INDIAN BANKING SYSTEM AND CONCEPTS

Introduction-Types of banks
Basel2 norms Reforms in banking

Non performing assets(NPA)

Committees

SCHEDULED BANKS
SCH. COMMERCIAL BANKS
PUBLIC SEC BANKS PVT. SECTOR BANKS NATIONALIZED BANKS

SCH. COOP. BANKS

SCH. URBAN COOP BANK RURAL REGIONAL BANKS

SCH. URBAN COOP BANK FOREIGN BANKS

SBI & ITS OLD PVT. NEW PVT. ASSOCIATES BANKS BANKS
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At the time of Independence banking structure dominated by domestic scheduled commercial banks. Non-scheduled banks, constituted a small share.
First task before RBI after independence - develop sound structure on contemporary lines. Safety nets to depositors from RBI Need for separate banking structure Commercial banks not tuned to needs and requirements of SME and marginal farmers, co-operatives lacked resources. Need of combining local feel and familiarity of rural problems characteristic of co-operatives and professionalism and large resource base of commercial banks.
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Established - April 1, 1935 Ownership- originally privately, Nationalized 1949 Central Office Governor sits and policies are formulated initially established in Calcutta; permanently moved to Mumbai in 1937 Preamble"... to regulate the issue of Bank Notes and keeping of reserves with a view to securing monetary stability in India and generally to operate the currency and credit system of the country to its advantage
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 Regulator and supervisor of financial system Monetary Authority Banker to the Government Monopoly of Note Issue (other than Rupee

One notes and coins and subsidiary coins) Manager of Foreign Exchange Developmental role Related Functions

Performed by RBI under guidance of Board for Financial Supervision (BFS) Constituted in November 1994; Committee of the Central Board of Directors Objective consolidated supervision of financial sector commercial banks, FIs, and NBFCs Constitution
Chairman - Governor Vice-Chairman - Dy Governor in charge of

banking regulation and supervision Co-opted Directors from Central Board - 4 Term 2 years and is. Ex-officio members - Dy Governors
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Audit Sub-Committee : Dy Governor is Chairman and 2 Directors as members upgrading quality of statutory audit and internal audit functions in Banks and Fis Functions: bank inspections; off-site surveillance, strengthening of role of statutory auditors ; strengthening of internal defences of supervised institutions; legal issues in bank frauds; divergence in assessments of NPA and supervisory rating model.
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REAL TIME GROSS SETTLEMENT (RTGS) SYSTEM - IN compliance with Basle Core Principles for Systemically Important Payment Systems of BIS Indian Financial NETwork INFINET a `one-of-a-kind initiative for sharing IT expensive resources `ANYWHERE BANKING THROUGH CBS, ANYTIME BANKING -National Financial Switch for interconnecting ATMs IMPROVING CG- set up through fit and proper criteria INTEGRATED RISK MANAGEMENT SYSTEMS NATIONAL ELECTRONIC FUNDS TRANSFER (NEFT) SYSTEM and NATIONAL ELECTRONIC CLEARING SERVICE (NECS).
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PLR or prime lending rate - rate of interest at which banks lend to their credit-worthy or favoured customers. It is treated as a benchmark rate for most retail and term loans. influenced by RBIs policy rates the repo rate and cash reserve ratio Deposit Rates - Interest rate paid on deposit accounts by commercial banks and other Fis Bank rate - rate of interest which RBI charges on loans and advances that it extends to commercial banks and other financial intermediaries. Changes in the bank rate are often used by RBI to control money supply
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Repo Rate - rate at which banks borrow from RBI. A reduction in repo rate will help banks to get money at a cheaper rate. Reverse Repo rate - rate at which RBI borrows money from banks. An increase in Reverse repo rate can cause banks to transfer more funds to RBI due to this attractive interest rates. It can cause the money to be drawn out of the banking system. Due to this fine tuning of RBI using its tools of CRR, Bank Rate, Repo Rate and Reverse Repo rate our banks adjust their lending or investment rates for common man. Difference between Bank Rate and Repo Rate While repo rate - applicable to short-term loans and used for controlling amount of money in market, bank rate - a long-term measure and governed by long-term monetary policies
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OBJECTIVE To restrict expansion of bank credit. To augment investment of the banks in Government securities. To ensure solvency of banks. Commonly used to contain inflation and fuel
growth, by increasing or decreasing it respectively

MAINTAINED IN THE FORM OF : Cash Gold marked to market Unencumbered approved securities or Gilts valued at a price as specified by RBI CURRENT SLR 24% SLR RATE = Total Demand/Time Liabilities x 100%
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OBJECTIVE

Banks required to hold a certain proportion of their deposits in the form of cash, deposited with RBI/currency chests, considered as equivalent to holding cash with themselves This minimum ratio (that is the part of the total deposits to be held as cash) is stipulated by RBI - CRR or
Cash Reserve Ratio Also known as - Cash Asset Ratio or Liquidity Ratio

PURPOSE Higher the ratio (i.e. CRR), lower is amount that banks will be able to use for lending and investment. EXISTING CRR 5% (w.e.f. 2nd Jan 2009)

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International set of capital standards, known as the Basel Accords and determine how much equity capital - known as regulatory capital - a bank must hold to buffer unexpected losses. (Equity is assets minus liabilities).
A bank is highly leveraged compared to corporations. the Basel Accord requires banks to have an equity cushion in the event that assets decline, providing depositors with protection. If big banks fail, it spells systematic trouble. So, Basel 2 attempts to protect the system.

Ensuring that capital allocation is more risk sensitive. Enhance disclosure requirements which will allow market participants to assess the capital adequacy of an institution. Ensuring that credit risk, operational risk and market risk are quantified based on data and formal techniques. Attempting to align economic and regulatory capital more closely.

Basel 1 did not use operational risk at all, the market risk was only considered.

Credit risk based on internal rating based approach.

Operational risk is defined as the risk of loss resulting from inadequate or failed internal processes, people and systems or external events.
Market risk is based on the duration and value at risk.

2.Some factors for operational risk could be lack of competent management and/or proper planning and controls, incompetent staff, indiscipline, involvement of staff in frauds, outdated systems, non-compliance, programming errors, failure of computer systems, increased competition, deficiency in loan documentation etc.

It provides a framework for countering the other risks a bank may face, such as : Systemic Risk Pension Risk Strategic Risk Reputational Risk Liquidity Risk Legal Risk

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2. 3.

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5. 6.

It enables the market participants to gauge the capital adequacy of an institution.

Market discipline supplements regulation as sharing of information facilitates assessment of the bank by others including investors, analysts, customers, other banks and rating agencies which leads to good corporate governance. These disclosures are required to be made at least twice a year.

Till 1991, the banking sector was faced with the problems such as tight control of RBI, eroded productivity and efficiency of public sector banks, continuous losses by public sector banks year after year, increasing NPAs, deteriorated portfolio quality, poor customer service, obsolete work technology and unable to meet competitive environment.

Narsimham Committee was appointed in 1991 and it submitted its report in November 1991, with detailed measures to improve the adverse situation of the banking industry. The main motive of the reforms was to improve the operational efficiency of the banks to further enhance their productivity and profitability.

1.) Reduction in SLR & CRR 2.) Deregulation of interest rates 3.) Transparent guidelines or norms for entry and exit of private sector banks 4.) Public sector banks allowed for direct access to capital markets 5.) Branch licensing policy has been liberalized 6.) Setting up of Debt Recovery Tribunals 7.) Asset classification and provisioning 8.) Income recognition 9.) Asset Reconstruction Fund (ARF)

In spite of the optimistic views about the growth of banking industry in terms of branch expansion, deposit mobilization etc, several distortions such as increasing NPAs and obsolete technology crept into the system, mainly due to the global changes occurring in the world economy.
The government of India appointed second Narsimham Committee under the chairmanship of Mr. M. Narsimham to review the first phase of banking reforms and chart a programme for further reforms necessary to strengthen Indias financial system so as to make it internationally competitive.

There were no new recommendations in the second Narasimham Committee except the followings:

Merger of strong units of banks.

Adaptation of the narrow banking concept to rehabilitate weak banks.

Reduced CRR and SLR: CRR has reduced from the earlier high level of 10% to current 4.75% level, while the SLR Is also reduced from early 38.5% to current minimum of 23% level. This has left more loanable funds with commercial banks, solving the liquidity problem. Deregulation of Interest Rate: Banks now enjoy freedom of fixing the lower and upper limit of interest on deposits. Interest rates on the bank loans above Rs.2 lakhs are full decontrolled.

Introduction of CRAR: It resulted in an improvement in the capital position of commercial banks, all most all the banks in India has reached the Capital Adequacy Ratio (CAR) above the statutory level of 9%. Operational Autonomy: If a bank satisfies the CAR then it gets freedom in opening new branches, upgrading the extension counters, closing down existing branches and they get liberal lending norms.

Banking Diversification: Many of the banks have stared new services and new products. Some of them have established subsidiaries in merchant banking, mutual funds, insurance, venture capital, etc which has led to diversified sources of income for them. Improved Profitability and Efficiency: It has happened due to the reduced Non-performing loans, increased use of technology, more computerization and some other relevant measures adopted by the government.

Non Performing Assets refer to loans that are in jeopardy of default. Once the borrower has failed to make interest or principal payments for 90 days the loan is considered to be a non-performing asset or non performing loans. For example, a mortgage in default would be considered non-performing. After a prolonged period of nonpayment, the lender will force the borrower to liquidate any assets that were pledged as part of the debt agreement. If no assets were pledged, the lenders might write-off the asset as a bad debt and then sell it at a discount to a collections agency.

With a view to moving towards international best practices and to ensure greater transparency, it has been decided to adopt the 90 days overdue norm for identification of NPA, from the year ending March 31, 2004. Accordingly, with effect from March 31, 2004, a non-performing asset (NPA) shall be a loan or an advance where; Interest and/or instalment of principal remain overdue for a period of more than 90 days in respect of a term loan, The account remains out of order for a period of more than 90 days, in respect of an Overdraft /Cash Credit (OD/CC), The bill remains overdue for a period of more than 90 days in the case of bills purchased and discounted, Interest and/or instalment of principal remains overdue for two harvest seasons but for a period not exceeding two half years in the case of an advance granted for agricultural purposes, and Any amount to be received remains overdue for a period of more than 90 days in respect of other accounts.

Banks are required to classify non-performing assets further into the following three categories based on the period for which the asset has remained non-performing and the reliability of the dues: 1 Sub-standard Assets 2 Doubtful Assets 3 Loss Assets

NARASIMHAM COMMITTEE -1 (1991) NARASIMHAM COMMITTEE -2 (1998) CHORE COMMITTEE TANDON COMMITTEE

The group (headed by Sh. Prakash Tandon) was appointed in July 1974 which was to frame guidelines for follow-up of bank credit and submitted its final report during 1975 and gave following recommendations, applicable to borrowers availing fund based working capital limits of Rs. 10 lac or more. Approach to lending The committee suggested three methods of lending out of which RBI accepted two methods for implementation. According to First Method, the borrower can be allowed maximum bank finance upto 75% of the working capital gap (working capital gap denotes difference between total current assets required and amount of finance available in the shape of current liabilities other than short term bank borrowings). The balance 25% to be brought by the borrower as surplus of long term funds over the long term outlay. As per Second Method of lending, the contribution of the borrower has to be 25% of the total current assets build-up instead of working capital gap. (Method of lending as per Vaz Committee will now apply to borrowers availing working capital fund based limits of Rs. 100 lac or more only) Other major recommendations of the committee were: No slip back in current ratio, normally. Classification guidelines for Current assets and current liabilities. Identification of excess borrowing.I nformation system, which was modified by Chore Committee Recommendations.Bifurcation of limits into loan and demand component.

The Chore Committee under the Chairmanship of Shri.IC.B.Chore, of RBI, was constituted in April 1979.
The terms of reference were -

To review the working of cash credit system.

To study the gap between sanctioned and utilized cash credit levels. To suggest measures to ensure better credit discipline.

To suggest measures to enable banks to relate credit limits with output levels. To continue the present system of working capital financing, viz., credit, bill finance and loan.

If possible supplement cash credit system by bill and loan financing43. To periodically review cash credit levels. No need to bifurcate cash credit accounts into demand loan and cash credit components. To fix peak level and non-peak level limits of bank assistance wherever, seasonal factors significantly affect level of business activity. Borrowers to indicate before commencement requirement of bank credit within peak and sanctioned. A variation of 10% is to be tolerated. Excess or under utilization beyond 10% tolerance level is to be considered as irregularity and corrective actions are to be taken up.

Quarterly statements of budget and performance be submitted by all borrowers havingRs.50 lakh working capital limit from the whole of banking system. To discourage borrowers depending on adhoc assistances over and above sanctioned levels. The second method of financing of working capital as suggested by the Tandon committee be uniformly adopted by banks. To treat as working capital term loan the excess of bank funding when the switch over to the second method bank financing is adopted and the borrower is not able to repay the excess loan.

The Narsimham Committee was set up in order to study the problems of the Indian financial system and to suggest some recommendations for improvement in the efficiency and productivity of the financial institution . The committee has given the following major recommendations:Reduction in the SLR and CRR : The committee recommended the reduction of the higher proportion of the Statutory Liquidity Ratio 'SLR' and the Cash Reserve Ratio 'CRR'. Both of these ratios were very high at that time. The SLR then was 38.5% and CRR was 15%. This high amount of SLR and CRR meant locking the bank resources for government uses. It was hindrance in the productivity of the bank thus the committee recommended their gradual reduction. SLR was recommended to reduce from 38.5% to 25% and CRR from 15% to 3 to 5%. Phasing out Directed Credit Programme : In India, since nationalization, directed credit programmes were adopted by the government. The committee recommended phasing out of this programme. This programme compelled banks to earmark then financial resources for the needy and poor sectors at confessional rates of interest. It was reducing the profitability of banks and thus the committee recommended the stopping of this programme. Interest Rate Determination : The committee felt that the interest rates in India are regulated and controlled by the authorities. The determination of the interest rate should be on the grounds of market forces such as the demand for and the supply of fund. Hence the committee recommended eliminating government controls on interest rate and phasing out the concessional interest rates for the priority sector.

Structural Reorganizations of the Banking sector : The committee recommended that the actual numbers of public sector banks need to be reduced. Three to four big banks including SBI should be developed as international banks. Eight to Ten Banks having nationwide presence should concentrate on the national and universal banking services. Local banks should concentrate on region specific banking. Regarding the RRBs (Regional Rural Banks), it recommended that they should focus on agriculture and rural financing. They recommended that the government should assure that henceforth there won't be any nationalization and private and foreign banks should be allowed liberal entry in India. Establishment of the ARF Tribunal : The proportion of bad debts and Non-performing asset (NPA) of the public sector Banks and Development Financial Institute was very alarming in those days. The committee recommended the establishment of an Asset Reconstruction Fund (ARF). This fund will take over the proportion of the bad and doubtful debts from the banks and financial institutes. It would help banks to get rid of bad debts. Removal of Dual control : Those days banks were under the dual control of the Reserve Bank of India (RBI) and the Banking Division of the Ministry of Finance (Government of India). The committee recommended the stepping of this system. It considered and recommended that the RBI should be the only main agency to regulate banking in India. Banking Autonomy : The committee recommended that the public sector banks should be free and autonomous. In order to pursue competitiveness and efficiency, banks must enjoy autonomy so that they can reform the work culture and banking technology upgradation will thus be easy.

In 1998 the government appointed yet another committee under the chairmanship of Mr. Narsimham. It is better known as the Banking Sector Committee. It was told to review the banking reform progress and design a programme for further strengthening the financial system of India. The committee focused on various areas such as capital adequacy, bank mergers, bank legislation, etc.
It submitted its report to the Government in April 1998 with the following recommendations.

Strengthening Banks in India : The committee considered the stronger banking system in the context of the Current Account Convertibility 'CAC'. It thought that Indian banks must be capable of handling problems regarding domestic liquidity and exchange rate management in the light of CAC. Thus, it recommended the merger of strong banks which will have 'multiplier effect' on the industry. Narrow Banking : Those days many public sector banks were facing a problem of the Nonperforming assets (NPAs). Some of them had NPAs were as high as 20 percent of their assets. Thus for successful rehabilitation of these banks it recommended 'Narrow Banking Concept' where weak banks will be allowed to place their funds only in short term and risk free assets. Capital Adequacy Ratio : In order to improve the inherent strength of the Indian banking system the committee recommended that the Government should raise the prescribed capital adequacy norms. This will further improve their absorption capacity also. Currently the capital adequacyration for Indian banks is at 9 percent.

Bank ownership : As it had earlier mentioned the freedom for banks in its working and bank autonomy, it felt that the government control over the banks in the form of management and ownership and bank autonomy does not go hand in hand and thus it recommended a review of functions of boards and enabled them to adopt professional corporate strategy. Review of banking laws : The committee considered that there was an urgent need for reviewing and amending main laws governing Indian Banking Industry like RBI Act, Banking Regulation Act, State Bank of India Act, Bank Nationalisation Act, etc. This upgradation will bring them in line with the present needs of the banking sector in India.

 Benu makhija Karan arora

Jeet khandelwal Dipu dubey