INTRODUCTION A bank is an institution that deals in money and its substitutes and provides other financial services. Banks accept deposits and make loans or make an investment to derive a profit from the difference in the interest rates paid and charged, respectively. In India the banks are being segregated in different groups. Each group has their own benefits and limitations in operating in India. Each has their own dedicated target market. Few of them only work in rural sector while others in both rural as well as urban. Many even are only catering in cities. Some are of Indian origin and some are foreign players. India’s economy has been one of the stars of global economics in recent years. It has grown by more than 9% for three years running. The economy of India is as diverse as it is large, with a number of major sectors including manufacturing industries, agriculture, textiles and 1
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INTRODUCTION
A bank is an institution that deals in money and its substitutes and
provides other financial services. Banks accept deposits and make loans
or make an investment to derive a profit from the difference in the
interest rates paid and charged, respectively.
In India the banks are being segregated in different groups. Each
group has their own benefits and limitations in operating in India. Each
has their own dedicated target market. Few of them only work in rural
sector while others in both rural as well as urban. Many even are only
catering in cities. Some are of Indian origin and some are foreign players.
India’s economy has been one of the stars of global economics in
recent years. It has grown by more than 9% for three years running. The
economy of India is as diverse as it is large, with a number of major
sectors including manufacturing industries, agriculture, textiles and
handicrafts, and services. Agriculture is a major component of the Indian
economy, as over 66% of the Indian population earns its livelihood from
this area. Banking sector is considered as a booming sector in Indian
economy recently. Banking is a vital system for developing economy for
the nation.
However, Indian banking system and economy has been facing
various challenges and problems which have discussed in other parts of
project.
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INDIAN BANKING SYSTEM
Without a sound and effective banking system in India it cannot
have a healthy economy. The banking system of India should not only be
hassle free but it should be able to meet new challenges posed by the
technology and any other external and internal factors. For the past three
decades India's banking system has several outstanding achievements to
its credit. The most striking is its extensive reach. It is no longer confined
to only metropolitans or cosmopolitans in India. In fact, Indian banking
system has reached even to the remote corners of the country. This is one
of the main reasons of India's growth process. The government's regular
policy for Indian bank since 1969 has paid rich dividends with the
nationalization of 14 major private banks of India.
Not long ago, an account holder had to wait for hours at the bank
counters for getting a draft or for withdrawing his own money. Today, he
has a choice. Gone are days when the most efficient bank transferred
money from one branch to other in two days. Now it is simple as instant
messaging or dial a pizza. Money has become the order of the day.
The first bank in India, though conservative, was established in
1786. From 1786 till today, the journey of Indian Banking System can be
segregated into three distinct phases. They are as mentioned below:
Early phase from 1786 to 1969 of Indian Banks
Nationalization of Indian Banks and up to 1991 prior to Indian
banking sector Reforms.
New phase of Indian Banking System with the advent of Indian
Financial & Banking Sector Reforms after 1991.
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After 1991, under the chairmanship of M Narasimham, a
committee was set up by his name which worked for the liberalization of
banking practices. The country is flooded with foreign banks and their
ATM stations. Efforts are being put to give a satisfactory service to
customers. Phone banking and net banking is introduced. The entire
system became more convenient and swift. Time is given more
importance than money. This resulted that Indian banking is growing at
an astonishing rate, with Assets expected to reach US$1 trillion by 2010.
“The banking industry should focus on having a small number of
large players that can compete globally and can achieve expected goals
rather than having a large number of fragmented players."
KINDS OF BANKS
Financial requirements in a modern economy are of a diverse
nature, distinctive variety and large magnitude. Hence, different types of
banks have been instituted to cater to the varying needs of the
community. Banks in the organized sector may, however, be classified in
to the following major forms:
o Commercial banks
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o Co-operative banks
o Specialized banks
o Central bank
COMMERCIAL BANKS
Commercial banks are joint stock companies dealing in money and
credit. In India, however there is a mixed banking system, prior to July
1969, all the commercial banks-73 scheduled and 26 non-scheduled
banks, except the state bank of India and its subsidiaries-were under the
control of private sector. On July 19, 1969, however, 14 major
commercial banks with deposits of over 50 Corers were nationalized. In
April 1980, another six commercial banks of high standing were taken
over by the government.
At present, there are 20 nationalized banks plus the state bank of
India and its 7 subsidiaries constituting public sector banking which
controls over 90 per cent of the banking business in the country.
CO-OPERATIVE BANKS
Co-operative banks are a group of financial institutions organized
under the provisions of the Co-operative societies Act of the states. The
main objective of co-operative banks is to provide cheap credits to their
members. They are based on the principle of self-reliance and mutual co-
operation. Co-operative banking system in India has the shape of a
pyramid a three tier structure, constituted by:
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SPECIALIZED BANKS
There are specialized forms of banks catering to some special
needs with this unique nature of activities. There are thus,
o Foreign exchange banks,
o Industrial banks,
o Development banks,
o Land development banks,
o Exim bank.
CENTRAL BANK
A central bank is the apex financial institution in the banking and
financial system of a country. It is regarded as the highest monetary
authority in the country. It acts as the leader of the money market. It
supervises, control and regulates the activities of the commercial banks. It
is a service oriented financial institution.
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India’s central bank is the Reserve Bank of India established in
1935. A central bank is usually state owned but it may also be a private
organization. For instance, the Reserve Bank of India (RBI), was started
as a shareholders’ organization in 1935, however, it was nationalized
after independence, in 1949. It is free from parliamentary control.
CHALLENGES FACED BY INDIAN BANKING INDUSTRY
The banking industry in India is undergoing a major transformation
due to changes in economic conditions and continuous deregulation.
These multiple changes happening one after other has a ripple effect on a
bank trying to graduate from completely regulated sellers market to
completed deregulated customers market.
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o DEREGULATION
This continuous deregulation has made the Banking market
extremely competitive with greater autonomy, operational flexibility, and
decontrolled interest rate and liberalized norms for foreign exchange. The
deregulation of the industry coupled with decontrol in interest rates has
led to entry of a number of players in the banking industry. At the same
time reduced corporate credit off take thanks to sluggish economy has
resulted in large number of competitors battling for the same pie.
o NEW RULES
As a result, the market place has been redefined with new rules of
the game. Banks are transforming to universal banking, adding new
channels with lucrative pricing and freebees to offer. Natural fall out of
this has led to a series of innovative product offerings catering to various
customer segments, specifically retail credit.
o EFFICIENCY
This in turn has made it necessary to look for efficiencies in the
business. Banks need to access low cost funds and simultaneously
improve the efficiency. The banks are facing pricing pressure, squeeze on
spread and have to give thrust on retail assets.
o DIFFUSED CUSTOMER LOYALTY
This will definitely impact Customer preferences, as they are
bound to react to the value added offerings. Customers have become
demanding and the loyalties are diffused. There are multiple choices; the
wallet share is reduced per bank with demand on flexibility and
customization. Given the relatively low switching costs; customer
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retention calls for customized service and hassle free, flawless service
delivery.
o MISALLIGNED MINDSET
These changes are creating challenges, as employees are made to
adapt to changing conditions. There is resistance to change from
employees and the Seller market mindset is yet to be changed coupled
with Fear of uncertainty and Control orientation. Acceptance of
technology is slowly creeping in but the utilization is not maximized.
o COMPETENCE GAP
Placing the right skill at the right place will determine success. The
competency gap needs to be addressed simultaneously otherwise there
will be missed opportunities. The focus of people will be on doing work
but not providing solutions, on escalating problems rather than solving
them and on disposing customers instead of using the opportunity to cross
sell.
STRATEGIES OPTIONS WITH BANKS TO COPE WITH THOSE CHALLENGES
Leading players in the industry have embarked on a series of
strategic and tactical initiatives to sustain leadership. The major
initiatives include:
o Investing in state of the art technology as the back bone of to
ensure reliable service delivery
o Leveraging the branch network and sales structure to
mobilize low cost current and savings deposits
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o Making aggressive forays in the retail advances segment of
home and personal loans
o Implementing organization wide initiatives involving people,
process and technology to reduce the fixed costs and the cost
per transaction
o Focusing on fee based income to compensate for squeezed
spread, (e.g. CMS, trade services)
o Innovating Products to capture customer ‘mind share’ to
begin with and later the wallet share
o Improving the asset quality as per Basel II norms
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INDIAN ECONOMY
The Indian Economy is consistently posting robust growth
numbers in all sectors leading to impressive growth in Indian GDP. The
Indian economy has been stable and reliable in recent times, while in the
last few years it’s experienced a positive upward growth trend.
A consistent 8-9% growth rate has been supported by a number of
favorable economic indicators including a huge inflow of foreign funds,
growing reserves in the foreign exchange sector, both an IT and real
estate boom, and a flourishing capital market. All of these positive
changes have resulted in establishing the Indian economy as one of the
largest and fastest growing in the world.
The process of globalization has been an integral part of the recent
economic progress made by India. Globalization has played a major role
in export-led growth, leading to the enlargement of the job market in
India.
As a new Indian middle class has developed around the wealth that
the IT and BPO industries have brought to the country, a new consumer
base has developed. International companies are also expanding their
operations in India to service this massive growth opportunity. The same
thing has followed by international banks that are entering in Indian
market and pulling their huge investments in Indian economy. This is
helping to accelerate the growth of Indian economy.
Economy can be studied from two points of views…
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MICRO ECONOMIC POINT OF VIEW
The branch of economics that analyzes the market behavior of
individual consumers and firms in an attempt to understand the decision-
making process of firms and households. It is concerned with the
interaction between individual buyers and sellers and the factors that
influence the choices made by buyers and sellers. In particular,
microeconomics focuses on patterns of supply and demand and the
determination of price and output in individual markets. Microeconomics
looks at the smaller picture and focuses more on basic theories of supply
and demand and how individual businesses decide how much of
something to produce and how much to charge for it.
MACRO ECONOMIC POINT OF VIEW
It is a field of economics that studies the behavior of the aggregate
economy. Macroeconomics examines economy-wide phenomena such as
changes in unemployment, national income, rate of growth, gross
domestic product, inflation and price levels. Macroeconomics looks at the
big picture (hence "macro"). It focuses on the national economy as a
whole and provides a basic knowledge of how things work in the business
world. For example, people who study this branch of economics would be
able to interpret the latest Gross Domestic Product figures or explain why
a 6% rate of unemployment is not necessarily a bad thing.
Thus, for an overall perspective of how the entire economy works,
you need to have an understanding of economics at both the micro and
macro levels.
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ECONOMIC SYSTEMS
An economic system is loosely defined as country’s plan for its
services, goods produced, and the exact way in which its economic plan
is carried out. In general, there are three major types of economic systems
prevailing around the world they are...
o Market Economy
o Planned Economy
o Mixed Economy
MARKET ECONOMY
In a market economy, national and state governments play a minor
role. Instead, consumers and their buying decisions drive the economy. In
this type of economic system, the assumptions of the market play a major
role in deciding the right path for a country’s economic development.
Market economies aim to reduce or eliminate entirely subsidies for a
particular industry, the pre-determination of prices for different
commodities, and the amount of regulation controlling different industrial
sectors. The absence of central planning is one of the major features of
this economic system. Market decisions are mainly dominated by supply
and demand. The role of the government in a market economy is to
simply make sure that the market is stable enough to carry out its
economic activities properly.
PLANNED ECONOMY
A planned economy is also sometimes called a command economy.
The most important aspect of this type of economy is that all major
decisions related to the production, distribution, commodity and service
prices, are all made by the government. The planned economy is
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government directed, and market forces have very little say in such an
economy. This type of economy lacks the kind of flexibility that is
present a market economy, and because of this, the planned economy
reacts slower to changes in consumer needs and fluctuating patterns of
supply and demand. On the other hand, a planned economy aims at using
all available resources for developing production instead of allotting the
resources for advertising or marketing.
MIXED ECONOMY
A mixed economy combines elements of both the planned and the
market economies in one cohesive system. This means that certain
features from both market and planned economic systems are taken to
form this type of economy. This system prevails in many countries where
neither the government nor the business entities control the economic
activities of that country – both sectors play an important role in the
economic decision-making of the country. In a mixed economy there is
flexibility in some areas and government control in others. Mixed
economies include both capitalist and socialist economic policies and
often arise in societies that seek to balance a wide range of political and
economic views.
IMPORTANT BANKING AND ECONOMIC INDICATORS
CASH RESERVE RATIO
Cash reserve Ratio (CRR) is the amount of funds that the banks
have to keep with RBI. If RBI decides to increase the percent of this, the
available amount with the banks comes down. RBI is using this method
(increase of CRR rate), to drain out the excessive money from the banks.
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The amount of which shall not be less than three per cent of the total of
the Net Demand and Time Liabilities (NDTL) in India, on a fortnightly
basis and RBI is empowered to increase the said rate of CRR to such
higher rate not exceeding twenty percent of the Net Demand and Time
Liabilities (NDTL) under the RBI Act, 1934.
STATUTORY LIQUIDITY RATIO
In terms of Section 24 (2-A) of the B.R. Act, 1949 all Scheduled
Commercial Banks, in addition to the average daily balance which they
are required to maintain in the form of….
o In cash,
Or
o In gold valued at a price not exceeding the current market
price,
Or
o In unencumbered approved securities valued at a price as
specified by the RBI from time to time.
REPO RATE
Repo rate, also known as the official bank rate, is the discounted
rate at which a central bank repurchases government securities. The
central bank makes this transaction with commercial banks to reduce
some of the short-term liquidity in the system. The repo rate is dependent
on the level of money supply that the bank chooses to fix in the monetary
scheme of things. Repo rate is short for repurchase rate. The entity
borrowing the security is often referred to as the buyer, while the lender
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of the securities is referred to as the seller. The central bank has the
power to lower the repo rates while expanding the money supply in the
country. This enables the banks to exchange their government security
holdings for cash. In contrast, when the central bank decides to reduce the
money supply, it implements a rise in the repo rates. At times, the central
bank of the nation makes a decision regarding the money supply level and
the repo rate is determined by the market.
The securities that are being evaluated and sold are transacted at
the current market price plus any interest that has accrued. When the sale
is concluded, the securities are subsequently resold at a predetermined
price. This price is comprised of the original market price and interest,
and the pre-agreed interest rate, which is the repo rate.
BANK RATE
Bank rate is referred to the rate of interest charged by premier
banks on the loans and advances. Bank rate varies based on some defined
conditions as laid down the governing authority of the banks. Bank rates
are levied to control the money supply to and from the bank. From the
consumer's point of view, bank rate ordinarily denotes to the current rate
of interest acquired from savings certificate of Deposit. It is most
frequently used by the consumers who are concerned in mortgage
Some commonest types of bank interest rates are as follows:
o Bank rate on CD, i.e., on certificate of deposit
o Bank rate on the credit of a credit card or other kind of loan
o Bank rate on real estate loan
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INTERBANK RATE
The rate of interest charged on short-term loans made between
banks. Banks borrow and lend money in the interbank market in order to
manage liquidity and meet the requirements placed on them. The interest
rate charged depends on the availability of money in the market, on
prevailing rates and on the specific terms of the contract, such as
term length.
Banks are required to hold an adequate amount of liquid assets,
such as cash, to manage any potential withdrawals from clients. If a bank
can't meet these liquidity requirements, it will need to borrow money in
the interbank market to cover the shortfall. Some banks, on the other
hand, have excess liquid assets above and beyond the liquidity
requirements. These banks will lend money in the interbank market,
receiving interest on the assets. There is a wide range of published
interbank rates, including the LIBOR & MIBOR, which is set daily based
on the average rates on loans made within the London interbank market
& Mumbai Interbank Market.
GROSS DOMESTIC PRODUCT
The monetary value of all the finished goods and services produced
within a country's borders in a specific time period, though GDP is
usually calculated on an annual basis. It includes all of private and
public consumption, government outlays, investments and exports less
imports that occur within a defined territory.
GDP = C + G + I + NX
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Where:
"C" is equal to all private consumption, or consumer spending, in a
nation's economy.
"G" is the sum of government spending.
"I" is the sum of all the country's businesses spending on capital.
"NX" is the nation's total net exports, calculated as total exports minus
total imports. (NX = Exports - Imports)
GDP is commonly used as an indicator of the economic health of a
country, as well as to gauge a country's standard of living.
INFLATION
Inflation can be defined as a rise in the general price level and
therefore a fall in the value of money. Inflation occurs when the amount
of buying power is higher than the output of goods and services. Inflation
also occurs when the amount of money exceeds the amount of goods and
services available. As to whether the fall in the value of money will affect
the functions of money depends on the degree of the fall. Basically, refers
to an increase in the supply of currency or credit relative to the
availability of goods and services, resulting in higher prices. Therefore,
inflation can be measured in terms of percentages. The percentage
increase in the price index, as a rate per cent per unit of time, which is
usually in years. The two basic price indexes are used when measuring
inflation, the producer price index (PPI) and the consumer price index
(CPI) which is also known as the cost of living index number.
DEFLATION
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It is a condition of falling prices accompanied by a decreasing level
of employment, output and income. Deflation is just the opposite of
inflation. Deflation occurs when the total expenditure of the community
is not equal to the existing prices. Consequently, the supply of money
decreases and as a result prices fall. Deflation can also be brought about
by direct contractions in spending, either in the form of a reduction in
government spending, personal spending or investment spending.
Deflation has often had the side effect of increasing unemployment in an
economy, since the process often leads to a lower level of demand in the
economy.
DISINFLATION
When prices are falling due to anti-inflationary measures adopted
by the authorities, with no corresponding decline in the existing level of
employment, output and income, the result of this is disinflation. When
acute inflation burdens an economy, disinflation is implemented as a
cure. Disinflation is said to take place when deliberate attempts are made
to curtail expenditure of all sorts to lower prices and money incomes for
the benefit of the community.
REFLATION
Reflation is a situation of rising prices, which is deliberately
undertaken to relieve a depression. Reflation is a means of motivating the
economy to produce. This is achieved by increasing the supply of money
or in some instances reducing taxes, which is the opposite of disinflation.
Governments can use economic policies such as reducing taxes, changing
the supply of money or adjusting the interest rates; which in turn
motivates the country to increase their output. The situation is described
as semi-inflation or reflation.
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STAGFLATION
Stagflation is a stagnant economy that is combined with inflation.
Basically, when prices are increasing the economy is deceasing. Some
economists believe that there are two main reasons for stagflation. Firstly,
stagflation can occur when an economy is slowed by an unfavourable
supply, such as an increase in the price of oil in an oil importing country,
which tends to raise prices at the same time that it slows the economy by
making production less profitable. In the 1970's inflation and recession
occurred in different economies at the same time. Basically, what
happened was that there was plenty of liquidity in the system and people
were spending money as quickly as they got it because prices were going
up quickly. This gave rise to the second reason for stagflation.