India’s Poor Turning to Costly Informal Credit Despite Financial Inclusion Push

 India’s Poor Turning to Costly Informal Credit Despite Financial Inclusion Push

Despite significant strides in financial inclusion over the past decade—with nearly every household in India now connected to the banking system—many of the country’s poor are still turning to informal and expensive sources for their credit needs.

Recent data and analysis reveal a troubling trend: access to a bank account hasn’t translated into meaningful access to affordable credit for low-income households. As a result, these vulnerable groups are increasingly relying on non-institutional lenders such as moneylenders, chit funds, or borrowing from friends and relatives.

The government’s financial inclusion drive, especially through schemes like Jan Dhan Yojana, has been credited with bringing around 96% of the population into the banking fold by 2021. This means that the vast majority of Indian households now have at least one member with a bank account. However, having a bank account has not necessarily opened the door to credit from formal channels.

“There has certainly been progress, but much of it is limited to the liability side—that is, banks have opened deposit accounts. But when it comes to the asset side—lending—things haven’t improved at the same pace for the poor,” said Debopam Chaudhuri, Chief Economist at Piramal Enterprises.

Chaudhuri explains that many low-income households, especially those at the lower end of the economic spectrum, continue to face significant barriers when trying to access formal loans. With few affordable credit options available, they’re often forced to turn to informal lending routes—despite the higher costs and risks involved.

A deeper dive into the numbers supports this claim. An analysis of data from the Centre for Monitoring Indian Economy (CMIE) conducted by Chaudhuri’s team revealed that between 2018-19 and 2022-23, the number of economically weaker households borrowing from formal institutions like banks and NBFCs actually declined by 4.2%. In contrast, borrowing from informal sources among the same income group grew by 5.8% over the same period.

These households typically fall in the ₹1–2 lakh annual income bracket. For them, even small loans can make a big difference, whether it’s to cover medical expenses, pay school fees, or manage an emergency. But when banks deny them loans—often due to lack of collateral or credit history—they’re left with no option but to borrow at high interest rates from moneylenders or rely on informal community-based systems like chit funds.

Another worrying development is the rise in loan defaults among microfinance borrowers. Since microfinance institutions usually cater to the same population segments that rely on informal credit, this spike in defaults highlights the growing financial stress among India’s poor.

Experts say this trend is a clear signal that India’s financial inclusion story is incomplete. While account opening has been a major achievement, the next big challenge is to ensure that poor households also get meaningful access to safe, fair, and affordable credit.

Without this shift from financial access to financial empowerment, millions of Indians will remain vulnerable to debt traps and continue to rely on exploitative credit sources—even as they technically remain “banked.”