Small loans can spell big trouble for Indian banks

Watch out for signs of stress in India's micro-finance sector. Bad loans, even if small, extract a cost by way of reduced profits as well as higher interest charges on credit across the board

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Once bitten twice shy" goes the old adage. But it clearly does not apply to banks. Or so it would seem. After having pursued aggressive lending to non-banking financial compa nies only to see the chicken come home to roost in the form of rising bad loans and recovery problems, banks are now seeing a replay of the same irrational exuberance. This time in the context of loans to India's micro-finance sector. Remember, banks and non-bank lenders compete fiercely in this field. Driven perhaps by the lack of credit demand from corporates, a boom in retail credit, an eagerness to bridge the lastmile gap in credit delivery and pressure to achieve priority-sector lending targets, banks seem to have lowered their guard and gone overboard in extending such loans. Especially since regulations were harmonized to remove interest-rate caps. The net result? Rapid growth in micro-finance loans-essentially small-sized but collateral-free credit to those with annual incomes of up to 3 lakh. According to data from the Microfinance Industry Network (MFIN