What is banking?
Basic Definition: A system of trading money which: provides a safe place to save excess cash, known as deposits.
supplies liquidity to the economy by loaning this money out to help businesses grow and to allow consumers to purchase consumer products, homes, cars etc.
Section 5 (b) of the Banking Regulation Act 1949 defines
“Banking” as “Accepting for the purpose of lending and investment, deposits of money from the public repayable on demand or otherwise and withdraw able by cheque, draft, order or otherwise” No definition of banking can be comprehensive enough in the present context
What are banks?
Institutions which deals in money and credit. An
intermediary, which handles other people’s money
both for their advantage and to its own profits. A
financial institution that links the flow of funds from
savers to the users. Plays an important role in the
economy of any country as they hold the saving of
the public.
Banking in India
Objectives
To make an account of evolution of present day banking in India
To evaluate the interventions of state in banking sector over years and
To appraise the entry of foreign banks
They said
"More and more these days I find myself pondering how to reconcile my net income with my gross habits."
John Nelson.
"If you owe the bank $100
that's your problem. If you owe the bank $100 million, that's the bank's problem."
JP Getty.
"We didn't actually overspend our budget. The allocation simply fell short of our expenditure."
Keith Davis.
"Anyone who lives within their means suffers from a lack of imagination."
Oscar Wilde.
Evolutionary Phases
Indigenous Reign
Direct Intervention of the State
Liberalization
Transition
Entry of Foreign
Banks
Phase I: Indigenous banks
Vedas and the Manusmriti:
Kautalya’s Arthashastra:
Suggested Maximum and Minimum Interest rate
Kautalya, Yajnyavalkya and Manu
recommended 15 per cent interest per annum on capital.
British rule almost wiped out these tribes by
bringing European Banks from urban
They moved to villages.
They survive even today.
How did Sahukar lend?
Borrower is known
Very little documentation
Sahukar usually a bad guy
Exorbitant rates of interests
Compounded Shorter Intervals
Records Tampered
Mostly Mortgaged lending on Land,
Properties, Jewels etc
Most cases poor
borrowers surrendered
their properties.
Phase II: Direct Intervention
Government Interventions began in 1930s
The Reserve Bank which is the Central Bank was
created in 1935 by passing RBI Act 1934.
The RBI is the sole authority for
◦ issuing bank notes and
◦ the supervisory body for banking operations in India .
◦ Supervising exchange control and banking regulations, and
◦ administers the government's monetary policy.
◦ granting licenses for new bank branches.
Intervention: Nationalization
In the wake of the Swadeshi Movement, a number of banks with Indian management were established in the country
namely,
◦ Punjab National Bank Ltd, Bank of India Ltd, Canara Bank Ltd, Indian Bank Ltd, the Bank of Baroda Ltd, the Central Bank of India Ltd.
In 1955, Govt. nationalized Imperial Bank of India with extensive banking facilities on a large scale especially in rural and semi-urban areas.
It formed State Bank of India to act as the principal agent of RBI and to handle banking transactions
Intervention: Nationalization
On July 19, 1969, 14
major banks nationalized and
in 15th April 1980 six more commercial
80% of the banking
segment in India under Government ownership in 1990.
the branches of the
public sector bank India
rose to approximately
800% in deposits and
advances took a huge
jump by 11,000%.
Effect of Nationalization
the focus of lending
priority sectors were agriculture, small- scale industry, retail trade, small business and small transport operators
poverty alleviation and employment
generation programs.
the success of green revolution and the
increase of aggregate
food grain production
Other sides of Nationalization
Borrowings and lending restricted, not on business line
Deterioration of Banker-customers relationship
Poor Services
Employees Strikes
No Healthy competition among banks
Mounting hidden NPAs
Phase III - Liberalization
Constitution of Narasimham committee and its report on Banking reforms in 1991.
It covered the areas of interest rate deregulation & directed credit rules,
Statutory preemptions and entry deregulation for both domestic and foreign banks.
Lowering of the CRR and SLR
Interest rate liberalization
Do away with Entry barriers. By March 2004, the new private sector banks and the foreign banks share shared almost 20%
of total assets
Prudential Norms act against NPAs
Phase IV: Transition
Most Indian banks lagging behind the areas of customer funds transfer and clearing systems.
Over-staffed and not able to compete with new generation private banks
While these new banks and foreign banks still face
restrictions in their activities.
New banks are well- capitalized,
Use modern equipment and
Attract high-caliber
employees. Indian banks were given time to
Indian Banks to strengthen their balance sheets,
consolidate and overall
become more robust, so that they could compete.
Phase V: Entry of Foreign Banks
Two of domestic banks in
India have turned like Foreign Banks. About 74 per cent of holdings of ICICI and HDFC bank are in the hands of foreigners.
Phase II of roadmap foreign banks may be permitted to have overall investment of 74 per cent in the private banks of India in April 2009
New banks to be in India
◦ Royal Bank of Scotland
◦ Switzerland's UBS
◦ US-based GE Capital
◦ Credit Suisse Group
◦ Industrial and Commercial Bank of China
Areas of Concentration are Risk Management,
customizing the products and Value creation.
Types of banks in India
Central Bank: The Reserve Bank of India is the central Bank that is fully owned by the
Government
Public Sector Banks: State Bank Group, Regional rural banks
Private Sector Banks: Foreign Banks, Scheduled and Non- Scheduled Banks
Co-operative Sector: State Co-operative
Banks, Central Co-operative Banks, Primary Agriculture Credit Societies
Development Banks/Financial Institutions:
IDBI, NABARD
Commercial Banking INTRODUCTION
Commercial banks are type of financial institutions that lends money and provides transactional, savings, and money market accounts and that accepts time deposits.
Commercial banking play very important role in economy by mobilizing savings from various sectors.
INDIAN BANKING SYSTEM
Public Sector Banks
A Public Sector bank is one in which, the Government of India holds a majority stake. It is as good as the government running the bank. Since the public decide on who runs the government, these banks that are fully/partially owned by the government are called public sector banks. The public sector commercial banking started with setting up of State bank of India in 1955.
Public Sector Banks (Nationalised banks):
State Bank of India (SBI) Canara Bank
Indian overseas bank Dena Bank
Oriental Bank of Commerce
Private sector banks
Banks which are owned by individuals corporations and not by government or cooperative societies fall into this category. Private banks use the word
‘limited’ after their names.
Private Sector Banks:
HDFC Bank
ICICI Bank
Federal Bank
ING Vysya Bank
Axis Bank (formerly UTI Bank)
Regional rural banks(RRB’s)
The Government of India set up Regional Rural Banks (RRBs) on
October 2, 1975 which were sponsored by Syndicate Bank, State
Bank of India, Punjab National Bank, United Commercial Bank and United Bank of India. Capital share being 50% by the central government, 15% by the state government and 35% by the scheduled bank. The objective was to provide credit and other facilities to small and marginal farmers and agricultural labourers.
CO-OPERATIVE BANKS
A co-operative bank is a financial entity which belongs to its members, who are at the same time the owners and the customers of their bank. Co-operative banks are often created by persons belonging to the same local or
professional community or sharing a common interest. Co- operative banks are playing an important role in small towns and villages.
List of Co-operative bank
Ahmedabad Mercantile Co-Op Bank Ltd.
Kalupur Commercial Coop.Bank Ltd.
Madhavpura Mercantile Co-Op Bank Ltd.
Mehsana Urban Co-Op Bank Ltd.
Nutan Nagarik Sahakari Bank Ltd
National Bank For agricultural and rural development (NABARD)
NABARD was set up through an Act of the Indian Parliament on 12 July 1982 as an apex development bank for agriculture and rural development.
NABARD is an apex DevelopmentBank that facilitates credit flow for promotion and development ofagriculture, small-scale industries, cottage and village industries, handicrafts and other rural crafts.
Foreign banks
Foreign banks are those banks which are registered or incorporated outside India. They have their office or branch in India. The globalisation of Indian economy will encourage the presence of more foreign banks.
Some of the foreign banks have successfully introduced latest technologies in the banking practices in India. This has made the banking business in the country more smooth and interesting for the customers.
List of foreign banks in India
ABN AMRO
Citibank India
HSBC (Hongkong & Shanghai Banking Corporation)
Standard Chartered Bank
Commercial banking – primary and secondary functions
Primary functions
Accepting deposits
Granting loans and advances Secondary functions
Issuing letters of credit, travellers cheques
Undertaking safe custody of valuables, important documents, and securities by providing safe deposit vaults or lockers
Providing customers with facilities of foreign exchange
Transferring money from one place to another; and from one branch to another branch of the bank. Collecting and
supplying business information. Issuing demand drafts and pay orders
Providing reports on the credit worthiness of customers.
Role of Commercial Banks
Providing documentary and standby letters of credit (trade finance), guarantees, performance bonds, securities underwriting commitments and other forms of off-balance sheet exposures
Safekeeping of documents and other items in safe deposit boxes
Currency exchange
Issue of banknotes (promissory notes issued by a banker and payable to bearer on demand) Processing of payments by way of telegraphic transfer, EFTPOS, internet banking or other means Issuing bank drafts and bank cheques
Accepting money on term deposit Lending money by way of overdraft, installment loan or otherwise
Credit intermediation
Credit quality improvement
Credit Creation
Credit creation is considered to be the main function of commercial banks these days. “Credit creation refers to the power of commercial banks to expand secondary deposits either through the process of making loans or through investment in securities”.
Basic concepts used in the process of credit creation
1. Bank deposits
2. Business Institutions 3. Cash Reserve Ratio 4. Excess Reserves
5. Credit Multiplier
Process of Credit Creation
Single Bank System
Multiple Bank System
Limitations of credit creation
Cash Reserve Ratio
Amount of Primary Deposits
Banking Habits of the People
Credit Policy of the Central Bank
Policy of other banks
Nature of Securities or Availability of Good Borrowers
Commercial and Industrial Condition
Services rendered by banks
Banks offer the following services to account holders at their specified branches
multi-city / Payable at Par (PAP) cheque facility
anywhere banking facility
trade services
phone banking facility
internet banking facility
credit card
debit/ATM card
mobile banking and Real Time Gross Settlement (RTGS)
Locker facilities
Clearing Procedure
Bank Clearing house: The clearing house is a voluntary
association of banks under the management of a bank where the settlement accounts are maintained. Wherever Reserve Bank of India has its office (and a banking department), the clearing house is managed by it. In the absence of an office of the Reserve Bank, the clearing house is managed by the State Bank of India, its associate banks and in a few cases by public sector banks.
In India there are about 1050 cheques clearing houses.
These clearing houses clear and settle transactions relating to various types of paper based instruments like cheques, drafts, payment orders, interest / dividend warrants, etc.
Clearing Process
The clearing process begins with the deposit of a cheque/other clearing instruments referred above in a bank.
The bank arranges the cheques submitted to it for clearing bank wise and presents it in the clearing house to other banks. When there are more than one bank branch for a bank in the clearing area, they would have a coordinating branch/
service branch to take care of presenting the cheques to the clearing house.
Upon receipt of the cheques/other instruments, they are passed for payment if the funds are available and the banker is satisfied about the genuineness of the instrument. The cheques that are unpaid are returned to the presenting bank through another clearing called the Return Clearing. The realization of the funds occurs after the completion of return clearing and by the absence of an unpaid cheque
Settlement of Funds: The settlement of funds in clearing occurs at several levels. The aggregate amount or value of cheques presented by a bank on other banks represents the claim by that bank on other banks. Similar claims are made by all the banks on every other bank in the clearing.
A net settlement is arrived at the clearing house and the debit or credit position of the bank is determined. These are booked in their current accounts maintained by the settling bank. This represents the inter- bank settlement. The settlement of funds between the service branch and the branch concerned represents the transfer of funds to the branch level. The payment process is completed only when the funds are debited from the drawer’s account and credited to the payee’s account. This occurs after the completion of the return clearing mentioned earlier
Modern technology in banking
Information technology is one of the most important facilitators for the transformation of the Indian banking industry in terms of its transactions processing as well as for various other internal systems and processes.The various technological platforms used by banks for the conduct of their day to day operations, their manner of reporting and the way in which interbank transactions and clea
The process of computerisation marked the beginning of all technological initiatives in the banking industry.
Computerisation of bank branches had started with installation of simple computers to automate the functioning of branches, especially at high traffic branches. Thereafter, Total Branch Automation was in use, which did not involve bank level branch networking, ring is affected has evolved substantially over the years.
Core banking
Networking of branches are now undertaken to ensure better customer service. Core Banking Solutions (CBS) is the
networking of the branches of a bank, so as to enable the customers to operate their accounts from any bank branch, regardless of which branch he opened the account with. The networking of branches under CBS enables centralized data management and aids in the implementation of internet and mobile banking. Besides, CBS helps in bringing the complete operations of banks under a single technological platform.
CBS implementation in the Indian banking industry is still underway. The vast geographical spread of the branches in the country is the primary reason for the inability of banks to attain complete CBS implementation.
ATM
ATMs were introduced to the Indian banking industry in the early 1990s initiated by foreign banks. Most foreign banks and some private sector players suffered from a serious handicap at that time- lack of a strong branch network. ATM technology was used as a means to partially overcome this handicap by reaching out to the customers at a lower initial and transaction costs and offering hassle free services. Since then, innovations in ATM technology have come a long way and customer receptiveness has also increased manifold.
Public sector banks have also now entered the race for expansion of ATM networks. Development of ATM networks is not only leveraged for lowering the transaction costs, but also as an effective marketing channel resource.
Electronic fund transfer system
There are various types of electronic clearing systems
functioning in the retail payments area in the country. Some of them are ECS, NEFT etc.
Electronic Clearing Service (ECS) is a retail payment
system that can be used to make bulk payments / receipts of a similar nature especially where each individual payment is of a repetitive nature and of relatively smaller amount. This facility is meant for companies and government departments to make/receive large volumes of payments rather than for funds transfers by individuals. The ECS facility is available in 47 centers across India operated by RBI at places where it manages the clearing houses and by SBI and its associates in other centers. The ECS is further divided into two types – ECS (Credit) to make bulk payments to individuals/vendors and ECS (Debit) to receive bulk utility payments from
individuals
National Electronic Funds Transfer (NEFT) system:- is a nationwide funds transfer system to facilitate transfer of funds from any bank branch to any other bank branch. This is typically for individual / single payments. The system uses the concept of centralized accounting system and the bank’s account that is sending or receiving the funds transfer instructions, gets
operated at one center, viz. Mumbai only. The individual branches participating in NEFT could be located anywhere
across the country. The beneficiary gets the credit on the same Day or the next Day depending on the time of settlement. NEFT operates on a deferred net settlement (DNS) basis which settles transactions in batches. Presently it is settled in six batches the last one being 1600 hrs. on a weekday and 3 batches with the last one being 1200hrs on a Saturday. To participate in NEFT the participating banks branch needs to have IFSC code
Indian Financial System Code (IFSC) is an alpha numeric code designed to uniquely identify the bank-branches in India. This is 11 digit code with first 4 characters representing the banks code, the next character reserved as control character (Presently 0 appears in the fifth position) and remaining 6 characters to identify the branch. The MICR code has 9 digits to identify the bank-branch.
Real Time Gross Settlement(RTGS)
It is a large value funds transfer system whereby financial intermediaries can settle interbank transfers for their own account as well as for their customers on a “real time” and on
“gross” basis. The system effects final settlement of interbank funds transfers on a continuous, transaction- by-transaction basis throughout the processing day(RTGS business hours).
The RTGS system is primarily for large value transactions.
The minimum amount to be remitted through RTGS is Rs.1 lakh. There is no upper ceiling for RTGS transactions. On a typical day, RTGS handles about 14000 transactions a day for an approximate value of Rs.1,50,000 crore
While RTGS remittance would be credited to a beneficiary’s account by maximum time lag of two hours, NEFT transaction depending on the timing of the transfer will be transferred the same day or the next day and in both the cases when the transfer has not happened the money would be returned to payer’s account
Internet Banking
Internet banking in India began taking roots only from the early 2000s. Internet banking services are offered in three levels. The first level is of a bank’s informational website, wherein only queries are handled; the second level includes Simple Transactional Websites, which enables customers to give instructions, online applications and balance enquiries. Under Simple Transactional Websites, no fund based transactions are allowed to be conducted. Internet banking in India has reached level three, offering Fully Transactional Websites, which allow for fund transfers and various value added services.
Internet banking poses high operational, security and legal risks.
This has restrained the development of internet banking in India.
The guidelines governing internet banking operations in India covers a number of technological, security related and legal issues to be addressed in relation to internet banking. According to the earlier guidelines, all internet banking services had to be denominated in local currency, but now, even foreign exchange services, for the permitted underlying transactions, can be offered through internet banking.
Phone Banking and Mobile Banking
Phone and mobile banking are a fairly recent phenomenon for the Indian banking industry. There exist operative guidelines and restrictions on the type and quantum of transactions that can be undertaken via this route. Phone banking channels function through an Interactive Voice Response System (IVRS) or tele-banking executives of the banks.
The transactions are limited to balance enquiries, transaction enquiries, stop payment instructions on cheques and funds transfers of small amounts (per transaction limit of Rs 2500, overall cap of Rs 5000 per day per customer). According to the draft guidelines on mobile banking, only banks which are licensed and supervised in India and have a physical presence in India re allowed to offer mobile banking services. Besides, only rupee based services can be offered. Mobile banking services are to be restricted to bank account and credit card account holders which are KYC and AMC compliant.
