Banking Products & Operations

Session 7

Session 7 • Competition, Opportunities and Challenges in Retail Banking in India• Entry of Private sectors in banking, • Increase in NBFCs business activities• Introduction of new Payment banking & Proposed launch of Small

Finance Banks – Impact on existing commercial banking industry• Retention of Customers• Rising indebtedness• Opportunities and challenges due to information and technology• Security related issues – verification related to transaction – internet,

mobile and telephone banking – Fraud Prevention• KYC – Identify Theft, Money laundering related issues.• ATM related issues – Maintenance, upkeep and expansion• Additional Capital requirements under Basel 3 norms

Financial Institutions in India

Banking Penetration

• Though the reach and scope of banking has thus increased, the huge demand for financial services remains un-satiated.

• It is a matter of concern that even with 150 domestic commercial banks [comprising 26 Public Sector Banks, 20 Private Sector Banks, 44 Foreign Banks, 4 Local Area Banks (LABs), 56 RRBs] and over 2,700 co-operative sector banks operating in the country, just about 40 per cent of the adults have formal bank accounts.

Financial Inclusion - approach

• Reserve Bank is aware of this aspect and is committed to financial inclusion and is exploring various possibilities to foster inclusion of the unserved and under-served population and areas and facilitate provision of affordable financial services by increasing competition among the banks and encourage innovative approaches (including channels, products, interface, etc.).

Financial Inclusion -approach

• The Government of India and the Reserve Bank are clear that financial inclusion is a massive requirement and therefore all financial sector participants will have to put in consistent efforts in that direction.

• Need for more Banks & Differentiated Banks• entry to private, well-governed, deposit-taking

small finance banks be allowed – Small finance banks

What are differentiated banks

• Differentiated banks are distinct from universal banks as they function in a niche segment.

• The differentiation could be on account of capital requirement, scope of activities or area of operations.

• some banks and non-bank financial companies may choose to operate as a specialized niche bank to derive the obvious advantages of lower absolute capital requirements.

Differentiated banks: has their time come?

• There can be no two opinions on the value of these differentiated banks to the Indian financial system.

Differentiated banks - Advantages•There are diverse opportunities in the banking and financial landscape reflecting significant macro-economic growth potential in India and differentiated licensing could enable unlocking potential of these opportunities as it encourages niche banking by facilitating specialisation thereby reducing potential non-optimal use of resources.•Very large ticket, long term infrastructure lending requires risk management expertise that goes beyond traditional credit appraisals at banks. There is significant space for specialized entities in risk assessment and structuring of infrastructure finance.•Very low ticket unsecured credit requires risk management methodology and cost control that is not easy in the business model of conventional banks.•Increase in competition among banks could lower costs of transactions.

Differentiated banks - Advantages

•Gaps in SME finance can be filled with asset and cash flow based lending, operating leases, and factoring.•Issues of conflict of interest when a bank performs multiple functions would not arise, where differentiated licenses are issued.•Risk management systems and structure for regulatory compliance could be customized according to the banking type.•Customized application of supervisory resources according to the banking type could result in greater optimization of such scarce resources.•Core competency could be better harnessed leading to enhanced productivity in terms of reduced intermediation cost, better price discovery and improved allocate efficiency.

Objectives of Small finance banks

• The objectives of licensing small finance banks are furthering financial inclusion by (a) provision of savings vehicles, and (b) supply of credit to small business units; small and marginal farmers; micro and small industries

• To achieve the stated objectives by stipulating target segments where the credit should be directed and by indicating the ticket size of the advances to ensure that the target segment is serviced.

Objectives of Payment Banks

• The objectives of setting up of payments banks are to further financial inclusion by providing (i) small savings accounts and (ii) payments / remittance services to migrant labour workforce, low income households, small businesses, other unorganised sector entities and other users.

• To achieve the stated objectives by specifying the services that the payments bank could undertake and by indicating the manner in which the funds need to be deployed.

Differentiated Banks - Conclusion

• There is enormous unmet potential demand lying in the rural areas and other unbanked centres which needs to be tapped.

• To tap this unmet demand for financial services, it is felt that it is worth experimenting on new types of institutions for financial inclusion.

• However, in a country like India where there exists differentiated markets and consumer groups, the concept of differentiated banking will succeed and time will only prove.

• As regards the health of the differentiated banks, there is a need for creating a balance between long term sustainability and the financial inclusion goals

Retail Banking Segments Coverage

Competition, Opportunities and Challenges in Retail Banking in India

Entry of Private sectors in banking:• Bank account penetration in India increased from 35% to

53% between 2011 and 2014, but the country also suffers from high dormancy rates, says a World Bank report.

• India has nearly 20 crore "dormant" bank accounts: World Bank

• In August 2014 the Indian government launched Pradhan Mantri Jan Dhan Yojana scheme for comprehensive financial inclusion with the goal of opening a bank account for every household.

Private Sector Banks

Public Sector Banks 27

NBFCs• Increase in NBFCs business activitiesWhat is NBFC ?A Non-Banking Financial Company (NBFC) is a company registered under the Companies Act, 1956,engaged in the business of loans and advances, acquisition of Shares/stocks/bonds/debentures/securities issued by Government or local authority or other marketable securities of a like nature, leasing, hire-purchase, insurance business, chit business but does not include any institution whose principal business is that of agriculture activity, industrial activity, purchase or sale of any goods (other than securities) or providing any services and sale/purchase/construction of immovable property.

NBFCs

• A non-banking institution which is a company and has principal business of receiving deposits under any scheme or arrangement in one lump sum or in instalments by way of contributions or in any other manner, is also a non-banking financial company (Residuary non-banking company).

Top NBFCs

• Housing Development Finance Corporation Limited• Power Finance Corporation Limited• Rural Electrification Corporation Limited• National Bank of Agricultural and Rural Development• Infrastructure Development Finance Company Limited

• Introduction of new Payment banking & Proposed launch of Small Finance Banks – Impact on existing commercial banking industry

• Payments Banking – A way Forward For Financial Inclusion ?

Payment Banks – Not a competitor?Payment Banks: Are we ready for them?

• Payments banks are likely to add Rs 14 trillion in incremental credit for infrastructure sector alone

• Payment banks will help improve last mile connectivity especially in the rural hinterlands.

• Service standards are likely to go up and transaction costs will come down, due to the competition in the space.

• Payment banks would mark the end of era of waiting in queues for the pensions.

• If payments banks are used in proper way, they also have the potential of drastically reducing or even eliminating black money from our economy.

Small Finance Banks

• Small Finance Banks as part of differentiated banking, will focus on Priority Sector Banking

• Hence the focus is on small loans, unbanked areas like SME, education loans, agriculture sector, small home loans and loans up to 25 lakhs etc

• Will it affect traditional banks ? Let us see how many competition in rural areas will help financial inclusion?

Retention of Customers

• Retention of customers is going to be a major challenge

• Banks need to focus on improve customer relationship

• Reduce customer complaints• Improve quality of service – time based

Rising indebtedness

• Rising indebtedness could turn out to be a cause for concern in the future.

• India's position, of course, is not comparable to that of the developed world where household debt as a proportion of disposable income is much higher.

• Such a scenario creates high uncertainty.

Opportunities and challenges due to information and technology

• Information technology poses both opportunities and challenges. • Inspite of availing the services of ATMs and Internet Banking,

many consumers still prefer the personal touch of their neighbourhood branch bank.

• Technology has made it possible to deliver services throughout the branch bank network, providing instant updates to checking accounts and rapid movement of money for stock transfers.

• However, this dependency on the network has brought IT department’s additional responsibilities and challenges in managing, maintaining and optimizing the performance of retail banking networks.

Security related issues

• Security related issues – verification related to transaction – internet, mobile and telephone banking – Fraud Prevention

• Identity Theft issues

KYC issues - Compliance

• KYC issues and money laundering risks in retail banking is yet another important issue.

• Retail lending is often regarded as a low risk area for money laundering because of the perception of the sums involved.

• However, competition for clients may also lead to KYC procedures being waived in the bid for new business.

• Banks must also consider seriously the type of identification documents they will accept and other processes to be completed.

Additional Capital due to BASEL III implementation

• Banks need to maintain additional Capital due to BASEL III standards

• Increase in Cost and reduction in Profitability due to increase in cost of Capital

Rural Market

• Banking in India is generally fairly mature in terms of supply, product range and reach, even though reach in rural India still remains a challenge for the private sector and foreign banks.

Employees’ Retention

• Long-time banking employees are becoming disenchanted with the industry and are often resistant to perform up to new expectations. The diminishing employee morale results in decreased revenue.

• Due to the intrinsically close ties between staff and clients, losing those employees completely can mean the loss of valuable customer relationships

Reducing Spread - Profitability

• Competition gradually brings down the spreads and the profitability, the banks have to continuously work towards improving their productivity and efficiency so as to maintain their RoE.

• Towards this end, technology would be the key enabler

Banking industry‘s opportunities

• Banking industry‘s opportunities includes• A growing economy • Banking deregulation• Increased client borrowing• An increase in the number of banks• An increase in the money supply• Low government-set credit rates and • Larger customer checking account balances

Conclusion Retail Banking

• There is little to differentiate between basic products and services offered by retail banks. Having conceded that, packaging and branding of products and services are going to be the key differentiator between banks.

• .The banks would have to invest quite a lot in innovation, research and product design so as to keep their product and service offerings relevant and contemporaneous to emerging customer needs.

• Need for developing standardized products and services for furthering the retail banking initiatives.

• Quality of services offered by the banks is going to be another key differentiator.