GENERAL INTRODUCTION ABOUT THE SECTOR The Indian economy is emerging as one of the strongest economy of the world with the GDP growth of more than 8% every year. This has given a great support for the development of banking industry in the country. Due to globalization, competition among the banks has drastically been increased. As India has a substantial upper and middle class income hence the banks have immense opportunities to increase their market shares. The consumer being on the receiving end is in the comfortable position but the banks trying to increase their market share have to continuously add value for consumers in order to increase market share and sustain their growth. BANKING SECTOR The banking sector is the most dominant sector of the financial system in India. Significant progress has been made with respect to the banking sector in the post liberalization period. The financial health of the commercial banks has improved manifolds with respect to capital adequacy, profitability, and asset quality and risk management. Further, deregulation has opened new opportunities for banks to increase revenue by diversifying into investment banking, insurance, credit cards, depository services, mortgage, securitization, etc. Liberalization has created a more competitive environment in the banking sector INDUSTRY PROFILE a) ORIGIN AND DEVELOPMENT OF THE INDUSTRY The origin of banking in India is traceable in ancient time through the modern banking hardly 200 years old. The main function of bank is to accept deposits and grant loans. There is evidence of these functions being performed by a section of the community in the Vedic periods. There are many references of debt in the Vedic literature. During the Ramayana and Mahabharata areas banking, which was a side business during the Vedic period, become a fulltime business activity for the people. During the smriti period, which followed the Vedic period and the Epic age, bankers performed the function of the modern banks. The members of the Vaish community carried on the banking business and Manu speaks of earning through interest as the business of Vaishays. He accepted deposits from the public, granted loans against pledges and personal security, granted simple open loans, acted as bailee for his customers, subscribed to public loans by granting loans to kings, acted as treasurer and banker to the state and managed the currency of the country. Indigenous bankers used to maintain a regular system of accounts and borrowers used to sign the loan deeds. Banking in India originated in the last decades of the 18th century. The oldest bank in existence in India is the State Bank of India, a government-owned bank that traces its origins back to June 1806 and that is the largest commercial bank in the country. Central banking is the responsibility of the Reserve Bank of India, which in 1935 formally took over these responsibilities from the then Imperial Bank of India, relegating it to commercial banking functions. After India's independence in 1947, the Reserve Bank was nationalized and given broader powers. In 1969 the government nationalized the 14 largest commercial banks; the government nationalized the six next largest in 1980. Currently, India has 88 scheduled commercial banks (SCBs) - 27 public sector banks (that is with the Government of India holding a stake), 31 private banks (these do not have government stake; they may be publicly listed and traded on stock exchanges) and 38 foreign banks. They have a combined network of over 53,000 branches and 17,000 ATMs. According to a report by ICRA Limited, a rating agency, the public sector banks hold over 75 per cent of total assets of the banking industry, with the private and foreign banks holding 18. 2% and 6. 5% respectively. Early history Banking in India originated in the last decades of the 18th century. The first banks were The General Bank of India, which started in 1786, and the Bank of Hindustan, both of which are now defunct. The oldest bank in existence in India is the State Bank of India, which originated in the Bank of Calcutta in June 1806, which almost immediately became the Bank of Bengal. This was one of the three presidency banks, the other two being the Bank of Bombay and the Bank of Madras, all three of which were established under charters from the British East India Company. For many years the Presidency banks acted as quasi-central banks, as did their successors. The three banks merged in 1925 to form the Imperial Bank of India, which, upon India's independence, became the State Bank of India. Indian merchants in Calcutta established the Union Bank in 1839, but it failed in 1848 as a consequence of the economic crisis of 1848-49. The Allahabad Bank, established in 1865 and still functioning today, is the oldest Joint Stock bank in India. It was not the first though. That honour belongs to the Bank of Upper India, which was established in 1863, and which survived until 1913, when it failed, with some of its assets and liabilities being transferred to the Alliance Bank of Shimla. When the American Civil War stopped the supply of cotton to Lancashire from the Confederate States, promoters opened banks to finance trading in Indian cotton. With large exposure to speculative ventures, most of the banks opened in India during that period failed. The depositors lost money and lost interest in keeping deposits with banks. Subsequently, banking in India remained the exclusive domain of Europeans for next several decades until the beginning of the 20th century. Foreign banks too started to arrive, particularly in Calcutta, in the 1860s. The Comptoire d'Escompte de Paris opened a branch in Calcutta in 1860, and another in Bombay in 1862; branches in Madras and Pondicherry, then a French colony, followed. HSBC established itself in Bengal in 1869. Calcutta was the most active trading port in India, mainly due to the trade of the British Empire, and so became a banking center. [pic] The Bank of Bengal, which later became the State Bank of India. The first entirely Indian joint stock bank was the Oudh Commercial Bank, established in 1881 in Faizabad. It failed in 1958. The next was the Punjab National Bank, established in Lahore in 1895, which has survived to the present and is now one of the largest banks in India. Around the turn of the 20th Century, the Indian economy was passing through a relative period of stability. Around five decades had elapsed since the Indian Mutiny, and the social, industrial and other infrastructure had improved. Indians had established small banks, most of which served particular ethnic and religious communities. The presidency banks dominated banking in India but there were also some exchange banks and a number of Indian joint stock banks. All these banks operated in different segments of the economy. The exchange banks, mostly owned by Europeans, concentrated on financing foreign trade. Indian joint stock banks were generally undercapitalized and lacked the experience and maturity to compete with the presidency and exchange banks. This segmentation let Lord Curzon to observe, "In respect of banking it seems we are behind the times. We are like some old fashioned sailing ship, divided by solid wooden bulkheads into separate and cumbersome compartments. " The period between 1906 and 1911, saw the establishment of banks inspired by the Swadeshi movement. The Swadeshi movement inspired local businessmen and political figures to found banks of and for the Indian community. A number of banks established then have survived to the present such as Bank of India, Corporation Bank, Indian Bank, Bank of Baroda, Canara Bank and Central Bank of India. The fervour of Swadeshi movement lead to establishing of many private banks in Dakshina Kannada and Udupi district which were unified earlier and known by the name South Canara ( South Kanara ) district. Four nationalised banks started in this district and also a leading private sector bank. Hence undivided Dakshina Kannada district is known as "Cradle of Indian Banking". From World War I to Independence The period during the First World War (1914-1918) through the end of the Second World War (1939-1945), and two years thereafter until the independence of India were challenging for Indian banking. The years of the First World War were turbulent, and it took its toll with banks simply collapsing despite the Indian economy gaining indirect boost due to war-related economic activities. At least 94 banks in India failed between 1913 and 1918 as indicated in the following table: |Years |Number of banks |Authorised capital |Paid-up Capital | | |that failed |(Rs. Lakhs) |(Rs. Lakhs) | |1913 |12 |274 |35 | |1914 |42 |710 |109 | |1915 |11 |56 |5 | |1916 |13 |231 |4 | |1917 |9 |76 |25 | |1918 |7 |209 |1 | Post-independence The partition of India in 1947 adversely impacted the economies of Punjab and West Bengal, paralyzing banking activities for months. India's independence marked the end of a regime of the Laissez-faire for the Indian banking. The Government of India initiated measures to play an active role in the economic life of the nation, and the Industrial Policy Resolution adopted by the government in 1948 envisaged a mixed economy. This resulted into greater involvement of the state in different segments of the economy including banking and finance. The major steps to regulate banking included: • In 1948, the Reserve Bank of India, India's central banking authority, was nationalized, and it became an institution owned by the Government of India. • In 1949, the Banking Regulation Act was enacted which empowered the Reserve Bank of India (RBI) "to regulate, control, and inspect the banks in India. " • The Banking Regulation Act also provided that no new bank or branch of an existing bank could be opened without a license from the RBI, and no two banks could have common directors. However, despite these provisions, control and regulations, banks in India except the State Bank of India, continued to be owned and operated by private persons. This changed with the nationalisation of major banks in India on 19 July, 1969. Nationalisation By the 1960s, the Indian banking industry has become an important tool to facilitate the development of the Indian economy. At the same time, it has emerged as a large employer, and a debate has ensued about the possibility to nationalise the banking industry. Indira Gandhi, the-then Prime Minister of India expressed the intention of the GOI in the annual conference of the All India Congress Meeting in a paper entitled "Stray thoughts on Bank Nationalisation. " The paper was received with positive enthusiasm. Thereafter, her move was swift and sudden, and the GOI issued an ordinance and nationalised the 14 largest commercial banks with effect from the midnight of July 19, 1969. Jayaprakash Narayan, a national leader of India, described the step as a "masterstroke of political sagacity. Within two weeks of the issue of the ordinance, the Parliament passed the Banking Companies (Acquisition and Transfer of Undertaking) Bill, and it received the presidential approval on 9 August, 1969. A second dose of nationalization of 6 more commercial banks followed in 1980. The stated reason for the nationalization was to give the government more control of credit delivery. With the second dose of nationalization, the GOI controlled around 91% of the banking business of India. Later on, in the year 1993, the government merged New Bank of India with Punjab National Bank. It was the only merger between nationalized banks and resulted in the reduction of the number of nationalised banks from 20 to 19. After this, until the 1990s, the nationalised banks grew at a pace of around 4%, closer to the average growth rate of the Indian economy. The nationalised banks were credited by some, including Home minister P. Chidambaram, to have helped the Indian economy withstand the global financial crisis of 2007-2009. Liberalisation In the early 1990s, the then Narsimha Rao government embarked on a policy of liberalization, licensing a small number of private banks. These came to be known as New Generation tech-savvy banks, and included Global Trust Bank (the first of such new generation banks to be set up), which later amalgamated with Oriental Bank of Commerce, Axis Bank(earlier as UTI Bank), ICICI Bank and HDFC Bank. This move, along with the rapid growth in the economy of India, revitalized the banking sector in India, which has seen rapid growth with strong contribution from all the three sectors of banks, namely, government banks, private banks and foreign banks. The next stage for the Indian banking has been setup with the proposed relaxation in the norms for Foreign Direct Investment, where all Foreign Investors in banks may be given voting rights which could exceed the present cap of 10%, at present it has gone up to 49% with some restrictions. The new policy shook the Banking sector in India completely. Bankers, till this time, were used to the 4-6-4 method (Borrow at 4%; Lend at 6%; Go home at 4) of functioning. The new wave ushered in a modern outlook and tech-savvy methods of working for traditional banks. All this led to the retail boom in India. People not just demanded more from their banks but also received more. Currently, banking in India is generally fairly mature in terms of supply, product range and reach-even though reach in rural India still remains a challenge for the private sector and foreign banks. In terms of quality of assets and capital adequacy, Indian banks are considered to have clean, strong and transparent balance sheets relative to other banks in comparable economies in its region. The Reserve Bank of India is an autonomous body, with minimal pressure from the government. The stated policy of the Bank on the Indian Rupee is to manage volatility but without any fixed exchange rate-and this has mostly been true. With the growth in the Indian economy expected to be strong for quite some time-especially in its services sector-the demand for banking services, especially retail banking, mortgages and investment services are expected to be strong. One may also expect M&As, takeovers, and asset sales. In March 2006, the Reserve Bank of India allowed Warburg Pincus to increase its stake in Kotak Mahindra Bank (a private sector bank) to 10%. This is the first time an investor has been allowed to hold more than 5% in a private sector bank since the RBI announced norms in 2005 that any stake exceeding 5% in the private sector banks would need to be vetted by them. In recent years critics have charged that the non-government owned banks are too aggressive in their loan recovery efforts in connection with housing, vehicle and personal loans. There are press reports that the banks' loan recovery efforts have driven defaulting borrowers to suicide. BANKING SYSTEM The oxford dictionary defines the bank as “an establishment for the custody of money, which it pays out, on a customers’ order. ” A banking company in India has been defined in the banking companies Act 1949, as “one which transacts the business of banking which means the accepting, for the purpose of lending or investment of deposits of money from the public, repayable on demand or otherwise and withdrawals by cheque, draft, order or otherwise. The banking system in an integral sub-system of the financial system. It represents an important channel of collecting small savings from the households and lending it to the corporate sector. The Indian Banking system has the Reserve Bank of India (RBI) as the apex body for all matters relating to the banking system. It is the’ central bank’ of India. It is the banker to all other banks. Classification of banks: 1. Non-scheduled Banks: - These are banks, which are not included in the Second schedule of the Banking Regulation Act, 1965. It means they do not satisfy the conditions laid down by that schedule. They are further classified as follows: - *Central Co-operative Banks and Primary Credit Societies. *Commercial Banks. 2. Scheduled Banks: - Scheduled Banks are banks, which are included in the second schedule of the Banking Regulation Act, 1965. According to this schedule a scheduled bank: Must have paid-up capital and reserve of not less than Rs. 5,00,000; Must also satisfy the RBI that its affairs are not conducted in a manner detrimental to the interests of its depositors. Scheduled banks are sub-divided as: *State – cooperative banks. *Commercial banks. State – cooperative banks: - These are Co-operatives owned and managed by the state. Commercial banks: - These are business entities whose main business is accepting deposits and extending loans. Their main objective is profit maximization and adding shareholder value. These are further sub-divided as: *Indian Banks: - These banks are companies registered in India under the Companies Act. Their place of origin is in India. These are also sub-divided as: State Bank of India and its Subsidiaries: This group comprises of the State Bank of India (SBI) and its seven subsidiaries viz. , State Bank of Patiala, State Bank of Hyderabad, State Bank of Travancore, State Bank of Bikaner and Jaipur, State Bank of Mysore, State Bank of Saurastra, State Bank of Indore. Other Nationalized Banks: This group consists of private sector banks that were nationalized. The Government of India Nationalized 14 private banks in 1969 and another 6 in the year 1980. Regional Rural Banks: These were established by the RBI in the year 1975 of Banking Commission. It was established to operate exclusively in rural areas to provide credit and other facilities. Old Private Sector Banks: This group consists of banks that were established by the privy states, community organizations or by a group of professional for the cause of economic betterment in their area of operations. Initially their operations were concentrated in a few regional areas. New Private Sector Banks: These banks were started as profit oriented companies after the RBI opened the banking sector to the private sector. These banks are mostly technology driven and better managed than other banks. Foreign Banks: These are banks that were registered outside India and had originated in a foreign country. Retail Banking According to investopedia. com, retail banking is typical mass-market banking where individual customers use local branches of larger commercial banks. Services offered include: savings and checking accounts, mortgages, personal loans, debit cards, credit cards, and so forth. Types Of Retail Banks 1. Private bank Private Banks is a bank that is not incorporated. Either an individual or a general partner(s) with limited partner(s) owns a non-incorporated bank. In any such case, the creditors can look to both the "entirety of [the bank's] assets" as well as the entirety of the sole- proprietor's/general-partners' assets. These banks have a long tradition in Switzerland, dating back to at least the revocation of the Edict of Nantes (1685). 2. Commercial banking A commercial bank is a type of financial intermediary and a type of bank. Commercial bank has two possible meanings: Commercial bank is the term used for a normal bank to distinguish it from an investment bank. This is what people normally call a "bank". The term "commercial" was used to distinguish it from an investment bank. Since the two types of banks no longer have to be separate companies, some have used the term "commercial bank" to refer to banks which focus mainly on companies. In some English-speaking countries outside North America, the term "trading bank" was and is used to denote a commercial bank. It raises funds by collecting deposits from businesses and consumers via checkable deposits, savings deposits, and time (or term) deposits. It makes loans to businesses and consumers. It also buys corporate bonds and government bonds. Its primary liabilities are deposits and primary assets are loans and bonds. Detailed information on banks sectoral exposure of credit reveals that over two-thirds of the credits flow has been on account of retail, housing and other priority sector loans. Banks credit flow exposure to large Enterprises continues to remain buoyant with recent indications that credit to agriculture and Micro credit has also picked up. The Investment Banking and Markets division brings together the advisory and financing, equity securities, asset management, treasury and capital markets, and private equity activities of the Group to complete the CIBM structure and provide a complete range of financial products to our clients. Increasingly, ECA financing is being considered by customers and we work closely with our project export finance teams, both onshore and offshore, to provide structured solutions. Growth And Present Status Of The Industry Commercial banking can also refer to a bank or a division of a bank that mostly deals with deposits and loans from corporations or large businesses, as opposed to normal individual members of the public (retail banking). as in the Indian banking.. The most prominent on our minds in the context of banking these days, perhaps, are the implications arising out of the Basel II accord. Banks, as we all know, are subjected to more intense regulation as compared to the non-financial firms. This is probably because the banks possess certain 'special' characteristics: Banks are much more leveraged than the other firms due to their capacity to garner public deposits. The asset - liability structure of the banks is also different from not only the non-financial firms but also the financial firms. To illustrate, the risk in an insurance company arises mainly from the liability side of the balance sheet in the form of insurance claims whereas for the bank the risk mainly comes from the diminution of asset values (for example, illiquid loans that are not fully recoverable). The deposits which constitute a major part of the liability of banks are repayable on demand, unsecured and their principal amount does not change in value whereas the loans of a bank are illiquid and there can be erosion in the value of loans or of other assets. The liquidity transformation by an insurance company is in the reverse direction as compared to a bank. The balance-sheet structure of an insurance company is the least likely to give rise to systemic risk, whereas banks due to their typical asset liability mismatches i. e. long term assets funded by short term liabilities, may be prone to ‘run’ and pose a very high degree of potential systemic risk. The resolution costs of systemic bank insolvencies and significant problems can be substantial weighted differently. Basel I proposals forced the banks to look at credit risk and regulatory capital more closely than they had done earlier. As banks found ways to arbitrage regulatory capital, some of the provisions of Basel I became less relevant. Simultaneously, banks in the G-10 countries developed newer approaches to manage credit risk by building portfolio models for pricing, provisioning and allocating economic capital for the credit portfolios. These developments made the weaknesses in the Basel I framework more apparent and this set the stage for the creation of 'International Convergence of Capital Measurement and Capital Standards: A Revised Framework', popularly known as Basel II. The Basel Committee on Banking Supervision has observed that the fundamental objective in revising the 1988 Accord has been, and I quote, 'to develop a framework that would further strengthen the soundness and stability of the international banking system while maintaining sufficient consistency that capital adequacy regulation will not be a significant source of competitive inequality among internationally active banks. The (Basel) Committee believes that the revised Framework will promote the adoption of stronger risk management practices by the banking industry, and views this as one of its major benefits. Future Of The Industry Reflecting on future prospects in banking, immediate focus has to be on the cleaning up of the remnants of undercapitalized banks, while concentrating on improvements in the rural co-operative credit system. It is also necessary to ensure improvements in their governance and financial management. In the banking system as a whole, a healthy credit culture encompassing appropriate pricing, quality of service, financial inclusion and contract enforcement would be vital. The Reserve Bank of India has, in the service of our country, a proven track record and professionalism, which have lent it considerable credibility – both domestically and globally. This credibility enables the RBI to confidently carry the reforms forward to credibly maintain price and financial stability, while enabling self-accelerating equitable growth at elevated levels. The Indian financial sector is ready for consolidation, said 95 per cent of the respondents. Given the increased competition, and the implementation of Basel II norms in the near future, the banking industry of the country would be better off with six to seven banks as big as State Bank of India, said the survey. However, voluntary mergers are better than forced ones. A majority of the public sector banks also demanded more autonomy to fix salary levels proportionate to performance. In order to improve employee productivity it is essential to offer competitive compensation packages at all levels, the survey said. About 92 per cent of the public sector banks respondents voiced that they do not have sufficient autonomy to offer attractive incentive packages to employees to ensure commitment levels. Some banks also said that in one-years’ time, banks should be permitted to issue preference shares. According to the survey, some of the strengths of the banking industry are regulatory systems, economic growth, technological advancement, risk assessment systems and credit quality. Areas that need improvement include diversification of markets beyond big cities, human resources systems, size of banks, high transaction costs, infrastructure and labour inflexibilities. As per the survey some strategies that can help India achieve a world class banking system are consolidation, strict corporate governance norms, regional expansion within the country and outside, higher FDI limits and Free Trade Agreements with countries where India has comparative advantage in banking sector. Availability and reach of quality products is confined to just big cities. Thus it is essential now to expand the gamut of banking services both within India as well as outside," the survey said. However, banks in India are yet to effectively leverage technology. ICICI Bank has been acknowledged to be among the first to explore new mediums like Internet. India has among the lowest penetration of retail loans in Asia. Though the sector has been growing at around 15 per cent, there is still a huge opportunity to tap into. Interest rates on retail loans have been dropping rapidly too. For instance residential mortgages slumped by 7 per cent over the last four years. "The entry of a number of banks in India in the last few years has helped provide increased coverage and a number of new products in the market," says Kamath. Banking sector today is estimated to be at Rs 17 trillion and total deposits are estimated at Rs 13 trillion.
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