How MSME Lending is Being Rewired for Financial Inclusion

In the evolving landscape of MSME credit in India, the needle seems to have moved from legacy systems built on collateral and paperwork to a new architecture powered by data, digital rails, and decentralised decision-making. But while the conversation around financial inclusion has been persistent, what’s becoming increasingly clear is that inclusion doesn’t merely mean access. 

It means designing systems that work for the most underserved by adapting to their constraints and rethinking risk. According to experts, this begins with partnerships, intelligent data usage, policy segmentation, and ground-level infrastructure.

The case for partnerships and intermediaries

For SIDBI, the principal financial institution in the country for MSMEs, financial inclusion currently is about finding the right partners and intermediaries. Over the years, SIDBI has launched multiple institutions in collaboration with stakeholders and the government, often acting as a lab for inclusive finance. One such initiative is the Fund of Funds, backed by the DPIIT and SIDBI, which now works through a network of AIFs (alternative investment funds) and intermediaries.

“We created this Fund of Funds with the money from the government and DPIIT; and a lot of AIFs and intermediaries have come into the picture. These intermediaries are now reaching out to enterprises. So what SIDBI can emphasise at this point is that partnerships and strong intermediaries are very important to reach out to that last mile of MSME,” Manoj Mittal, Chairman and Managing Director, SIDBI told FE Aspire.

The results have started to show. MSME credit outstanding has now surpassed the estimated credit gap -- growing to Rs 35 lakh crore as of March 2025 while the gap stands at Rs 27–28 lakh crore.

Need for better segmentation

Despite this progress, a critical gap remains in how policies treat the MSME universe. “When 90 per cent of your MSME businesses fall into one category, that’s not a lot of diversity,” says Sharon Buteau, Executive Director, LEAD at Krea University. She notes that policy and finance often view MSMEs as a monolith, ignoring the nuanced tiers within the segment.

Moreover, many MSMEs, particularly those from low-income or marginalised groups, remain stuck in systemic cycles of disadvantage. “Even if they tick every business box, they simply cannot catch up. It’s like being in a marathon where you're always starting a mile behind,” she explained.

Fixing financial prudence

In addition, MSMEs continue to face internal hurdles that prevent them from fully capitalising on the support and opportunity available. According to Sachin Seth, Regional Managing Director, India and South Asia at CRIF SpA, lacking in financial management and prudence are among the biggest challenges for MSMEs. While every lender wants to build its portfolio of MSME borrowers, low financial literacy levels among MSMEs hinder their ability to secure credit.

“Many MSMEs don’t maintain proper records. Returns aren’t filed properly, assets lack documentation, and goods aren’t logged with receipts. Many don’t use ERP systems as well,” says Seth. This lack of formal data makes credit underwriting difficult, even if lenders are keen to serve this segment.

On the lenders’ side, sometimes it is difficult to assess and de-risk borrowers, especially those that fall on the edge between consumer and enterprise. This is where the account aggregator (AA) framework helps lenders. “AA works very well as surrogate data, especially for those who are existing to a bank or part of a supply chain,” Seth adds. For example, if an MSME is a supplier to a large anchor like Amul or Whirlpool, the ecosystem itself becomes a proxy for trust and repayment behaviour.

Making sense of data

The situation, however, is changing from traditional credit models built around collateral and credit history that inherently excluded large swathes of new-to-credit MSMEs. Experts see a major pivot from credit data towards alternate data.

“This includes GST data, income statements, utility bills, mobile transactions, ONDC activity, and more. These serve as proxy indicators of creditworthiness in the absence of a formal track record. Now many banks are starting to pivot towards this,” says Manu Sehgal, CEO of Brickwork Ratings.

That seems to be true. For instance, “SBI Chairman said in February this year that Rs 34,000 crores of loans in the past nine months were given to SMEs purely based on their cash flows,” Sehgal says. 

But using data is only half the battle—making sense of it is the other. “This is where risk modelling steps in. Be it statistical or AI-based, risk models translate raw data into credit decisions and assign scores, ranks, or ratings, enabling lenders to tailor loans better.”

Another important area, which allegedly remains a key concern in India’s quest for financial inclusion of its enterprises, is enabling easier credit access for female entrepreneurs. According to Buteau, while lending policies are largely gender-neutral, the reality on the ground often paints a different picture.

“You see a lot of unfairness. When a woman goes to the bank, she's most likely to be denied funds, not because the banker is gender-biased, but because they have a set of protocols that probably don't adapt to women's culture or structure,” she says.

Less access to business networks is another challenge for women entrepreneurs in the last mile, according to Buteau. “Women are invisible. 70 per cent have their business at home and they don't have access to networks.”

Countering the notion of lenders being unfair to women borrowers, SIDBI’s Mittal highlighted schemes such as CGTME, Standup India, Mudra Yojana, and others, where a significant number of beneficiaries are women entrepreneurs.

“For a bank, a risk is a risk, whether it's by a female or by a male borrower. If there are equally good women entrepreneurs, banks will not have any hesitation in lending to them,” said Mittal.

Collectively, for last-mile MSMEs to be part of the broader financial inclusion programme of India in its quest to become a developed nation by 2047, uniform solutions may not help. Further, while the digital rails are in place, awareness and regulatory ease will continue to be the fundamental pillars to bring more enterprises into the formal economic fold. Without them, the inclusion may appear superficial.