India’s bad loans are falling, but a bigger banking risk may be building beneath the surface

India’s banking sector may be facing a less visible credit risk: households accumulating debt faster than their incomes can support, even as personal loan defaults improve. Rising leverage, uneven credit growth and pressure on middle-class finances are raising questions about the sustainability of the country’s retail lending boom.

Household debt, including mortgages, stood at 46% of India’s gross domestic product (GDP) as of September 2025, according to Reserve Bank of India (RBI) data cited in a Bank of America Global Research report. More concerning is the rise in non-housing household borrowings, which increased from around 16% of GDP in March 2019 to 27% in March 2026.

India’s leverage intensity ratio, which measures the change in household borrowing relative to the change in per capita GDP, stood at 2.1 during FY19-26. This was higher than China’s 2.0, Malaysia’s 1.3 and Thailand’s 1.1, indicating that household borrowing has expanded relatively rapidly compared with economic growth.

Credit grows faster than household incomes

The increase in leverage comes amid pressure on middle-class purchasing power, with rising living costs and uncertainty over white-collar employment pushing households towards borrowing to sustain consumption.

Private final consumption expenditure grew 7.7% in FY26, compared with 5.8% in FY25. However, the recovery has coincided with a sharp acceleration in lending. Non-food bank credit growth rose from 9.9% in July 2025 to 19.1% in July 2026, while retail credit growth increased from 11.9% to 16.2%.

The composition of credit growth offers important clues. Vehicle loan growth reached 18.8% in July 2026, while credit card outstanding growth slowed from 5.6% to 2.3%. Consumer durable loan growth stood at just 0.4%, recovering from a contraction of 5.8% a year earlier.

The divergence suggests that credit expansion is not translating uniformly into discretionary consumption. It also raises questions about borrowing priorities and households’ capacity to take on additional unsecured debt.

Why falling defaults may not tell the whole story

There are signs of improvement in reported loan performance. One-year personal loan default rates declined from 0.51% to 0.35%, suggesting that tighter RBI lending norms may be helping contain near-term credit risks.

However, lower defaults do not necessarily mean household balance sheets are becoming stronger. Borrowers may continue servicing existing loans while taking on additional obligations, leaving them more vulnerable to income shocks or tighter credit conditions.

For banks and non-banking financial companies (NBFCs), the challenge is therefore not simply to expand loan books or keep reported defaults low. It is to assess borrowers’ total indebtedness, repayment capacity and income stability.

The next phase of India’s retail credit cycle may depend on whether household incomes catch up with borrowing. If debt continues to grow faster than repayment capacity, today’s healthy loan performance could prove less reassuring than it appears.