Microfinance institutions must go digital-first, but what holds them back?

• by Anil Gupta
• Sep 15, 2025
• 4 min

Microfinance Institutions (MFIs) in India are under increasing pressure to become digital-first as their traditional operational models show signs of strain — with rising defaults, inefficiencies, and erosion of customer trust. Digital-first transformation isn’t merely digitizing existing processes, but reengineering them entirely: enhancing customer experience, improving real-time decision making, reducing costs, and retaining the community-centric strengths MFIs are known for. Barriers like fear of change, staff resistance, unclear ROI, and lack of tailored tech solutions slow this shift. Regulators like RBI and SIDBI can catalyse the transition through innovation sandboxes, infrastructure support (eKYC, UPI, Aadhaar), and enabling data sharing. Urgent structural reforms, from persistent pilots to continuous innovation, are essential — delay risks MFIs becoming irrelevant in India’s rapidly digitising economy. CXOToday.com

Of late, microfinance institutions (MFIs) have been in the news for a variety of wrong reasons. However, for millions of Indians across the country’s far corners, MFIs have stood as a firm backbone of financial inclusion. Yet these vital lifelines face a crisis. MFIs have been struggling with ever-growing cases of default, increased operational inefficiencies, and deepening customer distrust. As pressure mounts on MFIs to stay afloat, they are being pushed to go “digital-first.” But what does that really mean—and why does it matter? We assert that the path ahead will open if MFIs embrace their community-centered model, but reimagine it through digital transformation. The question is no longer whether MFIs should go digital-first, but how quickly they can transition. When we speak of digital-first MFIs, we do not mean replacing loan officers with apps. True digital transformation requires a ground-up redesign, not just digitization of existing processes, from loan origination to collections. This approach uses technology to enhance customer experience, cut operational costs, and provide real-time insights while preserving MFIs’ core strengths: community-based lending and group solidarity. Consider the parallel transformation we witnessed when UPI revolutionized payments and Jan Dhan accounts changed banking for underserved populations. Both succeeded because they reimagined entire processes rather than simply automating existing ones. MFIs need the same fundamental shift.

Despite clear benefits, most MFIs remain trapped by fear. Their concerns are legitimate: borrowers value face-to-face interactions, technology investments appear daunting, and staff resist workflow changes. MFIs particularly struggle with unclear returns on investment and generic tech solutions that demand expensive customization. Yet this hesitation grows costlier by the day. Every month of delay means higher operational costs, increased defaults, and deeper customer distrust. The year 2024 has been particularly challenging. The total microfinance loan portfolio dropped by ₹58,667 crore—from ₹4,33,697 crore as on March 31, 2024 to ₹3,75,030 crore as on March 31, 2025. Even listed MFIs reported severe pressure in Q4 FY25 (ending March 31, 2025), with several posting either losses or sharp declines in profit. Similarly, as per the MFIN Micrometer (Q4 2024–25), the loan amount disbursed has declined by 16.9% year-on-year, while the number of new loans disbursed has dropped by 25.4%. While multiple factors contributed—including deteriorating asset quality, rising credit costs, and borrower overleveraging—many experts point to deeper structural issues: a saturation of agent-led efficiency, limited underwriting capacity due to poor digitization, and continued overreliance on field teams for customer sourcing and engagement.

The belief that customers resist digital solutions is a myth that ecosystem actors must dispel. Rural and semi-urban customers who use UPI, access PM-Kisan benefits digitally, and consume content in local languages are not technology-averse. They need intuitive, low-literacy-friendly interfaces that reflect their preferences. MFIs can build trust-based digital solutions for customer onboarding, repayment tracking, and grievance resolution. Technology exists. Yet, the will to deploy it is perhaps lacking. Regulators hold the key to unlock sector-wide transformation. The RBI and SIDBI can de-risk innovation through grant-backed sandboxes and catalytic capital for early-stage pilots. They can accelerate adoption by nudging MFIs toward existing public infrastructure, including account aggregators, Aadhaar eKYC, UPI123, and DigiLocker. Most critically, regulators can enable safe data-sharing between MFIs and FinTechs for better underwriting, even as they promote shared infrastructure, such as sector-wide consent managers and collection aggregators. Such support will reduce costs and create network effects that benefit the entire sector.

RBI’s recent revision in the definition of qualifying assets — reducing the threshold from 75% to 60% — presents a fresh opportunity for MFIs to adopt a digital-first approach and expand their presence in segments such as personal credit, agricultural finance, and MSME lending. Digital transformation succeeded in other sectors by enhancing human connection rather than replacing it. The telecom industry transformed access with prepaid models. Healthcare boomed with telemedicine and e-pharmacies during COVID-19. AgriTech now enables farmers to sell online and monitor weather through apps. In each case, technology amplified human potential rather than substituting for it. MFIs can follow the same path. Several trigger points demand immediate action from MFIs. Rising nonperforming assets require early warning systems, customer churn calls for data-backed engagement, and regulatory nudges push digital traceability requirements. The transition does not need to happen overnight, but MFIs cannot afford to delay further. They can start with digital group onboarding, predictive collections, or consent-based credit scoring. But they must begin now, guided by a clear vision of creating digital-first, customer-centric institutions that retain community roots.

Three fundamental shifts will determine success in this transformation. MFIs must move from vendor-driven to sector-led innovation to take control of their technology agenda rather than accepting generic solutions. They must shift from digitizing for compliance to digitizing for customers, which will ensure digital tools solve real customer problems rather than merely satisfy regulatory requirements. Finally, they must transform from one-time pilots to build continuous problem-solving capabilities and make innovation an ongoing organizational strength rather than a sporadic project. India’s MFIs stand at a digital inflection point today. They can cling to legacy models and risk obsolescence or embrace transformation with courage and clarity. The path forward demands collaboration between MFIs, regulators, and technology providers. The obstacles are real, but the alternative of gradual irrelevance in an increasingly digital economy is far worse. For millions of Indians who depend on microfinance, the stakes could not be higher. The time for incremental change has passed. The moment for transformation is here, and the country’s people cannot wait.

This was first published on  CXOtoday.com on 12th  September,  2025