274 Chapter – 8 FINANCIAL REFORMS IN BANKING SECTOR AND THEIR CRITICAL EVALUATION 8.1. INTRODUCTION From the study on financial reforms it reveals that the initiation of reforms in the early 1990s, the Indian economy has achieved high growth in an environment of macroeconomic and financial stability. The period has been marked by broad based economic reform that has touched every segment of the economy. These reforms were designed essentially to promote greater efficiency in the economy through promotion of greater. As a result of the growing openness, India was not insulated from exogenous shocks since the second half of the 1990s. These shocks, global as well as domestic, included a series of financial crises in Asia, Brazil and Russia, 9/11 terrorist attacks in the US, border tensions, sanctions imposed in the aftermath of nuclear tests, political uncertainties, changes in the Government, and the current oil shock. Nonetheless, stability could be maintained in financial markets. Indeed, inflation has been contained since the mid-1990s to an average of around five per cent, distinctly lower than that of around eight per cent per annum over the previous four decades. Simultaneously, the health of the financial sector has recorded very significant improvement. India's path of reforms has been different from most other emerging market economies: it has been a measured, gradual, cautious, and steady process, devoid of many flourishes that could be observed in other countries. I shall argue in this paper that the reforms in the financial sector and monetary policy framework have been a key component of the overall reforms that provided the foundation of an increased price and financial stability. Reforms in these sectors have been well- sequenced, taking into account the state of the markets in the various segments.
Transcript
274
Chapter – 8
FINANCIAL REFORMS IN BANKING SECTOR AND THEIR CRITICAL
EVALUATION 8.1. INTRODUCTION
From the study on financial reforms it reveals that the initiation of reforms in the
early 1990s, the Indian economy has achieved high growth in an environment of
macroeconomic and financial stability. The period has been marked by broad
based economic reform that has touched every segment of the economy. These
reforms were designed essentially to promote greater efficiency in the
economy through promotion of greater. As a result of the growing openness,
India was not insulated from exogenous shocks since the second half of the
1990s. These shocks, global as well as domestic, included a series of financial
crises in Asia, Brazil and Russia, 9/11 terrorist attacks in the US, border
tensions, sanctions imposed in the aftermath of nuclear tests, political
uncertainties, changes in the Government, and the current oil shock.
Nonetheless, stability could be maintained in financial markets. Indeed, inflation
has been contained since the mid-1990s to an average of around five per cent,
distinctly lower than that of around eight per cent per annum over the previous
four decades. Simultaneously, the health of the financial sector has recorded
very significant improvement.
India's path of reforms has been different from most other emerging market
economies: it has been a measured, gradual, cautious, and steady process,
devoid of many flourishes that could be observed in other countries. I shall argue
in this paper that the reforms in the financial sector and monetary policy
framework have been a key component of the overall reforms that provided the
foundation of an increased price and financial stability. Reforms in these sectors
have been well- sequenced, taking into account the state of the markets in the
various segments.
275
The main objective of the financial sector reforms in India initiated in the early
1990s was to create an efficient, competitive and stable financial sector that
could then contribute in greater measure to stimulate growth. Concomitantly, the
monetary policy framework made a phased shift from direct instruments of
monetary management to an increasing reliance on indirect instruments.
However, as appropriate monetary transmission cannot take place without
efficient price discovery of interest rates and exchange rates in the overall
functioning of financial markets, the corresponding development of the money
market, Government securities market and the foreign exchange market
became necessary. Reforms in the various segments, therefore, had to be
coordinated. In this process, growing integration of the Indian economy with the
rest of the world also had to be recognised and provided for.
Against this backdrop, the coverage of this paper is threefold. First, I will give a
synoptic account of the reforms in financial sector and monetary policy. Second,
this is followed by an assessment of these reforms in terms of outcomes and the
health of the financial sector. Finally, lessons emerging from the Indian
experience for issues of topical relevance for monetary authorities are
considered in the final Section.
8.2. FINANCIAL SECTOR AND MONETARY POLICY: OBJECTIVES AND
REFORMS
Till the early 1990s the Indian financial sector could be described as a classic
example of “financial repression”. Monetary policy was subservient to the fiscal.
The financial system was characterised by extensive regulations such as
control) to indirect instruments (such as, open market operations,
purchase and repurchase of government securities) for the conduct
of monetary policy.
5. Introduction of Liquidity Adjustment Facility (LAF), which operates
through repo and reverse repo auctions, effectively provide a corridor
for short-term interest rate. LAF
6. has emerged as the tool for both liquidity management and also as
a signalling devise for interest rate in the overnight market.
7. Use of open market operations to deal with overall market
liquidity situation especially those emanating from capital flows.
8. Introduction of Market Stabilization Scheme (MSS) as an additional
instrument to deal with enduring capital inflows without affecting
short-term liquidity management role of LAF.
Developmental Measures 1. Discontinuation of automatic monetization through an
agreement between the Government and the Reserve Bank.
Rationalization of Treasury Bill market.
2. Introduction of delivery versus payment system and deepening of
inter-bank repo market.
3. Introduction of Primary Dealers in the government securities market
to play the role of market maker.
4. Amendment of Securities Contracts Regulation Act (SCRA), to create
the regulatory framework.
5. Deepening of government securities market by making the interest
rates on such securities market related. Introduction of auction of
government securities. Development of a risk-free credible yield curve
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in the government securities market as a benchmark for related
markets.
6. Development of pure inter-bank call money market. Non-bank
participants to participate in other money market instruments.
7. Introduction of automated screen-based trading in government
securities through Negotiated Dealing System (NDS). Setting up of
risk-free payments and system in government securities through
Clearing Corporation of India Limited (CCIL). Phased introduction of
Real Time Gross Settlement (RTGS) System.
8. Deepening of forex market and increased autonomy of Authorized
Dealers.
Institutional Measures
1. Setting up of Technical Advisory Committee on Monetary Policy
with outside experts to review macroeconomic and monetary
developments and advise the Reserve Bank on the stance of
monetary policy.
2. Creation of a separate Financial Market Department within the RBI.
Given the growing role played by expectations, the stance of monetary
policy and its rationale are communicated to the public in a variety of
ways. The enactment of the Fiscal Responsibility and Budget
Management Act, 2003 has strengthened the institutional mechanism
further: from April 2006 onwards, the Reserve Bank is no longer
permitted to subscribe to government securities in the primary market. The
development of the monetary policy framework has also involved a great
deal of institutional initiatives to enable efficient functioning of the money
market: development of appropriate trading, payments and settlement
systems along with technological infrastructure.
286
Financial Markets The success of a framework that relies on indirect instruments of monetary
management such as interest rates, is contingent upon the extent and
speed with which changes in the central bank's policy rate are transmitted
to the spectrum of market interest rates and exchange rate in the economy
and onward to the real sector. Given the critical role, played by financial
markets in this transmission mechanism, the Reserve Bank has taken a
number of initiatives to develop a pure inter-bank money market. A
noteworthy and desirable development has been the substantial migration
of money market activity from the uncollateralized call money
segment to the collateralized market repo and collateralized borrowing
and lending obligations (CBLO) markets. The shift of activity from
uncollateralized to collateralized segments of the market has largely
resulted from measures relating to limiting the call market transactions
to banks and primary dealers only. This policy-induced shift is in the interest
of financial stability and is yielding results.
Concomitantly, efforts have been made to broaden and deepen the
Government securities market and foreign exchange market so as to
enable the process of efficient price discovery in respect of interest rates and
the exchange rate.
It is pertinent to note that the phased approach to development of financial
markets has enabled RBI's withdrawal from the primary market since April
1, 2006. This step completes the transition to a fully market based
system in the G-sec market. Looking ahead, as per the
recommendations of the Twelfth Finance Commission, the Central
Government would cease to raise resources on behalf of State
Governments, who, henceforth, have to access the market directly. Thus,
State Governments' capability in raising resources will be market
determined and based on their own financial health. In order to ensure a
smooth transition to the new regime, restructuring of current institutional
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processes has already been initiated (Mohan, 2006c). These steps are
helping to achieve the desired integration in the conduct of monetary
operations.
Summing up, reforms were designed to enable the process of efficient price
discovery and induce greater internal efficiency in resource allocation within
the banking system. While the policy measures in the pre-1990s period
were essentially devoted to financial deepening, the focus of reforms in
the last decade and a half has been engendering greater efficiency and
productivity in the banking system.
Reforms in the monetary policy framework were aimed at providing
operational flexibility to the Reserve Bank in its conduct of monetary
policy by relaxing the constraint imposed by passive monetization of the
fisc.
Liberalisation Measures
1. Authorized dealers permitted to initiate trading positions, borrow
and invest in overseas market subject to certain specifications
and ratification by respective Banks’ Boards.
2. Banks are also permitted to fix interest rates on non-resident
deposits, subject to certain specifications, use derivative products for
asset-liability management and fix overnight open position limits
and gap limits in the foreign exchange market, subject to ratification
by RBI.
3. Permission to various participants in the foreign exchange
market, including exporters, Indians investing abroad, FIIs, to avail
forward cover and enter into swap transactions.
4. without any limit subject to genuine underlying exposure.
5. FIIs and NRIs permitted to trade in exchange-traded derivative
6. Contracts, subject to certain conditions.
7. Foreign exchange earners permitted to maintain foreign currency
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accounts. Residents are permitted to open such accounts within the
general limit of US $ 25, 000 per year.
8.6 ASSESSMENT AND IMPACT OF BANKING SECTOR REFORMS
An assessment of the banking sector shows that banks have experienced strong
balance sheet growth in the post-reform period in an environment of operational
flexibility. Improvement in the financial health of banks, reflected in significant
improvement in capital adequacy and improved asset quality, is distinctly visible.
It is noteworthy that this progress has been achieved despite the adoption of
international best practices in prudential norms. Competitiveness and productivity
gains have also been enabled by proactive technological deepening and flexible
human resource management. These significant gains have been achieved even
while renewing our goals of social banking viz. maintaining the wide reach of the
banking system and directing credit towards important but disadvantaged sectors
of society. A brief discussion on the performance of the banking sector under the
reform process is given below.
8.6.1 SPREAD OF BANKING
The banking system’s wide reach, judged in terms of expansion of branches and
the growth of credit and deposits indicate continued financial deepening (Table 8.1 &8.2). The population per bank branch has not changed much since
the1980s, and has remained at around 16,000.
In the Post-reform period, banks have consistently maintained high rates of
growth in their assets and liabilities. On the liability side, deposits continue to
account for about 80 per cent of the total liabilities. On the asset side, the shares
of loans and advances on the one hand and investments on other hand have
seen marked cycles, reflecting banks’ portfolio preferences as well as growth
cycles in the economy. The share of loans and advances declined in the second
half of 1990s responding to slowdown in investment demand as well as
tightening of prudential norms.
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TABLE8.1 : PROGRESS OF COMMERCIAL BANKING IN INDIA(1969-2005)
Source : Reserve Bank of India
TABLE 8.2: PROGRESS OF COMMERCIAL BANKING IN INDIA (2005-10)
2005 2006 2007 2008 2009 2010
No. of Commercial Banks
73 154 272 284 298 288
No. of Bank Offices of which
8,262 34,594 60,570 64,234 67,868 68,339
Rural and semi-urban bank offices Population per Office (’000s)
5,1726
4
23,227
16
46,550
14
46,602
15
47,693
15
47491
16
Per capita Deposit (Rs.)
88 738 2,368 4,242 8,542 16,699
Per capita Credit (Rs.)
68 457 1,434 2,320 4,555 10,135
Priority Sector Advances@ (per cent)
15 37 39 34 35 40
Deposits (per cent of National Income)
16 36 48 48 54 65
Source: Reserve Bank of India
1969 1980 1991 1995 2000 2005 1 2 3 4 5 6 7
No. of Commercial Banks No. of bank Offices Of which Rural and semi-urban bank Offices Population per Office (‘000s) Per capita Deposit (Rs.) Per capita Credit (Rs.) Priority Sector Advances@ (percent) Deposits (per cent of National Income)
73 8262
5,172
64 88
68
15
16
154 34594
23,227
16 738
457
37
36
272 60,570
46,550
14
2368
1434
39
48
284 64,234
46,602
15
4242
2320
34
48
298 67,868
47,693
15
8542
4555
35
54
288 68,339
47,491
16
16699
10135
40
65
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With investment demand again picking up in the past 3-4 years, bank’s credit
portfolio has witnessed sharp growth, Bank’s investment in gilts have accordingly
seen a significant decline in the past one year, although it still remains above the
minimum statutory requirement. Thus, while in the 1990s, grater investments and
aversion to credit risk exposure may have deterred banks from undertaking their
‘core function’ of financial intermediation viz., accepting deposits and extending
credit, they seem to have struck a grater balance in recent years between
investments and loans and advances. The improved atmosphere for recovery crated
in the recent years seems to have induced banks to put grater efforts in extending
loans.
8.6.2 CAPITAL POSITION AND ASSET QUALITY
Since the beginning of reforms, a set of micro-prudential measures have
been stipulated aimed at imparting strength to the banking system as well
as ensuring safety. With regard to prudential requirements, income
recognition and asset classification (IRAC) norms have been
strengthened to approach international best practice. Initially, while it was
deemed to attain a CRAR of 8 per cent in a phased manner, it was
subsequently raised to 9 per cent with effect from 1999-2000.
The overall capital position of commercial banks has witnessed a marked
improvement during the reform period (Table 8.3 ). Illustratively, as at
end-March 2005, 86 out of the 88 commercial banks operating in India
maintained CRAR at or above 9 per cent. The corresponding figure for
1995-96 was 54 out of 92 banks. Improved capitalisation of public sector
banks was initially brought through substantial infusion of funds by
government to recapitalise these banks. Subsequently, in order to mitigate
the budgetary impact and to introduce market discipline, public sector
banks were allowed to raise funds from the market through equity
issuance subject to the maintenance of 51 per cent public ownership.
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Ownership in public sector banks is now well diversified. As at end-March
2005, the holding by the general public in six banks ranged between40 and
49 per cent and in 12 banks between 30 and 49 per cent. It was only in
four banks that the Government holding was more than 90 per cent.
TABLE 8.3:
DISTRIBUTION OF COMMERCIAL BANKS ACCORDING TO RISK-WEIGHTED CAPITAL ADEQUACY (NUMBER OF BANKS)
Year Below 4 per cent
Between 4-9 per cent*
Between 9-10 per cent@
Above 10 per cent
Total
1995-96 8 9 33 42 92 2000-01 3 2 11 84 100 2004-05 1 1 8 78 88 2009-10 2 1 15 82 97 Source: Reserve Bank of India
8.6.3 NON-PERFORMING LOANS (NPL) OF SCHEDULED COMMERCIAL BANKS
Despite tightening norms, there has been considerable improvement in the
asset quality of banks. India transited to a 90-day NPL recognition norm
(from 180-day norm) in 2004. Nonetheless, non-performing loans (NPLs), as
ratios of both total advances and assets, have declined substantially and
consistently since the mid-1990s (Table 8.4& 8.5 ).
Improvement in the credit appraisal process, upturn of the business cycle, new
initiatives for resolution of NPLs (including promulgation of the Securitisation and
Reconstruction of Financial Assets and Enforcement of Security Interest
(SARFAESI) Act), and greater provisioning and write-off of NPLs enabled by
greater profitability, have kept incremental NPLs low
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TABLE –8.4 NON-PERFORMING LOANS (NPL) OF SCHEDULED COMMERCIAL BANKS
(1996-97 To 2004=05) (per cent)
Source Reserve Bank of India
These two tables indicate that the Indian banks are more stringent norms for
recovery of loans and they have less over dues and NPAs. The Gross and Net
NPAs of Indian banking system in 1991 were 11.0 and 9.5 which has been
tremendously reduced up to 1.1 % and 0.9%. The NPAs of the assets also come
down from 6.1% to 0.5% during the period of 1991 to 2010. Indian banks have
shown the eye-catching progress in NPA management during the period of
financial reforms. Thus it is proved that the Indian banks have made Significant
Improvement in Asset quality , despite tightening of norms since mid-1990’s
Source Reserve Bank of India. TABLE :8.6 GROSS AND NET NPAs OF SCHEDULED COMMERCIAL BANKS BANK GROUP-WISE
Year Advances Non-performing assets (NPAs) Gross Net Gross Net
Amount As Percentage
of gross advances
As Percentage
of total assets
Amount As Percentage
of net advances
As Percentage
of Total Assets
1 2 3 4 5 6 7 8 9 Scheduled Commercial Banks
1997-98
352696 325522 50815 14.4 6.4 23761 7.3 3.0
1998-99
399436 367012 58722 14.7 6.2 28020 7.6 2.9
1999-00
475113 444292 60408 12.7 5.5 30073 6.8 2.7
2000-01
558766 526328 63741 11.4 4.9 32461 6.2 2.5
2001-02
680958 645859 70861 10.4 4.6 35554 5.5 2.3
2002-03
778043 740473 68717 8.8 4.1 29692 4.0 1.8
2003-04
902026 862643 64812 7.2 3.3 24396 2.8 1.2
2004-05
1152682 1115663 59373 5.2 2.5 21754 2.0 0.9
2005-06
1551378 1516811 51097 3.3 1.8 18543 1.2 0.7
2006- 2012510 1981237 50486 2.5 1.5 20101 1.0 0.6
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07 2007-08
2507885 2476936 56309 2.3 1.3 24730 1.0 0.6
2008-09
3038254 3000906 68973 2.3 1.3 31424 1.1 0.6
Public Sector Banks 1997-98
284971 260459 45653 16.0 7.0 21232 8.2 3.3
1998-99
325328 297789 51710 15.9 6.7 24211 8.1 3.1
1999-00
379461 352714 53033 14.0 6.0 26187 7.4 2.9
2000-01
442134 415207 54672 12.4 5.3 27977 6.7 2.7
2001-02
509368 480681 56473 11.1 4.9 27958 5.8 2.4
2002-03
577813 549351 54090 9.4 4.2 24877 4.5 1.9
2003-04
661975 631383 51537 7.8 3.5 19335 3.1 1.3
2004-05
877825 848912 48399 5.5 2.7 16904 2.1 1.0
2005-06
1134724 1106288 41358 3.6 2.1 14566 1.3 0.7
2006-07
1464493 1440146 38968 2.7 1.6 15145 1.1 0.6
2007-08
1819074 1797401 40452 2.2 1.3 17836 1.0 0.6
2008-09
2283473 2260156 45156 2.0 1.2 21033 0.9 0.6
Old Private Sector Banks 1997-98
25580 24353 2794 10.9 5.1 1572 6.5 2.9
1998-99
28979 26017 3784 13.1 5.8 2332 9.0 3.6
1999-00
35404 33879 3815 10.8 5.2 2393 7.1 3.3
2000-01
39738 37973 4346 10.9 5.1 2771 7.3 3.3
2001-02
44057 42286 4851 11.0 5.2 3013 7.1 3.2
2002-03
51329 49436 4550 8.9 4.3 2598 5.2 2.5
2003-04
57908 55648 4398 7.6 3.6 2142 3.8 1.8
2004-05
70412 67742 4200 6.0 3.1 1859 2.7 1.4
2005-06
85154 82957 3759 4.4 2.5 1375 1.7 0.9
2006-07
94872 92887 2969 3.1 1.8 891 1.0 0.6
2007-08
113404 111670 2557 2.3 1.3 740 0.7 0.4
2008-09
130352 128512 3072 2.4 1.3 1165 0.9 0.5
New Private Sector Banks
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Rs in Crores
1997-98
11173 11058 392 3.5 1.5 291 2.6 1.1
1998-99
14070 13714 871 6.2 2.3 611 4.5 1.6
1999-00
22816 22156 946 4.1 1.6 638 2.9 1.1
2000-01
31499 30086 1617 5.1 2.1 929 3.1 1.2
2001-02
76901 74187 6811 8.9 3.9 3663 4.9 2.1
2002-03
94718 89515 7232 7.6 3.8 1365 1.5 0.7
2003-04
119511 115106 5983 5.0 2.4 1986 1.7 0.8
2004-05
127420 123655 4582 3.6 1.6 2353 1.9 0.8
2005-06
232536 230005 4052 1.7 1.0 1796 0.8 0.4
2006-07
325273 321865 6287 1.9 1.1 3137 1.0 0.5
2007-08
412441 406733 10440 2.5 1.4 4907 1.2 0.7
2008-09
454713 446824 13911 3.1 1.8 6253 1.4 0.8
Foreign Banks In India 1997-98
30972 29652 1976 6.4 3.0 666 2.2 1.0
1998-99
31059 29492 2357 7.6 3.1 866 2.9 1.1
1999-00
37432 35543 2614 7.0 3.2 855 2.4 1.0
2000-01
45395 43063 3106 6.8 3.0 785 1.8 0.8
2001-02
50631 48705 2726 5.4 2.4 920 1.9 0.8
2002-03
54184 52171 2845 5.3 2.4 903 1.7 0.8
2003-04
62632 60506 2894 4.6 2.1 933 1.5 0.7
2004-05
77026 75354 2192 2.8 1.4 639 0.8 0.4
2005-06
98965 97562 1928 1.9 1.0 808 0.8 0.4
2006-07
127872 126339 2263 1.8 0.8 927 0.7 0.3
2007-08
162966 161133 2859 1.8 0.8 1247 0.8 0.3
2008-09
169716 165415 6833 4.0 1.5 2973 1.8 0.7
Note : 1. Data for 2008-09 are provisional. 2. Data on scheduled commercial banks & public sector banks for 2004-05 include the impact of conversion of a non-banking entity into a banking entity.
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8.6.4 COMPETITION AND EFFICIENCY
In consonance with the objective of enhancing efficiency and productivity of
banks through greater competition - from new private sector banks and
entry and expansion of several foreign banks - there has been a
consistent decline in the share of public sector banks in total assets of
commercial banks. Notwithstanding such transformation, the public sector
banks still account for nearly three-fourths of assets and income. Public
sector banks have also responded to the new challenges of competition, as
reflected in their increased share in the overall profit of the banking sector.
This suggests that, with operational flexibility, public sector banks are
competing relatively effectively with private sector and foreign banks.
Public sector bank managements are now probably more attuned to the
market consequences of their activities. Shares of Indian private sector
banks, especially new private sector banks established in the 1990s, in
the total income and assets of the banking system have improved
considerably since the mid-1990s (Table8.7 ). The reduction in the asset
share of foreign banks, however, is partially due to their increased focus on
off-balance sheet non-fund based business.
Income of public sector banks have been increased during last 15 years in
absolutely terms and they have shown the declining in the share of public sector
banks from 82.5% in 1995 to 66.7% in 2009-10.
Similarly the Expenditure share of the public sector banks also declined from
84.2% in 1995 to 68.5% in 2009-10. The public sector banks have shown the
declining trend in share of Total assets, share in net profit and also the share in
gross profit during this period of financial reforms. This is because the private
sector banks and foreign banks have entered in the market in very aggressive
way and shown tremendous performance. The public sector banks have
297
improved their business performance as well as service quality during the last 10
years and now they are at comfortable position.
After the financial reforms the government has given the permission to private
sector banks to open their offices in India. Accordingly more than 30 to 35 new
private sector banks have been opened up in India during last 20 years. The
new private sector banks have shown tremendous growth in terms of income,
total assets, net profit. TABLE NO. 8.7
Bank Group-wise Shares ( %) Particulars 1995-96 2000-01 2009-10
PUBLIC SECTOR BANKS Income 82.5 78.4 66.7 Expenditure 84.2 78.9 68.5 Total Assets 84.4 79.5 69.9 Net Profit -39.1 67.4 62.1 Gross Profit 74.3 69.9 60.3 NEW PRIVATE SECTOR BANKS: Income 1.5 5.7 19.3 Expenditure 1.3 5.5 19.5 Total Assets 1.5 6.1 17.2 Net Profit 17.8 10.0 17.7 Gross Profit 2.5 6.9 18.7 FOREIGN BANKS: Income 9.4 9.1 9.5 Expenditure 8.3 8.8 7.3 Total Assets 7.9 7.9 8.4 Net Profit 79.8 14.8 15.5 Gross Profit 15.6 15.7 16.7 8.6.5 CREDIT DELIVERY Given that the Indian financial system is still predominantly bank based,
bank credit continues to be of great importance for funding different sectors of
298
the economy. Consequent to deregulation of interest rates and substantial
reduction in statutory pre-emptions, there was an expectation that credit flow
would be correspondingly enhanced. In the event, banks continued to show a
marked preference for investments in government securities with no reduction
in the proportion of their assets being held in investments in government
securities, until recently, when credit growth picked up in 2003-04. From the
year 2007-08 the credit delivery has been reduced due to recession at India and
at world level. With the shift in approach from micro management of credit
through various regulations, credit allocation targets, and administered
interest rates, to a risk based system of lending and market determined
interest rates, banks have to develop appropriate credit risk assessment
techniques. Apart from promoting healthy credit growth, this is also critical for
the efficiency of monetary management in view of the move to use of indirect
instruments in monetary management.
The stagnation in credit flow observed during the late 1990s, in retrospect,
was partly caused by reduction in demand on account of increase in real interest
rates, turn down in the business cycle, and the significant business
restructuring that occurred during that period. A sharp recovery has now
taken place.
8.6.6 MONETARY POLICY : IMPACTS
The table 8.8 below, reveals that the Indian economy has shown significant
growth in GDP of 6.3 % in 1992 to 1998 and it has increased up to 8.8 %
from 2003 to 2008. This eye-catching growth in GDP was emerged after the financial reforms from 1991 to 2010. The impact of global slowdown from 2008 to 2010 was not
much on the Indian economy. Thus the indian economy has shown the
acceleration in GPD Growth, Reduction in Inflation, Stable Inflation expectation,
Financial Stability after the financial reforms.
299
TABLE NO. 8.8 MONETARY POLICY : IMPACTS
TABLE8.9 :CAPITAL TO RISK – WEIGHTED ASSETS RATIO ( CRAR )
End March Distribution of Commercial Bank According to CRAR ( Number of Banks )
Below Between Between Above Total Total Core ( Tier I ) 4% 4-9 % * 9-10 % 10 % @ Banks CRAR CRAR
TABLE NO. 8.10 PROGRESS OF PRIVATE SECTOR BANKS ( compound Growth Per cent, 2001-2010 )
Particulars New private Public Sector All Sector Banks @ Banks Banks
No.of Branches 26.47 2.5 3.1 No.of Employees 29.54 -1.1 2.0 Net Profits 28.40 16.7 20.2 Deposits 35.51 17.9 18.8 Advances 34.66 26.8 26.7 @: Data pertain to growth recorded by 4 major private sector banks ( ICICI Banks, HDFC Bank, UTI/AXIS Bank, HDFC Bank, Centurian Bank Of Punjab )
The above table8.10, reveals that the Indian banks have shown tremendous
progress in terms of number of branches, net profit, deposits and advances. The
above growth rate shows that the new private sector banks have shown better
performances in terms of all performance indicators. Whereas, average
performance of all banking sector shows that there is a growth of 3.1% and 2 %
in terms of number of new branches and employment provided to the young
graduates. As far as profits of all bank is are concern it is 35.51% for new private
banks, 17.9% for public sector banks and profits of all banks are concern it is
20.2%. Loans and Deposits have also been significantly increased by all banks.
It is around 40% more than the growth in deposit in all the banks. It means
during the financial reforms Indian banks have provided best services to the
customer and played important role in the development of Indian economy
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8.6.9 PRODUCTIVITY AND EFFICIENCY INDICATORS
TABLE NO 8.11 :PRODUCTIVITY AND EFFICIENCY INDICATORS (% ) INDICATOR
Year PSBs
New private Banks
ForeignBanks
ALL Commercial Banks
Cost/ Income 2001-01 66 49 57 64 Ratio 2009-10 45 48 38 44 Intermediation 2000-01 2.7 1.7 3.4 2.7 Cost 2009-10 1.5 2.2 2.8 1.7 Net Interest Margin
2000-01 2.8 2.0 3.5 2.8
2009-10 2.1 2.8 3.9 2.4
Return on Assets
2000-01 0.4 1.1 1.0 0.5
2009-10 0.9 1.1 1.7 1.0
* : Ratio of Operating expenses to total income less interest expenses.@ : Ratio of operating expenses to total assets.
The above table 8.11, reveals that the Indian banks have shown tremendous
progress in terms of productivity and efficiency indicators ROA during the last ten
years the ROA was 0.5% in 2001 which has been doubled up to 1 % during the
year 2009-10. Whereas the other performance indicators namely cost /income
ratio, intermediation cost ratio, net interest margin shows decline during this ten
years.
The Cost income ratio of all commercial banks have been reduced from 64% to
44 % during the last years because the increase in the cost of the funds and
operational cost and more falling rate the growth of income. Similarly the net
interest margin of all commercial banks has been reduced from 2.8% in 2001 to
2.4% in the year 2009.10. it was mainly because of the reduced rate of interest
on advances as well as rates on investment by the banks. These signs have
shown that though the income has been reduced, and cost has been increased,
it was because of the matching the international standards for asset quality,
management of NPAs and provisioning norms. The banks Shown the temporary
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bad effect on their balance sheets, but in long run the Indian banks have shown
tremendous progress in all aspects because growth in Indian economy and the
March 2009 2.44 13.2 1.02 March 2010baseline 3.44 13.1 0.95 ( 65 % increase in NPAs )
Stress on baseline : further increase in NPAs 50 % increase in NPAs 5.15 12.4 0.65
100 % increase in NPAs 6.87 11.7 0.31 150 % increase in NPAs 8.59 10.9 -ve Source:- Financial Stability Report, March 2010, RBI
From the above table we can see that by the end of March, 2010 there is
resilience to substantial increase in NPAs. The Gross NPA has been increased
significantly in 2010 over the year 2009 and on the other hand the CRAR and
ROA have been decreased during the last one year. The increase in NPA level
is showing the positive trend and also the ROA showing negative growth during
the corresponding period.
8.7. EMERGING ISSUES
This review of financial sector reforms and monetary policy has documented the
calibrated and coordinated reforms that have been undertaken in India
since the 1990s. In terms of outcomes, this strategy has achieved the broad
objectives of price stability along with reduced medium and long term inflation
expectations; the installation of an institutional framework and policy reform
promoting relatively efficient price discovery of interest rates and the exchange
rate; phased introduction of competition in banking along with corresponding
improvements in regulation and supervision approaching international best
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practice, which has led to notable improvement in banking performance and
financials. The implementation of these reforms has also involved the
setting up or improvement of key financial infrastructure such as payment and
settlement systems, and clearing and settlement systems for debt and forex
market functioning. All of this financial development has been achieved with the
maintenance of a great degree of financial stability, along with overall
movement of the economy towards a higher growth path.
With increased deregulation of financial markets and increased integration of the
global economy, the 1990s were turbulent for global financial markets: 63
countries suffered from systemic banking crises in that decade, much higher
than 45 in the 1980s. Among countries that experienced such crises, the direct
cost of reconstructing the financial system was typically very high: for example,
recapitalization of banks had cost 55 per cent of GDP in Argentina, 42 per cent
in Thailand, 35 per cent in Korea and 10 per cent in Turkey. There were
high indirect costs of lost opportunities and slow economic growth in addition
(McKinsey & Co., 2010). It is therefore particularly noteworthy that India could
pursue its process of financial deregulation and opening of the economy
without suffering financial crises during this turbulent period in world
financial markets. The cost of recapitalization of public sector banks at less
than 1 per cent of GDP, is therefore low in comparison. Whereas we can be
legitimately gratified with this performance record, we now need to focus on
the new issues that need to be addressed for the next phase of financial
development.
That current annual GDP growth of around 8 per cent can be achieved in India
at an about 30 per cent rate of gross domestic investment suggests that the
economy is functioning quite efficiently. We need to ensure that we maintain this
level of efficiency and make attempt to improve on it further. As the Indian
economy continues on such a growth path and attempts to accelerate it, new
demands are being placed on the financial system.
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MAJOR ISSUES BEING FACED BY THE INDIAN BANKING INDUSTRY
Although banking sector reforms have created a high competitive and dynamic
environment for commercial banks but at the same time, these reforms have
created glaring issues that should be tackled very carefully in the era of IT and
WTO. The following are the major issues:
1. A widening gap in the productivity of various bank groups- it is a threat and
also motivation for many bank groups.
2. Widening profitability gap among bank groups under study
3. High rate of NPAs
4. Fast shifting of potential customers from public sector banks to new private
sector banks and foreign banks and hence created an issue of customer
retention for public sector banks
5. Penetration of new private sector banks and foreign banks in semi-urban and
rural areas have become survival factor for public sector banks
6. Poor quality of services by many public sector banks created issue of survival
in such a competitive environment
7. Lack of autonomy in HRM policies, especially for public sector banks
8. Lack of accountability
9. Loss making branches
10. Technology gap among private and public sector banks
11. Merger and acquisition
12. Privatization of public sector banks
13. Increasing customer expectations and demands
14. Threat of non-banking institutions and non-financial companies
15. Intensified competition within the banking sector, competition from global
banking giants.
8.8. VISION AHEAD
Our Vision is of an integrated banking and finance system catering to all financial
intermediation requirements of customers. Strong market players will strive to
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uncover markets and provide all services, combining innovation, quality, personal
touch and flexibility in delivery. The growing expectations of the customers are
the catalyst for our vision. The customer would continue to be the centre-point of
our business strategy. In short, you lose touch with the customer, and you lose
everything.
It is expected that the Indian banking and finance system will be globally
competitive. For this the market players will have to be financially strong and
operationally efficient. Capital would be a key factor in building a successful
institution. The banking and finance system will improve competitiveness through
a process of consolidation, either through mergers and acquisitions through
strategic alliances.
Technology would be the key to the competitiveness of banking and finance
system. Indian players will keep pace with global leaders in the use of banking
technology. In such a scenario, on-line accessibility will be available to the
customers from any part of the globe; ‘Anywhere’ and ‘Anytime’ banking will be
realized truly and fully. At the same time ‘brick and mortar’ banking will co-exist
with ‘on-line’ banking to cater to the specific needs, of different customers.
“A vision is not a project report or a plan target. It is an articulation of the desired end results in broader terms” - A.P.J. Abdul Kalam
1. Financial Sector Reforms set in motion in 1991 have greatly changed the face
of Indian Banking. The banking industry has moved gradually from a regulated
environment to a deregulated market economy. The market developments
kindled by liberalization and globalization have resulted in changes in the
intermediation role of banks. The pace of transformation has been more
significant in recent times with technology acting as a catalyst. While the
banking system has done fairly well in adjusting to the new market dynamics,
greater challenges lie ahead. Financial sector would be opened up for greater
international competition under WTO. Banks will have to gear up to meet
stringent prudential capital adequacy norms under Basel II. In addition to WTO
and Basel II, the Free Trade Agreements (FTAs) such as with Singapore, may
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have an impact on the shape of the banking industry. Banks will also have to
cope with challenges posed by technological innovations in banking. Banks need
to prepare for the changes. In this context the need for drawing up a Road Map
to the future assumes relevance.
2. When we talk about the future, it is necessary to have a time horizon in mind.
The Committee felt, it would be rather difficult to visualize the landscape of
banking industry say, 20 years hence due to the dynamic environment. While
Government of India brought out India Vision 2020, the Committee is of the view
that the pace of changes taking place in the banking industry and in the field of
Information Technology would render any attempt to visualize the banking
scenario in 2020, inconceivable. The entire financial services sector may
undergo a dramatic transformation.
“I am confident that India will become a Developed Nation by 2020. Come, let us strive together to turn this resolve into reality” – Atal Bihari Vajpayee
3. Liberalization and de-regulation process started in 1991-92 has made a sea
change in the banking system. From a totally regulated environment, we have
gradually moved into a market driven competitive system. Our move towards
global benchmarks has been, by and large, calibrated and regulator driven. The
pace of changes gained momentum in the last few years. Globalization would
gain greater speed in the coming years particularly on account of expected
opening up of financial services under WTO. Four trends change the banking
industry world over, viz. 1) Consolidation of players through mergers and
acquisitions, 2) Globalisation of operations, 3) Development of new technology
and 4) Universalisation of banking. With technology acting as a catalyst, we
expect to see great changes in the banking scene in the coming years. The
Committee has attempted to visualize the financial world 5-10 years from now.
The picture that emerged is somewhat as discussed below. It entails
emergence of an integrated and diversified financial system. The move towards
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universal banking has already begun. This will gather further momentum bringing
non-banking financial institutions also, into an integrated financial system.
4. The traditional banking functions would give way to a system geared to meet
all the financial needs of the customer. We could see emergence of highly varied
financial products, which are tailored to meet specific needs of the customers in
the retail as well as corporate segments. The advent of new technologies could
see the emergence of new financial players doing financial intermediation. For
example, we could see utility service providers offering say, bill payment services
or supermarkets or retailers doing basic lending operations. The conventional
definition of banking might undergo changes.
5. The competitive environment in the banking sector is likely to result in
individual players working out differentiated strategies based on their strengths
and market niches. For example, some players might emerge as specialists in
mortgage products, credit cards etc. whereas some could choose to concentrate
on particular segments of business system, while outsourcing all other functions.
Some other banks may concentrate on SME segments or high net worth
individuals by providing specially tailored services beyond traditional banking
offerings to satisfy the needs of customers they understand better than a more
generalist competitor.
6. International trade is an area where India’s presence is expected to show appreciable
increase. Presently, Indian share in the global trade is just about 0.8%. The long term
projections for growth in international trade is placed at an average of 6% per annum.
With the growth in IT sector and other IT Enabled Services, there is tremendous
potential for business opportunities. Keeping in view the GDP growth forecast under
India Vision 2020, Indian exports can be expected to grow at a sustainable rate of 15%
per annum in the period ending with 2010. This again will offer enormous scope to
Banks in India to increase their forex business and international presence.
Globalization would provide opportunities for Indian corporate entities to expand their
business in other countries. Banks in India wanting to increase their international
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presence could naturally be expected to follow these corporates and other trade flows in
and out of India.
7. Retail lending will receive greater focus. Banks would compete with one
another to provide full range of financial services to this segment. Banks would
use multiple delivery channels to suit the requirements and tastes of customers.
While some customers might value relationship banking, (conventional branch
8. One of the concerns is quality of bank lending. Most significant challenge
before banks is the maintenance of rigorous credit standards, especially in an
environment of increased competition for new and existing clients. Experience has shown us that the worst loans are often made in the best of times.
Compensation through trading gains is not going to support the banks forever.
Large-scale efforts are needed to upgrade skills in credit risk measuring,
controlling and monitoring as also revamp operating procedures. Credit
evaluation may have to shift from cash flow based analysis to “borrower account
behaviour”, so that the state of readiness of Indian banks for Basle II regime
improves. Corporate lending is already undergoing changes. The emphasis in
future would be towards more of fee based services rather than lending
operations. Banks will compete with each other to provide value added services
to their customers.
9. Structure and ownership pattern would undergo changes. There would be
greater presence of international players in the Indian financial system. Similarly,
some of the Indian banks would become global players. Government is taking
steps to reduce its holdings in Public sector banks to 33%. However the
indications are that their PSB character may still be retained.
10. Mergers and acquisitions would gather momentum as managements will
strive to meet the expectations of stakeholders. This could see the emergence of
4-5 world class Indian Banks. As Banks seek niche areas, we could see
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emergence of some national banks of global scale and a number of regional
players.
11. Corporate governance in banks and financial institutions would assume
greater importance in the coming years and this will be reflected in the
composition of the Boards of Banks.
12. Concept of social lending would undergo a change. Rather than being seen
as directed lending such lending would be business driven. With SME sector
expected to play a greater role in the economy, Banks will give greater overall
focus in this area. Changes could be expected in the delivery channels used for
lending to small borrowers and agriculturalists and unorganized sectors (micro
credit). Use of intermediaries or franchise agents could emerge as means to
reduce transaction costs.
13. Technology as an enabler is separately discussed in the report. It would not
be out of place, however, to state that most of the changes in the landscape of
financial sector discussed above would be technology driven. In the ultimate
analysis, successful institutions will be those which continue to leverage the
advancements in technology in re-engineering processes and delivery modes
and offering state-of-the-art products and services providing complete financial
solutions for different types of customers.
14. Human Resources Development would be another key factor defining the
characteristics of a successful banking institution. Employing and retaining skilled
workers and specialists, re-training the existing workforce and promoting a
culture of continuous learning would be a challenge for the banking institutions.
8.9. CHANGES IN THE STRUCTURE OF BANKS
1. The financial sector reforms ushered in the year 1991 have been well calibrated and
timed to ensure a smooth transition of the system from a highly regulated regime to a
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market economy. The first phase of reforms focused on modification in the policy
framework, improvement in financial health through introduction of various prudential
norms and creation of a competitive environment. The second phase of reforms started
in the latter half of 90s, targeted strengthening the foundation of banking system,
streamlining procedures, upgrading technology and human resources development and
further structural changes. The financial sector reforms carried out so far have made the
balance sheets of banks look healthier and helped them move towards achieving global
benchmarks in terms of prudential norms and best practices.
2. Under the existing Basel Capital Accord, allocation of capital follows a one-
size-fit-all approach. This would be replaced by a risk based approach to capital
allocation. While regulatory minimum capital requirements would still continue to be
relevant and an integral part of the three pillar approach under Basel II, the emphasis is
on risk based approach relying on external ratings as well as internal rating of each
asset and capital charge accordingly. The internal risk based approach would need
substantial investments in technology and development of MIS tools. For a rating tool
for internal assessment to be effective, past data for 3 to 5 years would be required and
as such, Indian banking system will have to build up the capabilities for a smooth
migration to the new method.
Another aspect which is included in Basel II accord is a provision for capital allocation for
operational risk. This is a new parameter and even internationally evaluation tools are
not yet fully developed. This would be another area where banking system will have to
reckon additional capital needs and functioning of its processes.
3. The financial sector reforms have brought in the much needed competition in
the market place. The competition to the existing banks came mainly from the
techno-savvy private sector banks. In the coming years, we expect to see
greater flow of foreign capital to come into the Indian banking sector. Opening
up of banking sector to global players would see banks facing global competition.
4. Technology is expected to be the main facilitator of change in the financial
sector. Implementation of technology solutions involves huge capital outlay.
Besides the heavy investment costs, technology applications also have a high
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degree of obsolescence. Banks will need to look for ways to optimize resources
for technology applications. In this regard, global partnerships on technology
and skills sharing may help.
5. The pressure on capital structure is expected to trigger a phase of
consolidation in the banking industry. Banks could achieve consolidation through
different ways. Mergers and acquisitions could be one way to achieve this. In
the past, mergers were initiated by regulators to protect the interests of
depositors of weak banks. In recent years, market led mergers between private
banks have taken place. It is expected that this process would gain momentum
in the coming years. Mergers between public sector banks or public sector
banks and private banks could be the next logical thing / development to happen
as market players tend to consolidate their position to remain in competition.
6. Consolidation could take place through strategic alliances / partnerships.
Besides helping banks to achieve economy of scale in operations and augment
capital base, consolidation could help market players in other ways also to
strengthen their competitiveness. The advantage could be in achieving better
segmentation in the market. Strategic alliances and collaborative approach, as
an alternative to mergers and acquisitions, could be attempted to reduce
transaction costs through outsourcing, leverage synergies in operations and
avoid problems related to cultural integration. If consolidation is taken too far, it
could lead to misuse of dominant market positions. Rapid expansion in foreign
markets without sufficient knowledge of local economic conditions could increase
vulnerability of individual banks.
7. Public Sector Banks had, in the past, relied on Government support for capital
augmentation. However, with the Government making a conscious decision to
reduce its holding in Banks, most Banks have approached the capital market for
raising resources. This process could gain further momentum when the
government holding gets reduced to 33% or below. It is expected that
pressures of market forces would be the determining factor for the consolidation
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in the structure of these banks. If the process of consolidation through mergers
and acquisitions gains momentum, we could see the emergence of a few large
Indian banks with international character. There could be some large national
banks and several local level banks.
8. Opening up of the financial sector from 2005, under WTO, would see a
number of Global banks taking large stakes and control over banking entities in
the country. They would bring with them capital, technology and management
skills. This will increase the competitive spirit in the system leading to greater
efficiencies. Government policy to allow greater FDI in banking and the move to
amend Banking Regulation Act to remove the existing 10% cap on voting rights
of shareholders, are pointers to these developments.
9. The cooperative banks have played a crucial part in the development of the
economy. The primary agricultural societies which concentrate on short-term
credit and rural investment credit institutions supported by District / State level
cooperative banks have played a crucial role in the credit delivery in rural areas.
The Urban Cooperative Banks have found their own niche in urban centres.
These institutions in the cooperative sector need urgent capital infusion to remain
as sound financial entities. Cooperative sector comes under State jurisdiction
while commercial banking operations are regulated by the Reserve Bank of India.
The duality in control had weakened the supervisory set up for these institutions.
It is expected that certain amendments to the Banking Regulation Act introduced
recently in the Parliament with the objective of strengthening the regulatory
powers of the Reserve Bank of India would pave the way for strengthening of
cooperative / financial institutions. It is expected that these banks would upgrade
skills of their staff and improve the systems and procedures to compete with
commercial bank entities.
10. Consolidation would take place not only in the structure of the banks, but
also in the case of services. For instance, some banks would like to shed their
non-core business portfolios to others. This could see the emergence of niche
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players in different functional areas and business segments such as housing,
cards, mutual funds, insurance, sharing of their infrastructure including ATM
Network, etc.
11. Rationalization of a very large network of branches, which at present has rendered
the system cost ineffective and deficient in service would take place. Most of the banks
would have adopted core-banking solutions in a fully networked environment. Back
office functions would be taken away from branches to a centralized place. While brick
and mortar branches would continue to be relevant in the Indian scenario, the real
growth driver for cost cutting would be virtual branches viz., ATMs, Internet Banking,
mobile banking, kiosks etc., which can be manned by a few persons and run on 24 x 7
basis to harness the real potential of these technological utilities, there will be strategic
alliances / partnership amongst banks and this phenomenon has already set in.
12. As we move along, the concept of branch banking will undergo changes.
Banks will find that many of the functions could be outsourced more profitably
without compromising on the quality of service. Specialized agencies could come
forward to undertake Marketing and delivery functions on behalf of banks. This
could see banking products being sold outside the four walls of a branch. Banks
would then concentrate on developing new products and earning fee based
income.
13. The composition of bank staff will change. As total computerization will
render a part of the workforce surplus, banks will go for a rightsizing exercise.
Some may resort to another round of VRS to shed excess flab while some other
may go for re-deployment to strengthen marketing arms. With greater use of
technology and outsourcing of services in different areas, the manpower
recruitment will mostly be in specialized areas and technology applications. With
commitment shifting from the organization to the profession, we could see
greater lateral movement of banking personnel. Training and skill development
will, however, continue to be key HR functions. With the age profile of staff
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undergoing changes, banks will have to focus on leadership development and
succession planning. Knowledge management will become a critical issue.
14. Management structure of banks will also undergo drastic changes in the
coming years. Instead of the present pyramid structure, the banks will move
towards reduction in tiers to ultimately settle for a flat structure. Product-wise
segmentation will facilitate speedier decision-making.
8.10. PRODUCT INNOVATION AND PROCESS RE-ENGINEERING 1. With increased competition in the banking Industry, the net interest margin of
banks has come down over the last one decade. Liberalization with Globalization
will see the spreads narrowing further to 1-1.5% as in the case of banks
operating in developed countries. Banks will look for fee-based income to fill the
gap in interest income. Product innovations and process re-engineering will be
the order of the day. The changes will be motivated by the desire to meet the
customer requirements and to reduce the cost and improve the efficiency of
service. All banks will therefore go for rejuvenating their costing and pricing to
segregate profitable and non-profitable business. Service charges will be decided
taking into account the costing and what the traffic can bear. From the earlier
revenue = cost + profit equation i.e., customers are charged to cover the costs
incurred and the profits expected, most banks have already moved into the profit =revenue - cost equation. This has been reflected in the fact that with cost of
services staying nearly equal across banks, the banks with better cost control are
able to achieve higher profits whereas the banks with high overheads due to
under-utilisation of resources, un-remunerative branch network etc., either
incurred losses or made profits not commensurate with the capital employed.
The new paradigm in the coming years will be cost = revenue - profit. 2. As banks strive to provide value added services to customers, the market will
see the emergence of strong investment and merchant banking entities. Product
innovation and creating brand equity for specialized products will decide the
market share and volumes. New products on the liabilities side such as forex
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linked deposits, investment-linked deposits, etc. are likely to be introduced, as
investors with varied risk profiles will look for better yields. There will be more
and more of tie-ups between banks, corporate clients and their retail outlets to
share a common platform to shore up revenue through increased volumes.
3. Banks will increasingly act as risk managers to corporate and other entities by
offering a variety of risk management products like options, swaps and other
aspects of financial management in a multi currency scenario. Banks will play an
active role in the development of derivative products and will offer a variety of
hedge products to the corporate sector and other investors. For example,
Derivatives in emerging futures market for commodities would be an area
offering opportunities for banks. As the integration of markets takes place
internationally, sophistication in trading and specialized exchanges for
commodities will expand. As these changes take place, banking will play a major
role in providing financial support to such exchanges, facilitating settlement
systems and enabling wider participation.
4.Bancassurance is catching up and Banks / Financial Institutions have started
entering insurance business. From mere offering of insurance products through
network of bank branches, the business is likely to expand through self-designed
insurance products after necessary legislative changes. This could lead to a
spurt in fee-based income of the banks.
5. Similarly, Banks will look analytically into various processes and practices as
these exist today and may make appropriate changes therein to cut costs and
delays. Outsourcing and adoption of BPOs will become more and more relevant,
especially when Banks go in for larger volumes of retail business. However, by
increasing outsourcing of operations through service providers, banks are
making themselves vulnerable to problems faced by these providers. Banks
should therefore outsource only those functions that are not strategic to banks’
business. instance, in the wake of implementation of 90 days’ delinquency norms
for classification of assets, some banks may think of engaging external agencies
for recovery of their dues and in NPA management.
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6. Banks will take on competition in the front end and seek co-operation in the
back end, as in the case of networking of ATMs. This type of competition will
become the order of the day as Banks seek to enlarge their customer base and
at the same time to realize cost reduction and greater efficiency.
8.11. TECHNOLOGY IN BANKING 1. Technology will bring fundamental shift in the functioning of banks. It would not
only help them bring improvements in their internal functioning but also enable
them to provide better customer service. Technology will break all boundaries
and encourage cross border banking business. Banks would have to undertake
extensive Business Process Re-Engineering and tackle issues like a) how best to
deliver products and services to customers b) designing an appropriate
organizational model to fully capture the benefits of technology and business
process changes brought about. c) how to exploit technology for deriving
economies of scale and how to create cost efficiencies, and d) how to create a
customer - centric operation model.
2. Entry of ATMs has changed the profile of front offices in bank branches.
Customers no longer need to visit branches for their day to day banking
transactions like cash deposits, withdrawals, cheque collection, balance enquiry
etc. E-banking and Internet banking have opened new avenues in “convenience
banking”. Internet banking has also led to reduction in transaction costs for
banks to about a tenth of branch banking.
3. Technology solutions would make flow of information much faster, more
accurate and enable quicker analysis of data received. This would make the
decision making process faster and more efficient. For the Banks, this would also
enable development of appraisal and monitoring tools which would make credit
management much more effective. The result would be a definite reduction in
transaction costs, the benefits of which would be shared between banks and
customers.
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4. While application of technology would help banks reduce their operating costs
in the long run, the initial investments would be sizeable. IT spent by banking
and financial services industry in USA is approximately 7% of the revenue as
against around 1% by Indian Banks. With greater use of technology solutions,
we expect IT spending of Indian banking system to go up significantly.
5. One area where the banking system can reduce the investment costs in
technology applications is by sharing of facilities. We are already seeing banks
coming together to share ATM Networks. Similarly, in the coming years, we
expect to see banks and FIs coming together to share facilities in the area of
payment and settlement, back office processing, data warehousing, etc. While
dealing with technology, banks will have to deal with attendant operational risks.
This would be a critical area the Bank management will have to deal with in
future.
6. Payment and Settlement system is the backbone of any financial market
place.
The present Payment and Settlement systems such as Structured Financial
Messaging System (SFMS), Centralised Funds Management System (CFMS),
Centralised Funds Transfer System (CFTS) and Real Time Gross Settlement
System (RTGS) will undergo further fine-tuning to meet international standards.
Needless to add, necessary security checks and controls will have to be in place.
In this regard, Institutions such as IDRBT will have a greater role to play.
8.12. RISK MANAGEMENT 1. Risk is inherent in any commercial activity and banking is no exception to this
rule. Rising global competition, increasing deregulation, introduction of
innovative products and delivery channels have pushed risk management to the
forefront of today’s financial landscape. Ability to gauge the risks and take appropriate position will be the key to success. It can be said that risk takers will survive, effective risk managers will prosper and risk averse are likely to perish. In the regulated banking environment, banks had to primarily
deal with credit or default risk. As we move into a perfect market economy, we
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have to deal with a whole range of market related risks like exchange risks,
interest rate risk, etc. Operational risk, which had always existed in the system,
would become more pronounced in the coming days as we have technology as a
new factor in today’s banking. Traditional risk management techniques become
obsolete with the growth of derivatives and off-balance sheet operations, coupled
with diversifications. The expansion in E-banking will lead to continuous
vigilance and revisions of regulations.
2. Building up a proper risk management structure would be crucial for the banks
in the future. Banks would find the need to develop technology based risk
management tools. The complex mathematical models programmed into risk
engines would provide the foundation of limit management, risk analysis,
computation of risk-adjusted return on capital and active management of banks’
risk portfolio. Measurement of risk exposure is essential for implementing
hedging strategies.
3. Under Basel II accord, capital allocation will be based on the risk inherent in
the asset. The implementation of Basel II accord will also strengthen the
regulatory review process and, with passage of time, the review process will be
more and more sophisticated. Besides regulatory requirements, capital
allocation would also be determined by the market forces. External users of
financial information will demand better inputs to make investment decisions.
More detailed and more frequent reporting of risk positions to banks’
shareholders will be the order of the day. There will be an increase in the growth
of consulting services such as data providers, risk advisory bureaus and risk
reviewers. These reviews will be intended to provide comfort to the bank
managements and regulators as to the soundness of internal risk management
systems. 4. Risk management functions will be fully centralized and independent from the
business profit centres. The risk management process will be fully integrated
into the business process. Risk return will be assessed for new business
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opportunities and incorporated into the designs of the new products. All risks –
credit, market and operational and so on will be combined, reported and
managed on an integrated basis. The demand for Risk Adjusted Returns on
Capital (RAROC) based performance measures will increase. RAROC will be
used to drive pricing, performance measurement, portfolio management and
capital management.
5. Risk management has to trickle down from the Corporate Office to branches
or operating units. As the audit and supervision shifts to a risk based approach
rather than transaction orientation, the risk awareness levels of line functionaries
also will have to increase. Technology related risks will be another area where
the operating staff will have to be more vigilant in the coming days.
6. Banks will also have to deal with issues relating to Reputational Risk as they
will need to maintain a high degree of public confidence for raising capital and
other resources. Risks to reputation could arise on account of operational lapses,
opaqueness in operations and shortcomings in services. Systems and internal
controls would be crucial to ensure that this risk is managed well. 7. The legal environment is likely to be more complex in the years to come.
Innovative financial products implemented on computers, new risk management
software, user interfaces etc., may become patentable. For some banks, this
could offer the potential for realizing commercial gains through licensing. 8. Advances in risk management (risk measurement) will lead to transformation
in capital and balance sheet management. Dynamic economic capital
management will be a powerful competitive weapon. The challenge will be to put
all these capabilities together to create, sustain and maximise shareholders’
wealth. The bank of the future has to be a total-risk-enabled enterprise, which
addresses the concerns of various stakeholders’ effectively.
9. Risk management is an area the banks can gain by cooperation and sharing
of experience among themselves. Common facilities could be considered for
development of risk measurement and mitigation tools and also for training of
staff at various levels. Needless to add, with the establishment of best risk
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management systems and implementation of prudential norms of accounting and
asset classification, the quality of assets in commercial banks will improve on the
one hand and at the same time, there will be adequate cover through
provisioning for impaired loans. As a result, the NPA levels are expected to
come down significantly.
8.13. REGULATORY AND LEGAL ENVIRONMENT 1. The advent of liberalization and globalization has seen a lot of changes in the
focus of Reserve Bank of India as a regulator of the banking industry. De-
regulation of interest rates and moving away from issuing operational
prescriptions have been important changes. The focus has clearly shifted from
micro monitoring to macro management. Supervisory role is also shifting more
towards off-site surveillance rather than on-site inspections. The focus of
inspection is also shifting from transaction-based exercise to risk-based
supervision. In a totally de-regulated and globalised banking scenario, a strong
regulatory framework would be needed. The role of regulator would be critical
for:
a) ensuring soundness of the system by fixing benchmark standards for
capital adequacy and prudential norms for key performance
parameters.
b) adoption of best practices especially in areas like risk-management,
provisioning, disclosures, credit delivery, etc.
c) adoption of good corporate governance practices.
d) creation of an institutional framework to protect the interest of
depositors.
e) regulating the entry and exit of banks including cross-border
institutions.
Further, the expected integration of various intermediaries in the financial system
would add a new dimension to the role of regulators. Also as the co-operative
banks are expected to come under the direct regulatory control of RBI as against
the dual control system in vogue, regulation and supervision of these institutions
will get a new direction.
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Some of these issues are addressed in the recent amendment Bill to the Banking
Regulation Act introduced in the Parliament.
2. The integration of various financial services would need a number of
legislative changes to be brought about for the system to remain contemporary
and competitive. The need for changes in the legislative framework has been felt
in several areas and steps have been taken in respect of many of these issues,
such as,
i) abolition of SICA / BIFR setup and formation of a National Company
Law Tribunal to take up industrial re-construction.
Ii) enabling legislation for sharing of credit information about borrowers
among lending institutions.
Integration of the financial system would change the way we look at banking
functions. The present definition of banking under Banking Regulation Act
would require changes, if banking institutions and non-banking entities are to
merge into a unified financial system
3. While the recent enactments like amendments to Debt Recovery Tribunal
(DRT) procedures and passage of Securitisation and Reconstruction of
Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI
Act) have helped to improve the climate for recovery of bank dues, their
impact is yet to be felt at the ground level. It would be necessary to give
further teeth to the legislations, to ensure that recovery of dues by creditors is
possible within a reasonable time. The procedure for winding up of
companies and sale of assets will also have to be streamlined.
4. In the recent past, Corporate Debt Restructuring has evolved as an
effective voluntary mechanism. This has helped the banking system to take
timely corrective actions when borrowing corporates face difficulties. With
the borrowers gaining confidence in the mechanism, it is expected that CDR
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setup would gain more prominence making NPA management somewhat
easier. It is expected that the issue of giving statutory backing for CDR
system will be debated in times to come.
5. In the emerging banking and financial environment there would be an
increased need for self-regulation. This is all the more relevant in the context
of the stated policy of RBI to move away from micro-management issues.
Development of best practices in various areas of banks’ working would
evolve through self-regulation rather than based on regulatory prescriptions.
6. Role of Indian Banks’ Association would become more pronounced as a
self regulatory body. Development of benchmarks on risk management,
corporate governance, disclosures, accounting practices, valuation of assets,
customer charter, Lenders’ Liability, etc. would be areas where IBA would be
required to play a more proactive role. The Association would also be
required to act as a lobbyist for getting necessary legislative enactments and
changes in regulatory guidelines.
7. HR practices and training needs of the banking personnel would assume
greater importance in the coming days. Here again, common benchmarks
could be evolved. Talking about shared services, creation of common
database and conducting research on contemporary issues to assess
anticipated changes in the business profile and market conditions would be
areas where organizations like Indian Banks’ Association are expected to play
a greater role.
8. Evolution of Corporate Governance being adopted by banks, particularly
those who have gone public, will have to meet global standards over a
period of time. In future, Corporate Governance will guide the way Banks are
to be run. Good Corporate Governance is not a straight jacketed formula or
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process; there are many ways of achieving it as international comparisons
demonstrate, provided the following three basic principles are followed:-
a) Management should be free to drive the enterprise forward with the
minimum interference and maximum motivation.
b) Management should be accountable for the effective and efficient use of
this freedom. There are two levels of accountability – of management to
the Board and of the Board to the Shareholders. The main task is to
ensure the continued competence of management, for without adequate
and effective drive, any business is doomed to decline.
c) In order to enlist the confidence of the global investors and international
market players, the banks will have to adopt the best global practices of
financial accounting and reporting. This would essentially involve
adoption of judgmental factors in the classification of assets, based on
Banks’ estimation of the future cash flows and existing environmental
factors, besides strengthening the capital base accordingly.
9. When we talk about adoption of International accounting practices and
reporting formats it is relevant to look at where we stand and the way ahead.
Accounting practices being followed in India are as per Accounting Standards set
by the Institute of Chartered Accountants of India (ICAI). Companies are required
to follow disclosure norms set under the Companies Act and SEBI guidelines
relating to listed entities. Both in respect of Accounting Practices and disclosures,
banks in India are guided by the Reserve bank of India guidelines issued from
time to time. Now these are, by and large, in line with the Accounting Standards
of ICAI and other regulatory bodies. It is pertinent to note that Accounting
Standards of ICAI are based on International Accounting Standards (IAS) being
followed in a large number of countries. Considering that US forms 40% of the
financial markets in the world compliance with USGAAP has assumed greater
importance in recent times. Many Indian banks desirous of raising resources in
the US market have adopted accounting practices under USGAAP and we
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expect more and more Indian Financial entities to move in this direction in the
coming years.
There are certain areas of differences in the approach under the two main
international accounting standards being followed globally. Of late, there have
been moves for convergence of accounting standards under IAS and USGAAP
and this requires the standard setters to agree on a single, high-quality answer.
Discussions in the accounting circles indicate that convergence of various
international accounting standards into a single global standard would take place
by 2010.
In the Indian context, one issue which is likely to be discussed in the coming
years is the need for a common accounting standard for financial entities. While
a separate standard is available for financial entities under IAS, ICAI has not so
far come out with an Indian version in view of the fact that banks, etc. are
governed by RBI guidelines. It is understood that ICAI is seized of the matter. It
is expected that banks would migrate to global accounting standards smoothly in
the light of these developments, although it would mean greater disclosure and
tighter norms.
8.14. RURAL AND SOCIAL BANKING ISSUES
1. Since the second half of 1960s, commercial banks have been playing an
important role in the socio-economic transformation of rural India. Besides
actively implementing Government sponsored lending schemes, Banks have
been providing direct and indirect finance to support economic activities.
Mandatory lending to the priority sectors, has been an important feature of
Indian banking. The Narasimham committee had recommended for doing away
with the present system of directed lending to priority sectors in line with
liberalization in the financial system. The recommendations were, however, not
accepted by the Government. In the prevailing political climate in the country any
drastic change in the policy in this regard appears unlikely.
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2. The banking system is expected to reorient its approach to rural lending.
“Going Rural” could be the new market mantra. Rural market comprises 74% of
the population, 41% of Middle class and 58% of disposable income. Consumer
growth is taking place at a fast pace in 17113 villages with a population of more
than 5000. Of these, 9989 villages are in 7 States, namely Andhra Pradesh,
Bihar, Kerala, Maharashtra, Tamilnadu, Uttar Pradesh and West Bengal. Banks’
approach to the rural lending will be guided mainly by commercial considerations
in future.
3. Commercial Banks, Co-operatives and Regional Rural Banks are the three
major segments of rural financial sector in India. Rural financial system, in future
has a challenging task of facing the drastic changes taking place in the banking
sector, especially in the wake of economic liberalization. There is an urgent need
for rural financial system to enlarge their role functions and range of services
offered so as to emerge as "one stop destination for all types of credit
requirements of people in rural/semi-urban centers.
4. Barring commercial banks, the other rural financial institutions have a weak
structural base and the issue of their strengthening requires to be taken up on
priority. Co-operatives will have to be made viable by infusion of capital. Bringing
all cooperative institutions under the regulatory control of RBI would help in better
control and supervision over the functioning of these institutions. Similarly
Regional Rural banks (RRBs) as a group need to be made structurally stronger.
It would be desirable if NABARD takes the initiative to consolidate all the RRBs
into a strong rural development entity.
5. Small Scale Industries have, over the last five decades, emerged as a major
contributor to the economy, both in terms of employment generation and share in
manufactured output and exports. SSIs account for 95% of the industrial units
and contribute about 40% of the value addition in the manufacturing sector.
There are more than 32 lac units spread all over the country producing over 7500
items and providing employment to more than 178 lac persons. The employment
generation potential and favourable capital-output ratio would make small scale
sector remain important for policy planners.
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6. Removalof quantitative restrictions on a large number of items under the WTO
and opening up of Indian market to greater international competition, have
thrown both challenges and opportunities for the SSI sector. Low capital base
and weak management structure make these units vulnerable to external shocks,
more easily. However the units which can adopt to the changing environment
and show imagination in their business strategy will thrive in the new
environment.
7.Instead of following the narrow definition of SSI, based on the investment in
fixed assets, there is a move to look at Small and Medium Enterprises (SME) as
a group for policy thrust and encouragement. For SMEs, banks should explore
the option of E-banking channels to develop web-based relationship banking
models, which are customer-driven and more cost-effective. Government is
already considering a legislation for the development of SME sector to facilitate
its orderly growth.
8. In the next ten years, SME sector will emerge more competitive and efficient
and knowledge-based industries are likely to acquire greater prominence. SMEs
will be dominating in industry segments such as Pharmaceuticals, Information
Technology and Biotechnology. With SME sector emerging as a vibrant sector of
the Indian economy, flow of credit to this sector would go up significantly. Banks
will have to sharpen their skills for meeting the financial needs of this segment.
Some of the Banks may emerge as niche players in handling SME finance. Flow
of credit to this Sector will be guided purely by commercial considerations as
Banks will find SMEs as an attractive business proposition.
8.15. HUMAN RESOURCES MANAGEMENT
1. The key to the success of any organization lies in how efficiently the
organization manages its’ human resources. The principle applies equally and
perhaps more aptly to service institutions like banks. The issue is all the more
relevant to the public sector banks who are striving hard to keep pace with the
technological changes and meet the challenges of globalization.
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2. In order to meet the global standards and to remain competitive, banks will
have to recruit specialists in various fields such as Treasury Management, Credit,
Risk Management, IT related services, HRM, etc. in keeping with the
segmentation and product innovation. As a complementary measure, fast track
merit and performance based promotion from within would have to be
institutionalized to inject dynamism and youthfulness in the workforce.
3. To institutionalize talent management, the first priority for the banking industry
would be to spot, recognize and nurture the talent from within. Secondly, the
industry has to attract the best talent from the market to maintain the required
competitive edge vis-a-vis global players. However, the issue of critical
importance is how talent is integrated and sustained in the banks. Therefore, a
proper system of talent management has to be put in place by all the banks.
4. As the entire Indian banking industry is witnessing a paradigm shift in systems,
processes, strategies, it would warrant creation of new competencies and
capabilities on an on-going basis for which an environment of continuous
learning would have to be created so as to enhance knowledge and skills.
5. Another important ingredient of HR management is reward and compensation
which at present do not have any linkage to skills and performance. A system of
reward and compensation that attracts, recognizes and retains the talent, and
which is commensurate with performance is an urgent need of the industry.
6. An equally important issue relevant to HRM is to create a conducive working
environment in which the bankers can take commercial decisions judiciously and,
at the same time, without fear. This calls for a re-look into the vigilance system
as it exists today, and perhaps there is a need to keep the banking industry out of
the CVC. The Banks’ Boards may be allowed to have their own system of
appropriate checks and balances as well as accountability.
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8.16. MAJOR ACTION POINTS FOR VISION AHEAD
1. Banks will have to adopt global standards in capital adequacy, income
recognition and provisioning norms.
2. Risk management setup in Banks will need to be strengthened.
Benchmark standards could be evolved.
3. Payment and settlement system will have to be strengthened to ensure
transfer of funds on real time basis eliminating risks associated with
transactions and settlement process.
4. Regulatory set-up will have to be strengthened, in line with the
requirements of a market-led integrated financial system
5. Banks will have to adopt best global practices, systems and
procedures. 6. Banks may have to evaluate on an ongoing basis, internally, the need
to effect structural changes in the organization. This will include capital
restructuring through mergers / acquisitions and other measures in the
best business interests. IBA and NABARD may have to play a suitable
role in this regard. 7. There should be constant and continual up gradation of technology in
the Banks, benefiting both the customer and the bank. Banks may
enter into partnership among themselves for reaping maximum
benefits, through consultations and coordination with reputed IT
companies.
8. The skills of bank staff should be upgraded continuously through
training. In this regard, the banks may have to relook at the existing
training modules and effect necessary changes, wherever required.
Seminars and conferences on all relevant and emerging issues should
be encouraged. 9. Banks will have to set up Research and Market Intelligence units within
the organization, so as to remain innovative, to ensure customer
satisfaction and to keep abreast of market developments. Banks will
have to interact constantly with the industry bodies, trade associations,
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farming community, academic / research institutions and initiate
studies, pilot projects, etc. for evolving better financial models. 10. Industry level initiatives will have to be taken, may be at IBA level, to
speed up reform measures in legal and regulatory environment.
8.17. GROWTH CHALLENGES FOR THE FINANCIAL SECTOR
Higher sustained growth is contributing to the movement of large numbers of
households into ever higher income categories, and hence higher
consumption categories, along with enhanced demand for financial savings
opportunities. In rural areas in particular, there also appears to be
increasing diversification of productive opportunities. Thus, the banking system has to extend itself and innovate to respond to these new demands for both consumption and production purposes. This is
particularly important since banking penetration is still low in India: there are
only about 10-12 ATMs in India per million population, as compared with
over 50 in China, 170 in Thailand, and 500 in Korea. Moreover, the deposit
to GDP ratio or the loans/GDP ratio is also low compared to other Asian
countries).
On the production side, industrial expansion has accelerated; merchandise trade
growth is high; and there are vast demands for infrastructure investment,
from the public sector, private sector and through public private partnerships.
Furthermore, it is the service sector that has exhibited consistently high
growth rates: the hospitality industry, shopping malls, entertainment industry,
medical facilities, and the like, are all expanding fast. Thus a
great degree of diversification is taking place in the economy and the
banking system has to respond adequately to these new challenges,
opportunities and risks.
In dealing with these new consumer demands and production demands
of rural enterprises and of SME's in urban areas, banks have to innovate
and look for new delivery mechanisms that economize on transaction costs
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and provide better access to the currently under- served. Innovative channels
for credit delivery for serving these new rural credit needs, encompassing
full supply chain financing, covering storage, warehousing, processing, and
transportation from farm to market will have to be found. The budding
expansion of non- agriculture service enterprises in rural areas will have to be
financed to generate new income and employment opportunities. Greater efforts
will need to be made on information technology for record keeping, service
delivery, reduction in transactions costs, risk assessment and risk
management. Banks will have to invest in new skills through new
recruitment and through intensive training of existing personnel.
It is the public sector banks that have the large and widespread reach, and
hence have the potential for contributing effectively to achieve financial
inclusion. But it is also they who face the most difficult challenges in human
resource development. They will have to invest very heavily in skill
enhancement at all levels: at the top level for new strategic goal setting; at the
middle level for implementing these goals; and at the cutting edge lower levels
for delivering the new service modes. Given the current age composition of
employees in these banks, they will also face new recruitment challenges in the
face of adverse compensation structures in comparison with the freer private
sector. Meanwhile, the new private sector banks will themselves have to
innovate and accelerate their reach into the emerging low income and rural
market segments. They have the independence and flexibility to find the
new business models necessary for serving these segments.
A number of policy initiatives are underway, to aid this overall process of
financial inclusion and increase in banking penetration. The Parliament has
passed the Credit Information Bureau Act that will enable the setting up of
credit information bureaus through the mandatory sharing of information by
banks. The Reserve Bank is in the process of issuing guidelines, for the
formation of these bureaus. As this process gathers force, it should contribute
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greatly in reducing the costs of credit quality assessment. Second,
considerable work is in process for promoting micro- finance in the country,
including the consideration of possible legislation for regulation of micro- finance
institutions. Third, the Reserve Bank has issued guidelines to banks
enabling the outsourcing of certain functions including the use of agencies
such as post offices for achieving better outreach. These are all efforts in the
right direction, but much more needs to be done to really achieve financial
inclusion in India.
The challenges that are emerging, are right across the size spectrum of
business activities. On the one hand, the largest firms are attaining economic
sizes such that they are reaching the prudential exposure limits of banks,
even though they are still small relative to the large global MNCs. On the
other hand, with changes in technology, there is new activity at the small and
medium level in all spheres of activity. To cope with the former, the largest
Indian banks have to be encouraged to expand fast, both through organic
growth and through consolidation; and the corporate debt market has to be
developed to enable further direct recourse to financial markets for the largest
firms. For serving and contributing to the growth of firms at the lower end,
banks have to strengthen their risk assessment systems, along with better risk
management. Funding new entrepreneurs and activities is a
fundamentally risky business because of the lack of a previous record and
inadequate availability of collateral, but it is the job of banks to take such risk,
but in a measured fashion. Given the history of public sector banks outlined
earlier, such a change in approach requires a change in mind set, but also
focused training in risk assessment, risk management, and marketing.
Various policy measures are in process to help this transition along. The
Reserve Bank issued new guidelines in 2004 on "Ownership and Governance in
Private Sector Banks". These guidelines have increased the minimum
capital for private sector banks to Rs.3 billion; provided enhanced guidance on
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the fit and proper nature of owners, board members and top management of
these banks; and placed limitations on the extent of dominant shareholdings.
These measures are designed to promote the healthy growth of private sector
banks and along with better corporate governance, as they assume greater
weight in the economy. An issue of relevance here is that of financial stability.
To a certain extent, the predominance of government owned banks has
contributed to financial stability in the country. Experience has shown that even
the deterioration in bank financials does not lead to erosion of consumer
confidence in such banks. This kind of consumer confidence does not extend to
private sector banks. Hence, as they gain in size and share, capital
enhancement and sound corporate governance become essential for
financial stability. Second, the lending ability of banks has been potentially
constrained by the existing provisions for statutory pre-emption of funds for
investment in government securities. A bill has been introduced in
Parliament to amend the existing Banking Regulation Act to eliminate the
minimum 25 per cent limit of investment in government securities. As the fiscal
situation improves consistent with the FRBM Act, it will, then be possible to
reduce the statutory pre-emption, enabling greater fund flow to the private sector
for growth. Third, the bill also provides for raising of capital through BASEL II
consistent innovative instruments, enabling the capital expansion of banks
needed for their growth.
8.17. CONCLUSION
The Indian banking system has witnessed a significant transformation in recent
years. The Narasimham Committee Report provided the blue print for banking
reforms in India. The reform process did open the window of opportunities for
Indian banks; however, there are a host of challenges emanating from it. To a
large extent the banking industry in India has been able to meet the role
envisaged for it by these reforms. Indian banking is fundamentally different from
banking else where and is marked by features like imperatives of social banking,
low degree of technological sophistication, a highly unionized workforce and a
cumbersome legal system. The inference is clear that banks, if not all, at least
public sector banks must develop its own body of concepts and principles
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revolving around distinctive characteristics of services marketing and tempered
with the imperatives of the Indian situation.
In the end, it can be rightly said that productivity and efficiency will be the
watchwords in the banking industry in the years ahead. Organizational
effectiveness and operational efficiency will govern the survival and growth of
profits. The future of Indian banking is both challenging and exciting. Even
though the challenges are great the Indian banking system is optimistic in facing
the challenges head-on by adopting proactive changes.
The final conclusions of entire research undertaken has been presented in
forthcoming chapter number 9. The last chapter includes the major findings of
analysis and conclusions drawns on the basis of analysis of data. This chapter
also contents the major recommendations for the improvement of Indian public
