India’s Banking Sector: FY2025 in Review & What to Expect in FY2026

With the global economy slowing down and Trump’s tariff tensions looming over major economies, it’s safe to say that we have entered the new financial year with some baggage. In such times, the smart move is to step back from the noise and look at the bigger picture. In this blog series, we’re attempting to do just that. Our goal is to highlight the most relevant macroeconomic factors impacting key sectors of the economy and share crisp insights on them.

We began with the FMCG sector, and this time, we’re looking at India’s Banking Sector.

Indian Banking Sector Snapshot

What is the structure of the Indian Banking System?

Why are Scheduled Commercial Banks (SCBs) so important? 

They majorly reflect what’s happening in the banking system. RBI Periodic reports, Monetary Policy decisions, and most of the banking sector analysis exclusively focus on SCBs because:

• RBI controls their Cash Reserve Ratio (CRR), Statutory Liquidity Ratio (SLR), and repo access, which makes them the most policy-sensitive entities.
• SCBs are required to report data under strict norms (like BASEL III), which makes their numbers reliable.

India’s banking system has grown at a CAGR of 10.6% in terms of total bank credit in the last decade. Despite steady credit growth, in Q2 2024, India had a Credit to GDP ratio of 94- one of the lowest among global peers, as shown below:

A low Credit-to-GDP ratio indicates underpenetration of financial credit in the country. This also means that the banking sector in India has significant scope for growth in the coming years. 

Before diving into the outlook for FY2026, let’s backtrack to the macroeconomic environment in FY2025:

• The Indian economy maintained a modest growth momentum with real GDP growth projected at 6.5% - an upward revision of 10 bps from the first advance estimates.
• Inflation has been easing from its peak of 6.2% in October 2024 to 3.6% in February 2025. Considering this, the RBI shifted its stance from “withdrawal of accommodation” to “neutral” in October 2024 and maintained this stance in February 2025.
• Low inflation, supported by a favourable outlook on food and expectations of recovery in GDP growth from the low of Q2 FY2025, contributed to the 25bps repo rate cut to 6.25% in February 2025. Stable inflation and subdued credit growth are expected to drive additional rate cuts are FY2026.
• FY2025 also witnessed strong balance sheets of banks with record-low Non-Performing Assets (NPAs) and decadal high Return on Assets (ROAs), placing banks in a favourable position for growth.

Key Events in the Indian Banking Sector in FY2025

Banking Performance Review FY2025

Divergence in Public and Private Sector Bank Indices

The NIFTY Bank Index outperformed NIFTY 50 in FY2025, recording a 1-year return of 8.4% compared to 4.7% for NIFTY 50. 

Further, Private Banks closely tracked the NIFTY Bank index, both ending the period with ~8% gains (Private Banks: 8.1%, NIFTY Bank: 8.4%). In contrast, Public Sector Banks underperformed sharply, with the NIFTY PSU Bank index falling 11.9% over the same period.

This divergence can mainly be attributed to:

• Stronger deposit mobilisation of private banks and
• Weak Earnings by Public Sector banks in Q3 FY2024.

Financial Services Sector stays strong amid Broad-Based FII Selling

From September 2024 to March 2025, FIIs pulled out a massive ₹10.6 lakh crore from various Indian sectors. But not all sectors were hit equally. The chart below highlights the top sectors hit by FII outflows in March 2025.

While sectors like Auto (-36%), Power (-36%),  Oil & Gas (-33%), and FMCG (-33%) bore the brunt of the selloff, Financial Services was resilient with only a 4% decline.

This shows a potential shift in the strategy of FIIs to more domestic-oriented sectors, which have low sensitivity to global shocks, like the financial services sector, especially banks.

Stock Performance of Nifty Bank Companies:

Key Insights:

• Private Banks Command Premium Valuations: Private banks like HDFC (20.8), ICICI (19.7), IDFC (25.4), etc., have higher valuations than Public Sector Banks—SBI (9.3), PNB (7.0), Canara (5.5), etc. This indicates investor confidence in private sector banks. At the same time, public sector banks, being at relatively low valuations, may present a good investment opportunity for investors.
• Growth Potential for Public Sector Banks (PSBs): While PSBs lag in ROE and ROA, steady improvements in topline growth and asset quality might indicate a structural turnaround.

Macro Environment for FY2026

1. 🟢Steady Credit Growth 

Credit growth slowed to 12.1% (yoy) as of March 2025, down from 16.3% a year ago, mainly due to a high base effect. FY2024 witnessed robust growth in bank credit as it was the first full year of post-COVID recovery.

Having said that, growth in FY2025 remains steady, with a 1.8% Month-on-Month increase in January 2025—the highest since October 2023—despite inflationary pressures and moderate GDP growth.

Looking ahead, the RBI, in its Monetary Policy Report, forecasts that scheduled commercial banks' credit growth will increase from 11.5% in FY2025 to 12.4% in FY2026 and further to 13.5% in FY2027. This reflects RBI’s confidence in the Indian banking system for the next few years, anticipating steady progress.

Moreover, public sector banks led the incremental credit growth over the past year, as shown below:

2. 🟡Deposit Growth Lagging behind Credit

In contrast to credit, deposit growth has been slower at 10.5% in March 2025, mainly due to tight liquidity conditions in Q3 FY2025 and a decline in the growth of CASA deposits. This gap in deposit and credit growth is pushing Loan-to-Deposit Ratios (LDR) higher and prompting regulatory tightening by the RBI, especially in retail and NBFC lending. 

Meanwhile, the transmission of repo rate cuts is now taking effect, with major banks reducing their deposit rates. As deposit rates decline, their appeal may also fade, pushing investors to higher-yielding investments like debt instruments and mutual funds.

3. 🟢RBI Interventions Set to Boost Liquidity

The average net position under the liquidity adjustment facility (LAF), which measures the liquidity of the banking system, turned into a deficit during December 2024 and January 2025, mainly due to:

• Advance Tax Payments in December 2024
• Capital Outflows
• Forex Operations and
• Significant pickup in currency circulation in January 2025.

To ease the liquidity conditions, the RBI took the following measures:

• Reduced Cash Reserve Ratio by 50 bps to 4%, releasing approximately ₹1.2 lakh crore to the banking system.
• In Q4 2025, RBI took several steps, such as introducing daily variable repo rate auctions, carrying out open market operations of government securities, and using USD/INR Buy/Sell swaps to inject liquidity.
• Building on these efforts, in the April 2025 MPC meeting, the RBI took a more accommodative stance, signaling a greater focus on supporting economic growth going forward.

As a result of all this, the April 2025 MPC statement reported a liquidity surplus in the banking system. 

The Weighted Average Call Rate (WACR ) on April 25, 2025, stood at 5.86%- comfortably below the 6% repo rate. This indicates that banks are now lending overnight short-term funds to each other at a lower rate than what the RBI is lending to them, a clear sign of liquidity surplus in the banking system.

Moreover, liquidity conditions have been easing steadily since December 2024, highlighting that the benefits of the recent repo rate cuts are now materialising.

Further supporting liquidity conditions, the RBI revised its Liquidity Coverage Ratio(LCR) guidelines on April 21, 2025.

One of the key changes is the reduction in ‘run-off’ rates—the RBI’s estimates of how much money depositors might withdraw during a stress situation. This includes lower rates for digital (online/mobile banking) deposits and corporate funds, meaning banks now need to keep less idle cash as a safety buffer. 

These measures are expected to release over ₹3 lakh crore into the banking system. Analysts estimate this could boost credit growth by ~2 percentage points. The revised guidelines will come into effect from April 2026, allowing banks time to adjust their systems and processes.

4. 🟡CASA Deposit Stabilisation

Banks’ current account and savings account (CASA) deposits declined by Rs 5,900 crore during the first nine months of FY2025, compared to an increase of Rs 42,000 crore in the same period last year, as depositors shifted their funds into high-yield fixed deposits. As a result, banks had been struggling to find cheap financing, which impacted their profitability. 

The impact of the February 2025 rate cut is now being seen, with banks slashing deposit rates. As a result, term deposits may start losing their shine in FY2026, which could bring CASA deposits back in demand.

State Bank of India (SBI), Bank of Maharashtra, Bank of Baroda, and Punjab National Bank have reduced their EBLR by 25 bps each, post the rate cut. SBI and Bank of India also reduced their fixed deposit interest rates. HDFC Bank reduced its interest rates on savings deposits. More banks are expected to follow them, and consequently we might get to see some stabilisation in CASA deposits in FY2026.

5. 🔴Rising Stress in Unsecured Retail Loans

Unsecured retail loans showed signs of stress in FY2025. After growing at 22–25% CAGR until FY2024, growth has slowed to 11% for personal loans and 18% for credit cards in H1 FY2025, primarily due to tighter RBI regulations. Despite the slowdown, unsecured loans made up 52% of new bad retail loans.

What’s important to note is that many unsecured loan borrowers also hold secured loans, like home or auto loans. Defaults here could spill over, affecting broader asset quality. Additionally, banks face indirect risk from their exposure to NBFCs and fintechs serving vulnerable borrower segments.

Asset Quality of banks improved with GNPA of SCBs declining to 2.6% in September 2024. However, banks' aggressive lending strategies- especially of private sector banks- being displayed in rising credit-deposit ratios, may pose risks of future stress and a potential uptick in NPAs.

6. 🟡Tariffs’ impact on Corporate Lending

While the banking sector is largely domestic-oriented and may not be directly impacted by the potential rise in tariffs being imposed by the US President, it is not entirely immune to global disruptions either.

The banking sector might witness a slowdown in corporate loans. Further, if capital markets continue to decline, market sentiments will affect the momentum of credit flow and private capex growth. 

At the same time, robust Q4 earnings from banks like HDFC, ICICI, and Yes Bank, coupled with the 90-day pause on tariff implementation, can be seen as encouraging signs for the sector in FY2026.

In this backdrop, a cautiously positive stance can be taken for the banking sector, supported by two factors:

• The banking sector is not directly sensitive to international tariffs
• Resilient domestic macro indicators- like inflation, rural consumption, and agricultural output- can provide a strong buffer against external shocks.

Final Thoughts

All in all, FY2025  was an eventful year for the banking sector. The system demonstrated resilience against multiple challenges, such as inflationary pressures, liquidity constraints, currency fluctuations, and geopolitical tensions. 

Yet, credit demand continued to rise, and regulators stayed committed to maintaining a steady flow of credit into the economy.

Looking ahead, the outlook for the sector appears positive, supported by a conducive domestic macroeconomic environment that is likely to drive further growth in both credit and earnings.