Banking Flashcards
Bank Functions
Primary:
Accepting deposit and Providing loans
Secondary:
Collection and payment of various items e.g. Cheques, Bills Purchase and sell of securities
Remittance of money
Purchase and sell of foreign exchange Acting as executors and trustees of wills Underwriting of shares
Locker facility
Travelers’ cheque and letter of credit
Commercial banks and their weaknesses by 1991
High SLR and CR
Administered Interest rates
Low interest rate charged on government bonds
Direct and concessional lending for populist purposes
Lack of competition
Reforms to set the weakness right
Floor and cap on SLR and CRR removed in 2006
Interest rates were regulated and became market driven
Near level playing field for public, private foreign banks.
Adoption of Prudential norms - Income recognition, Asset classification, Provisioning
Basel Norms
FDI up to 74%
Narsimhan Committee I
Reduce CRR and SLR
Deregulate interest rate
Create a level playing field between private and public sector banks
Introduce prudential Norms for better risk management
No more nationalization
Rationalize and better target priority sector lending
Setup Asset reconstruction company
Select few banks like SBI for global operations
Scheduled Banks
WHAT: These included in second schedule of RBI Act
Scheduled banks may be commercial or
cooperative
2 CONDITIONS;
Paid up capital and reserve of an aggregate value of not less than 5 lakhs
Affairs should not be conducted in a manner detrimental to the depositor
Obligations: CRR, SLR etc.
Privileges: Financial assistance from RBI, Refinance
Scheduled vs Non Scheduled: Non-Scheduled bank maintains CRR with themselves
Commercial Banks
Section 5, BR Act 1949”Banking” means the accepting, for the purpose of lending or investment, of deposits of money from the public, repayable on demand or otherwise, and withdrawal by cheque, draft, order or otherwise;
A financial intermediary. Because it mediates between savers and borrowers. It does so by accepting deposits from public and lending money to business and consumers.
Assets: Loans and bonds Liabilities: Deposits
Public sector Commercial Banks
Government of India holds majority stake.
12 + 1 (IPPB)
Hold 75% assets
Private sector Commercial Banks
Holds 18.2% assets
On Tap Licensing Private entity can now apply for banking license any time, without waiting for RBI’s invitation
Conditions for Private Banks:
Paid Up capital: 500 Crore
25% branches in unbanked rural areas
Foreign Commercial Banks
Incorporated abroad and have their branches/subsidiaries in India
Other norms are same as SCBs. Only PSL norms (<20 branches) are different.
Investment Banks
Assist companies in raising funds in capital market.
Provides strategic advisory services
Also known as merchant banks
Co-operative Banks
They are different from commercial banks as they do not pursue the goal of profit maximization. Principles like cooperation, mutual help etc.
Cooperatives banks belong to money market as well as capital market
They also offer limited services
Cooperative banks may be scheduled or non-scheduled. Scheduled ones have CRR, SLR requirements though less than that of commercial banks
Co-operative Banks vs Commercial Banks
These are Co-operative Societies govemed by the Co-operative societies Act, 1904
Commercial banks are joint stock companies they are governed by the Banking Regulation Act, 1949.
Cooperative Banks generally provide short, medium and long term finance to agriculture and allied sectors.
Commercial banks generally provide short medium and long term finance, to trade, commerce and industry.
Cooperative Banks offer services essentially to members who are shareholders of the bank.
Commercial banks lend to anyone who is willing to borrow and satisfies the conditions of the bank
Cooperative Banks operate on a relatively small scale.
Commercial banks operate on a large scale
Scope of activities of a co-operate. bank is limited to providing different types of loans to their members
Commercial banks offers a wide range of financial assistance and financial services
Co-operative Barks are subject to the supervision of the state government, NABARD and the RBI.
Commercial Banks come directly under the Supervision of the Reserve Bank of India
Co-operative Banks 3 tier structure
Co-operative banks have a three tier structure:
Primary Credit Societies-PCSs(agriculture or urban),
District Central Co-Operative Banks-DCCBs.
State Co-Operative Banks-SCBS (at the apex level).
Cooperative banks Source of funding
Ownership funds, Deposit of debenture issues, Central and state government, RBI, NABARD, Other cooperative institutions
Development Finance Institutions DFI
Introduction:
Financial Institutions that lend long term finance to industries and agriculture
For capital requirement of PSU’s and other industries the government came up with different types of institutions
Project financing: The industrial financing of ‘projects’ supported by these institutions came to be known as project financing
SH Khan Committee: Recommended to transform these DFI into universal banks that can provide a means of services and can leverage on their assets and talents.
Universal Banks UB
Recommended by Narsimhan Committee and Khan Committee reports
Aims at widening and integration of banking services
Universal banking refers to those banks that offer variety of services beyond the functions of commercial banks like Mutual funds, Merchant banking. Factoring,
credit cards, retail loans, housing loans etc. e.g. ICICI, SBI etc.
UB Advantages
Areas that are related ad hence banks can reduce and thereby improves spreads.
Banks can use instruments in 1 activity to exploit the other
For customers. One stop shopping will save time and cost
UB problems
Loss of specialization
Problems of banks indulging in too many risky activities
Problem of regulation
Why DFI should become UB
Not useful in present scenario as companies and industries can raise capital from many other sources.
No funds from government
No deposit base
Competition
Base Rate
Earlier, loans were priced at a spread over the Base Rate.
Base Rate is the minimum rate of interest for all loans.
Spread is the margin of bank based on risk associated with loans.
Problem: Bank were using different cost methodology to compute base rate. When RBI cut interest rates many times, Banks were reluctant to pass on these rate cuts to borrowers giving excuse that they have old deposits for which the interest rate remains high
MCLR Marginal Cost of fund based Lending Rate
Effective from April 1, 2016
Tenor linked Internal Benchmarking
Lending Rate=MCLR + Profit Margin
Challenges:
MCLR is internal => Lack of transparency
No monetary policy transmission in MCLR
External Benchmarking of Loans
Under the new mechanism, the lending rates with an external benchmark instead of MCLR. Based on reco of Janak Raj Committee
The RBI has given these options to banks: RBI repo rate, the 91-day T-bill yield; the 182-day T-bill yield; or any other benchmark market interest rate published by Financial Benchmarks India Pvt. Ltd.
One of these benchmarks will be used to decide the lending rate by the Banks.
Interest rate to be set up once every 3 months
Challenges:
It works best when bank is dependent on RBI for loans. At present, it is dependent on its deposits
Increased Volatility