COMMERCIAL BANKING IN INDIA

Submitted in partial fulfillment of the requirements

for the award of the degree B.Com., LL.B. (Hons)

Submitted by

M.ARAVINDAN
BC0140010
Submitted to

MS. Agila

TAMIL NADU NATIONAL LAW SCHOOL

TIRUCHIRAPPALLI – 620 009

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 Declaration by the candidate
I hereby declare that the project title entitled “Commercial Banking in India” submitted by Aravindan to
Tamil Nadu National Law School, for the subject corporate accounting to Ms. Agila is done by me. It is
not copied directly from any websites except for the definitions and other facts relating to that matter.

Signature of the candidate

Aravindan.M

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 TABLE OF CONTENTS

1) Research Methodology

2) Commercial bank introduction

3) Commercial banking in India

4) Structure of commercial Banks

5) Function of commercial banks

6) Public sector banks

7) The state bank of India

8) Regional Rural Banks

9) Performance of Public sector Banks

10) Indian Private sector banks

11) Old generation private sector banks

12) New generation private sector banks

13) Foreign banks

14) Non scheduled banks

15) Conclusion

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 Research Methodology

The research methodology used in this project is analytical and descriptive. Data present in this
project mostly consists of secondary data. Data has been collected in the form of research
questions by the researcher himself. . Some of the theory part in the project is collected from
online resources. Most of the information present in this project is secondary information.

COMMERCIAL BANKING IN INDIA

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COMMERCIAL BANK INTRODUCTION

Commercial bank is a financial institution which provides financial services such as issuing
loans, accepting deposits etc to its customers. The customers of the commercial banks enjoy the
benefit of range of investment products that commercial banks offer like saving accounts and
certificates of deposits . The loans which the commercial banks offer varies from the other
business loans and the loans for mortgages. Commercial banks offer their customers investment
products such as savings accounts, checking accounts and certificates of deposit. The
commercial banks issue interest for the deposits of the customers. The commercial banks issue
loans at higher interest and make money out of it. Commercial bankers mortgages by which the
money borrowers to buy land and buildings.

In most countries central banks are responsible for the oversight of the commercial banking
system of their respective countries. They will impose a number of conditions on the banks that
they regulate such as bank reserves and to maintain minimum capital requirements. Along with
its primary functions like providing loans for mortgages and making deposits the commercial
banks also provides some secondary deposits like collecting cheques, making foreign exchange
transactions and purchase.1

COMMERCIAL BANKING IN INDIA

Commercial banks form a significant part of the country’s Financial Institution

System. Commercial Banks are those profit seeking institutions which accept deposits from
general public and advance money to individuals like household, entrepreneurs, businessmen etc.
with the prime objective of earning profit in the form of interest, commission etc. The operations
of all these banks in India are regulated by the Reserve Bank of India, which is the central bank
and supreme financial authority in India. The main source of income of a commercial bank is the
difference between these two rates which they charge to borrowers and pay to depositers.
Examples of commercial banks – ICICI Bank, State Bank of India, Axis Bank, and HDFC Bank.2

1 http://www.investopedia.com/terms/c/commercialbank.asp
2 http://www.yourarticlelibrary.com/banking/commercial-banks/commercial-banks-in-india-role-structures-and-
importance/30317/

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The commercial banks in India are broadly classified into

1) Scheduled commercial banks

2) Non scheduled commercial banks

SCHEDULED BANKS

The scheduled banks are included in the second schedule of the RBI act 1934. The
scheduled banks are categorized into three types

Public Sector Banks :- are those banks in which majority of stake is held by the government.
Eg. SBI, PNB, Syndicate Bank, Union Bank of India etc.

Private Sector Banks :- are those banks in which majority of stake is held by private
individuals. Eg. ICICI Bank, IDBI Bank, HDFC Bank, AXIS Bank etc.

Foreign Banks :- are the banks with Head office outside the country in which they are located.
Eg. Citi Bank, Standard Chartered Bank, Bank of Tokyo Ltd. etc.

NON SCHEDULED COMMERCIAL BANKS

Non scheduled commercial banks are the banks which are not included in the second
schedule of the RBI act 1934.

STRUCTURE OF COMMERCIAL BANKS

The composition of the board of directors of a commercial bank shall consist of whole time
chairman. Section 10A of the Banking Regulation Act, 1949 provides that not less than fifty-one
per cent, of the total number of members of the Board of directors of a banking company shall
consist of persons, who shall have special knowledge or practical experience in respect of one or

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more of the matters including accountancy, agriculture and rural economy, banking, co-
operation, economics, finance, law, small-scale industry, or any other matter the special
knowledge of, and practical experience in, which would, in the opinion of the Reserve Bank, be
useful to the banking company. Out of the aforesaid number of directors, not less than two shall
be persons having special knowledge or practical experience in respect of agriculture and rural
economy, co-operation or small-scale industry.

Besides the above the board of the scheduled bank shall consist of the directors representing
workmen and officer employees. The Reserve Bank of India and the Central Government also
has right to appoint their nominees into the board of the banks. 3

FUNCTIONS OF COMMERCIAL BANKS

Commercial banks are responsible for adding customer deposits in a safe and liquid form
and lending the proceeds to worthy commercial, industrial, governmental and nonprofit
institutions. Commercial banks also provide market making activities in municipal, government
and corporate bonds. Banks provide consulting and advisory services to customers as well as
safekeeping and trust services. The function of commercial bank is categorized by primary and
secondary function.

The main functions of commercial banks are accepting deposits from the public and
advancing them loans. Besides these functions there are many other functions which these banks
perform. All these functions can be divided under the following heads:4

PRIMARY FUNCTIONS

1. Accepting deposits

2. Giving loans

3 http://www.knowledgevilla.in/structure-of-commercial-banking/
4 http://www.yourarticlelibrary.com/banking/commercial-banks/commercial-banks-primary-and-secondary-
functions-of-commercial-banks/30321/

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3. Overdraft

4. Discounting of Bills of Exchange

5. Investment of Funds

6. Agency Functions

7. Miscellaneous Functions

1. Accepting Deposits:

The most important function of commercial banks is to accept deposits from the public. Various
sections of society, according to their needs and economic condition, deposit their savings with
the banks.

For example, fixed and low income group people deposit their savings in small amounts from the
points of view of security, income and saving promotion. On the other hand, traders and
businesspersons deposit their savings in the banks for the convenience of payment.

Therefore, keeping the needs and interests of various sections of society, banks formulate various
deposit schemes. Generally, there are three types of deposits which are as follows

(i) Current Deposits:

The depositors of such deposits can withdraw and deposit money whenever they desire. Since
banks have to keep the deposited amount of such accounts in cash always, they carry either no
interest or very low rate of interest. These deposits are called as Demand Deposits because these
can be demanded or withdrawn by the depositors at any time they want.

Such deposit accounts are highly useful for traders and big business firms because they have to
make payments and accept payments many times in a day.

(ii) Fixed Deposits:

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These are the deposits which are deposited for a definite period of time. This period is generally
not less than one year and, therefore, these are called as long term deposits. These deposits
cannot be withdrawn before the expiry of the stipulated time and, therefore, these are also called
as time deposits.

These deposits generally carry a higher rate of interest because banks can use these deposits for a
definite time without having the fear of being withdrawn.

(iii) Saving Deposits:

In such deposits, money up to a certain limit can be deposited and withdrawn once or twice in a
week. On such deposits, the rate of interest is very less. As is evident from the name of such
deposits their main objective is to mobilize small savings in the form of deposits. These deposits
are generally done by salaried people and the people who have fixed and less income.

2. Giving Loans:

The second important function of commercial banks is to advance loans to its customers. Banks
charge interest from the borrowers and this is the main source of their income.

Banks advance loans not only on the basis of the deposits of the public rather they also advance
loans on the basis of depositing the money in the accounts of borrowers. In other words, they
create loans out of deposits and deposits out of loans. This is called as credit creation by
commercial banks.

Modern banks give mostly secured loans for productive purposes. In other words, at the time of
advancing loans, they demand proper security or collateral. Generally, the value of security or
collateral is equal to the amount of loan. This is done mainly with a view to recover the loan
money by selling the security in the event of non-refund of the loan.

At limes, banks give loan on the basis of personal security also. Therefore, such loans are called
as unsecured loan. Banks generally give following types of loans and advances:

(i) Cash Credit:

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In this type of credit scheme, banks advance loans to its customers on the basis of bonds,
inventories and other approved securities. Under this scheme, banks enter into an agreement with
its customers to which money can be withdrawn many times during a year. Under this set up
banks open accounts of their customers and deposit the loan money. With this type of loan, credit
is created.

(iii) Demand loans:

These are such loans that can be recalled on demand by the banks. The entire loan amount is paid
in lump sum by crediting it to the loan account of the borrower, and thus entire loan becomes
chargeable to interest with immediate effect.

(iv) Short-term loan:

These loans may be given as personal loans, loans to finance working capital or as priority sector
advances. These are made against some security and entire loan amount is transferred to the loan
account of the borrower.

3. Over-Draft:

Banks advance loans to its customer’s up to a certain amount through over-drafts, if there are no
deposits in the current account. For this banks demand a security from the customers and charge
very high rate of interest.

4. Discounting of Bills of Exchange:

This is the most prevalent and important method of advancing loans to the traders for short-term
purposes. Under this system, banks advance loans to the traders and business firms by
discounting their bills. In this way, businessmen get loans on the basis of their bills of exchange
before the time of their maturity.

5. Investment of Funds:

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The banks invest their surplus funds in three types of securities Government securities, other
approved securities and other securities. Government securities include both, central and state
governments, such as treasury bills, national savings certificate etc.

Other securities include securities of state associated bodies like electricity boards, housing
boards, debentures of Land Development Banks units of UTI, shares of Regional Rural banks
etc.

6. Agency Functions:

Banks function in the form of agents and representatives of their customers. Customers give their
consent for performing such functions. The important functions of these types are as follows:

(i) Banks collect cheques, drafts, bills of exchange and dividends of the shares for their
customers.

(ii) Banks make payment for their clients and at times accept the bills of exchange: of their
customers for which payment is made at the fixed time.

(iii) Banks pay insurance premium of their customers. Besides this, they also deposit loan
installments, income-tax, interest etc. as per directions.

(iv) Banks purchase and sell securities, shares and debentures on behalf of their customers.

(v) Banks arrange to send money from one place to another for the convenience of their
customers.

7. Miscellaneous Functions:

Besides the functions mentioned above, banks perform many other functions of general utility
which are as follows:

(i) Banks make arrangement of lockers for the safe custody of valuable assets of their customers
such as gold, silver, legal documents etc.

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(ii) Banks give reference for their customers.

(iii) Banks collect necessary and useful statistics relating to trade and industry.

(iv) For facilitating foreign trade, banks undertake to sell and purchase foreign exchange.

(v) Banks advise their clients relating to investment decisions as specialist

(vi) Bank does the under-writing of shares and debentures also.

(vii) Banks issue letters of credit.

(viii) During natural calamities, banks are highly useful in mobilizing funds and donations.

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(ix) Banks provide loans for consumer durables like Car, Air-conditioner, and Fridge etc.,

SECONDARY FUNCTIONS

Along with the primary functions each commercial bank has to perform several secondary
functions too. It includes many agency functions or general utility functions. The secondary
functions of commercial banks can be divided into agency functions and utility functions.

1) Agency function

Various agency functions of the commercial banks are

 To collect and clear cheque, dividends and interest warrant.

 To make payment of rent, insurance premium, etc.

 To deal in foreign exchange transactions.

 To purchase and sell securities.

 To act as trusty, attorney, correspondent and executor.

5 http://www.importantindia.com/12392/functions-of-commercial-banks-in-india/

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  To accept tax proceeds and tax returns

B. General Utility Functions :

The general utility functions of the commercial banks include

 To provide safety locker facility to customers.

 To provide money transfer facility.

 To issue traveler's cheque.

 To act as referees.

 To accept various bills for payment e.g phone bills, gas bills, water bills, etc.

 To provide merchant banking facility.

 To provide various cards such as credit cards, debit cards, Smart cards, etc. 6

PUBLIC SECTOR BANKS

Public sector banks are banks in which the majority stakes are held by the government. The
shares of these banks are listed on stock exchanges. Public sector in the banking industry
emerged with the nationalization of Imperial Bank of India (1921) and creating the State Bank of
India (1955) as a part of integrated scheme of rural credit proposed by the All India Rural Credit
Survey Committee (1951). The Bank is unique in several respects and it enjoys a position of
preeminence as the agent of RBI wherever RBI has no branches. It is the single largest bank in
the country with large international presence, with a network of 48 overseas offices spread over
28 countries covering all the time zones.7

6 http://www.economicsdiscussion.net/banks/commercial-banks-its-functions-and-types-explained/4149
7 https://en.wikipedia.org/wiki/Public_sector_banks_in_India

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STATE BANK OF INDIA

State bank of India is a multinational, public sector banking and financial services company.
It is a government owned corporation with its headquarters located in Mumbai, Maharashtra. As
of 2014-15, it had assets of ₹20.480 trillion (US$300 billion) and more than 14,000 branches,
including 191 foreign offices spread across 36 countries, making it the largest banking and
financial services company in India by assets. The State bank of India is ranked 232nd on the
fortune global 500 list of the world's biggest corporations as of in 2016.

SBI provides a range of banking products through its network of branches in India and overseas,
including products aimed at non-resident indians (NRIs). SBI has 14 regional hubs and 57 Zonal
Offices that are located at important cities throughout India. SBI has 18,354 branches in India. In
the financial year 2012–13, its revenue was ₹2.005 trillion (US$30 billion), out of which
domestic operations contributed to 95.35% of revenue. Similarly, domestic operations
contributed to 88.37% of total profits for the same financial year.8

REGIONAL RURAL BANK

Regional Rural Banks (also RRBs) are local level banking organizations operating in
different States of India. They have been created with a view to serve primarily the rural areas of
India with basic banking and financial services.. However, RRBs may have branches set up for
urban operations and their area of operation may include urban areas too. The area of operation
of RRBs is limited to the area as notified by Government of India covering one or more districts
in the State. RRBs also perform a variety of different functions. RRBs perform various functions
like providing banking functions like rural and semi urban areas. Carrying out government
operations like disbursement of wages of MNREGA workers and distribution of pension etc.

Regional Rural Banks were established under the provisions of an Ordinance passed on
September 1975 and the RRB Act. 1976 to provide sufficient banking and credit facility for
agriculture and other rural sectors. All RRBs were originally conceived as low cost institutions

8 https://en.wikipedia.org/wiki/State_Bank_of_India

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having a rural ethos, local feel and pro poor focus. However, within a very short time, most
banks were making losses. The original assumptions as to the low cost nature of these
institutions were belied. This may be again amalgamated in near future. At present there are 56
RRBs in India. Regional Rural Banks are regulated by National Bank for Agriculture and Rural
Development (NABARD).

PERFORMANCE OF PUBLIC SECTOR BANKS

The Public sector in the Indian banking got widened with two rounds of nationalization-first
in July 1969 of 14 major private sector banks each with deposits of Rs. 50 crore or more, and
thereafter in April 1980, 6 more banks with deposits of not less than Rs. 2 Crore each. It resulted
in the creation of public sector banking with a market share of 76.87 per cent in deposits and
72.92 per cent of assets in the banking industry at the end of March 2003. With the merger of
'New Bank of India' with 'Punjab National Bank' in 1993, the number of nationalized banks
became 19 and the number of public sector banks 27. The number of branches of public sector
banks, which was 6,669 in June 1969, increased to 41874 by Mach 1990 and again to 46,752 by
March 30, 2003. The public sector banks thus came to occupy a predominant position in the
Indian banking scene. It is however, important to note that there has been a steady decline in the
share of PSB's in the total assets of SCB's during the latter - half of 1990s.

While their share was 84.5 per cent at the end of March 1996, it declined to 81.7 per cent
in 1998 and further to 81 per cent in 1999. The financial health of PSBs continually to deteriorate
resulting in decline in their efficiency. Since so many obligations, economic and social, are
imposed on PSBs, it was thought, that their performance should not be judged merely in terms of
profits. Since 1969, PSBs began to play a large and dominant supplementary role to the
government programmes in alleviating poverty, employment creation and generation of fresh
resources for development. They have been highly successful in achieving their principal
objective of deposit and loan expansion.

Their participation in priority sector lending is highly commendable: In June 1969, on the
eve of nationalization the share of priority sector in total credit of SCBs was mere 14 per cent
(Rs. 504 crore). By March 2002, with the massive involvement of PSBs their outstanding
lending to priority sector had climbed up to Rs. 1,71,185.26 crore. As a per cent of net bank

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credit the same was 43.1 per cent as against the mandated 40 per cent In terms of profitability,
the SBI group has recorded a steady rise in net profits from Rs. 244 crore in 1991-92 to Rs. 2,222
crore in 2000-01 and Rs. 4,512 crore in 2002-03. During 1992-93 and 1993-94 these banks
actually posted huge losses to the tune of Rs. 3,513 crore and Rs. 4,705 crore respectively. It is
possible to defend the low profitability by 'referring to their commitment to social obligations
imposed by the Government as for instance opening rural branches in large numbers, financing
poverty alleviation programmes at concessional rates of interest, priority sector lending to the
extent of 40 per cent huge NPAs, etc.

As a result of their involvement in social~ banking and other factors such as directed
investment, the state of health of these banks left much to be desired. The net profit as a per cent
of Total assets became 0.99 per cent in 1992-93 and 1.1 per cent in 1993-94. Similarly, the net
profit as a per cent of Total assets of 19 nationalized banks was 1.71 per cent in 1992-93 and 9.8
per cent in 1993- 94. Prior to reform period, profitability was not considered as the million
objectives of PSBs. The return on assets of PSBs does not compare unfavorably with that of
banks elsewhere. As per data provided by the Bank for International Settlements (BIS) 1999,
return on assets, defined as profit before tax moved from 0.08 to 1.07 in Euro area in 1998 with
most countries covering around the 0.5 mark even on free tax basis. 9

INDIAN PRIVATE SECTOR BANKS

The private sector banks in India represent part of the Indian banking sector that is made
up of both private and public sector banks. The "private sector banks" are banks where greater
parts of state or equity are held by the private shareholders and not by government. Banking in
India has been dominated by public sector banks since the 1969 when all major banks were
nationalized by the Indian government. However, since liberalization in government banking
policy in the 1990s, old and new private sector banks have re-emerged. They have grown faster
& bigger over the two decades since liberalization using the latest technology, providing
contemporary innovations and monetary tools and techniques. The private sector banks are split
into two groups by financial regulators in India, old and new.10

9 http://shodhganga.inflibnet.ac.in/bitstream/10603/3712/12/12_chapter%205.pdf
10 https://en.wikipedia.org/wiki/Private-sector_banks_in_India

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OLD GENERATION PRIVATE SECTOR BANKS

The old private sector banks existed prior to the nationalization in 1969 and kept their
independence because they were either too small or specialist to be included in nationalization.
The banks, which were not nationalized at the time of bank nationalization that took place during
1969 and 1980 are known to be the old private-sector banks. These were not nationalized,
because of their small size and regional focus. Most of the old private-sector banks are closely
held by certain communities their operations are mostly restricted to the areas in and around their
place of origin. Their Board of directors mainly consist of locally prominent personalities
from trade and business circles. One of the positive points of these banks is that, they lean
heavily on service and technology and as such, they are likely to attract more business in days to
come with the restructuring of the industry round the corner.

NEW GENERATION PRIVATE SECTOR BANKS

The new private sector banks are those that have gained their banking license since the
liberalization in the 1990s. The banks, which came in operation after 1991, with the introduction
of economic reforms and financial sector reforms are called "new private-sector banks". Banking
regulation act was then amended in 1993, which permitted the entry of new private-sector banks
in the Indian banking sector. However, there were certain criteria set for the establishment of the
new private-sector banks, some of those criteria being The bank should have a minimum net
worth of Rs. 200 crores. The promoters holding should be a minimum of 25% of the paid up
capital. Within three years of the starting of the operations, the bank should offer shares to the
public and their net worth must be increased to 300 crores.

FOREIGN BANKS

A foreign branch bank is a type of foreign bank that is obligated to follow the regulations
of both the home and host countries. Because the foreign branch banks' loan limits are based on
the parent bank's capital, foreign banks can provide more loans than subsidiary banks. 11

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NON-SCHEDULED BANKS

Non scheduled banks are banks that are not included in the reserve bank of India act 1934 and
their capital and collected funds are less than 5 lakhs. The difference between the scheduled
commercial banks and non scheduled commercial bank is immaterial since the number of non
commercial bank is almost nil. 12

CONCLUSSION

A study on the commercial banking in India is made in this project. The structure and the
functions of the commercial banks are briefly discussed in this project. A study on the public
sector banks and Indian private sector banks and different types of the public sector and private
sector banks is made and almost every information about them is included in this project.
Through this project we came to know that commercial banks are helpful in developing the
economy of the country by the organized banking activities.

12 https://ias.org.in/2013/05/commercial-banks-scheduled-non.html

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REFERENCES

1) http://www.investopedia.com/terms/c/commercialbank.asp

2) http://www.yourarticlelibrary.com/banking/commercial-banks/commercial-banks-in-india-
role-structures-and-importance/30317/
3) http://www.knowledgevilla.in/structure-of-commercial-banking/
4) http://www.yourarticlelibrary.com/banking/commercial-banks/commercial-banks-primary-
and-secondary-functions-of-commercial-banks/30321/

5) http://www.importantindia.com/12392/functions-of-commercial-banks-in-india/

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