A better second half beckons bank credit

Despite a sluggish first quarter, bank credit growth should rise 100 basis points (bps) on-year to 11-12% this fiscal. The slower-than-expected revival in retail demand, ongoing caution regarding unsecured lending, and substitution by corporate bonds due to the faster transmission of repo rate cuts in that market weighed on bank lending in the first quarter.

The outing in the second half is expected to be faster, propelled by supportive government and regulatory stimuli, an increase in consumption and some reversal of corporate bond market substitution.

Any aggravation in geopolitical uncertainties can throw a spanner in the works, affecting our base case estimate of bank credit growth, so they are monitorable.

Recent quarters have seen a spate of government and regulatory measures to ease both demand and supply constraints in specific segments of the banking landscape.

These measures are intended to boost consumption, provide systemic liquidity and increase the credit deployment flexibility of banks. Given the lingering global uncertainties, a pick-up in domestic demand is crucial to support a rise in bank credit growth this fiscal.

The Monetary Policy Committee (MPC) of the Reserve Bank of India (RBI) has reduced the repo rate cumulatively by 100 basis points (bps) to 5.50% since February to date. The MPC also slashed the cash reserve ratio for banks by 100 bps, to be implemented in four tranches from September 2025. That would release ₹2.5 lakh crore of liquidity into the system.

In addition, respites such as deferment in the implementation of the more-stringent liquidity coverage ratio (LCR) norms by a year and clarification on project financing norms should show results in the second half of the fiscal.

Growth in corporate loans, which account for ~38% of domestic bank credit, is expected to be a tad lower at ~9% this fiscal, compared with ~9.7% last fiscal, weighed down by a sluggish first quarter wherein companies relied more on the corporate bond market to meet funding requirements given lower rates there.

A moderate reversal in this substitution is foreseen in the near term, as bank lending rates see a greater transmission of the repo rate cuts.

Incrementally, bank lending to non-banking financial companies (NBFCs)—one of the largest sub-segments of corporate credit (~24%) and a key contributor to credit growth before the last fiscal—is expected to pick up in the second half after the rollback of higher risk weights on exposures to this segment and the statistical low-base effect of the last fiscal.

Downstream demand arising from the ongoing infrastructure buildout, which will continue to drive investments in the cement, primary steel and aluminium sectors, will also help.

In the road ahead, corporates' reliance on their own funds, equity raising for planned spending, and tariff-related uncertainties leading to the postponement of capital expenditure, along with policy rate cuts that could prolong corporate bond market substitution, will bear watching.

Growth in retail loans, constituting ~33% of domestic bank lending, is projected to rise to ~13% this fiscal from ~11.7% last fiscal, supported by a consumption boost following the reduction in the goods and services tax, lower interest rates, benign inflation, income tax reductions introduced in the Union Budget for this fiscal and tailwinds from favorable monsoon.

Home loans remain the largest constituent of retail credit (>50%), and improved affordability in a lower interest rate regime should support growth here.

Gold loans, a relatively minor part of banks' retail portfolios, are expected to grow rapidly as borrowers seek them as a substitute for unsecured loans, where banks have become circumspect.

In terms of unsecured lending, while banks will remain cautious, continued demand and better performance of newer portfolios after tightening of underwriting norms could lead to some pick-up in growth in the second half of this fiscal, also supported by a statistical low-base effect.

Growth in the MSME segment (~17% of the overall credit) is seen steady at ~14% this fiscal. Better addressability of the segment through digitalisation, formalisation, and democratisation of data, along with improved risk-adjusted returns, have drawn banks towards this segment.

However, credit growth in this segment is unlikely to accelerate materially this fiscal because of weak demand from, and caution among banks towards, export-oriented units such as textiles, garments and carpets, gems and jewellery, shrimp and processed seafoods, and certain segments in the chemicals sector.

Lastly, agricultural credit growth is seen as reasonable at ~10% this fiscal, supported by another season of adequate rainfall and its positive rub-off on harvest.

The credit growth expectation for the fiscal year also factors in steady deposit growth for the fiscal year. That said, given the declining contribution of households to total deposits, the stability of deposits may be lower than in the past.

Nevertheless, the banking sector—anchored by adequate capitalisation and multi-year-best asset quality and profitability—is well positioned to fund opportunities emerging amid the country's sustained economic growth and development. That said, as global uncertainties loom, growth in domestic credit demand will remain crucial.

Krishnan Sitaraman is Chief Ratings Officer, Crisil Ratings Limited