project of financial markets

8/9/2019 Project of Financial Markets

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PROJECT OF

FINANCIAL

MARKETS

PRESENTED BY:RAHUL SRIVASTAV

FATIMA SIDDIQUE

ASGAR QURESHI

SUBMITTED TO:PROF. UMAR PATEL


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CONTENTS OF RESERVE BANK OF INDIA

Introduction

History Need for RBI

Board of directors

Functions of RBI

Manager of Foreign Exchange

Susidiaries

Narsimham Committee

Conclusion


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INTRODUCTION

The Reserve Bank of India (RBI, Hindi: ) is the

central bank of India, was established on April 1, 1935 duringthe British-Raj in accordance with the provisions of the ReserveBank of India Act, 1934. The Central Office of the ReserveBank was initially established in Kolkata, Bengal, but waspermanently moved to Mumbai in 1937. Though originallyprivately owned, the RBI has been fully owned by theGovernment of India since nationalization in 1949.Dr. DuvvuriSubbarao who succeeded Yaga Venugopal Reddy onSeptember 2, 2008 is the current Governor of RBI.The Reserve

Bank of India was set up on the recommendations of theHiltonYoung Commission. The commission submitted its report inthe year 1926, though the bank was not set up for nineyears.The Preamble of the Reserve Bank of India describes thebasic functions of the Reserve Bank as to regulate the issue ofBank Notes and keeping of reserves with a view to securingmonetary stability in India and generally to operate the currencyand credit system of the country to its advantage.It has 22regional offices, most of them in state capitals .The central

bank of the country is the Reserve Bank of India (RBI). It wasestablished in April 1935 with a share capital of Rs. 5 crores onthe basis of the recommendations of the Hilton YoungCommission. The share capital was divided into shares of Rs.100 each fully paid which was entirely owned by privateshareholders in the begining. The Government held shares ofnominal value of Rs.2,20,000.

The Bank was constituted for the need of following:

y To regulate the issue of banknotesy To maintain reserves with a view to securing monetary

stability andy To operate the credit and currency system of the country

to its advantage.


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HISTORY

The RBI was established in 1935, under Reserve Bank of IndiaAct, 1934.It was a private Shareholders association tillJanuary, 1949. It was nationalise with effect from 1st January1949In 1949, the Banking Regulation Act gave extensiveregulatory powers to the RBI over the commercial banks.Initially it was located in Kolkata,later It moved to Mumbai in

1937.Since nationalization in 1949, the Reserve Bank is fullyowned by the Government of India. Its First governor was SirOsborne A. Smith.It was set up on the recommendations of theHilton Young Commission It was started as share-holders bankwith a paid up capital of 5 crores. Initially it was located inKolkata. It moved to Mumbai in 1937. Initially it was privatelyowned.Since nationalization in 1949, the Reserve Bank is fullyowned by the Government of India. Its First governor was SirOsborne A. SmithApril 1, 1935 to June 30, 1937 The first Indian

Governor was Sir Chintaman D.Deshmukh (August 11, 1943to June 30, 1949) On June 27, 2006, the Union Government ofIndia reconstituted the Central Board of Directors of theReserve Bank of India (RBI) with 13 members, including AzimPremji and Kumar Mangalam Birla

NEED FOR RBI

RBI plays an important role in the economic development of thenation.It(RBI) regulates money supply in the country.Itmonitors the working of Commercial banks.It frames monetarypolicy of the country.Banks and Government are the accountholders of RBI. Reserve Bank of India is the main monetaryauthority of the country. It formulates, implements and monitors


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the monetary policy and thereby plays a key role in maintainingprice stability and ensuring adequate flow of credit to productivesectors. RBI is the regulator and supervisor of the financialsystem in the country. It prescribes broad parameters of

banking operations within which the country's banking andfinancial system functions. It manages the foreign exchange ofthe country. Performs merchant banking function for the centraland the state governments; also acts as their banker. Maintainsbanking accounts of all scheduled banks. Issues andexchanges or destroys currency and coins not fit for circulation.

ORGANISATION AND MANAGEMENT

The Reserve Bank is managed by the Central Board ofDirectors, Four local board of directors and the Committee ofthe Central Board of Directors. The final control of the Bankvests in the Central Board which comprises the Governor, FourDeputy Governors and fifteen Directors

On June 27, 2006, the Union Government of India reconstitutedthe Central Board of Directors of the Reserve Bank of India(RBI) with 13 members, including Azim Premji and KumarMangalam Birla.

Other members of the board

y Suresh Tendulkar, Economist and Member, PrimeMinister's Economic Advisory Council (to represent

Eastern Area Local Board)y U. R. Rao, former Chairman, ISRO and Chairman

Research Council, Physical Research Laboratory,Department of Space (to represent Northern Area LocalBoard)

y Lakshmi Chand, IAS (Retd.) (to represent Southern AreaLocal Board)


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y Shashi Rekha Rajagopalan, Consultant, Co-operativesy Suresh Kumar Neotia, Chairman, Ambuja Cementy A. Vaidyanathan, Madras Institute of Development Studiesy Man Mohan Sharma, FRS, Former Director, Mumbai

University Institute of ChemicalT

echnologyy D. Jayavarthanavelu, Chairman and Managing Director,

Laxmi Machine Works Ltd.

Those renominated to the board

y Y. H. Malegam, Chartered Accountant, (to representWestern Area Local Board)

y H. P. Ranina, Supreme Court Advocatey Ashok S. Ganguly, Member, Investment Commission and

Chairman, ICICI OneSource

Retiring directors

y N. R. Narayana Murthyy Mihir Rakshity Pushpendra Suryavanshiy K. Madhava Raoy V. S. Vyasy K. P. Singhy Amrita Pately K. P. Priya

FUNCTIONS OF RBI

The Reserve Bank of India Act of 1934 entrust all the importantfunctions of a central bank the Reserve Bank of India.

Bank of Issue

Under Section 22 of the Reserve Bank of India Act, the Bankhas the sole right to issue bank notes of all denominations. Thedistribution of one rupee notes and coins and small coins allover the country is undertaken by the Reserve Bank as agent


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of the Government. The Reserve Bank has a separate IssueDepartment which is entrusted with the issue of currency notes.The assets and liabilities of the Issue Department are keptseparate from those of the Banking Department. Originally, the

assets of the Issue Department were to consist of not less thantwo-fifths of gold coin, gold bullion or sterling securitiesprovided the amount of gold was not less than Rs. 40 crores invalue. The remaining three-fifths of the assets might be held inrupee coins, Government of India rupee securities, eligible billsof exchange and promissory notes payable in India. Due to theexigencies of the Second World War and the post-was period,these provisions were considerably modified. Since 1957, theReserve Bank of India is required to maintain gold and foreign

exchange reserves of Ra. 200 crores, of which at least Rs. 115crores should be in gold. The system as it exists today is knownas the minimum reserve system.

Banker to Government

The second important function of the Reserve Bank of India isto act as Government banker, agent and adviser. The ReserveBank is agent of Central Government and of all State

Governments in India excepting that of Jammu and Kashmir.The Reserve Bank has the obligation to transact Governmentbusiness, via. to keep the cash balances as deposits free ofinterest, to receive and to make payments on behalf of theGovernment and to carry out their exchange remittances andother banking operations. The Reserve Bank of India helps theGovernment - both the Union and the States to float new loansand to manage public debt. The Bank makes ways and meansadvances to the Governments for 90 days. It makes loans and

advances to the States and local authorities. It acts as adviserto the Government on all monetary and banking matters.

Bankers' Bank and Lender of the Last Resort

The Reserve Bank of India acts as the bankers' bank.


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According to the provisions of the Banking Companies Act of1949, every scheduled bank was required to maintain with theReserve Bank a cash balance equivalent to 5% of its demandliabilites and 2 per cent of its time liabilities in India. By an

amendment of 1962, the distinction between demand and timeliabilities was abolished and banks have been asked to keepcash reserves equal to 3 per cent of their aggregate depositliabilities. The minimum cash requirements can be changed bythe Reserve Bank of India.

The scheduled banks can borrow from the Reserve Bank ofIndia on the basis of eligible securities or get financialaccommodation in times of need or stringency by rediscounting

bills of exchange. Since commercial banks can always expectthe Reserve Bank of India to come to their help in times ofbanking crisis the Reserve Bank becomes not only the banker'sbank but also the lender of the last resort.

Controller of Credit

The Reserve Bank of India is the controller of credit i.e. it hasthe power to influence the volume of credit created by banks in

India. It can do so through changing the Bank rate or throughopen market operations. According to the Banking RegulationAct of 1949, the Reserve Bank of India can ask any particularbank or the whole banking system not to lend to particulargroups or persons on the basis of certain types of securities.Since 1956, selective controls of credit are increasingly beingused by the Reserve Bank.

The Reserve Bank of India is armed with many more powers to

control the Indian money market. Every bank has to get alicence from the Reserve Bank of India to do banking businesswithin India, the licence can be cancelled by the Reserve Bankof certain stipulated conditions are not fulfilled. Every bank willhave to get the permission of the Reserve Bank before it canopen a new branch. Each scheduled bank must send a weekly


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return to the Reserve Bank showing, in detail, its assets andliabilities. This power of the Bank to call for information is alsointended to give it effective control of the credit system. TheReserve Bank has also the power to inspect the accounts of

any commercial bank.

As supereme banking authority in the country, the ReserveBank of India, therefore, has the following powers:(a) It holds the cash reserves of all the scheduled banks.

(b) It controls the credit operations of banks throughquantitative and qualitative controls.

(c) It controls the banking system through the system oflicensing, inspection and calling for information.

(d) It acts as the lender of the last resort by providingrediscount facilities to scheduled banks.

Custodian of Foreign Reserves

The Reserve Bank of India has the responsibility to maintain

the official rate of exchange. According to the Reserve Bank ofIndia Act of 1934, the Bank was required to buy and sell atfixed rates any amount of sterling in lots of not less than Rs.10,000. The rate of exchange fixed was Re. 1 = sh. 6d. Since1935 the Bank was able to maintain the exchange rate fixed atlsh.6d. though there were periods of extreme pressure in favourof or against

the rupee. After India became a member of the International

Monetary Fund in 1946, the Reserve Bank has theresponsibility of maintaining fixed exchange rates with all othermember countries of the I.M.F.

Besides maintaining the rate of exchange of the rupee, theReserve Bank has to act as the custodian of India's reserve of


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international currencies. The vast sterling balances wereacquired and managed by the Bank. Further, the RBI has theresponsibility of administering the exchange controls of thecountry.

Supervisory functions

In addition to its traditional central banking functions, theReserve bank has certain non-monetary functions of the natureof supervision of banks and promotion of sound banking inIndia. The Reserve Bank Act, 1934, and the BankingRegulation Act, 1949 have given the RBI wide powers ofsupervision and control over commercial and co-operative

banks, relating to licensing and establishments, branchexpansion, liquidity of their assets, management and methodsof working, amalgamation, reconstruction, and liquidation. TheRBI is authorised to carry out periodical inspections of thebanks and to call for returns and necessary information fromthem. The nationalisation of 14 major Indian scheduled banksin July 1969 has imposed new responsibilities on the RBI fordirecting the growth of banking and credit policies towardsmore rapid development of the economy and realisation of

certain desired social objectives. The supervisory functions ofthe RBI have helped a great deal in improving the standard ofbanking in India to develop on sound lines and to improve themethods of their operation.

Promotional functions

With economic growth assuming a new urgency sinceIndependence, the range of the Reserve Bank's functions has

steadily widened. The Bank now performs a varietyofdevelopmental and promotional functions, which, at one time,were regarded as outside the normal scope of central banking.The Reserve Bank was asked to promote banking habit, extendbanking facilities to rural and semi-urban areas, and establishand promote new specialised financing agencies. Accordingly,


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the Reserve Bank has helped in the setting up of the IFCI andthe SFC; it set up the Deposit Insurance Corporation in 1962,the Unit Trust of India in 1964, the Industrial Development Bankof India also in 1964, the Agricultural Refinance Corporation of

India in 1963 and the Industrial Reconstruction Corporation ofIndia in 1972. These institutions were set up directly orindirectly by the Reserve Bank to promote saving habit and tomobilise savings, and to provide industrial finance as well asagricultural finance. As far back as 1935, the Reserve Bank ofIndia set up the Agricultural Credit Department to provideagricultural credit. But only since 1951 the Bank's role in thisfield has become extremely important. The Bank hasdeveloped the co-operative credit movement to encourage

saving, to eliminate moneylenders from the villages and toroute its short term credit to agriculture. The RBI has set up theAgricultural Refinance and Development Corporation to providelong-term finance to farmers.

NETWORK OF CURRENCY CHESTS

RBI is located only in 18 places for currency operations Distribution of notes and coins throughout the country is

done through designated bank branches, called chests Chest is a receptacle in a commercial bank to store notes

and coins on behalf of the Reserve Bank Deposit into chest leads to credit of the commercial banks

account and withdrawal, debit


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FORMULATE MONETARY POLICY

Objective: Maintain price stability and ensuring adequateflow of credit in the economy.

What R.B.I does: It formulates, implements and monitorsthe monetary policy.

Intruments: Qualitative & Quantitative

QUANTITATIVE MEASURES

Objective: Control the volume of credit and inflation,indirectly.

Repo Rate, Reverse Repo Rate, CRR keptunchanged. Repo rate: 4.75% (w.e.f. 21/04/2009) Reverse Repo : 3.25% (w.e.f. (21/04/2009) CRR: 5.00%( w.e.f. 17/01/2009)

SLR: 25%(w.e.f. 07/11/2009) Bank Rate kept unchanged at 6.00% (w.e.f.

29/04/2003)

What is Bank rate? Bank Rate is the rate at which central

bank of the country (in India it is RBI) allows finance to

commercial banks. Bank Rate is a tool, which central bank

uses for short-term purposes. Any upward revision in Bank

Rate by central bank is an indication that banks should alsoincrease deposit rates as well as Prime Lending Rate. This any

revision in the Bank rate indicates could mean more or less

interest on your deposits and also an increase or decrease in

your EMI.


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What is Bank Rate ? (For Non Bankers) :This is the rateat which central bank (RBI) lends money to other banks orfinancial institutions. If the bank rate goes up, long-terminterest rates also tend to move up, and vice-versa. Thus, it

can said that in case bank rate is hiked, in all likelihoodbanks will hikes their own lending rates to ensure and theycontinue to make a profit.

What is CRR? The Reserve Bank of India (Amendment) Bill,

2006 has been enacted and has come into force with its

gazette notification. Consequent upon amendment to sub-

Section 42(1), the Reserve Bank, having regard to the needs of

securing the monetary stability in the country, can prescribe

Cash Reserve Ratio (CRR) for scheduled banks without any

floor rate or ceiling rate. [Before the enactment of this

amendment, in terms of Section 42(1) of the RBI Act, the

Reserve Bank could prescribe CRR for scheduled banks

between 3 per cent and 20 per cent of total of their demand and

time liabilities].

RBI uses CRR either to drain excess liquidity or to release

funds needed for the economy from time to time. Increase in

CRR means that banks have less funds available and money is

sucked out of circulation. Thus we can say that this serves duel

purposes i.e. it not only ensures that a portion of bank deposits

is totally risk-free, but also enables RBI to control liquidity in

the system, and thereby, inflation by tying the hands of the

banks in lending money.

What is CRR (For Non Bankers) :CRR means CashReserve Ratio. Banks in India are required to hold a certainproportion of their deposits in the form of cash. However,actually Banks dont hold these as cash with themselves, butdeposit such case with Reserve Bank of India (RBI) /currency chests, which is considered as equivlanet to holding


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cash with themselves.. This minimum ratio (that is the part ofthe total deposits to be held as cash) is stipulated by the RBIand is known as the CRR or Cash Reserve Ratio. Thus,When a banks deposits increase by Rs100, and if the cash

reserve ratio is 9%, the banks will have to hold additional Rs9 with RBI and Bank will be able to use only Rs 91 forinvestments and lending / credit purpose. Therefore, higherthe ratio (i.e. CRR), the lower is the amount that banks willbe able to use for lending and investment. This power of RBIto reduce the lendable amount by increasing the CRR,makes it an instrument in the hands of a central bank throughwhich it can control the amount that banks lend. Thus, it is atool used by RBI to control liquidity in the banking system.

What is SLR? Every bank is required to maintain at the close

of business every day, a minimum proportion of their Net

Demand and Time Liabilities as liquid assets in the form of

cash, gold and un-encumbered approved securities. The ratio

of liquid assets to demand and time liabilities is known as

Statutory Liquidity Ratio (SLR). Present SLR is 24%. (reduced

w.e.f. 8/11/208, from earlier 25%) RBI is empowered to

increase this ratio up to 40%. An increase in SLR also restrictthe banks leverage position to pump more money into the

economy.

What is SLR ? (For Non Bankers) : SLR stands forStatutory Liquidity Ratio. This term is used by bankers andindicates the minimum percentage of deposits that the bankhas to maintain in form of gold, cash or other approvedsecurities. Thus, we can say that it is ratio of cash and someother approved to liabilities (deposits) It regulates the creditgrowth in India.

What are Repo rate and Reverse Repo rate?


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Repo (Repurchase) rate is the rate at which the RBI lends

shot-term money to the banks. When the repo rate increases

borrowing from RBI becomes more expensive. Therefore, we

can say that in case, RBI wants to make it more expensive for

the banks to borrow money, it increases the repo rate; similarly,

if it wants to make it cheaper for banks to borrow money, it

reduces the repo rate

Reverse Repo rate is the rate at which banks park their short-

term excess liquidity with the RBI. The RBI uses this tool when

it feels there is too much money floating in the banking system.

An increase in the reverse repo rate means that the RBI will

borrow money from the banks at a higher rate of interest. As aresult, banks would prefer to keep their money with the RBI

Thus, we can conclude that Repo Rate signifies the rate at

which liquidity is injected in the banking system by RBI,

whereas Reverse repo rate signifies the rate at which the

central bank absorbs liquidity from the banks.

QUALITATIVE MEASURES

Objective: They control the supply of money in selectivesectors of the economy.

The RBI issues directives to banks relating to the purpose forwhich advances may or may not be made.

The margins to be maintained in respect of secured advances.

The maximum amount of advance to any borrower.The maximum amt. of guarantee that can be given on behalf of

any firm


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REGULATES AND SUPERVISE THE

FINANCIAL SYSTEM

Objective:To Maintain Public confidence in the system,protect depositors interest & provide cost effectivebanking services to the public.

What R.B.I does: Prescribes broad parameters ofbanking operations within which the country's banking andfinancial system functions.

The Reserve Bank of India performs this function underthe guidance of the Board for Financial Supervision (BFS).

MANAGER OF FOREIGN EXCHANGE

Objective:To facilitate external trade and payment andpromote orderly development and maintenance of foreign

exchange market in India.What R.B.I does: It acts as a custodian and Manages the

Foreign Exchange Management Act, 1999. RBI buys and sells foreign currency to maintain the

exchange rate of Indian Rupee v/s foreign currencies likethe US Dollar, Euro, Pound sterling and Japanese yen.

ISSUE OF CURRENCY

Objective: To ensure adequate quantity of supplies ofcurrency notes and coins of good quality.


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What R.B.I does: Issues new currency and destroyscurrency and coins not fit for circulation.

It has to keep in forms of gold and foreign securities asper statutory rules against notes & coins issued.

DEVELOPMENT ROLE

Objective :To develop the quality of banking system inindia.

What R.B.I does: Performs a wide range of promotionalfunctions to support national objectives.

To establish financial institutions of national importance,for e.g: NABARD,IDBI etc.

SUBSIDIARIES

Fully owned:

1) National Housing Bank(NHB),

2) Deposit Insurance and Credit Guarantee Corporation ofIndia(DICGC),

3) Bharatiya Reserve Bank Note Mudran Private

Limited(BRBNMPL)

Major stakes: National Bank for Agriculture and RuralDevelopment (NABARD)

The Reserve Bank of India has recently divested its stake in

State Bank of India to the Government of India.

There is now an international consensus about the need to focus the

tasks of a central bank upon central banking. RBI is far out of touch

with such a principle, owing to the sprawling mandate described


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above. The recent financial turmoil worldover, has however, vindicted

the Reserve Bank's role in maintaining financial stability in India.

Major liabilities of commercial banks

Figures below are in millions of Indian Rupees.

Year Depositsandother Accounts[2]

Bills Payable

195019,983 173

195511,592 262

196020,218 317

196532,897 446

197064,793 923

1975156,665 2,254

1980 439,869 10,995

19851,032,134 24,556

19901,820,468 38,656

19953,984,352 116,622


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Major assets of commercial banks

Figures below are in millions of Indian Rupees.

Year Investments[3] Advances[4]

1950 4,330 5,353

1955 4,600 7,037

19607,241 12,458

19659,884 21,954

197018,148 46,850

1975 45,999 106,167

1980126,642 272,000

1985303,378 623,553

1990687,151 1,095,412

19951,750,206 2,243,308


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NARSIMHAM COMMITTEE

Narasimham committee in 1991 sugessted followingrecommendation

1. Opening of More Pvt. sector banks2. Motivation foreign banks to expand their network by openingnew branches.3. Deregulation of RBI and Finance ministry of India. MakingRBI as a regulator of all Banks and let Banks takes participationin equity market with govt. stake of 51%,4. Regulation introduced by RBI include CAR, Assetclassification ,NPA ratio5. Corporate Governance : promoting customer relations andoffice culture6. Asset Reconstruction for bringing down NPA in future7. Risk Management8. CDR9. E-Banking and VRS

THE BANKING SECTOR REFORMS IN

INDIA:

The Banking Sector Reforms in India were initiated in 1992.The objectives of reforms were to strengthen the Indian banks,make them internationally competitive and encourage them to

play an effective role in accelerating the process of growth.T

hereforms process also initiated measures for improving theproductivity, efficiency and profitability of the banking system. Itwas also recognised that the Indian banking system should beplaced on par with international standards in respect of capitaladequacy and other prudential norms. The operational rigiditiesin credit delivery system were to be removed to ensure


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allocational efficiency and achievement of social objectives.

The policy initiatives taken in these regards were largely basedon the recommendations of Narasimham Committee I & II on

Financial Sector Reforms and Banking Sector Reforms,respectively. Implementation of the recommendations of thesetwo Committees were carefully sequenced ensuring that theprogress of banking sector reforms takes place steadily withoutcausing any systemic disruptions.

2. The major initiatives undertaken in pursuance of the

recommendations of the Committees may be categorised underDeregulation, Prudential Measures, Competition and EnablingMeasures. The policy measures taken in these regard are asunder:

(A) Deregulation:

The statutory pre-emptions in the form of SLR and CRR havebeen brought down in a phased manner to 25% and 4.5%

respectively.

The interest rates have been deregulated in a phasedmanner. All lending rates have been deregulated exceptlending to small borrowers and a part of export finance. Interestrates on deposits are now almost free except for prescription inrespect of savings deposits and foreign currency deposits. Theinterest rate on Government borrowings is also now marketdetermined.

Banks have been given greater autonomy in the areas likebranch rationalisation, credit delivery, recruitment and creationof posts, etc, subject to fulfilment of certain criteria.


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Management (ALM) systems and on integrated riskmanagement systems in banks. Due to diversity and varyingsize of balance sheets, banks have been advised to designtheir risk management architecture, taking into consideration

the size, complexity of business, risk philosophy, marketperception and the level of capital. With a view to fine-tune therisk management systems in banks and to help smaller banksin achieving the minimum standards, RBI has issued guidancenotes on credit and market risk. In order to mitigate the risk incountry exposures, RBI has also issued the guidelines oncountry risk management.

The transparency and disclosure standards as prescribed

under International best practices are being implemented in aphased manner. Disclosures requirements have been furtherbroad-based and banks have been advised to disclose maturitypattern of deposits, borrowings, investments and advances andforeign currency assets and liabilities, movements in NPAs andlending to sensitive sectors with effect from March 31, 2000.From year ended March 31, 2001, banks were advised todisclose total advances against shares, total investments madein equity shares, convertible debentures and equity oriented

mutual funds and total amount of standard/ sub-standardassets subjected to restructuring. Further, from year endedMarch 31, 2002 the banks are required to disclose movementof Provisions held towards NPAs, movement of Provisions heldtowards depreciation of investments and the total amount ofstandard/ sub-standard assets subjected to CDR, etc. From theyear ended March 31, 2003, banks have been advised todisclose Country risk exposures, i.e., (i) risk category-wisecountry exposures, and (ii) the extent of aggregate provisions

held thereagainst.


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(C ) Competition:

With a view to injecting greater competition in the bankingindustry, 10 new private sector banks were set up since 1993

and RBI has since granted licence to one more new privatesector bank as per the revised policy of January, 2001.

As a major step towards enhancing competition in thebanking sector, foreign direct investment in the banking sectoris now allowed upto 49% from all sources in private sectorbanks under the automatic route, subject to conformity with theguidelines issued from time to time. The Government, in thebudget announcement of 2003-04, had proposed increase in

the FDI in the banking sector upto 74%.

The development financial institutions have evolved in Indiawith specific focus on long term financing which the commercialbanks were not able to meet. The distinction between shortterm and long term financing have increasingly become blurredover time. The complexities involved in harmonising the roleand operation of development financial institutions have beenexamined and RBI has allowed the merger of ICICI Ltd. and

ICICI Bank Ltd. and also IDBI Bank Ltd with IDBI which is amajor initiative towards universal banking.

(D) Enabling Measures

A significant initiative towards corporate governance in bankswas made when the banks were advised that, based on thedecision taken by the Board, the recommendations of the

Consultative Group of Directors of banks and FinancialInstitutions (Dr. Ganguly Group: set up to review thesupervisory role of Boards banks) can be adopted andimplemented.

The rigidities in the legal system have come in the way forearly resolution of the stock of NPAs in the banking system.


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Recognising the need for expeditious recovery of banks dues,Government and RBI have initiated a number of steps forexpediting the recovery of NPAs. The important legal reformmeasures include amendment of Recovery of Debts due to

Banks and Financial Institutions Act in March 2000, setting upof an expert group under the chairmanship of Shri T.R.Andhyarujina to suggest appropriate amendments in the legalframework affecting the banking sector, the Securitisation andReconstruction of Financial Assets and Enforcement ofSecurity Interest Act 2002 empowering the banks to ensuresustained recovery, the amendment of the NegotiableInstruments Act, effective from February, 2003, introducing theconcepts of electronic cheque and cheque truncation, the

Prevention of Money Laundering Act, 2002 to combat themenace of tainted money, etc.

THE IMPACTOF BANKING SECTOR REFORMS

The impact of banking sector reforms on the performance of

the banks in India as reflected in the prudential indicators oncapital adequacy, asset quality, profitability and productivity,etc. of these banks based on the information available in thepast Reports on the Trend and Progress of Banking in Indiaand other publications of Reserve Bank of India is detailedbelow.

Capital AdequacyThe average CRAR of all banks increased from 9.23% as on

March 31, 1994 to 12.78% as on March 31, 2003. Remarkably,as on March 31, 2003, out of the 23 banks in the public sector,22 had CRAR of more than 10% which is significantly higherthan the prescribed norm of 9%. It may be seen from the tablebelow that, among the bank groups, although the new privatesector banks started at the high level of 25.9% in 94-95alongside the old private sector banks with a low 8.8%, the


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CRAR of all the bank groups converged between 10% to 15%in March, 2003. This shows that the banks have been able tobuild up the capital cushion over the years to support theanticipated growth in their risk weighted assets and the risk has

been diversified across all banks.

Asset QualityThough the level of gross NPAs in absolute terms has beenincreasing over a period, the gross NPAs, as a proportion ofgross advances, has been declining steadily and distinctly overthe years since RBI introduced the objective criteria foridentification of NPAs. The percentage of gross NPAs to grossadvances for all banks, which was 14.4% in 1997-98,

decreased to 8.8% as on March 2003. During the same period,the percentage of Net NPAs to Net Advances declined from7.3% to 4.4% indicating the increasing emphasis by banks onadequate provisioning. Given the fact that the assets of thepublic sector banks constitute nearly three-fourth of the totalassets of the banking system, this trend manifests an overallpositive impact of the reform measures.

Profitability

The reform measures have also resulted in the improvement inthe profitability of banks. The table given below shows that theReturn on Assets (ROAs) of all banks rose from 0.39 in theyear 1991-92 to 1.0 in 2002-03. The profitability of public sectorbanks were hit in the initial tears of reforms in view of theincreased provisioning requirement, etc., thus pushing the ROAto negative, but the banks showed resilience in subsequentyears. Despite recording of operating loss by as many as 8public sector banks in the first year of reforms on account of

application of prudential norms, by 2003 none of the publicsector bank reported net loss, thus staging a remarkableturnaround in performance. Although the ROAs of the oldprivate sector, new private sector and foreign banks showedsignificant fluctuations over the period, it may be observed thatthe ROAs of all the bank groups converged between


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approximately 1 and 2 in 2002-2003. The steady rise in theprofits have been attributed to the increase in the trading profitsof banks in a declining interest rate scenario, the reduction inthe establishment costs in view of the Voluntary Retirement

Schemes introduced by them, etc.However, it may be furtherobserved from the data given in the table below that the NetInterest Income (Spread) as Percentage to Total Assetsdeclined from 3.31 in March 1992 to 2.77 in March, 2003. Whilethe public sector banks have been able to maintain a spread ofaround 2.5 during the period, the foreign banks havemaintained a spread of around 3.5. However, the fluctuationshave been pronounced in case of new private sector bankswhich had gone up from 1.17 in 94-95 to 2.91 in 96-97 and

thereafter came down to 1.7 in 2002-03. The spread of bankshave been generally hit by the increased competition infused bythe banking sector reforms and the volatility in the interest ratescenario apart from the NPAs due to economic slowdownduring the period. Thus a rising ROA with a declining spread ofthe banks manifest an interesting paradox in the post reformsperiod in Indian banks.

Productivity

The banking sector reforms also emphasized the need toundertake a review of the available manpower resources andrationalize the requirements by drawing a realistic plan so as todecrease the operating cost and improve the profitability.Various steps taken by the banks, including the VoluntaryRetirement Scheme, which was introduced in consultation withthe Government of India, has resulted in significantimprovement in the Business Per Employee of public sectorbanks. In 1998-99, the Business Per Employee of PSBs was

Rs. 94.64 lakh which increased to Rs. 188 lakh by 2002 mainlydue to the VRS schemes and other measures taken by bankssuch as branch rationalization, IT initiatives, etc.

Conclusion: It may be observed from the above that althoughthe switchover to stringent prudential regime introduced by the


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BIBLOGRAPHY

Various newspapers

www.RBI.com

Various business magazines

Investopedia

RBI-Wikipedia

project of financial markets

Documents