Economic Survey Exposes Persistent Informal Credit Dependence Among Small Businesses
The latest Economic Survey for fiscal year 2025-26, tabled in Parliament on Thursday, has revealed a concerning trend in India's micro-enterprise financing landscape. Despite significant improvements in formal credit access for larger loans, small and unincorporated businesses continue to rely heavily on informal sources like friends and moneylenders for small-ticket borrowings.
Sharp Divergence in Financing Patterns by Loan Size
Analysis of data from the Annual Survey of Unincorporated Sector Enterprises (ASUSE) 2023-24 shows a dramatic split in how micro-enterprises secure funding based on loan amounts. For substantial loans exceeding ₹1 lakh, commercial banks dominate as the primary source, accounting for 54% of outstanding credit in this category.
However, the picture changes dramatically for smaller loans below ₹50,000. In this crucial segment, friends emerge as the most significant financing source, representing 42% of outstanding credit. Suppliers follow at 23%, while formal institutions including banks, cooperatives, and microfinance institutions collectively account for just 23% of small-ticket loans.
Why Informal Sources Remain Attractive
The Economic Survey identifies several factors driving this continued reliance on informal credit channels. Friends continue to serve as an important financing source primarily due to strong personal relationships and the availability of low- or zero-interest loans without collateral requirements. This arrangement proves particularly valuable for addressing small and urgent funding needs that micro-enterprises frequently encounter.
While improved access to formal lenders has successfully reduced dependence on informal finance for moderate and large loans, significant gaps persist for small-ticket borrowings. This financing pattern comes with substantial costs for small businesses, often in the form of higher interest burdens that can strain their limited financial resources.
The Hidden Cost of Informal Borrowing
The survey's analysis reveals that loans from informal sources typically carry higher interest costs compared to formal banking channels, a trend that extends to small-ticket loans as well. For instance, the average interest burden for loans from moneylenders stood at nearly 4%, while cooperatives charged just 2% on average.
This interest differential represents a significant financial burden for micro-enterprises operating on thin margins, potentially hindering their growth prospects and financial stability.
Structural Barriers to Formal Credit Access
Several structural inefficiencies continue to hinder the uptake of formal credit in the micro-loan segment, according to the Economic Survey analysis:
- Documentation barriers that create obstacles for small businesses seeking formal loans
- Lack of financial literacy among micro-enterprise owners regarding formal credit options
- Thin credit histories that make traditional lending assessments challenging
- Weak profitability for lenders in the small-ticket segment, disincentivizing greater participation
These combined factors create a challenging environment where micro-enterprises find themselves caught between the accessibility of informal sources and the higher costs associated with such borrowing.
Implications for India's Micro-Enterprise Ecosystem
The persistence of informal credit dependence among small businesses highlights ongoing challenges in financial inclusion efforts. While formal institutions have made progress in serving larger loan segments, the small-ticket loan market remains underserved, forcing micro-enterprises to navigate between personal networks and high-cost moneylenders.
This financing gap represents not just a challenge for individual businesses but also has broader implications for India's economic development, as micro-enterprises constitute a vital component of the nation's employment and economic activity.
