–23 and 2023–24, NBFCs grew their MSME loan portfolios by 21.2% and 42.4%, respectively, far outpacing traditional banks, which saw growth of just 12.7% and 12.4% over the same periods (Reserve Bank of India data). NBFCs have also significantly expanded working capital loans—short-term financing essential for day-to-day operations—raising their share of total secured MSME debt from 66% in Q1 2023 to 71% by Q4 2023. This increased access to credit is already yielding results: MSME export value has surged from ₹3.95 trillion in 2020–21 to ₹12.39 trillion in 2024–25.

**How NBFC Lending Drives MSME Growth**  

NBFCs are playing a transformative role, especially in semi-urban and rural India. Their lending is enabling MSMEs to scale operations, create jobs, and strengthen local economies. A 2024 social impact report by NITI Aayog, TransUnion CIBIL, and MicroSave noted that by December 2024, 27 million women were actively monitoring their credit—a 42% year-on-year increase—signaling rising financial literacy among women entrepreneurs.

This credit access is generating a powerful multiplier effect, particularly in underserved “tier 3” towns (populations of 20,000–50,000) and rural areas, where high service costs have historically deterred lenders. Moreover, NBFCs are increasingly directing capital toward climate-aligned MSME activities—such as solar energy systems, efficient irrigation, sustainable packaging, cold storage, and energy-saving equipment. This not only supports India’s net-zero ambitions but also opens new growth avenues for micro-entrepreneurs. As highlighted in UGRO Capital’s 2024–25 Social Impact Report, a growing number of NBFC borrowers are investing in green initiatives, especially within supply chains critical to national climate goals.

**Lessons for Other Developing Economies**  

India’s experience offers a valuable blueprint for other low- and middle-income countries grappling with similar MSME financing challenges.

First, robust digital public infrastructure has been key. Platforms like Aadhaar (biometric ID), Udyam (MSME registration), and the Goods and Services Tax (GST) network have streamlined onboarding and risk assessment. By formalizing business data, these systems allow lenders to verify critical information—such as order volumes or tax compliance—quickly and reliably. This efficiency enables NBFCs to offer smaller loans at lower interest rates, making it viable to serve businesses previously deemed unprofitable. Replicating even parts of this digital ecosystem could significantly boost MSME inclusion in regions like Southeast Asia, sub-Saharan Africa, and Latin America.

Second, NBFCs are leveraging alternative data—such as utility payments, GST filings, mobile transaction histories, and geotagged business activity—to assess creditworthiness for MSMEs lacking traditional financial records. This approach is bringing “invisible” entrepreneurs into the formal financial system.

Third, credit guarantee schemes like the Credit Guarantee Fund Trust for Micro and Small Enterprises have proven effective in reducing lender risk. By absorbing a portion of potential losses, these mechanisms allow NBFCs to extend credit to higher-risk borrowers without raising interest rates—a model that could be scaled through international partnerships.

**A Call for Global Coordination**  

As climate pressures intensify, MSMEs are both vulnerable and vital—they are on the front lines of local adaptation and sustainability efforts across agriculture, logistics, energy, and manufacturing. To maximize their impact, India’s successful NBFC-driven lending models must be adapted and scaled globally.

This requires stronger collaboration among NBFCs, development finance institutions (DFIs), governments, and impact investors. While NBFCs have demonstrated their ability to lend responsibly and reach underserved markets, they need a more robust support ecosystem—and greater transparency around outcomes.

Stakeholders must move beyond tracking only disbursement volumes and repayment rates. They also need clear metrics on real-world impact: jobs created, growth in women-owned businesses, and the volume of green lending. 

NBFCs have already proven that inclusive finance is not only feasible but highly effective. What’s needed now is patient, purpose-driven capital—from public institutions, DFIs, philanthropies, and private investors—that prioritizes long-term development over short-term returns. Equally important are robust impact measurement systems that capture how MSME financing advances economic growth, social equity, gender inclusion, and climate resilience.

It’s time to recognize NBFCs not just as lenders, but as essential development partners—and to empower them to unlock the full potential of MSMEs as engines of inclusive, sustainable growth worldwide.