CONTENT

1. Money, Process of Capital Formation

2. Banking and Financial Institutions and economic development

3. Role of Development Banks in Industrial Financing

4. DFIs

Financial System

• A financial system may be defined as a set of institutions , instruments and markets which fosters savings and channels them to their most efficient use.

Financial System Consists of..

Functions of a Financial System

• Mobilize and allocate savings – Link between investors and savers.

• Helps to monitor corporate performance.

• It provides a payment and settlement system.

• It provides diversified investment opportunities.

MONEY is…

Capital Formation

Capital formation implies diversion of the productive capacity of the economy to the making of capital goods which increase future productive capacity.

Process of Capital Formation• Increase in Savings1.Power and will to save 2.Perpetuation of income inequalities 3.Increasing Profits 4.Government Measures • Mobilization of Savings1.Money Market2.Capital Market• Investment of Savings

Prior Saving Theory ( PST)

•Saving is a perquisite or a determinant of investment.

•There should be appropriate monetary and fiscal policy for promoting and mobilizing savings.

•Investment which is not financed by prior savings generates inflation.

Prior Saving Theory ( PST)….cont.

• The financial system increases the rate of growth of savings and investments and makes their composition , allocation and utilization more optimal and efficient.

• Financial system activates savings and reduces idle saving.

Process of Capital Formation

FINANCIAL SYSTEM

CAPITAL FORMATION

ECONOMIC DEVELOPMENT

DEFECITSURPLUS

SAVING NEGATIVE SAVING

INCOME-CONSUMPTION-INVESTMENT

INCOME-CONSUMPTION-INVESTMENT

Banking in India

Definition of Banking

Banking is defined in section 5(b) of the Banking Regulation Act as the acceptance of deposit of money from the public for the purpose of lending or investment. Such deposits may be repayable on demand or otherwise and withdraw able by cheque, draft or otherwise.

Some Interesting Facts….Some Interesting Facts….

• U/s 49A of Banking regulation act, no person other than a bank is authorized to accept deposits withdrawable by cheque.

• Every banking company has to use the word “bank” as a part of its name (Sec 7 of Banking regulation act)

• U/s 49A of Banking regulation act, no person other than a bank is authorized to accept deposits withdrawable by cheque.

• Every banking company has to use the word “bank” as a part of its name (Sec 7 of Banking regulation act)

Money Multiplier effect of Banks• Let's follow the step-by-step process of money creation in the

banking sector.• Suppose Rs 10,000 of reserves have been created and

deposited into Bank A. • These demand deposits are matched by the same amount of

reserves. • But in a fractional-reserve system, we don't need Rs 10,000

reserves to back up Rs 10,000 of demand deposits. • Suppose the required reserves are only 10% of the demand

deposits. • The required reserves are only Rs1000.• The rest (Rs 9000) is excess reserves which could be loaned

out to earn interest.

• Let's assume that the loan will be spent and the recipient deposits the Rs 9000 into his Bank B account.

• Again, only 10% of the reserves needs to be kept at Bank B to back up the new demand deposits of Rs 9000.

• The rest (Rs 8100) could be loaned out to earn interest.

• Let's assume that the loan will be spent and the recipient deposits the Rs 8100 into his Bank C account.

• Again, only 10% of the reserves needs to be kept at Bank C to back up the new demand deposits of Rs 8100.

• The rest (Rs 7290) could be loaned out to earn interest. • Let's assume that the loan will be spent and the recipient

deposits the Rs 7290 into his Bank D account. • And so on. • After many rounds, a total of Rs 90,000 of demand deposits

has been created through loans. • In all, the injection of Rs 10,000 reserves into the banking

system results in 10 times the amount of demand deposits.

Progress of banking in India

• Nationalization of banks in 1969: 14 banks were nationalized basic objective of which was to ensure that credit was channeled to various priority sectors of the economy

• Branch expansion: Increased from 8260 in 1969 to 71177 in 2006

• Population served per branch has come down from 64000 to 16000

• A rural branch office serves 15 to 25 villages within a radius of 16 kms

• However, at present only 32,180 villages out of 5 lakh have been covered

Progress of banking in India

• Deposit mobilisation:– 1951-1971 (20 years)- 700% or 7 times– 1971-1991 (20 years)- 3260% or 32.6 times– 1991- 2006 (11 years)- 1100% or 11 times

• Expansion of bank credit: Growing at 20-30% p.a. thanks to rapid growth in industrial and agricultural output

• Development oriented banking: priority sector lending

RETAIL AND WHOLESALE BANKING

Retail banking refers to the dealing of commercial banks with individual customers both on the liabilities and the assets sides of the balance sheet.

Deposits being liabilities and Advances being assets.

• Retail banking is for the mass

• Wholesale banking is for corporate.

Wholesale Banking

• Wholesale banking refers to doing business with industrial and business entities.

• It includes corporates, trading houses, multinationals, domestic business houses and public sector companies.

Universal Banking

• Universal banking means offering all types of financial products like banking, ,insurance, mutual funds, capital market related product, commodity broking, government and corporate bonds and merchant banking services all at one place.

Non Banking Finance Companies

• According to the Reserve Bank(Amendment Act ) 1997, A NBFC means:

i. A financial institution which is a company

ii.A non-banking institution which is a company and which has its principal business the receiving of deposits under any scheme or arrangement or in any other manner or lending in any manner

iii. Such other non-banking institution or class of such institutions as the RBI may with the previous approval of the Central government specify