Project

[Banks as a financial catalyst
2013]
Mahatma Gandhi Missions

Institute of Management Studies & Research At Junction NH 4, Sion Panvel Expressway, Kamothe, Navi Mumbai 410 209
PROJECT REPORT ON
BANK AS A FINANCIAL INTERMEDIARY
SUBMITTED TO MGMS INSTITUTE OF MANAGEMENT STUDIES & RESEARCH, NAVI MUMBAI BY
Sukhwinder singh Roll No. 136 Batch No: 2011-2013 IN PARTIAL FULFILLMENT OF MASTER OF MANAGEMENT STUDIES (MMS), UNIVERSITY OF MUMBAI March 2013
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DECLARATION
I, Mr./Ms. __________________ hereby declare that this project report is the record of authentic work carried out by me during the period from --------to----------and has not been submitted to any other University or Institute for the award of any degree / diploma etc.
Signature Name of the student
Date
2013]
CERTIFICATE
This is to certify that Mr. / Ms. ---------------------------------- of MGMs Institute of Management Studies & Research has successfully completed the project work titled ---------------------- in partial fulfillment of requirement for the completion MMS as prescribed by the University of Mumbai. This project report is the record of authentic work carried out by him / her during the period from ----------- to ------------- . He / She have worked under my guidance.
Signature Name Project Guide (Internal) Date: `
Counter signed by
Signature Name Director Date:
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ACKNOWLEDGEMENT
I owe my sincere gratitude to MAHATMA GANDHIS MISSION institute of management studies for providing us this opportunity of getting in-depth knowledge of Banking sector. I would also like to express my indebtedness towards Monika khanna ; who at first instance motivated me to undertake this project. I will be failing in my duty if I do not express my gratefulness towards Prof. Sreeja my project guide for providing me valuable suggestions during the project. My sincere thanks are due to the librarian and computer lab operator of institute in providing the various information sources and assistance.
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EXECUTIVE SUMMARY The research is being conducted on banking sector in india as well on a global level. This report contains in-depth study about Banking sector in India, is made with an intention to get through all the aspects related to the topic and to become able to make some suggestion at the industry. Future of any economy its success depends on the flow of money from household sector to industrial sector. In India, where human, particularly technical and entrepreneurial are abundant and there is shortfall of capital, financial intermediaries play a major role serving as a bridge between the two.
An economic community can prosper only when it is able to employ its resources optimall. But this does not happen automatically, as all people are not endowed with resources that could be deployed productively. Therefore resources are required to be moved from those who have it and made available to those who have it and made available to those who can make use of it. If this fun ction is not achieved the economy may stagnate. This aspect bring out the need for financial intermediation.
Financial intermediation consists of channeling funds between surplus and deficit agents. A financial intermediary is a financial institution that connects surplus and deficit agents. The classic example of a financial intermediary is a bank that consolidates bank deposits and uses the funds to transform them into bank loans. By 2010, banking in India was generally fairly mature in terms of supply, product range and reacheven though reach in rural India still remains a challenge for the private sector and foreign banks. In terms of quality of assets and capital adequacy, Indian banks are considered to have clean, strong and transparent balance sheets relative to other banks in comparable economies in its region. The Reserve Bank of India is an autonomous body, with minimal pressure from the government. The stated policy of the Bank on the Indian Rupee is to manage volatility but without any fixed exchange rate-and this has mostly been true.
With the growth in the Indian economy expected to be strong for quite some time-especially in its services sector-the demand for banking services, especially retail banking, mortgages and investment services are expected to be strong. One may also expect M&As, takeovers, and asset sales. 5
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In March 2006, the Reserve Bank of India allowed Warburg Pincus to increase its stake in Kotak Mahindra Bank (a private sector bank) to 10%. This is the first time an investor has been allowed to hold more than 5% in a private sector bank since the RBI announced norms in 2005 that any stake exceeding 5% in the private sector banks would need to be vetted by them. In recent years critics have charged that the non-government owned banks are too aggressive in their loan recovery efforts in connection with housing, vehicle and personal loans. There are press reports that the banks' loan recovery efforts have driven defaulting borrowers to suicide
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TABLE OF C O N T E N T S Sr. No Particulars Introduction to the project Page No. 1
1.1
Research objectives
1.2 1.3 1.4 1.4 2. 2.1 2.2 2.3 2.4 3 3.1 3.2 3.3 3.4 3.5 3.4 4 4.1
Statement of problem Limitation to the project Scope Research design and Instruments Conceptual Framework Introduction to Financial Intermediation Scope Features Functions Banks as a catalyst in Economy Introduction to Economy Economic Models Banking sector Role of Banking in household sector Role of Banking in Business sector Role of banking in Global environment Banks as a Credit Generator
4 5 6 6 7 8 9 9 9 11 11 11 12 13 16 17
[Banks as a financial catalyst 4.2 Banks as a initiator as well as executor of business 4.3 Comparison between two Largest banks
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Chapter 1 Introduction to the Project
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Introduction to Project
1.1 Research objectives: To understand concept of Banking. To understand Banking industry in global scenario To study the evolution and need of Banking industry in economy To understand the Banks as a financial intermediary To find out opportunity and threat Banking industry To know the impact of political and economical factors influencing Banking sector as a financial intermediary.
1.2 Limitation of projects: A study of this type cannot be without limitations. This study is based on the secondary data collected from the internet and best efforts have been made to verify their correctness. It has been observed that banking industry is the fastest growing industry, However they have certain limitation in terms acquiring data for the same. There has been a major hurdle in data collection. Due to scarcity of time important factors has been analysed and discussed. The approach to behaviour of banking industry is based on long time view
1.3 Research design and Instruments DATA COLLECTION Secondary data:
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All secondary data has been collected from the internet, business magazines banking manual. The required informationare also collected form respective bulletins of RBI, website of government of India, Global research study is also adhered. In India there are not many comprehensive books on the subject of banking. Even the number of research papers available is very limited. The research design used is descriptive in nature. (The attempt has been made to collect maximum facts and figures available on Banking industry in India, nature of assistance granted, future projected demand for Banking, analysis of the problems faced by the Banking sector and social and environmental impact on existing framework.) The research is based on secondary data collected from published material. The data was also collected from the publications and press releases of various banks. Scanning the business papers filled the gaps in information. The economic times financial express and business standards were scanned for any article or news items related to Banking sector. Sufficient amount if data about the industry has been derived from these reports. Analysis Overlook: Fundamental analysis and technical analysis are taken into consideration.
1.4 Scope: The scope of the research includes every area of banking sector with special emphasis on how banks act as bridge between household and industrial sector, savers and investors, lenders and borrowers and is an initiator of business. The research mainly emphasis on how banking plays a majot role in circulation of money as well generation of credit in an economy.
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Chapter 2
CONCEPTUAL FRAMEWORK
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[Banks as a financial catalyst A. Financial Intermediation:
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A financial intermediary is a financial institution that stands between counterparties in a transaction. The most simple example for the same is in the sale of a house, a bank usually serves as a financial intermediary by providing a mortgage to the homebuyer. In some non-traditional transactions, a bank may buy a product, such as corn, and immediately re-sell it for a profit to a third party. Most transactions requiring a loan to one of the parties include financial intermediaries. Definition of 'Financial Intermediary' An entity that acts as the middleman between two parties in a financial transaction. While a commercial bank is a typical financial intermediary, this category also includes other financial institutions such as investment banks, insurance companies, broker-dealers, mutual funds and pension funds. Financial intermediaries offer a number of benefits to the average consumer including safety, liquidity and economies of scale. Financial intermediaries encompass a wide range of entities in terms of size and scale of operation, ranging from a small insurance brokerage, to giant global institutions that provide a complete range of financial services including commercial banking, investment banking and asset management. In certain areas such as investing, advances in technology threaten to eliminate the (financial) intermediary, a phenomenon known as disintermediation. For example, the advent of online brokerages has resulted in millions of active investors bypassing traditional full-service brokerages and investing directly in the markets. Disintermediation is much less of a threat in other areas of finance such as banking and insurance. Financial intermediation consists of channeling funds between surplus and deficit agents. A financial intermediary is a financial institution that connects surplus and deficit agents. The classic example of a financial intermediary is a bank that consolidates bank deposits and uses the funds to transform them into bank loans. Through the process of financial intermediation, certain assets or liabilities are transformed into different assets or liabilities. As such, financial intermediaries channel funds from people who have extra money or surplus savings (savers) to those who do not have enough money to carry out a desired activity (borrowers). In the West, a financial intermediary is typically an institution that facilitates the channeling of funds between lenders and borrowers indirectly.[citation needed] That is, savers (lenders) give funds to an intermediary institution (such as a bank), and that institution gives those funds to spenders (borrowers). This may be in the form of loans or mortgages. Alternatively, they may lend the money directly via the financial markets, which is known as financial disintermediation. 13
[Banks as a financial catalyst Functions:
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Financial intermediaries are those entities with "low-cost" money (banks, credit unions, savings & loan associations, mutual and pension funds and insurance companies) that act as providers of money (as loans or investments) to those needing funding. Financial intermediaries perform as provider of funds to those who need money. From banks, credit unions, savings & loans, mutual funds, insurance companies and pension funds, financial intermediaries provide funds for all manner of borrowers and investors. Whether it's a bank providing a personal loan, a mortgage lender or financial entities creating investment markets, financial intermediaries keep the flow of funds moving.
Financial intermediaries provide 3 major functions: A. Maturity transformation: Converting short-term liabilities to long term assets (banks deal with large number of lenders and borrowers, and reconcile their conflicting needs) B. Risk transformation: Converting risky investments into relatively risk-free ones. (lending to multiple borrowers to spread the risk) C. Convenience denomination: Matching small deposits with large loans and large deposits with small loans
Advantages of financial intermediaries Individuals and businesses often need funds for working capital, asset purchases (homes, cars, equipment, buildings and computer systems) and the financial intermediary network serves as the source of this money. Borrowing from savers (depositors in banks and credit unions), financial intermediaries provide monies at a reasonable cost to those who need them. Their network, a finely tuned money machine, eliminates most difficulties for those needing funds.
There are 2 essential advantages from using financial intermediaries: 14
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A.
Cost advantage over direct lending/borrowing
B. Market failure protection the conflicting needs of lenders and borrowers are reconciled, preventing market failure The cost advantages of using financial intermediaries include: Reconciling conflicting preferences of lenders and borrowers Risk aversion intermediaries help spread out and decrease the risks Economies of scale using financial intermediaries reduces the costs of lending and borrowing Economies of scope intermediaries concentrate on the demands of the lenders and borrowers and are able to enhance their products and services (use same inputs to produce different outputs)
Types of Financial Intermediaries Financial intermediaries include: Banks: A bank is a financial institution and a financial intermediary that accepts deposits and channels those deposits into lending activities, either directly by loaning or indirectly through capital markets. A bank is the connection between customers that have capital deficits and customers with capital surpluses. Building societies: A building society is a financial institution owned by its members as a mutual organization. Building societies offer banking and related financial services, especially mortgage lending. These institutions are found in the United Kingdom (UK) and several other countries. Credit unions:
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A credit union is a member-owned financial cooperative, democratically controlled by its members, and operated for the purpose of promoting thrift, providing credit at competitive rates, and providing other financial services to its members. Financial advisers or brokers: A financial adviser (or advisor) is a professional who renders financial services to clients A broker is an individual or party (brokerage firm) that arranges transactions between a buyer and a seller, and gets a commission when the deal is executed. A broker who also acts as a seller or as a buyer becomes a principal party to the deal. Insurance companies: Insurance is the equitable transfer of the risk of a loss, from one entity to another in exchange for payment. It is a form of risk management primarily used to hedge against the risk of a contingent, uncertain loss. An insurer, or insurance carrier, is a company selling the insurance; the insured, or policyholder, is the person or entity buying the insurance policy. The amount to be charged for a certain amount of insurance coverage is called the premium. Risk management, the practice of appraising and controlling risk, has evolved as a discrete field of study and practice. Collective investment schemes: A collective investment scheme is a way of investing money alongside other investors in order to benefit from the inherent advantages of working as part of a group. Terminology varies with country but collective investment vehicles are often referred to as mutual funds, investment funds, managed funds, or simply funds. Pension funds: A pension fund is any plan, fund, or scheme which provides retirement income.
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[Banks as a financial catalyst Types of financial intermediaries in India
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The structure of intermediaries comprises of both the organised and unorganised sectors. The dominance in terms of financial floes handled by these sectors differs from the country to country. The following figure shows the various types of financial intermediaries.
Financial Intermediaries
Unorganised sector
Organised sector
Money Lenders
Other Institutions
Non Banking Institutions
Banking Institutions
District Central
Indigenous bankers MFIs
Co-operative Banks
Commercial banks
Chit funds
Insurances Companies
DFIs
Co-op banks
Nidhis
Micro finance
All India DFIs
Regional Rural Banks
Self help group
NGOs
State Level DFIs
Corporates
Other DFIs
As evident from the preceding figure, the players in unorganised sector in India are: Money lenders Indigenous bankers Chit funds Nidhis or mutual benefit funds Self Help groups
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In current scenario, there is no estimate of the volume of business handled by the unorganised sector. While the volume of business handled by unorganised sector in the urban areas may shall be small, their role in the rural India is very significant. This is despite the proliferation of banks in rural areas. One of the negative effects of the sway of the unorganised sector is that it reduces the efficacy of the countrys monetary policy. A lot of initiatives have been undertaken over years both by the central and the state governments to reduce the adverse impact of the unorganised sector. Some of these initiatives are: Development Financial Institutions (DFIs) The following are the various institutions covered under all india DFIs: Industrial Finance Corporation of India (IFCI) Industrial Development Bank of India (IDBI) which merged with IDBI bank in 2004 Industrial Credit and Investment Corporation of India (ICICI) which merged with ICICI bank in 2002 Industrial Investment Bank of India (IIBI). Small Industries Development Bank of India (SIDBI) State Level Financial Corporations (SFCs) These are state level bodies that mainly concentrate on industrial development in state. These are legal bodies created under State Finance Corporation Act, 1951 and are funded through issue of shares in which the state government, banks, financial institution and private investors participate Insurance companies Insurance companies concentrate on fulfilling the insurance needs of the community, both for life and non life insurance. Mutual Funds (MFs) MFs satisfy the needs of individual investors through pooling resources from a large number of investors with the similar investment goals and risk appetite. The resources collected are invested in the capital and money market securities. 18 Non Banking Financial Companies (NBFCs)
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NBFCs are commonly known as finance companies and are corporate bodies which concentrate mainly on lending activities in a well defined area. The Reserve Bank of RBI Amendment Act, 1997 defines an NBFC as a financial institution or non banking institution, which has as it principal business of receiving deposits under any scheme arranging and lending in any manner.
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Introduction to Banking
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Introduction to Banking sector: The robustness of economy depends to a great extent on the savings that are generated in it. These savings constitute the source for creation of further wealth y deploying them in tune with the economic direction adopted by the country. Investments stimulate economic activities to greater heights leading to economic prosperity of a nation. Therefore, investments of saved resources are the key factor for economic prosperity of a nation. Banks are central to the functioning of the economy. Along with its traditional services of savings, safeguarding valuables and lending funds, banks also offer facilities like bill payments, mutual funds and insurance. Bank is an institution which deals in money and credit. It accepts deposits from the public and grants loans and advances to those who are in need of funds for various purposes. Banking is an activity which involves acceptance of deposits for the purpose of lending or investing. In addition to accepting deposits and lending funds, banking also involves providing various other services alongwith its main banking activity. These are mainly agency services, but include several general services as well. A banker is one who undertakes banking activities, accepting deposits and lending money for different purposes. The Banking Regulation Act, 1949 defines banking as an activity of accepting funds from the public for the purpose of lending or investment
Defination of Banking: The section (5) of banking regulation act defined the term banking as accepting for the purpose of lending and investment, deposits of money from public, repayable on demand or otherwise and withdrawable by cheque, draft, order or otherwise. Today the scope of services provided by banks has expanded to the extent that the definition covers only primary activities of banks accepting deposits of money for the purpose of lending and investments. Scope: Banking activities are considered to be the life blood of the national economy. Without banking services, trading and business activities cannot be carried on smoothly. Banks are the distributors and protectors of liquid capital which is of vital significance to a developing country. 21
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Efficient administration of the banking system helps in the economic growth of the nation. Banking is useful to trade and commerce. Banking activities are useful to trade and industry in the following ways: a) Money deposited in a bank remains safe. Precious articles too can be kept in the safe custody of banks in lockers. b) Banks provide credit facilities to their customers. Customers with bank accounts also enjoy better credit in the business world. c) Banks encourage the habit of saving and thrift among people. They mobilise savings and invest them in productive activities. Thus, they help in increasing the rate of savings and investment in the country. d) Banks provide a convenient and safe means of transferring money from one place to another and facilitate business dealings/ transactions. e) Banks collect and realise bills, cheques, interest and dividend warrants etc. on behalf of their customers. f) Foreign trade is facilitated considerably with the help of banks
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[Banks as a financial catalyst Structure: BANKING STRUCTURE IN INDIA
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Scheduled Banks in India
Scheduled Commercial Banks
Scheduled Cooperative Banks
All India Financial Institutions
National federation of Short Structure term Private Banks Regional Rural Banks State Cooperative banks limited (NAFSCOB) NABARD SIDBI
Rural Cooperative credit institution
Urban
Co-
operative Banks
EXIM
IDBI
Long Term Structure
State Co-operative
State Cooperative Banks
Agricultural Banks
and
Rural Development
Primary Primary Agricultural Credit Socities operative Agricultural and Banks
Co-
Rural
Development
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Features: i) Accepting deposits from public; ii) Lending or investment of such deposits; iii) Incidental to the activities of accepting deposits for lending or investing, banks undertake activities like
a) Promoting and mobilizing savings of the public; b) Providing funds to trade and industry by way of discounting bills, overdraft, cash credit facility, and transfer of funds from one place to another; c) Providing agency services to customers, such as collection of bills, payment of insurance premium, purchase and sale of securities, etc., and other general services, such as issue of travellers cheques, credit cards, locker facility, etc.
d) Money deposited with the bank is assured as far as its safety is concerned. Further the depositor is allowed to withdraw it whenever required. Banks allow interest on deposits. Such interest helps in the growth of funds deposited with the bank. Thus the rate of interest provided on deposits acts as an incentive to the depositors.
Distinction between Banks and Money Lenders In order to distinguish between banks and money lenders, it is necessary to known who is a money lender. A money lender is an individual who lends money to meet the cash requirements of people. He may or may not be a professional money lender. A professional money lender is one who is exclusively engaged in money lending activity. He may occasionally accept deposits and provide agency services to his customers. A nonprofessional money lender, on the other hand, is either a merchant, or a trader, or a member of the business community, whose main activity is not money lending. Such money lenders engage in money lending as a side activity. 24
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A money lender normally meets the cash requirements of the public. He gives loans for consumption purposes such as marriages and other social functions. The rate of interest charged by him is generally very high. He may give loans against the security of jewellery, household items, property and assets as well as against personal security. Practices adopted by money lenders are known to be manipulative in nature. For instance, they do not furnish receipt of payments made, manipulate books of accounts, and realise more money than the original loan. The money lending practices of money lenders are considered to be exploitative and socially undesirable.
Sr. No 1. 2
Basis Entity Nature
Banks Banks are organised institutions. Banks are professional organisations.
Money Lenders Money lenders are generally individuals. Money lenders may or may not be professional.
3.
Activity
Banking activities include acceptance Activity of money lenders may not include of deposits for lending. acceptance of deposits.
4.
Clients
Banks meet the needs of people in Money lenders meet the cash requirement general and business community in of agriculturists and poorer people. particular.
5.
Security
Banks accept tangible and personal Money lenders generally do not give loans security against loans. against personal security. The process of recovery is rigid and strict.
6.
Process loans
of The process of recovery is flexible.
recovery of
7.
Purpose of Normally banks grants loans for Money loan productive purposes Interest charged by bank on loan is 12% to 18% p.a.
lender
gives
loans
for
non
productive purposes Rate of Interest charged by money lenders is high.
8.
Interest Rate
Functions of Banks:
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The commercial banks serve as the king pin of the financial system of the country. They render many valuable services. The important functions of the Commercial banks can be explained with the help of the following chart.
Primary Functions The primary functions of the commercial banks include the following: A. Acceptance of Deposits 1. Time Deposits: These are deposits repayable after a certain fixed period. These deposits are not withdrawn able by cheque, draft or by other means. It includes the following. (a) Fixed Deposits: The deposits can be withdrawn only after expiry of certain period say 3 years, 5 years or 10 years. The banker allows a higher rate of interest depending upon the amount and period of time. Previously the rates of interest payable on fixed deposits were determined by Reserve Bank. Presently banks are permitted to offer interest as determined by each bank. However, banks are not permitted to offer different interest rates to different customers for deposits of same maturity period, except in the case of deposits of Rs. 15 lakhs and above. These days the banks accept deposits even for 15 days or one month etc. In times of urgent need for money, the bank allows premature closure of fixed deposits by paying interest at reduced rate. Depositors can also avail of loans against Fixed Deposits. The Fixed Deposit Receipt cannot be transferred to other persons. (b) Recurring Deposits: In recurring deposit, the customer opens an account and deposit a certain sum of money every month. After a certain period, say 1 year or 3 years or 5 years, the accumulated amount along with interest is paid to the customer. It is very helpful to the middle and poor sections of the people. The interest paid on such deposits is generally on cumulative basis. This deposit system is a useful mechanism for regular savers of money.
(c) Cash Certificates: 26
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Cash certificates are issued to the public for a longer period of time. It attracts the people because its maturity value is in multiples of the sum invested. It is an attractive and high yielding investment for those who can keep the funds for a long time. It is a very useful account for meeting future financial requirements at the occasion of marriage, education of children etc. Cash certificates are generally issued at discount to face value. It means a cash certificate of Rs. 1, 00,000 payable after 10 years can be purchased now, say for Rs. 20,000.
2. Demand Deposits: These are the deposits which may be withdrawn by the depositor at any time without previous notice. It is withdraw able by cheque/draft. It includes the following: (a) Savings Deposits: The savings deposit promotes thrift among people. The savings deposits can only be held by individuals and non-profit institutions. The rate of interest paid on savings deposits is lower than that of time deposits. The savings account holder gets the advantage of liquidity (as in current a/c) and small income in the form of interests. But there are some restrictions on withdrawals. Corporate bodies and business firms are not allowed to open SB Accounts. Presently interest on SB Accounts is determined by RBI. It is 4.5 per cent per annum. Cooperative banks are allowed to pay an extra 0.5 per cent on its savings bank deposits. (b) Current Account Deposits: These accounts are maintained by the people who need to have a liquid balance. Current account offers high liquidity. No interest is paid on current deposits and there are no restrictions on withdrawals from the current account. These accounts are generally in the case of business firms, institutions and co-operative bodies. Nowadays, banks are designing and offering various investment schemes for deposit of money. These schemes vary from bank to bank. It may be stated that the banks are currently working out with different innovative schemes for deposits. Such deposit accounts offer better interest rate and at the same time withdraw able facility also. These schemes are mostly offered by foreign banks. In USA, Current Accounts are known as 'Checking Accounts' as a cheque is equivalent to check in America. 27
[Banks as a financial catalyst B. Advancing of Loans The commercial banks provide loans and advances in various forms. They are given below: 1. Overdraft:
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This facility is given to holders of current accounts only. This is an arrangement with the bankers thereby the customer is allowed to draw money over and above the balance in his/her account. This facility of overdrawing his account is generally pre-arranged with the bank up to a certain limit. It is a short-term temporary fund facility from bank and the bank will charge interest over the amount overdrawn. This facility is generally available to business firms and companies. 2. Cash Credit: Cash credit is a form of working capital credit given to the business firms. Under this arrangement, the customer opens an account and the sanctioned amount is credited with that account. The customer can operate that account within the sanctioned limit as and when required. It is made against security of goods, personal security etc. On the basis of operation, the period of credit facility may be extended further. One advantage under this method is that bank charges interest only on the amount utilized and not on total amount sanctioned or credited to the account. Reserve Bank discourages this type of facility to business firms as it imposes an uncertainty on money supply. Hence this method of lending is slowly phased out from banks and replaced by loan accounts. Cash credit system is not in use in developed countries. 3. Discounting of Bills: Discounting of Bills may be another form of bank credit. The bank may purchase inland and foreign bills before these are due for payment by the drawer debtors, at discounted values, i.e., values a little lower than the face values. The Banker's discount is generally the interest on the full amount for the unexpired period of the bill. The banks reserve the right of debiting the accounts of the customers in case the bills are ultimately not paid, i.e., dishonoured. The bill passes to the Banker after endorsement. Discounting of bills by banks provide immediate finance to sellers of goods. This helps them to carry on their business. Banks can discount only genuine commercial bills i.e., those drawn against sale of goods on Credit. Banks will not discount Accommodation Bills. 4. Loans and Advances: 28
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It includes both demand and term loans, direct loans and advances given to all type of customers mainly to businessmen and investors against personal security or goods of movable or immovable in nature. The loan amount is paid in cash or by credit to customer account which the customer can draw at any time. The interest is charged for the full amount whether he withdraws the money from his account or not. Shortterm loans are granted to meet the working capital requirements where as long-term loans are granted to meet capital expenditure. Previously interest on loan was also regulated by RBI. Currently, banks can determine the rate themselves. Each bank is, however required to fix a minimum rate known as Prime Lending Rate (PLR). Classification of Loans and Advances Loans and advances given by bankers can be classified broadly into the following categories: (i) Advances which are given on the personal security of the debtor, and for which no tangible or collateral security is taken; this type of advance is given either when the amount of the advance is very small, or when the borrower is known to the Banker and the Banker has complete confidence in him (Clean Advance). (ii) Advances which are covered by tangible or collateral security. In this section of the study we are concerned with this type of advance and with different types of securities which a Banker may accept for such advances (Secured Advance). (iii) Advances which are given against the personal security of the debtor but for which the Banker also holds in addition the guarantee of one or more sureties. This type of advance is often given by Banker to persons who are not known to them but whose surety is known to the Banker. Bankers also often take the personal guarantee of the Directors of a company to whom they agree to advance a clean or unsecured loan. (iv) Loans are also given against the security of Fixed Deposit receipts.
5. Housing Finance: Nowadays the commercial banks are competing among themselves in providing housing finance facilities to their customers. It is mainly to increase the housing facilities in the country. State Bank of India, Indian Bank, Canara Bank, Punjab National Bank, has formed housing subsidiaries to provide housing finance. 29
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The other banks are also providing housing finances to the public. Government of India also encourages banks to provide adequate housing finance. Borrowers of housing finance get tax exemption benefits on interest paid. Further housing finance up to Rs. 5 lakh is treated as priority sector advances for banks. The limit has been raised to Rs. 10 lakhs per borrower in cities. 6. Educational Loan Scheme: The Reserve Bank of India, from August, 1999 introduced a new Educational Loan Scheme for students of full time graduate/post-graduate professional courses in private professional colleges. Under the scheme all public sector banks have been directed to provide educational loan up to Rs. 15,000 for free seat and Rs. 50,000 for payment seat student at interest not more than 12 per cent per annum. This loan is on clean basis i.e., without calling for security. This loan is available only for students whose annual family income does not exceed Rs. 1, 00,000. The loan has to be repaid together with interest within five years from the date of completion of the course. Studies in respect of the following subjects/areas are covered under the scheme. (a) Medical and dental course. (b) Engineering course. (c) Chemical Technology. (d) Management courses like MBA. (e) Law studies. (f) Computer Science and Applications. This apart, some of the banks have other educational loan schemes against security etc., one can check up the details with the banks.
7. Loans against Shares/Securities: Commercial banks provide loans against the security of shares/debentures of reputed companies. Loans are usually given only up to 50% value (Market Value) of the shares subject to a maximum amount permissible as per RBI directives. Presently one can obtain a loan up to Rs.10 lakhs against the physical shares and up to Rs. 20 lakhs against dematerialized shares. 30
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8. Loans against Savings Certificates: Banks are also providing loans up to certain value of savings certificates like National Savings Certificate, Fixed Deposit Receipt, Indira Vikas Patra, etc. The loan may be obtained for personal or business purposes.
9. Consumer Loans and Advances: One of the important areas for bank financing in recent years is towards purchase of consumer durables like TV sets, Washing Machines, Micro Oven, etc. Banks also provide liberal Car finance. These days banks are competing with one another to lend money for these purposes as default of payment is not high in these areas as the borrowers are usually salaried persons having regular income? Further, bank's interest rate is also higher. Hence, banks improve their profit through such profitable loans.
10. Securitization of Loans: Banks are recently trying to securities a part of their part of loan portfolio and sell it to another investor. Under this method, banks will convert their business loans into a security or a document and sell it to some Investment or Fund Manager for cash to enhance their liquidity position. It is a process of transferring credit risk from the banker to the buyer of securitized loans. It involves a cost to the banker but it helps the bank to ensure proper recovery of loan. Accordingly, securitization is the process of changing an illiquid asset into a liquid asset.
11. Others: Commercial banks provide other types of advances such as venture capital advances, jewel loans, etc. 1. Effective October 18, 1994 banks were free to determine their own prime lending rates (PLRs) for credit limit over Rs. 2 lakh. Data relate to public sector banks. 2. The stipulation of minimum maturity period of term deposits was reduced from 30 days to 15 days, effective April 29, 1998. Data relate to public sector banks.
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3. The change in the Bank Rate was made effective from the close of business of respective dates of change except April 29, 1998. 4. Effective April 29, 1998. C. Credit Creation Credit creation is one of the primary functions of commercial banks. When a bank sanctions a loan to the customer, it does not give cash to him. But, a deposit account is opened in his name and the amount is credited to his account. He can withdraw the money whenever he needs. Thus, whenever a bank sanctions a loan it creates a deposit. In this way the bank increases the money supply of the economy. Such functions are known as credit creation.
Secondary Functions The secondary functions of the banks consist of agency functions and general utility functions. A. Agency Functions Agency functions include the following: (i) Collection of cheques, dividends, and interests: As an agent the bank collects cheques, drafts, promissory notes, interest, dividends etc., on behalf of its customers and credit the amounts to their accounts. Customers may furnish their bank details to corporate where investment is made in shares, debentures, etc. As and when dividend, interest, is due, the companies directly send the warrants/cheques to the bank for credit to customer account.
(ii) Payment of rent, insurance premiums: The bank makes the payments such as rent, insurance premiums, subscriptions, on standing instructions until further notice. Till the order is revoked, the bank will continue to make such payments regularly by debiting the customer's account. 32
[Banks as a financial catalyst (iii) Dealing in foreign exchange:
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As an agent the commercial banks purchase and sell foreign exchange as well for customers as per RBI Exchange Control Regulations. (iv) Purchase and sale of securities: Commercial banks undertake the purchase and sale of different securities such as shares, debentures, bonds etc., on behalf of their customers. They run a separate 'Portfolio Management Scheme' for their big customers. (v) Act as trustee, executor, attorney, etc: The banks act as executors of Will, trustees and attorneys. It is safe to appoint a bank as a trustee than to appoint an individual. Acting as attorneys of their customers, they receive payments and sign transfer deeds of the properties of their customers. (vi) Act as correspondent: The commercial banks act as a correspondent of their customers. Small banks even get travel tickets, book vehicles; receive letters etc. on behalf of the customers. (vii) Preparations of Income-Tax returns: They prepare income-tax returns and provide advices on tax matters for their customers. For this purpose, they employ tax experts and make their services, available to their customers.
B. General Utility Services The General utility services include the following: (i) Safety Locker facility: 33
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Safekeeping of important documents, valuables like jewels are one of the oldest services provided by commercial banks. 'Lockers' are small receptacles which are fitted in steel racks and kept inside strong rooms known as vaults. These lockers are available on half-yearly or annual rental basis. The bank merely provides lockers and the key but the valuables are always under the control of its users. Any customer cannot have access to vault. Only customers of safety lockers after entering into a register his name account number and time can enter into the vault. Because the vault is holding important valuables of customers in lockers, it is also known as 'Strong Room'. (ii) Payment Mechanism or Money Transfer: Transfer of funds is one of the important functions performed by commercial banks. Cheques and credit cards are two important payment mechanisms through banks. Despite an increase in financial transactions, banks are managing the transfer of funds process very efficiently. Cheques are also cleared through the banking system. Correspondent banking is another method of transferring funds over long distance, usually from one country to another. Banks, these days employ computers to speed up money transfer and to reduce cost of transferring funds. Electronic Transfer of funds is also known as 'Chequeless banking' where funds are transferred through computers and sophisticated electronic system by using code words. They offer Mail Transfer, Telegraphic Transfer (TT) facility also. (iii) Travelers' cheques: Travelers Cheques are used by domestic travelers as well as by international travelers. However the use of traveler's cheques is more common by international travelers because of their safety and convenience. These can be also termed as a modified form of traveler's letter of credit. A bank issuing travelers cheques usually have banking arrangement with many of the foreign banks abroad, known as correspondent banks. The purchaser of traveler's cheques can encase the cheques from all the overseas banks with whom the issuing bank has such an arrangement. Thus traveler's cheques are not drawn on specific bank abroad. The cheques are issued in foreign currency and in convenient denominations of ten, twenty, fifty, one hundred dollar, etc. The signature of the buyer/traveler is written on the face of the cheques at the time of their purchase.
34
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The cheques also provide blank space for the signature of the traveler to be signed at the time of encashment of each cheque. A traveler has to sign in the blank space at the time of drawing money and in the presence of the paying banker. The paying banker will pay the money only when the signature of the traveler tallies with the signature already available on the cheque. A traveler should never sign the cheque except in the presence of paying banker and only when the traveler desires to encash the cheque. Otherwise it may be misused. The cheques are also accepted by hotels, restaurants, shops, airlines companies for respectable persons. Encashment of a traveler cheque abroad is tantamount to a foreign exchange transaction as it involves conversion of domestic currency into a foreign currency. When a traveller cheque is lost or stolen, the buyer of the cheques has to give a notice to the issuing bank so that stop order can be issued against such lost/stolen cheques to the banks where they are permitted to be encased. It is also difficult to the finder of the cheque to draw cash against it since the encasher has to sign the cheque in the presence of the paying banker. Unused travellers cheques can be surrendered to the issuing bank and balance of cash obtained. The issuing bank levies certain commission depending upon the number and value of travellers cheques issued. (iv) Circular Notes or Circular Letters of Credit: Under Circular Letters of Credit, the customer/traveller negotiates the drafts with any of the various branches to which they are addressed. Thus the traveller can obtain funds from many of the branches of banks instead only from a particular branch. Circular Letters of Credit are therefore a more useful method for obtaining funds while travelling to many countries. It may be noted that travellers letter of credit are usually paid for in advance. In other words, the traveller first makes payments to the issuing bank before obtaining the Circular Notes.
(v) Issue "Travellers Cheques": Banks issue travellers cheques to help carry money safely while travelling within India or abroad. Thus, the customers can travel without fear, theft or loss of money. 35
[Banks as a financial catalyst (vi) Letters of Credit:
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Letter of Credit is a payment document provided by the buyer's banker in favour of seller. This document guarantees payment to the seller upon production of document mentioned in the Letter of Credit evidencing dispatch of goods to the buyer. The Letter of Credit is an assurance of payment upon fulfilling conditions mentioned in the Letter of Credit. The letter of credit is an important method of payment in international trade. There are primarily 4 parties to a letter of credit. The buyer or importer, the bank which issues the letter of credit, known as opening bank, the person in whose favour the letter of credit is issued or opened (The seller or exporter, known as 'Beneficiary of Letter of Credit'), and the credit receiving/advising bank. The Letter of Credit is generally advised/sent through the seller's bank, known as Negotiating or Advising bank. This is done because the conditions mentioned in the Letter of Credit are, in the first instance; have to be verified by the Negotiating Bank. It is mostly used in international trade. (vii) Acting as Referees: The banks act as referees and supply information about the business transactions and financial standing of their customers on enquiries made by third parties. This is done on the acceptance of the customers and help to increase the business activity in general. (viii) Provides Trade Information: The commercial banks collect information on business and financial conditions etc., and make it available to their customers to help plan their strategy. Trade information service is very useful for those customers going for cross-border business. It will help traders to know the exact business conditions, payment rules and buyers' financial status in other countries. (ix) ATM facilities: The banks today have ATM facilities. Under this system the customers can withdraw their money easily and quickly and 24 hours a day. This is also known as 'Any Time Money'. Customers under this system can withdraw funds i.e., currency notes with a help of certain magnetic card issued by the bank and similarly deposit cash/cheque for credit to account. (x) Credit cards:
36
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Banks have introduced credit card system. Credit cards enable a customer to purchase goods and services from certain specified retail and service establishments up to a limit without making immediate payment. In other words, purchases can be made on credit basis on the strength of the credit card. The establishments like Hotels, Shops, Airline Companies, Railways etc., which sell the goods or services on credit forward a monthly or fortnightly statements to the bank. The amount is paid to these establishments by the bank. The bank subsequently collects the dues from the customers by debit to their accounts. Usually, the bank receives certain service charges for every credit card issued. Visa Card, BOB card are some examples of credit cards. (xi) Gift Cheques: The commercial banks offer Gift cheque facilities to the general public. These cheques received a wider acceptance in India. Under this system by paying equivalent amount one can buy gift cheque for presentation on occasions like Wedding, Birthday. (xii) Accepting Bills: On behalf of their customers, the banks accept bills drawn by third parties on its customers. This resembles the letter of credit. While banks accept bills, they provide a better security for payment to seller of goods or drawer of bills. (xiii) Merchant Banking: The commercial banks provide valuable services through their merchant banking divisions or through their subsidiaries to the traders. This is the function of underwriting of securities. They underwrite a portion of the Public issue of shares, Debentures and Bonds of Joint Stock Companies. Such underwriting ensures the expected minimum subscription and also convey to the investing public about the quality of the company issuing the securities. Currently, this type of services can be provided only by separate subsidiaries, known as Merchant Bankers as per SEBI regulations. (xiv) Advice on Financial Matters: The commercial banks also give advice to their customers on financial matters particularly on investment decisions such as expansion, diversification, new ventures, rising of funds etc. (xv) Factoring Service:
37
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Today the commercial banks provide factoring service to their customers. It is very much helpful in the development of trade and industry as immediate cash flow and administration of debtors' accounts are taken care of by factors. This service is again provided only by a separate subsidiary as per RBI regulations. Balance sheet is a statement of assets and liabilities on a given date. In India, banks have to publish their balance sheets according to the preformed i.e., 'Form A' given in the III schedule of the Banking Regulation Act, 1949. The study of the balance sheet along with its profit and loss account reveals its financial soundness.
38
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Bank as a Financial Intermediary
39
[Banks as a financial catalyst Need for Financial Intermediation
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The robustness of any economy depends to a great extent on the saving that are generated in it. These savings constitute the source for creation of further wealth by deploying them in tune with the economic direction adopted by the country. Investments stimulate economic activities to greater heights leading to economic prosperity. Therefore, investment of saved resources is the key factor the economic prosperity of a nation. Productive activities, whether big or small, would require investment. If an organisation is small, it may be funded by the proprietor from his own resources, As the size and complexity of business increases, larger investments may be required, which may be beyond the capacity of the proprietor. In such a situation, the personal equity gets replaced by external financial assistance. Such involves large outlay of money that can only be accessed through thecombined saving of large nuber of individual savers. Financial intermediaries play an important economic function by facilitating the productive use of the communitys surplus money. The continuous use of the resources by an economy will foster great demand for goods and services and in generation of income and employment in an economy. The combined wealth created and saved get channelized in the form of channelized in the form of assistance to entrepreneurial activities which are undertaken by another set of people who have the necessary inclination. This process of transfer is initiated by third agency called financial intermediary. The need for financial intermediary arises because the savers would not voluntarily come forward to lend directly fearing certain risks. The following risks are faced by the savers: Credit Risk: It is the risk of default by the borrower for any reason. It is possible that the business does not generate sufficient income to repay the loan or the borrower is not honest enough to honour his commitment. Credit risk is the most serious risk that any lender faces and individual lender cannot afford to take such a risk. Liquidity Risk: The borrower may have every intention to repay the loan and the business may be doing well too. However, there could be occasions when the borrower is not able to withdraw funds from the business when the lender demand repayment or may not be in the control of the borrower and which stand in the way of timely repayment of the loan. Thus, the lender may not get his money when he wants it.
40
[Banks as a financial catalyst Interest Rate Risk:
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Another risk in lending money is the possibility of loss due to change in rate of interest in market. At the time of the transaction, the borrower may have agreed to give interest prevailing rate of , say, 10 percent. Subsequently, the borrowers may ask for a reduction in the rate of interest, as money is available at a cheaper rate from other sources or repay the loan before the due date . Conversely, while the interest rate may have gone up in the market, the borrower may refuse to pay a higher rate, quoting the terms of the original contract. Both situations are detrimental to the lender and individuals prefer to insulate themselves from such a risk of loss due to change in interest rates. The risk-averse nature of normal savers and risks inherent in any entrepreneurial activity necessitates intermediaries who have the ability to insulate the savers from the risk inherent to business. This also makes available the funds to entrepreneurs by managing the risks in an effective manner to minimise the chances of loss. The process of transferring of funds from th savers to the entrepreneurs is called intermediation, the essence of which is risk management. Money needs to be circulated to be productive. If all savings are hoarded, the surplus the community will not be available for investments and this would lead to economic stagnation. Financial intermediaries play an important economic function by facilitating productive use of the communitys surplus money. Further, these intermediaries also generate employment and promote economic welfare by enabling production of goods and services required by the community. Therefore, intermediation is a very important economic function. Intermediation provides a business opportunity too. The depositor will be happy to earn interest at a rate lower than the rate that the borrowers are prepared to pay because they are insulated from all risks. The difference between the rate charged to the borrowers and the rate paid to the depositors, or spread as it is called in banking parlance, can yield the bank substantial profits. The spread is a reward for managing risks. All institutions in the financial sector do or enable some form of intermediation.
Banking, a Business of trust 41
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Banks are able to lend a major portion of their deposits, play a major role of an intermediary and constitute the payment system because of understanding that banks will honour their commitments to the people. If this trust is broken for any reason, banks will not be able to survive. This trust might suffer a setback if banks are not able to return all the deposits on time. Failure of one bank can lead to subsequent failure of other banks too because their role as a constituent of the payment system necessitates their having substantial dealings with each other. Large scale systemic failures may lead the economy itself to collapse. To retain the trust of the people, banks have to adhere to some principles while conducting their business. These are:
Safety
Liquidit y Banks
Service Quality
Profitabi lity
Secrecy
Liquidity: 42
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Banks have to necessarily lend most of their deposits to be in business because their main source of income is the spread they can earn on loans. At the same time, they should be in position to meet the monetary demands of their customers. Even a single default by a bank can have serious consequences. Therefore, banks have to maintain sufficient cash reserves at all the times. The more the banks lend, the more the profit they make. However, have to balance the opposing needs of profits and liquidity. Banks cannot afford to compromise liquidity for profits. Safety: The trust of the people is influence by their perception of how prudent to lend to risky business cannot enjoy the trust of its customers. Just as liquidity and profitability are related, risk and profitability too are related. Banks have to find a fine balance between the two of them to survive in business. After all, banking is essentially management of risks. The more prudent a bank is in managing risks, the better will be its image and prospects for survival and growth. Profitability: Customers are likely to avoid a bank if it does not have sufficient liquidity or if it is unsafe. However, their trust is likely to dwindle more if they consider the bank to be unprofitable. If a bank incurs losses or makes only meagre profits years after years, the customers are bound to get perturbed, unless of course, they have other comforts. In India, people entertain the feeling that the public sector banks will not fail because the government, as their owners will come to their rescue. The attitude of the same people towards banks in the private sector is very different. Apart from keeping the trust of the people, banks have to be profitable to survive in long run. Secrecy: During the course of their business, banks come to know many details about the finances of their customers. Banks have to maintain confidentiality of such information, as revealing the information to the wrong persons can adversely affect the customer. For example, a competitor of the customer or a journalist may use confidential financial information to cause loss or damage to the reputation of the customer. Banks owe a duty to their customers to ensure absolute secrecy of customer information. A bank that does not take this duty seriously is not likely to be trusted by its customers.
Service quality: 43
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Banking is a transaction intensive business, as customers have to deal with banks for almost all their financial transactions. Since the intensity of interactions id high, customers would naturally prefer to deal with banks that make the interactions pleasant and fast. Poor quality of service, in terms of errors and delays can seriously erode the confidence of customers in banks because errors and delay in financial dealings can result in a financial loss apart from from causing bitterness. Banks that do not take their obligation to provide quality service cannot hope to enjoy the trust and patronage of its customers.
Around the world, banking is highly regulated to ensure the health of individual banks and banking system as a system as a whole. Banking regulations encourage banks to adhere the principles of liquidity, safety, profitability, secrecy and service quality in their day to day functioning. Regulations are the good of the economy and the bank. Compliance with regulatory and statutory requirements is sacrosanct.
Banks as Financial Intermediaries: All financial institutions do or enable some form of intermediation. Some of them collect deposits, some other lend, some like Mutual funds (MFs) cater to the investment needs, while some others such as Life Insurance Corporation (LIC) cater to the needs of insurance. Banks in the process of financial intermediation also performs certain other functions which are vital to the economy. Banks enjoy the benefit of being the only institute through which money can be transformed from one person to another and from one place to another. Therefore, Banks become the constituent of the payment system of the economy. All financial intermediaries at one point or other depend on banks and cannot work efficiently in their absence. Apart from this, banks provide other financial services. The following figure shows the various roles performed and services offered by banks.
Role of banks 44
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BANK (ROLES PERFORMED)
FINANCIAL INTERMEDIATION
PAYMENT SYSTEM CONSTITUENT
OTHER FINANCIAL SERVICES
DEPOSITS AND ADVANCES
PAYMENT SERVICES, COLLECTION SERVICES AND FOREX
DISTRIBUTION, COLLECTION OF TAXES, DEMAT A/Cs, SAFE KEEPING,ADVISORY SERVICES
Banks, because of their reach, trust of the people and other roles that they play, have emerged as the largest financial intermediaries in the world. By virtue of this, the economic prosperity of the economy as a whole and of different regions and industries depends upon the banks. Isolation of a region or an industry can take place if banks lack interest. Not only those who are discarded suffer, such an outlook may impact the whole of the economy. Therefore, banks as largest financial intermediary have a crucial role to play in achieving balance growth of industries, regions and economy at large. The services offered by banks as a financial intermediary are: Deposit services Loan or credit services
45
[Banks as a financial catalyst A. Deposit Services
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Deposits are also know as liability products. These refer to the money deposited by customers, and banks have a liability to repay the money as per the terms of contract. Deposit services can be understood under two broad headings: Deposit services relating to resident individuals or domestic accounts Deposit services relating to non resident individuals ( Indian citizens who work abroad or have lived abroad for more than 180 days during a financial year either in whole or in part) Deposit Services ( Resident Individuals) Banks accept demand deposit and fixed or time deposits. Demand deposits are repayable on demand whereas term deposits are repayable only after the agreed period. Because demand deposits are more liquid than term deposits, interest is paid on such deposit at low rate or no interest is paid at all. Lower the liquidity, higher is the rate of interest. Therefore, generally longer the period of term deposit higher is the rate at which interest is paid. While demand deposits are cheaper in terms of interst paid on them, the cost of maintaining demand deposit account is higher than that of term deposit account in view of large number of transactions in demand deposit accounts.
Deposit Services
Demand Deposits
Term Deposit
Saving Bank (SB) accounts

Demand Deposits 46
Current Account (CA)
Foreign Currency Accounts (FCA)
Fixed Deposit (FD) accounts
Recurring Deposit (RD) accounts
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Demand deposits are deposits that are repayable on demand, and has no fixed time factor attached to it. A resident individual holding a demand deposit can withdraw the deposited funds at any time without any prior notice to the bank. SBs and CAs are two types of deposit services tht are offered to the resident individual. Saving Account The amount deposited in Sb accounts falls under the category of demand deposits. These accounts enable the customers to temporarily store their surpluses which are not immediately needed for use. By depositing such surpluses, the customers are able to earn interest and become entitled to certainbanking services such as collection of cheques, remittance facility, automated tell machine (ATM) or debit card, depending on the product features made available by each bank. With a view to reduce the dependence on branches for withdrawing money, obtaining mini statements of account, knowing balance and ordering cheque books, banks have come out with ATM facility. RBI has also instructed banks that a customer of bank can operate his/ her account from ATM of any bank subject to certain restrictions and need not go to the particular ATM of the bank in which he /she has an account. Banks impose certain restrictions regarding withdrawals that can be made from such accounts in addition to stipulating the need to maintain a minimum balance in the account. Banks do permit such accounts to be opened in the names of the individual customers or jointly with other customers. The operations in the SB accounts are regulated according to the mandate on record with the bank. Individual SB account is the only where the interest rate is payable is uniform across banks and is regulated by RBI. Current Accounts CAs are opened to meet the needs of customers. CAs can therefore be opened for an organisation or individual. The operations on these accounts are unrestricted, which enable the account holders to route all their banking transactions. No restrictions are imposed on the number of withdrawals that can be made from these accounts. As it is a demand deposit, bankers need to maintain sufficient liquidity to take care ofthe withdrawal need of the account holders.
Foreign Currency accounts 47
[Banks as a financial catalyst Residents in India are permitted to maintain the following types of FCAs with banks in India:
2013]
Resident Foreign Currency (RFC) Domestic accounts: residents who get foreign currency from relatives or friends as gifts or for some other purpose are also allowed to keep part of the amount in a current account called the RFC (Domestic) account. The balance can be used for any permitted remittance. The only advantage is that the foreign currency need not be converted at the time of receiving and at the time of outward remittance.
Exchange Earners Foreign Currency (EEFC) accounts: EEFC is a facility provided to exporters and others such as, consultants who earn foreign exchange to hold the amounts in FCAs to meet their foreign currency payment obligation. Earners of foreign exchange are allowed to retain 100 per cent of remittances in the EEFC accounts.
This facility is provided to enable the account holders to hold the amounts for remittance abroad for various purposes, without having to convert it into rupees twice that is once on receipt of inward remittance and then on outward remittance, and thereby, avoid exchange rate risk and loss. The EEFC accounts are maintained as CAs. If the customer insists on opening on SB or FD account, it may be permitted, but no interest can be paid in such accounts.
Term Deposits A deposit held at a financial institution that has a fixed term. These are generally short-term with maturities ranging anywhere from a month to a few years. When a term deposit is purchased, the lender (the customer) understands that the money can only be withdrawn after the term has ended or by giving a predetermined number of days notice. Term deposits are an extremely safe investment and are therefore very appealing to conservative, low-risk investors. By having the money tied up you'll generally get a higher rate with a term deposit compared with a demand deposit. Term deposit are payable only after completion of a fixed term term deposit generally have a higher rate of interest and can be broadly be classified as FD and RD
The principle difference between FDs and demand deposits is that in FDs the customer cannot ask the banks to return the deposit by drawing a cheque on the account. Therefore, these deposits remain with the banks for longer period and consequently, they cane arn higher rate of interest than SB account. The rate of interest depends upon the period of the deposit. 48
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Banks also grants Loans against FDs to their customer to meet their emergency requirements. Therate of interest chargeable is generally 2 percent over the rate of interest payable on the deposit.
Recurring Deposit Accounts RD accounts are for the benefit of those who would like to save a fixed sum every month over a long period of one to five years. This enables to the customers at the end of the period to have a reasonably large sum. Tit is equivalent to making FDs of say Rs. 500 every month in such a way that all FDs will mature on the same date. Deposit cannot be withdrawn before the due date without penalty. Therefore, the rate of interest paid on RDs is usually the rate applicable to FDs for similar periods. A penalty levied on the depositor if he/ she defaults in making deposit in any month or withdraws deposit prematurely. Further interest payable will also get reduced according to the period the deposit has stayed with the bank as per prevailing at the time of making the deposit.
Deposit Services For NRI NRIs are Indian citizen or Persons of Indian Origin (PIO) or foreign citizens of Indian origin who live abroad for employment, business, vocation or when the duration of their stay abroad is uncertain. NRIs are permitted to have the following types of accounts: Non Resident Ordinary (NRO) accounts: These are accounts such as CA, SB and RD in rupees. Non Resident External (NRE) accounts: These are accounts such as CAs, SB, FD and RD rupees. Foreign Currency Non resident (FCNR) accounts: These are FD accounts in foreign currency. RFC accounts: These are accounts for NRIs to continue holding the balances in FCNR and NRE accounts.
Loans or Credit Services 49
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50
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Role of Banks in Economy as a financial intermediary
51
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The economy of India is the tenth-largest in the world by nominal GDP and the third largest by purchasing power parity (PPP).[1] The country is one of the G-20 major economies and a member of BRICS. On a per capita income basis, India ranked 140th by nominal GDP and 129th by GDP (PPP) in 2011, according to the IMF.[13] India is the nineteenth largest exporter and tenth largest importer in the world. Economic growth rate stood at around 6.5% for the 201112 fiscal year.
The independence-era Indian economy (from 1947 to 1991) was based on a mixed economy combining features of capitalism and socialism, resulting in an inward-looking, interventionist policies and importsubstituting economy that failed to take advantage of the post-war expansion of trade. This model contributed to widespread inefficiencies and corruption, and the failings of this system were due largely to its poor implementation In 1991, India adopted liberal and free-market oriented principles and liberalized its economy to international trade under the guidance of Manmohan Singh, who then was the Finance Minister of India under the leadership of P.V. Narasimha Rao the then Prime Minister who eliminated License Raj a pre- and post-British Era mechanism of strict government control on setting up new industry. Following these strong economic reforms, and a strong focus on developing national infrastructure such as the Golden Quadrilateral project by Atal Bihari Vajpayee, the then Prime Minister, the country's economic growth progressed at a rapid pace with very high rates of growth and large increases in the incomes of people. The combination of protectionist, import-substitution, and Fabian social democractic-inspired policies governed India for sometime after the end of British occupation. The economy was then characterised by extensive regulation, protectionism, public ownership of large monopolies, pervasive corruption and slow growth. Since 1991, continuing economic liberalisation has moved the country towards a market-based economy.[16][17] By 2008, India had established itself as one of the world's fastest growing economies. Growth significantly slowed to 6.8% in 200809, but subsequently recovered to 7.4% in 200910, while the fiscal deficit rose from 5.9% to a high 6.5% during the same period. Indias current account deficit surged to 4.1% of GDP during Q2 FY11 against 3.2% the previous quarter. The unemployment rate for 201011, according to the state Labour Bureau, was 9.8% nationwide. As of 2011, India's public debt stood at 68.05% of GDP which is highest among the emerging economies. However, inflation remains stubbornly high with 7.55% in August 2012, the highest among its BRICS counterparts.
India's large service industry accounts for 57.2% of the country's GDP while the industrial and agricultural sectors contribute 28.6% and 14.6% respectively. Agriculture is the predominant occupation in Rural India, 52
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accounting for about 52% of employment. The service sector makes up a further 34%, and industrial sector around 14%. However, statistics from a 200910 government survey, which used a smaller sample size than earlier surveys, suggested that the share of agriculture in employment had dropped to 45.5%.
Major industries include telecommunications, information technology, textiles, chemicals, food processing, steel, transportation equipment, cement, mining, petroleum, machinery, software and pharmaceuticals. The labour force totals 500 million workers. Major agricultural products include rice, wheat, oilseed, cotton, jute, tea, sugarcane, potatoes, cattle, water buffalo, sheep, goats, poultry and fish. In 20112012, India's top five trading partners are China, United Arab Emirates, United States, Saudi Arabia and Switzerland.
Previously a closed economy, India's trade and business sector has grown fast. India currently accounts for 1.5% of world trade as of 2007 according to the World Trade Statistics of the WTO in 2006, which valued India's total merchandise trade (counting exports and imports) at $294 billion and India's services trade at $143 billion. Thus, India's global economic engagement in 2006 covering both merchandise and services trade was of the order of $437 billion, up by a record 72% from a level of $253 billion in 2004. India's total trade in goods and services has reached a share of 43% of GDP in 200506, up from 16% in 199091. In the year 201011 India's total merchandisee trade (counting exports and imports) stands at $ 606.7 billion and is currently the 9th largest in the world. During 201112, India's foreign trade grew by an impressive 30.6% to reach $ 792.3 billion (Exports-38.33% & Imports-61.67%).
Pre-liberalisation period (19471991)
Indian economic policy after independence was influenced by the colonial experience, which was seen by Indian leaders as exploitative, and by those leaders' exposure to British social democracy as well as the progress achieved by the planned economy of the Soviet Union. Domestic policy tended towards protectionism, with a strong emphasis on import substitution industrialisation, economic interventionism, a large public sector, business regulation, and central planning, while trade and foreign investment policies were relatively liberal.Five-Year Plans of India resembled central planning in the Soviet Union. Steel, mining, machine tools, telecommunications, insurance, and power plants, among other industries, were effectively nationalised in the mid-1950s.
53
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Jawaharlal Nehru, the first prime minister of India, along with the statistician Prasanta Chandra Mahalanobis, formulated and oversaw economic policy during the initial years of the country's existence. They expected favorable outcomes from their strategy, involving the rapid development of heavy industry by both public and private sectors, and based on direct and indirect state intervention, rather than the more extreme Soviet-style central command system. The policy of concentrating simultaneously on capital- and technology-intensive heavy industry and subsidising manual, low-skill cottage industries was criticised by economist Milton Friedman, who thought it would waste capital and labour, and retard the development of small manufacturers. The rate of growth of the Indian economy in the first three decades after independence was derisively referred to as the Hindu rate of growth by economists, because of the unfavourable comparison with growth rates in other Asian countries. Since 1965, the use of high-yielding varieties of seeds, increased fertilisers and improved irrigation facilities collectively contributed to the Green Revolution in India, which improved the condition of agriculture by increasing crop productivity, improving crop patterns and strengthening forward and backward linkages between agriculture and industry.[64] However, it has also been criticised as an unsustainable effort, resulting in the growth of capitalistic farming, ignoring institutional reforms and widening income disparities. Subsequently the Emergency and Garibi Hatao concept by which the income tax levels at one point raised to a maximum of 97.5%, a record in the world for non-communist economies, started diluting the earlier efforts.
Post-liberalisation period (since 1991) In the late 1970s, the government led by Morarji Desai eased restrictions on capacity expansion for incumbent companies, removed price controls, reduced corporate taxes and promoted the creation of small scale industries in large numbers. However, the subsequent government policy of Fabian socialism hampered the benefits of the economy, leading to high fiscal deficits and a worsening current account. The collapse of the Soviet Union, which was India's major trading partner, and the Gulf War, which caused a spike in oil prices, resulted in a major balance-of-payments crisis for India, which found itself facing the prospect of defaulting on its loans. India asked for a $1.8 billion bailout loan from the International Monetary Fund (IMF), which in return demanded reforms.
In response, Prime Minister Narasimha Rao, along with his finance minister Manmohan Singh, initiated the economic liberalisation of 1991. The reforms did away with the Licence Raj, reduced tariffs and interest 54
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rates and ended many public monopolies, allowing automatic approval of foreign direct investment in many sectors.[68] Since then, the overall thrust of liberalisation has remained the same, although no government has tried to take on powerful lobbies such as trade unions and farmers, on contentious issues such as reforming labour laws and reducing agricultural subsidies. By the turn of the 20th century, India had progressed towards a free-market economy, with a substantial reduction in state control of the economy and increased financial liberalisation.[70] This has been accompanied by increases in life expectancy, literacy rates and food security, although urban residents have benefited more than agricultural residents.
While the credit rating of India was hit by its nuclear weapons tests in 1998, it has since been raised to investment level in 2003 by S&P and Moody's. In 2003, Goldman Sachs predicted that India's GDP in current prices would overtake France and Italy by 2020, Germany, UK and Russia by 2025 and Japan by 2035, making it the third largest economy of the world, behind the US and China. India is often seen by most economists as a rising economic superpower and is believed to play a major role in the global economy in the 21st century Industry and services
Industry accounts for 28% of the GDP and employ 14% of the total workforce. India is 11th in the world in terms of nominal factory output according data is compiled through CIA World Factbook figures. The Indian industrial sector underwent significant changes as a result of the economic liberalisation in India economic reforms of 1991, which removed import restrictions, brought in foreign competition, led to privatisation of certain public sector industries, liberalised the FDI regime, improved infrastructure and led to an expansion in the production of fast moving consumer goods. Post-liberalisation, the Indian private sector was faced with increasing domestic as well as foreign competition, including the threat of cheaper Chinese imports. It has since handled the change by squeezing costs, revamping management, and relying on cheap labour and new technology. However, this has also reduced employment generation even by smaller manufacturers who earlier relied on relatively labour-intensive processes
Banking and finance The Indian money market is classified into the organised sector, comprising private, public and foreign owned commercial banks and cooperative banks, together known as scheduled banks, and the unorganised 55
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sector, which includes individual or family owned indigenous bankers or money lenders and non-banking financial companies.[98] The unorganised sector and microcredit are still preferred over traditional banks in rural and sub-urban areas, especially for non-productive purposes, like ceremonies and short duration loans. [99]
Prime Minister Indira Gandhi nationalised 14 banks in 1969, followed by six others in 1980, and made it mandatory for banks to provide 40% of their net credit to priority sectors like agriculture, small-scale industry, retail trade, small businesses, etc. to ensure that the banks fulfill their social and developmental goals. Since then, the number of bank branches has increased from 8,260 in 1969 to 72,170 in 2007 and the population covered by a branch decreased from 63,800 to 15,000 during the same period. The total bank deposits increased from INR5,910 crore (US$1.08 billion) in 197071 to INR3,830,922 crore (US$697.23 billion) in 200809. Despite an increase of rural branches, from 1,860 or 22% of the total number of branches in 1969 to 30,590 or 42% in 2007, only 32,270 out of 500,000 villages are covered by a scheduled bank.[100][101]
India's gross domestic saving in 200607 as a percentage of GDP stood at a high 32.7%.[102] More than half of personal savings are invested in physical assets such as land, houses, cattle, and gold.[103] The public sector banks hold over 75% of total assets of the banking industry, with the private and foreign banks holding 18.2% and 6.5% respectively.[104] Since liberalisation, the government has approved significant banking reforms. While some of these relate to nationalised banks, like encouraging mergers, reducing government interference and increasing profitability and competitiveness, other reforms have opened up the banking and insurance sectors to private and foreign players.
56
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[Banks as a financial catalyst

Mahatma Gandhi Missions

BANK AS A FINANCIAL INTERMEDIARY

SUBMITTED TO MGMS INSTITUTE OF MANAGEMENT STUDIES & RESEARCH, NAVI MUMBAI BY

[Banks as a financial catalyst

Signature Name of the student

[Banks as a financial catalyst

Signature Name Project Guide (Internal) Date: `

Signature Name Director Date:

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst

TABLE OF C O N T E N T S Sr. No Particulars Introduction to the project Page No. 1

[Banks as a financial catalyst

Chapter 1 Introduction to the Project

[Banks as a financial catalyst

1.3 Research design and Instruments DATA COLLECTION Secondary data:

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst A. Financial Intermediation:

[Banks as a financial catalyst Functions:

There are 2 essential advantages from using financial intermediaries: 14

[Banks as a financial catalyst

Cost advantage over direct lending/borrowing

[Banks as a financial catalyst

[Banks as a financial catalyst Types of financial intermediaries in India

Non Banking Institutions

All India DFIs

Regional Rural Banks

Self help group

State Level DFIs

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst Structure: BANKING STRUCTURE IN INDIA

Scheduled Banks in India

Scheduled Commercial Banks

Scheduled Cooperative Banks

All India Financial Institutions

Rural Cooperative credit institution

Long Term Structure

State Cooperative Banks

Primary Primary Agricultural Credit Socities operative Agricultural and Banks

[Banks as a financial catalyst

[Banks as a financial catalyst

Basis Entity Nature

Banks Banks are organised institutions. Banks are professional organisations.

of The process of recovery is flexible.

productive purposes Rate of Interest charged by money lenders is high.

[Banks as a financial catalyst

(c) Cash Certificates: 26

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst (iii) Dealing in foreign exchange:

[Banks as a financial catalyst

[Banks as a financial catalyst

[Banks as a financial catalyst (vi) Letters of Credit: