In this post, we are providing the Notes of banking system in India – banking system in India pdf – banking in India – Structure of banking system in India – core banking system in India – evolution of banking system in India – history of banking system in India – origin and development of banking system in India.
The banking system in India consists of commercial banks, Cooperative banks, Land Development banks, Investment banks/Merchant banks, and development banks. The Reserve Bank of India (RBI) is the central bank of India and plays a crucial role in regulating and supervising the banking system. The banking system in India is well-developed and plays a critical role in supporting the country‘s economic growth and development.
Commercial banks are financial institutions primarily offering services to individual customers, businesses, and other organizations. They accept deposits from customers and provide loans, mortgages, credit cards, and other financial products and services. Commercial banks earn income by charging higher interest rates on loans than the rates paid on deposits. They also generate income from fees for services such as account maintenance, transactions, and overdrafts.
Commercial banks in India include:
- Scheduled commercial banks: These banks are listed in the Second Schedule of the Reserve Bank of India Act, 1934, and are eligible to receive loans from the central bank. Scheduled commercial banks include both public sector banks and private sector banks, and they operate in both urban and rural areas.
- Non-scheduled commercial banks: These banks are not listed in the Second Schedule of the Reserve Bank of India Act, 1934, and are not eligible for borrowing from the central bank. They include small banks and foreign banks that have a limited presence in India. Non-scheduled commercial banks operate in both urban and rural areas, and they provide similar services as scheduled commercial banks, such as accepting deposits, providing loans, and other financial services.
Banking in India
Banking in India refers to the system of financial institutions that provide banking and financial services to customers in the country. The banking system in India is regulated by the Reserve Bank of India (RBI), which is the central bank of the country.
The major types of banks in India include:
- Commercial banks: These are banks that provide banking services to individuals, businesses, and other organizations. They include both public sector banks (such as State Bank of India and Bank of Baroda) and private sector banks (such as HDFC Bank and ICICI Bank).
- Regional rural banks: These are banks that provide banking services in rural areas and are owned by the central government, state governments, and commercial banks.
- Cooperative banks: These are banks that are owned and operated by cooperative societies and provide banking services to their members.
- Development banks: These are banks that provide financial assistance to promote the development of specific sectors of the economy, such as agriculture, industry, and infrastructure.
Structure of banking system in India
The Reserve Bank of India (RBI) is the central bank of India and regulates the banking system in the country. It is responsible for formulating and implementing monetary policy, regulating and supervising the banking system, and maintaining the stability of the financial system.
The banking system in India has a three-tier structure, which comprises of:
- Scheduled Commercial Banks (SCBs): SCBs are further divided into public sector banks, private sector banks, foreign banks, and regional rural banks. These banks provide banking services to individuals, businesses, and other organizations. Public sector banks are owned by the government, while private sector banks are owned by private entities.
- Co-operative Banks: Co-operative banks are owned and operated by co-operative societies and provide banking services to their members.
- Development Banks: Development banks provide financial assistance to promote the development of specific sectors of the economy, such as agriculture, industry, and infrastructure.
Core banking system in India
Core banking system (CBS) is a centralized system that enables banks to perform their operations, including transactions, account management, and customer service, from a single location. In India, CBS was introduced in the early 2000s as a part of the banking sector reforms. CBS allows banks to integrate their branches and other delivery channels, such as ATMs and Internet banking, onto a single platform. This integration enables banks to offer their customers a seamless banking experience across different channels and locations.
Customers can access their accounts and perform transactions from any branch of the bank, ATM, or online, using the same account details. CBS also facilitates real-time updating of account balances, transactions, and other customer information, making banking operations more efficient and accurate. It reduces the need for manual data entry and reduces the chances of errors.
History of banking system in India
The history of Banking system in India is actually the Evolution of Banking system in India. In this, we study the origin and development of banking system in india.
The banking system in India has a rich and diverse history, which can be traced back to the 18th century when the first European banks started operating in India. The early banks in India were mostly foreign-owned and catered to the needs of British businesses and colonizers. After India gained independence in 1947, the government of India initiated banking sector reforms to promote economic growth and financial inclusion. The Reserve Bank of India (RBI) was established in 1935 as the central bank of India and was given the responsibility of regulating the banking system.
In the 1950s, the government of India nationalized the major banks in the country to promote social welfare and economic development. This led to the creation of public sector banks, which were owned and operated by the government. In the 1990s, India embarked on a program of economic liberalization and financial sector reforms. This led to the entry of private sector banks, foreign banks, and the introduction of new financial products and services.
Today, the banking system in India comprises a mix of public-sector banks, private-sector banks, foreign banks, and cooperative banks. The Reserve Bank of India (RBI) continues to play a crucial role in regulating and supervising the banking system and promoting financial stability and inclusion.
State Bank of India
State Bank of India (SBI) is a public-sector commercial bank in India and is the largest commercial bank in the country in terms of assets, deposits, branches, and employees. It was established in 1955 and is headquartered in Mumbai, Maharashtra. SBI has a widespread network of over 22,000 branches and 58,000 ATMs across the country, and it also has overseas offices in over 30 countries. The bank provides a range of financial products and services, including personal banking, corporate banking, international banking, NRI banking, and treasury services.
Bank nationalization refers to the process of transferring ownership and control of private sector banks to the government, thereby making them public sector banks. In India, bank nationalization refers to the government’s decision to acquire ownership and control of 14 major private sector banks in two phases, in 1969 and 1980.
The nationalization of banks in India was a significant step towards promoting financial inclusion, reducing regional imbalances, and achieving social welfare objectives. Prior to nationalization, the banking sector was dominated by a few large private sector banks, which were mostly located in urban areas and catered primarily to the needs of large corporates and wealthy individuals.
Banking Sector Reforms
The banking sector reforms in India from 1991 were a series of measures introduced by the government to liberalize and modernize the banking sector, with the aim of improving efficiency, promoting competition, and ensuring the safety and soundness of the banking system. Here are some key highlights of the reforms:
- Liberalization of licensing: The government allowed private sector banks to enter the market and set up new banks, ending the monopoly of public sector banks.
- Capital adequacy norms: The Reserve Bank of India (RBI) introduced new capital adequacy norms that required banks to maintain a minimum level of capital to support their operations and absorb losses.
- Introduction of new technology: The RBI allowed banks to use technology for automation, introduced Electronic Fund Transfer (EFT), and encouraged the use of ATMs and credit/debit cards.
- Merger and acquisition of banks: The government encouraged the merger and acquisition of weak banks to improve their efficiency and profitability.
- Asset quality review: The RBI introduced asset quality reviews to improve the quality of assets held by banks and ensure they were properly classified and provisioned for.
- Credit information bureaus: The RBI set up credit information bureaus to provide credit scores and histories of borrowers, to help banks in their lending decisions.
The Narasimham Committee was a committee set up by the Indian government in 1991 to examine and recommend reforms for the banking sector in India. The committee was headed by M. Narasimham, a former Governor of the Reserve Bank of India (RBI). The committee made recommendations on a range of issues, including liberalization of banking licensing, deregulation of interest rates, improving capital adequacy norms, and reducing government interference in bank management. The committee’s recommendations formed the basis for many of the banking sector reforms that were subsequently implemented in India. The committee’s report was considered a landmark in the history of banking sector reforms in India, and its recommendations have had a significant impact on the growth and development of the Indian banking sector.
Substandard Assets or NPAs
Substandard assets or Non-Performing Assets (NPAs) are loans and advances that are in default or have stopped generating income for the bank. In India, an asset is classified as an NPA, if the borrower has not made interest or principal payments for a period of 90 days or more. Banks are required to classify their assets into different categories based on their level of impairment, with substandard assets being one of the categories.
Substandard assets or NPAs can be a significant problem for banks, as they can impact their profitability, solvency, and ability to lend. Banks are required to make provisions for their NPAs, which can impact their financial performance and capital adequacy ratios.
Stressed assets refer to loans and advances that are at risk of default or have already turned into non-performing assets (NPAs). These assets have a higher risk of becoming irrecoverable and can cause financial stress for banks. Stressed assets are typically classified into two categories: Substandard Assets and Doubtful Assets, depending on the extent of the default.
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The Basel Norms are a set of international banking regulations that provide guidelines on capital adequacy, risk management, and supervisory oversight for banks. The norms were developed by the Basel Committee on Banking Supervision, which is a group of banking supervisors and central bankers from around the world. The Basel Norms aim to ensure the safety and soundness of the global banking system and to promote financial stability by setting minimum capital requirements and risk management standards for banks. The norms have been updated several times since their introduction in 1988, with the most recent version being Basel III, which was introduced in 2010 and implemented in stages over the following years. The Basel Accords—Basel I, Basel II, and Basel III—are issued by the Basel Committee on Banking Supervision (BCBS).
Basel I is the first set of international banking regulations developed by the Basel Committee on Banking Supervision in 1988. It introduced the concept of minimum capital requirements for banks, based on the credit risk of their assets. Banks were required to maintain a minimum capital ratio of 8% of their risk-weighted assets. The Basel I norms focused primarily on credit risk and did not take into account other risks, such as market risk and operational risk. Basel I was replaced by Basel II in 2004.
Basel II is the second set of international banking regulations developed by the Basel Committee on Banking Supervision in 2004. It introduced more sophisticated risk management and capital adequacy requirements for banks. Basel II allowed banks to use internal models to calculate their minimum capital requirements, taking into account credit risk, market risk, and operational risk. The norms aimed to better align capital requirements with the risk profile of individual banks and were designed to promote greater stability and resilience in the banking sector. Basel II was replaced by Basel III in 2010.
Basel III is the third set of international banking regulations developed by the Basel Committee on Banking Supervision in 2010. It introduced more stringent capital requirements and risk management standards for banks in response to the global financial crisis of 2008. Basel III aims to promote greater resilience and stability in the banking sector by requiring banks to maintain higher levels of capital, introducing new liquidity requirements, and improving risk management practices. The norms were implemented in stages over several years, with the final phase completed in 2019.
Basel III covers three main types of risks:
- Credit Risk: This refers to the risk of loss due to a borrower’s failure to repay a loan or meet their financial obligations. Basel III introduces more stringent capital requirements and risk-weighted asset calculations to ensure that banks have enough capital to cover potential losses from credit risk.
- Market Risk: This refers to the risk of losses arising from changes in market prices, such as interest rates, exchange rates, and commodity prices. Basel III introduces more robust risk management and stress testing requirements for banks to help them better manage market risk.
- Operational Risk: This refers to the risk of loss due to inadequate or failed internal processes, systems, or human errors. Basel III introduces a standardized approach for calculating operational risk capital requirements and sets out more detailed requirements for banks’ risk management practices.
Recapitalization in the banking sector refers to the process of injecting new capital into a bank to strengthen its financial position and support its lending activities. Banks may need to be recapitalized if they are undercapitalized or have a high level of non-performing assets (NPAs) or stressed assets, which can erode their capital base and make it difficult for them to meet regulatory requirements. Recapitalization can be carried out by the government, shareholders, or other investors through the issuance of new shares or the provision of debt capital. Recapitalization can help restore confidence in the bank, improve its creditworthiness, and support its lending activities.
Bank for International Settlements (BIS)
The Bank for International Settlements (BIS) is an international organization that fosters cooperation among central banks and other financial authorities. It was established in 1930 and is headquartered in Basel, Switzerland. The BIS serves as a forum for discussion and policy analysis among central banks and other financial authorities, and it provides a platform for international cooperation on monetary and financial issues. It also serves as a bank for central banks, offering financial services and products to its member institutions.
The BIS is owned by 63 member central banks from around the world, representing countries that account for about 95% of global GDP. Its mission is to promote monetary and financial stability and to support international cooperation and collaboration among central banks and other financial authorities.
Insolvency and Bankruptcy Code
The Insolvency and Bankruptcy Code (IBC) is a comprehensive legislation enacted by the Indian government in 2016 to address the issue of corporate insolvency and bankruptcy. The primary objective of the IBC is to consolidate and amend the laws relating to reorganization and insolvency resolution of corporate entities, partnership firms, and individuals in a time-bound manner. Under the IBC, an insolvency resolution process is initiated by a creditor or debtor who has defaulted on a debt. The process involves the appointment of an insolvency professional who takes over the management of the debtor’s assets and seeks to resolve the insolvency by either restructuring the debt or liquidating the assets to repay the creditors. The process is overseen by the National Company Law Tribunal (NCLT) and the Insolvency and Bankruptcy Board of India (IBBI).
Banking Regulation (Amendment) Act 2017
The Banking Regulation (Amendment) Act 2017 is legislation passed by the Indian government to empower the Reserve Bank of India (RBI) with greater regulatory control over the banking sector. The Act was passed in response to the growing problem of non-performing assets (NPAs) in the Indian banking system.
The key provisions of the Act include:
- Empowering the RBI to issue directions to banks to initiate insolvency proceedings against defaulting borrowers.
- Allowing the RBI to supersede the board of directors of a bank and appoint an administrator in cases where the financial stability or interest of depositors is at risk.
- Increasing the minimum capital requirement for banks to Rs. 1000 crore.
- Providing for a committee to oversee the restructuring of stressed assets.
Twin Balance Sheet (TBS) Challenge
The Twin Balance Sheet (TBS) challenge is an economic issue that India faced in the mid-2010s. The term refers to the high levels of stressed assets on the balance sheets of both banks and corporate firms. The problem arose due to a combination of factors, including the aggressive lending practices of banks, poor governance and management of corporate firms, and a slowdown in the Indian economy. As a result, many corporate firms were unable to repay their loans, leading to a rise in non-performing assets (NPAs) on the balance sheets of banks.
Public Sector Asset Rehabilitation Agency (PARA)
The Public Sector Asset Rehabilitation Agency (PARA) was a proposed entity by the Government of India to address the issue of non-performing assets (NPAs) in the banking sector. The proposal was first introduced in the 2016-17 Union Budget but has not yet been implemented. The idea behind PARA was to create a centralized agency that would take over the bad loans of public sector banks and then work towards their resolution through restructuring, sale, or liquidation. This would help to relieve the burden on public sector banks and enable them to focus on their core activities of lending and deposit-taking.
P.J. Nayak Committee
The P.J. Nayak Committee was a committee formed by the Reserve Bank of India (RBI) in 2013 to review the governance of boards in public sector banks in India. The committee was headed by P.J. Nayak, former Chairman and CEO of Axis Bank. The committee’s report, known as the Nayak Report, made recommendations to improve the governance of public sector banks and strengthen their boards.
Bank consolidation refers to the process of merging two or more banks into a single entity. The objective of bank consolidation is to create larger and stronger banks that can better withstand economic shocks, improve efficiency, and provide better services to customers. Bank consolidation can occur in several ways, including mergers, acquisitions, and amalgamations. In India, the government has been pursuing a policy of bank consolidation since 2017, with the aim of creating a few large banks that can compete with global banks and support the country’s economic growth.
Indradhanush was a seven-point program launched by the Government of India in 2015 to revamp public sector banks in the country. The program aimed to address the issues of capitalization, de-stressing, and consolidation of public sector banks, as well as improving their accountability and governance. The seven points of the Indradhanush program included appointments, board of bureau, capitalization, de-stressing, empowerment, the framework of accountability, and governance reforms.
Banks Board Bureau
The Banks Board Bureau (BBB) is a body that was set up by the Government of India in 2016 as part of its Indradhanush scheme to improve the governance of public sector banks. The BBB is an autonomous body that acts as an advisory body to the Government of India and the boards of public sector banks on matters related to appointments, governance, and reform. The primary objective of the BBB is to professionalize the boards of public sector banks and ensure that they function independently, transparently, and efficiently.
Small Finance Banks (SFBs)
Small Finance Banks (SFBs) are a type of banking institution in India that was introduced by the Reserve Bank of India (RBI) in 2015 to promote financial inclusion and provide banking services to underserved sections of society. SFBs primarily serve the unbanked and underbanked segments of the population, including small business owners, farmers, low-income households, and micro-enterprises. They offer a range of basic banking services, including deposits, loans, remittances, and insurance products. SFBs are required to have a minimum capital requirement of Rs. 200 crores, with at least 50% of their loan portfolio being focused on loans up to Rs. 25 lacks. They are also required to maintain a minimum net worth of Rs. 100 crore at all times.
Payments Banks are a type of banking institution in India that was introduced by the Reserve Bank of India (RBI) in 2015 to promote financial inclusion and provide banking services to underserved sections of society. Payments Banks primarily provide basic banking services, such as deposits and payments, to low-income households, small businesses, and other underserved segments of the population. They cannot issue loans or credit cards, but they can provide other services such as ATM/debit cards, mobile banking, and bill payments.
India Post Payments Bank (IPPB)
India Post Payments Bank (IPPB) is a payments bank in India that was launched by the Indian Government in 2018. IPPB is a public sector bank that is operated by the Indian Postal Department, with headquarters in New Delhi. IPPB primarily focuses on providing basic banking services to the unbanked and underbanked segments of the population, including low-income households, small businesses, and rural customers. Some of the services provided by IPPB include savings accounts, current accounts, remittances, bill payments, and mobile banking. The bank also offers digital banking services through its mobile banking app, which allows customers to perform banking transactions using their smartphones.
Regional Rural Banks (RRBs)
Regional Rural Banks (RRBs) are specialized banking institutions in India that were established in 1975 with the objective of providing banking services in rural areas and promoting rural development. RRBs are jointly owned by the Government of India, the concerned State Government, and the sponsor bank (usually a public sector bank). They primarily serve the rural and semi-urban areas of the country and offer a range of basic banking services, including deposits, loans, and remittances.
MUDRA (Micro Units Development and Refinance Agency) Bank is a financial institution in India that was launched by the Government of India in 2015 to provide funding and support to small and micro enterprises. MUDRA Bank offers loans to small businesses and entrepreneurs through various financial institutions such as banks, non-banking financial companies (NBFCs), and microfinance institutions. The loans provided by MUDRA Bank are primarily focused on funding small businesses, start-ups, and micro-enterprises.
MUDRA Bank operates under the aegis of the Pradhan Mantri MUDRA Yojana (PMMY), a flagship scheme of the Government of India that was launched in 2015 to promote entrepreneurship and provide access to credit to small businesses. The loans provided by MUDRA Bank are categorized into three categories – Shishu (up to Rs.50,000), Kishor (from Rs.50,000 to Rs.5 lakh), and Tarun (from Rs.5 lakh to Rs.10 lakh) – based on the loan amount and the stage of the business.
FDI In Banks
Foreign Direct Investment (FDI) in banks refers to the investment made by foreign entities (individuals, companies, or governments) in Indian banks. FDI in Indian banks is regulated by the Reserve Bank of India (RBI), which sets the guidelines and regulations governing the entry and operations of foreign investors in the banking sector. As per the current regulations, foreign investors can hold up to 74% of the total paid-up capital of a private sector bank in India, subject to certain conditions and approvals from regulatory authorities.
Foreign Banks: Subsidiary And Branch
Foreign banks in India can operate in two ways – through a subsidiary or through a branch.
A subsidiary is a separate legal entity that is incorporated and registered in India under the Companies Act. It is a locally incorporated company that is owned and controlled by a foreign bank, which holds at least 51% of the equity share capital. A subsidiary is subject to the same regulations and supervision as Indian banks and is required to maintain a certain level of capital and meet other regulatory requirements.
A branch, on the other hand, is an extension of a foreign bank’s existing operations in its home country. It is not a separate legal entity and is not incorporated in India. A branch is subject to the same regulations and supervision as foreign banks and is required to maintain a minimum level of capital and meet other regulatory requirements. Both subsidiaries and branches have their own advantages and disadvantages. A subsidiary allows a foreign bank to have greater control over its operations in India, and to offer a wider range of services. It also enables the bank to build a stronger local brand and tap into the Indian market more effectively.
Development banks are financial institutions that provide long-term financing to support economic development and growth. They are typically established and owned by governments or international organizations and are designed to provide funding for key developmental initiatives in sectors such as agriculture, infrastructure, housing, and small and medium-sized enterprises (SMEs). Development banks operate differently than traditional commercial banks, as they are typically focused on providing loans and other forms of financing for longer periods than commercial banks, often for 10 years or more.
Cooperative banks are financial institutions that are owned and operated by their members, who are often from a specific community, profession, or region. These banks are registered under the Cooperative Societies Act, and operate on a not-for-profit basis, with the aim of providing affordable financial services to their members. Cooperative banks can take various forms, including urban cooperative banks, rural cooperative banks, state cooperative banks, and central cooperative banks. They typically offer a range of banking services, including deposits, loans, and other financial products and services.
Shadow banks, also known as non-banking financial companies (NBFCs), are financial institutions that operate outside the traditional banking system but offer services similar to banks, such as providing loans and investments. Shadow banks can take various forms, including finance companies, leasing companies, and investment companies. Unlike traditional banks, shadow banks are not subject to the same regulatory requirements and oversight, and they often rely on short-term borrowing to finance their operations. This can make them vulnerable to funding shocks and liquidity problems, which can lead to financial instability and contagion.
Universal Banking in India
Universal banking is a banking model where a bank offers a wide range of financial services, such as deposit-taking, lending, insurance, and investment banking, under a single roof. In India, universal banking was first introduced in the early 1990s as part of the liberalization of the banking sector. Prior to this, banks in India were largely restricted to performing either commercial banking or development banking functions. The introduction of universal banking allowed banks to diversify their operations and offer a wider range of financial services to their customers. Universal banks are regulated by the Reserve Bank of India (RBI) under the Banking Regulation Act of 1949 and must comply with a range of prudential and regulatory requirements to ensure the safety and soundness of the financial system.
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FAQs on Banking System In India
What is Bank Nationalization?
Bank nationalization refers to the process of bringing private banks under the ownership and control of the government.
What is the full form of BIS?
The full form of BIS is Bank for International Settlements.
What is TBS?
Twin Balance Sheet (TBS) refers to the stressed balance sheets of both banks and corporations in an economy.