BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESBILL DISCOUNTING:-Bill discounting is a lending activity where Bank

takes the bill drawn by borrower on his(borrower's) customer and pay him or her immediately deducting some amount as discount/commission.

The Bank then presents the Bill to the borrower's customer on the due date of the Bill and collect the total amount.

If the bill is delayed, the borrower or his customer pay the Bank a pre-determined interest depending upon the terms of transaction.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESBills of Exchange (B/E)

The bill of exchange (B/E) is used for financing a transaction in goods which means it is essentially a trade related instrument. According to Negotiable Instruments Act, 1881: “The bills of exchange is an instrument is writing, containing an unconditional order, signed by the maker, directing a certain person to pay a certain sum of money, only to, or to the order of, a certain person, or to the bearer of that instrument”.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESTypes of Bills 1.Demand Bill – Payable immediately on

presentment to employee. 2.Usance Bill – Time period recognized for

payment of bills. 3.Documentary Bill – These B/E are accompanied

by documents that confirm trade has taken place.

4.Clean Bills – These Bills are not accompanied by any documents. Interest rate charged is higher than documentary bill

Creation of B/E Two parties are involved i.e. (A) seller sells goods

or (B) merchandise to a buyer. Seller would like to be paid immediately but buyer

would like to pay after sometime. Seller draws a B/E of a given maturity on the

buyer. Seller (Creditor) becomes drawer of the bill and

buyer (Debtor) becomes drawee of the bill. Seller sends the bill to buyer for his acceptance. Acceptor may be buyer himself or third party.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESDiscounting of B/E Holder of an accepted B/E has two options:

(A)Hold on to B/E till maturity and then take the payment from the buyer. (B) Discount the B/E with discounting agency.

The act of handing over an endorsed B/E for ready money is called discounting the B/E.

The margin between the ready money paid and face value of the bill is called the discount.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATES

The maturity of a B/E is defined as the date on which payment falls due.

Normal maturity periods are 30, 60, 90 or 120 days.

Bills maturing within 90 days are most popular.

Discounting agencies are banks, NBFC, company, high net worth individuals etc.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESAdvantages to Banks

Safety Funds – B/E is a negotiable instrument bearing the signature of two parties considered good for the amount of bill, so he can enforce his claim easily.

Certainty of Payment – A B/E is a self liquidating asset with the banker knowing in advance the date of its maturity.

Profitability – The discount on bill is front ended, the yield is much higher than in the other loans and advances, where interest paid quarterly or half yearly.

Evens out inter-bank liquidity problem –The development of healthy parallel bill discounting market would have stabilized the violent fluctuations in the call money market as banks could buy and sell bills to even out their liquidity mismatches.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESINTER-BANK PARTICIPATION CERTIFICATES:The IBPC scheme was introduced in 1988 with a

view to providing an additional instrument for evening out short-term liquidity within the banking system.

The scheme is not widely used due to inherent constraints, such as non transferability and that the issues being allowed upto 40% of the under lying advances.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATES

Types of IBPC:There are two types of participants(i) Inter-Bank participations with risk

sharing; and(ii) Inter-Bank participations without risk

sharing.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESTENOR AND SIZEOF THE MARKETIBPCs have accounted for a small amount of

business as compared to their overall advances, and often none at all, especially for the public sector banks.

The number of banks using the instrument has grown from five, in the year 2000 to about 15, at present. The market players consist of generally private and foreign banks and a few nationalised banks.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESThe total size of the market is difficult to

ascertain. However, the consensus estimate of the banks surveyed in the year 2005, is that the total size of the deals entered into in a year is around Rs. 2,000 – 3,000 crore.

IBPC market has grown over the past 3-4 years. The growth rate would be in synchronisation with growth in advances of the participants and has been driven to meet the requirements of priority sector credit.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESThe market for IBPCs, under the extant

scheme, lacks depth and is seasonal in nature. Most of the deals happen in February and March.

Almost all the deals are at the tenor of 91 days, but a few have been done at the tenor of 180 days as well.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESINTEREST RATES OF IBPCs

The rates on IBPCs are market-dependent and also depend upon the purpose – such as whether it goes towards meeting the regulatory obligations. The rate of interest is bilaterally agreed between the participating banks.

the IBPC deal rates range between 2.0 per cent to 4.0 per cent whereas deal rates for non-PSL IBPC are higher - around 3- month inter-bank rate plus 25 bps.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESOBSERVATIONS AND SHORTCOMINGS:IBPCs, especially the risk sharing variant,

which was mostly used by banks - may be held for a minimum period of 91 days.

BILL DISCOUNTING/INTER-BANK PARTICIPATION

CERTIFICATESArguments against permitting the banks to treat their

investments in IBPCs on risk-sharing basis as part of their priority sector lending, which are as follows:a) The objectives of IBPCs are to facilitate adjustment of

liquidity in the market and not provision of bank credit to priority sector.

b) There are few banks using the instrument and the amount involved is only Rs.2,000- Rs.3,000 crore, that that too far a limited period of 3 to 6 months. As such, permitting IBPCs may not result in a substantial flow of bank credit to priority sector.

c) iii. Investment in specified bonds, which were earlier eligible for meeting priority sector obligations, is being phased out to ensure more direct lending to priority sectors.