The Reserve Bank of India (RBI) has directed microfinance institutions to closely monitor stress build-up on their books as the sector faces ongoing challenges from borrower over-leverage and regional policy measures. The directive comes amid a series of regulatory interventions impacting the microfinance industry, particularly in Karnataka and Tamil Nadu.

RBI Highlights Sector Challenges in Report

In its trend and progress in banking report, the RBI noted that disbursements were significantly lower in southern states. The central bank emphasized that regulated entities need to monitor the build-up of stress in the microfinance segment going forward.

The microfinance sector experienced considerable stress during the period, with most lenders recording credit contraction. The following table illustrates the sector's performance:

Industry Adopts Self-Regulatory Measures

Over recent quarters, lenders have faced significant challenges stemming from over-leverage among borrowers, prompting the industry to implement comprehensive guardrails. The self-regulatory organizations Microfinance Institutions Network (MFIN) and Sa-Dhan introduced measures prioritizing steady and calibrated growth in the sector.

Key industry measures include:

• Limiting the number of loans that can be given to a single borrower
• Implementing standardized lending practices
• Focusing on sustainable growth rather than rapid expansion

Self-Help Groups Show Positive Growth

Despite sector challenges, self-help groups (SHGs) demonstrated resilience with improved access to formal banking services. The number of SHGs accessing credit from banks increased to 55.6 lakh from 54.8 lakh in the previous year.

However, lower disbursements in the southern region led to moderation in the total amount of loans disbursed by banks to SHGs. Additionally, loans disbursed to joint liability groups (JLGs) declined by 58.00%.

Regulatory Framework Supports Long-term Growth

The RBI highlighted that its 2022 regulatory framework revisions for microfinance loans have laid the foundation for systemic and sustainable growth. The framework eliminated interest rate caps while introducing standardized rules, fostering social equity and empowerment as an effective instrument for advancing financial inclusion.

The central bank emphasized that these regulatory changes support the sector's role in promoting financial inclusion while ensuring sustainable lending practices. The framework aims to balance growth objectives with borrower protection and systemic stability in the microfinance ecosystem.

Indian government bonds slipped on Monday as market sentiment remained subdued following the Reserve Bank of India's focus on shorter-tenor securities in its latest open market purchase operations. The decline comes as traders prepare for a significantly heavier state debt supply scheduled for Tuesday.

Bond Market Performance

The benchmark 10-year government bond yield settled at 6.59%, rising from Friday's closing level of 6.56%. Despite Monday's increase, the 10-year yield had eased 4 basis points during the previous week, marking its biggest weekly decline since the week ended September 5.

RBI Open Market Operations Impact

Market sentiment weakened after the Bank of India purchased ₹50,000 crores worth of bonds in the first of its four planned tranches. The central bank's buying pattern showed a clear preference for shorter-duration securities, with more than ₹24,000 crores allocated to bonds maturing in 2029 and 2030.

This approach contrasts with the Bank of India's strategy in earlier open market operation auctions conducted this month, where the central bank had purchased aggregate shorter-tenor bonds worth only ₹8,400 crores across two sessions.

Liquidity Conditions and Future Outlook

With banking system liquidity remaining tight, market participants expect the central bank to conduct additional open market operations to inject funds into the system. Radhika Rao, executive director and senior economist at DBS Bank, noted that frictional drivers are expected to narrow core liquidity sharply by the March 2026 quarter, suggesting further tranches of open market operations might be necessary.

State Debt Supply Pressure

Adding to market concerns, states are scheduled to raise ₹35,450 crores through bond sales on Tuesday, representing an increase of ₹20,000 crores from the originally scheduled amount. This substantial increase in supply is contributing to the cautious market sentiment.

Analysts project total debt supply for the January-March quarter at approximately ₹8.10 lakh crores, comprising about ₹3.10 lakh crores from the central government and ₹5.00 lakh crores from states. This quarterly supply level represents a record high and is roughly 25% above the current quarter's issuance.

Interest Rate Movements

India's overnight index swap rates experienced modest increases during a relatively shallow trading session. The one-year OIS rate rose slightly to 5.48%, while the two-year OIS rate increased by 2.5 basis points to 5.58%. The five-year OIS rate closed marginally higher at 5.94%, reflecting the overall cautious market sentiment amid supply concerns and liquidity conditions.