Indian non-bank financial corporations (NBFCs) are increasingly adopting a more circumspect lending posture as intensifying geopolitical tensions in the Middle East raise significant concerns over their cost of capital, the financial health of borrowers, and the overall quality of their loan portfolios. While the immediate ramifications of the protracted conflict remain somewhat contained, financial intermediaries are collectively signaling that a sustained period of instability presents the most substantial risk, poised to trigger a cascade of adverse second-order effects across inflationary pressures, consumer and business demand, and the broader credit cycle. This heightened prudence reflects a growing recognition within the sector that systemic vulnerabilities could emerge if the conflict persists, challenging the robust growth trajectory NBFCs have enjoyed in recent years.
A senior executive at a prominent NBFC, speaking anonymously due to the sensitivity of the matter, articulated the prevailing sentiment: "We have begun to exercise extreme caution, yet the geopolitical landscape is in constant flux. It would be counterproductive to abruptly halt credit supply, but a stringent focus on underwriting and leverage management is paramount." This balancing act underscores the dilemma faced by NBFCs, which are crucial conduits for credit, particularly to segments often underserved by traditional banking institutions. The delicate interplay between maintaining credit flow and mitigating emerging risks is now a central strategic challenge.
Vulnerability in the MSME Sector and Supply Chain Disruptions
The initial signs of financial strain are becoming discernible within the micro, small, and medium enterprise (MSME) segment, a critical backbone of the Indian economy. Businesses heavily reliant on natural gas for production, those with significant export operations, and entities navigating global trade routes are particularly susceptible. While governmental policies, notably the strategic deferral of fuel price increases ahead of crucial state elections, have offered a temporary buffer, industry leaders caution that such measures may merely postpone the inevitable impact. Umesh Revankar, Executive Vice-Chairman at Shriram Finance Ltd., observed, "While no immediate fuel price hikes have occurred, and they are unlikely before elections, a continuation of the conflict into the summer months will undoubtedly manifest its effects. There’s a clear expectation of some permanent price escalation stemming from this conflict, though its full daily operational impact remains to be quantified." Elections in several key states, including West Bengal, Assam, Tamil Nadu, Kerala, and Puducherry, scheduled for April with results in early May, are perceived as influencing the government’s stance on energy pricing.
The geopolitical unrest has already begun to disrupt global energy markets. Reports indicate potential crude oil and natural gas shortages for India, exacerbated by the heightened risks to vital transit arteries such as the Strait of Hormuz and damage to critical energy infrastructure in the Gulf region. These developments directly impinge upon supply stability and operational costs for businesses worldwide, with India, a major energy importer, being particularly exposed.
NBFCs play an increasingly pivotal role in financing MSMEs. As of the end of fiscal year 2025, non-bank financiers had an estimated ₹4.4 trillion (approximately $53 billion) in outstanding loans to MSMEs, a substantial increase from ₹3.7 trillion ($44.5 billion) in FY2024. This represents an almost 19% year-on-year growth, underscoring their expanding footprint in this sector. Data from rating agencies like Care Ratings highlight this upward trend. The Reserve Bank of India (RBI), in a December report, specifically acknowledged the growing influence of NBFCs in the MSME lending landscape, noting their adeptness at offering tailored financial products and leveraging digital lending platforms. The proportion of credit extended to MSMEs by NBFCs reached nearly 10% of their total credit portfolio by March 2025, solidifying their importance in addressing the financial needs of small businesses.
Lessons from Past Crises and Sectoral Divergence
Experts draw parallels, albeit with crucial distinctions, to the economic disruptions caused by the COVID-19 pandemic. During that period, robust government support and regulatory forbearance measures provided a critical cushion to various sectors. However, the current scenario presents a different set of challenges. Siddhart Goel, Director of Non-Bank Financial Institutions at Fitch Ratings, remarked, "During the pandemic, the government intervened swiftly with forbearance. Gold lenders demonstrated the most resilience, while rural financiers experienced the most severe pressures. This time, the impact will be more granular, dictated by sector-specific exposures and the intensity of cost pressures." This suggests a more uneven distribution of risk across the NBFC landscape.
Certain lending segments within the NBFC portfolio are anticipated to exhibit varying degrees of vulnerability. Vehicle financing, particularly for new commercial vehicles, could face significant headwinds if industrial output decelerates and freight movement costs escalate due to higher fuel prices and insurance premiums. Conversely, gold loan companies are generally expected to remain relatively insulated, often benefiting from their counter-cyclical nature where gold acts as a safe-haven asset during economic uncertainty, potentially increasing demand for gold-backed credit.
Tightening Underwriting and Funding Concerns
In response to the evolving risk environment, NBFCs are proactively tightening their underwriting standards and adopting a more selective approach to loan disbursements. This cautious stance is mirrored by commercial banks, which are themselves major lenders to NBFCs and also directly finance MSMEs. A senior banker, requesting anonymity, articulated the broader implications: "Exports of auto components, engineering goods, and gems and jewellery are already experiencing pressure. Shipping costs are on an upward trajectory, and the Middle East constitutes a vital trading bloc for us, indicating both direct and indirect impacts are in play." This highlights the intricate web of global trade and finance, where regional conflicts can ripple through distant economies.
NBFCs with elevated exposure to MSMEs and a higher proportion of unsecured lending are projected to confront the most significant challenges. Their cost of funding is anticipated to rise as banks recalibrate risk premiums. Simultaneously, the asset quality of their portfolios could deteriorate given their engagement with inherently more vulnerable borrower segments. Another industry executive pointed to nascent signs of operational disruption for small businesses, specifically citing fuel shortages. "We are observing stress due to gas shortages, leading some MSMEs, such as restaurants, to cease operations. Many customers holding affordable housing loans also have MSME loan exposures. Therefore, I foresee a definite spike in asset quality issues across unsecured MSME lending, affordable housing, and unsecured personal loans in the first fiscal quarter (April-June of FY27)," the executive stated, underscoring the interconnectedness of various loan segments.
The broader sentiment within the financial community, while hopeful for a swift resolution to the conflict, is preparing for a downside scenario. "The general expectation is that the war will conclude, but if it prolongs, the cascading impact across diverse sectors, borrower categories, and credit costs will become undeniable," the executive added. This outlook necessitates robust risk management frameworks and contingency planning.
Macroeconomic Headwinds and Market Adjustments
The financial markets have already begun to price in these emerging risks. A sensitivity analysis published by IIFL Finance on March 23 recommended a strategic tilt towards NBFCs with longer-tenure loan books and lower exposure to unsecured lending, as these characteristics generally confer greater resilience to external shocks. This analysis revealed that elevated bond yields, which have been a persistent feature since late February amid the initial phases of the intensified US-Israeli-Iranian tensions, have already led to projected earnings cuts of 2-7% for NBFCs. These reductions reflect market expectations of slower loan book growth and an increase in credit costs.
The macroeconomic implications for India are substantial. Rising crude oil prices directly impact India’s current account deficit and can exert upward pressure on domestic inflation, potentially pushing it beyond the RBI’s comfort zone of 4% +/- 2%. Higher inflation erodes purchasing power, dampens consumer sentiment, and increases input costs for businesses, thereby squeezing profit margins. The ripple effect extends to interest rates; persistent inflationary pressures could compel the RBI to maintain a tighter monetary policy stance for longer, impacting borrowing costs across the economy.
Furthermore, disruptions to global supply chains, exemplified by rerouting of shipping traffic around the Cape of Good Hope to avoid the Red Sea, translate into increased freight costs and longer delivery times. This affects the competitiveness of Indian exports and raises the landed cost of imports, feeding into domestic prices. The Indian economy, while demonstrating resilience, is deeply integrated into global trade networks, making it susceptible to such external shocks.
While the base case among many analysts assumes that the conflict may not escalate significantly into a broader regional war, financial institutions are prudently bracing for a more adverse outcome. The current environment demands heightened vigilance, sophisticated risk modeling, and adaptive strategies from NBFCs to navigate the complex interplay of geopolitical events, macroeconomic pressures, and evolving credit dynamics. The ability of these crucial financial entities to manage funding costs, safeguard asset quality, and sustain credit flow will be instrumental in ensuring the continued stability and growth of India’s financial ecosystem in the face of persistent global uncertainties.
