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What is banking?

Banking refers to the business of receiving money on current or deposit account, paying and collecting cheques drawn by or paid in by customers, the making of advances to customers, and includes such other business as the Authority may prescribe for the purposes of the Act. Banking in a traditional sense is the business of accepting deposits of money from public for the purpose of lending and investment. These deposits can have a distinct feature like being withdrawn by cheques, which no other financial institution can offer. In addition, banks also offer financial services, which include: The Issue of demand draft & travelers cheques. Credit cards. Collection of cheques and bills of exchange. Safe deposit lockers. Custodian services. Investment and Insurance Services. The business of banking is highly regulated since banks deal with money offered to them by the public and ensuring the safety of this public money is one of the prime responsibilities of any bank. That is why banks are expected to be prudent in their lending and investment activities. Every bank has a compliance department, which is responsible to ensure that all the services offered by the bank, and the processes followed are in compliance with the local regulations and the Banks corporate policy.

Evolution of Indian Banking-The Beginning The English traders that came to India in the 17th century could not make much use of the indigenous bankers, owing to their ignorance of the language as well the inexperience indigenous people of the European trade. Therefore, the English Agency1 Houses in Calcutta and Bombay began to conduct banking business, besides their commercial business, based on unlimited liability. The primary concern of these agency houses was trade, but they branched out into banking as a sideline to facilitate the operations of their main business. The English agency houses, that began to serve as bankers to the East India Company had no capital of their own, and depended on deposits for their funds. They financed movements of crops, issued paper money and established joint stock banks. Earliest of these was Hindusthan Bank, established by one of the agency houses in Calcutta in 1770. Banking in India originated in the last decades of the 18th century. The first bank in India, though conservative, was established in 1786 in Calcutta by the name of bank of Bengal. Early Phase (1786 to 1935) The first banks were The General Bank of India, which started in 1786, and the Bank of Hindustan, both of which are now defunct The oldest bank in existence in India is the State Bank of India, which originated in the Bank of Calcutta in June 1806, which almost immediately became the Bank of Bengal. This was one of the three presidency banks, the other two being the Bank of Bombay and the Bank of Madras, all three of which were established under charters from the British East India Company. For many years the Presidency banks acted as quasi-central banks, as did their successors. The East India Company established Bank of Bengal, Bank of Bombay and Bank of Madras as independent units and called it Presidency Banks. The three banks merged in 1925 to form the Imperial Bank of India, which, upon India's independence, became the State Bank of India. Indian merchants in Calcutta established the Union Bank in 1839, but it failed in 1848 because of the economic crisis of 1848-49. The Allahabad Bank, established in 1865 and still functioning today, is the oldest Joint Stock bank in India.

Pre Nationalization Phase (1935 to 1969)

Organized banking in India is more than two centuries old. Until 1935 all, the banks were in private sector and were set up by individuals and/or industrial houses, which collected deposits from individuals and used them for their own purposes. In the absence of any regulatory framework, these private owners of banks were at liberty to use the funds in any manner, they deemed appropriate and resultantly, the bank failures were frequent. For many years the Presidency banks acted as quasi-central banks, as did their successors. Bank of Bengal, Bank of Bombay and Bank of Madras merged in 1925 to form the Imperial Bank of India, which, upon India's independence, became the State Bank of India. Even though consolidation in banking was building trust among the investors but a central regulatory, authority was much needed. British Government in India passed many trade and commerce laws but acted little on regulating the banking industry.

Reserve Bank of India

Another breakthrough happened in this phase, which was Reserve Bank of India. The Reserve Bank of India was set up on the recommendations Royal Commission on Indian Currency and Finance4 also known as the Hilton-Young Commission. The commission submitted its report in the year 1926, though the bank was not set up for nine years. Reserve Bank of India (RBI) was created with the central task of maintaining monetary stability in India. The Government on December 20, 1934 issued a notification and on January 14, 1935, the RBI came into existence, though it was formally inaugurated only on April 1, 1935. Main functions of RBI were 1. Regulate the issue of banknotes 2. Maintain reserves with a view to securing monetary stability and 3. To operate the credit and currency system of the country to its advantage Government of India took many banking initiatives. These were aimed to provide banking coverage to all section of the society and every sector of the economy. 1955 The Industrial Credit and Investment Corporation of India Limited (ICICI) was incorporated at the initiative of World Bank, the Government of India and representatives of Indian industry, with the objective of creating a development financial institution for providing medium-term and long-term project financing to Indian businesses.

Industrial Development Bank of India Limited (IDBI) was established in 1964 by an Act of Parliament to provide credit and other facilities for the development of the fledgling Indian industry. Some of the institutions built by IDBI are The National Stock Exchange of India (NSE), The National Securities Depository Services Ltd. (NSDL) and the Stock Holding Corporation of India (SHCIL) IDBI BANK, as a private bank after government policy for new generation private banks. Post Nationalization Phase (1969 to 1990)

On July 19, 1969 - the erstwhile government of India nationalized 14 major private banks. Nationalization of bank in India was not new or happening first time. From 1955 to 1960, State Bank of India and other seven subsidiaries were nationalized under the SBI Act of 1955. It was not a step taken at random or because of the whims of the leadership of the time, but reflected a process of struggle and political change which had made this an important demand of the people. Nationalisation took place in two phases, with a first round in 1969 covering 14 banks followed by another in 1980 covering seven banks. Currently there are 27 nationalized commercial banks. Reasons for Nationalization 1. The need for the nationalization was felt mainly because private commercial banks were not fulfilling the social and developmental goals of banking, which are so essential for any industrializing country. Despite the enactment of the Banking Regulation Act in 1949 and the nationalization of the largest bank, the State Bank of India, in 1955, the expansion of commercial banking had largely excluded rural areas and small-scale borrowers. 2. The developmental goals of financial intermediation were not being achieved other than for some favored large industries and established business houses. Whereas industrys share in credit disbursed by commercial banks almost doubled between 1951 and 1968, from 34 per cent to 68 per cent, agriculture received less than 2 per cent of total credit. 3. The stated purpose of bank nationalization was to ensure that credit allocation occur in accordance with plan priorities. 4. Reduce the hold of moneylenders and make more funds available for agricultural development. Nationalization of bank was to actively involve in poverty alleviation and employment generation programs.

List of Nationalized Banks in 1969

Indian Overseas Bank 2 Bank of Maharashtra 9 Bank of Baroda 3 Dena Bank 10 Union Bank 4 Punjab National Bank 11 Allahabad Bank 5 Syndicate Bank 12 United Bank of India 6 Canara Bank 13 UCO Bank 7 Indian Bank 14 Bank of India This phase of Indian banking not so happening for entry of new banks. Undoubtedly, it was a phase of expansion, consolidation and increment in many ways. The banking sector grew at a 1 Central Bank of India 8

phenomenal rate, fruits of nationalization were evident, and common person was now banking with great trust. National Bank for Agricultural and Rural Development (NABARD) was set up in 1982, as an apex institution for agricultural and rural credit, though primarily, a refinance extension institution. Board for Industrial & Financial Reconstruction (BIFR) came into existence under Sick Companies (Special Provisions) Act 1985 and started its operations wef May 15, 1987. It is meant to deal with sick companies or potential sick companies as defined under the Act. BIFR, based on a reference by the concerned sick company, takes a decision whether the company should be rehabilitated or wound up.

Modern Phase from 1991 till date

This is the phase of New Generation tech-savvy banks. This phase can be called as The Reforms Phase. Starting of the modern and current phase of Indian Banking is marked by two important events.

Narasimhan Committee
The Committee on Banking Sector Reforms Committee8 headed by Mr. M. Narasimhan, it is also known as Narasimhan Committee. The Committee, headed by former Reserve Bank of India governor M Narasimhan, was appointed by the United Front government to review the progress in banking sector reforms. The committee submitted its recommendations to union Finance Minister Yashwant Sinha in November of 1991. The Committee was required to review the progress in the reforms in the banking sector over the past six years with and to chart a programme on Financial Sector Reforms necessary to strengthen the India's financial system and make it internationally competitive taking into account the vast changes in the international and financial markets, technogical advances. Some of the recommendations offered by the committee are: 1. A reduction, phased over five years in the Statutory Liquidity Ratio (SLR) to 25 percent, synchronized with the planned contraction in Fiscal Deficit. 2. A progressive reduction in the Cash Reserve Ratio (CRR). 3. Gradual deregulation of interest rates. 4. All banks to attain Capita Adequacy 8% in a phased manner. 5. Banks to make substantial provisions for bad and doubtful debts. 6. Profitable and reputed banks be permitted to raise capital from the public.

7. Instituting an Assets Reconstruction Fund to which the bad and doubtful debts of banks and Financial Institutions could be transferred at a discount. 8. Facilitating the establishment of new private banks, subject to RBI norms. 9. Banks and financial institutions to classify their assets into four broad groups, viz, Standard, Sub-standard, Doubtful and Loss. 10. RBI to be primarily responsible for the regulation of the banking system. 11. Larger role for Securities Exchange Board of India (SEBI), particularly as a market regulator rather than as a controlling authority.

Economic Liberalization in India

The second major turning point in this phase was Economic Liberalization in India. After Independence in 1947, India adhered to socialist policies. The extensive regulation was sarcastically dubbed as the "License Raj". The Government of India headed by Narasimha Rao decided to usher in several reforms that are collectively termed as liberalization in the Indian media with Manmohan Singh whom he appointed Finance Minister. Dr. Manmohan Singh, an acclaimed economist, played a central role in implementing these reforms. New research suggests that the scope and pattern of these reforms in India's foreign investment and external trade sectors followed the Chinese experience with external economic reforms.

Banking Regulations Act 1949 The following are the important provisions under Banking Regulation Act, 1949 regarding control and regulation of Banking Sector in India. The requirements regarding the minimum paid-up capital and reserves for commence mint of banking business. Prohibition of charge on unpaid capital. Payment of Dividends only after writing off all Capitalized expenses. Transfer to reserve fund out of Profits. (Minimum 20 per cent) Maintenance of cash reserves by the non- scheduled banks. (Minimum 3 per cent) Restrictions on holding shares in other companies. Restrictions on loans and advances to directors and others. Licensing of banking companies. Licences for opening of new branches and transfer of existing place of business. Maintenance of a percentage of liquid as sets (SLR). (Minimum 25 per cent and maximum 40 per cent) Maintenance of Assets in India By a banking company. (Minimum 75 per cent of DTL) Submission of Return of unclaimed Deposits.

1. Power to call for and publish the information. Preparation of Accounts and Balance Sheets. Audit of the Balance sheet and Profit & Loss Account. Publication of Audited Accounts and Balance Sheet. Inspection of books and accounts of banking companies by RBI. Giving directions to banking companies. 2. Prior approval from RBI for appointment of managing directors. 3. Removal of managerial and any other persons from office. 4. Power of RBI to appoint additional directors 5. Moratorium under the orders of a High Court. 6. Winding up of banking companies. 7. Scheme of amalgamation to be sanctioned by the RBI. 8. Power of RBI to apply to the 9. Central Government for an order of mortal rim in respect of a banking company and for a scheme of reconstruction or amalgamation. 10. Power of RBI to examine the record of proceedings and tender advice in winding up proceedings. 11. Power of RBI to inspect and make its report to winding up.

12. Power of RBI to call for Returns and information from the Liquidator of a Banking company. 13. Issue of No Objection Certificate for change of name. 14. Issue of No objection certificate for the Alteration of memorandum of a banking company. Central Government to consult the RBI for making rules regarding banking companies. Recommend to the Central Government for exempting any bank from the provisions of the Banking Regulation Act 1949. Requirements regarding minimum paid up capital and reserves: Sections 11 & 12: Although Section 11 prescribes a minimum capital of Rs.5.00 lakh only, Reserve Bank currently prescribed a minimum paid-up capital of Rs.100 crore for setting up a new banking company. Under the provisions of Section 12, the subscribed capital of the company is not less than half of its authorized capital and the paid up capital is not less than half of its subscribed capital, provided when the capital is increased this proportion may be permitted to be secured within a period to be determined by the Reserve Bank not exceeding two years from the date of increase. Prohibition of charge on unpaid capital: Section 14 Under Section 14, no banking company shall create any charge upon its unpaid capital, and any such charge if created, shall be invalid. Limiting the payment of dividends: Section 15 According to this section no banking company shall pay any dividend on its shares until all its capitalized expenses such as Preliminary Expenses, Brokerage and Commission on issue of shares, etc., have been completely written off. Transfer to Reserve Fund: Section 17 Under Section 17, Banking companies incorporated in India are obligated to transfer to the reserve fund a sum equivalent to not less than 20% of the profit each year, unless the amount in such fund together with the amount in the share premium account is more than or equal to its paid-up capital. Maintenance of cash reserve by non-scheduled banks: Section 18 According to Section 18, every banking company not being a scheduled bank (i.e., a non-scheduled bank) has to maintain in India by way of cash reserve with itself or in current account opened with the Reserve Bank or the State Bank of India or any notified Bank or partly in cash with itself and partly in such account or accounts a sum equivalent to at least 3% of its total time and demand liabilities.

Restrictions on holding of shares in other companies: Section 19 Section 19 of the Act restricts the scope of formation of subsidiary companies by a banking company, as well as the holding of shares in other companies. That is, this section prevents banking companies from carrying on trading activities by acquiring a controlling interest in non-banking companies. This section restricts the scope of formation of subsidiary companies by a banking company, as well as the holding of shares in other companies. A banking company may form a subsidiary company for the purposes referred to in the section, as well as for other purposes as are incidental to the business of banking, subject to the previous permission in writing of the RBI. Restrictions on loans and advances: Sections 20 & 21 Section 20 lays down the restrictions on banking companies from entering into any commitment from granting any loan to any of its director or to any firm in which a director is interested or to any individual or whom a director stands as a guarantor. Further the banking companies are prohibited from granting loans or advances on the security of its own shares. Under Section 21, the RBI has been empowered to determine the policy to be followed by the banks in relation to advances. Thus, RBI gives directions to banking companies on the following matters: (i) The purposes for which an advance may or may not be granted (ii) The margins to be maintained in case of secured advances (iii) The rate of interest charged on advances, other financial accommodation and commission on guarantees (iv) The maximum amount of advance or other financial accommodation that a bank may make to or guarantee that it may issue for, a single party, having regard to the paid-up capital, reserves and deposits of the concerned bank.

Licensing of banking companies: Section 22

According to this section, no banking company can commence or carry on banking business in India unless it holds a licence granted to it by the Reserve Bank for the purpose. This section states the following requirements for granting licence: (i) Necessity of licensing and mode of applying for it (ii) Conditions for granting of licenses (iii) Cancellation of licenses and appeals from such orders Before granting any license under this section, the Reserve Bank may require to be satisfied by an inspection of the books of the company that the following conditions are (i) that the company is in a position to pay its present or future depositors in full as their claims accrue; (ii) that the affairs of the company are not likely to be conducted in a manner detrimental to the interests of its present or future depositors; (iii) in the case of the carrying on of banking business by such company in India will be in the public interest and that the government or laws of the country in which it is incorporated does not discriminate in any way against banking companies registered in India and that the company complies with all the provisions of this Act, applicable to banking companies incorporated outside India. However, RRBs have been established under a separate Act of Parliament, viz., RRBs Act 1976 and not under Banking Regulation Act. The Reserve Bank may cancel a license granted to a banking company under this section: (i) If the company ceases to carry on banking business in India; or (ii) If the company at any time fails to comply with any of the conditions imposed upon it; or* (iii) Any banking company aggrieved by the decision of the Reserve Bank cancelling a licence under this section may, within thirty days from the date on which such decision is communicated to it, appeal to the Central Government. The decision of the Central Government shall be final. Thus, every banking company which likes to start banking business in India must obtain licence from RBI.

Control on the opening of new business: Section 23

According to this section, the RBI has been empowered to control the opening of new and transfer of existing places of business of banking companies. As such, no banking company shall open a new place of business in India or outside India and change the place without obtaining the prior permission of the RBI. No permission is required for opening a branch within the same city, town or village and for opening a temporary place of business for a maximum period of one month within a city, where the banking company already has a place of business for the purpose of providing banking facilities to the public on the occasion of an exhibition, a conference, a mela, etc. Maintenance of a percentage of liquid assets (SLR): Section 24 Under this section, every banking company shall maintain in India in liquid assets for an amount not less than 25% of the total of its time and demand liabilities at the close of business on any day. The liquid assets include cash, gold or unencumbered approved securities and they are valued at a price not exceeding the current market price. Maintenance of Assets in India: Section 25 Section 25 requires for the maintenance of assets equivalent to at least 75% of its demand and time liabilities in India, at the close of business of the last Friday of every quarter. Submission of Returns of unclaimed Deposits: Section 26 According to this section, every banking company shall submit a return in the prescribed form and manner to the RBI, giving particulars, regarding unoperated accounts in India for 10 years. This return is to be submitted within 30 days after the close of each calendar year. In the case of fixed deposits, the 10 years period is counted from the date of expiry of such fixed period. RRBs are however required to forward such returns to NABARD. Submission of Return, Forms, etc., to RBI: Section 27 Under this section, every banking company shall submit to be RBI a return in the prescribed form (form 13) and manner showing its assets and liabilities in India on the last Friday of every month, (if that Friday is a public holiday under the negotiable instruments Act, 1881, on the preceding working day.) Besides, the RBI may at any time direct a banking company to furnish the statements and information relating to the business or affairs of the banking company within the specified period mentioned therein. Such directions may be issued when the RBI considers it is necessary or expedient to obtain for the purpose of the Act. And the RBI may call for information every half year,

regarding the investments of banking company and the classifications of advance given in respect of industry, commerce and agriculture. Powers to Publish Information: Section 28 Under this section, the RBI is authorized to publish in the public interest any information obtained under the Banking Regulation Act. The information is published in the consolidated form as the RBI may think fit. Maintenance of Accounts and Balance Sheets: Section 29 This section provides for the preparation of Balance Sheet and Profit & Loss Account as on the last working day of the year in respect of all business transacted by a banking company incorporated in India and in respect of all business transacted through its branches in India by a banking company incorporated outside India. It is prepared in the forms set out in the Third Schedule. The central government after giving not less than three months notice of its intention so to do by a notification in the official gazette, may from time to time by a like notification amend the forms set out in the Third Schedule. In the view of the fact that in the opinion of experts, as well as the Banking enquiry committee, that form "f " required to be used by every company in preparing its balance sheet. Audit of the Balance Sheet and Profit & Loss Account: Section 30 As per this section, the balance sheet and Profit & Loss Account prepared in accordance with Section 29 shall be audited by a person duly qualified under any law for the time being in force to be an auditor of companies. The auditor is required to state in his report in the case of a banking company incorporated in India, (i) Whether or not the information and explanation required by him have been found to be satisfactory (ii) Whether or not the transactions of the company which have come to his notice have been within the powers of the company (iii) Whether or not the returns received from branch offices of the company "have been found adequate for the purposes of this audit (iv) Whether the Profit & Loss Account shows a true balance of profit or loss for the period covered by such account

(v) Any other matter which he considers should be brought to the notice of shareholders of the company. Submission of returns to RBI: Section 31 This section provides for publication of the Profit & Loss Account, Balance Sheet and the Auditor's report in the prescribed manner as well as for the submission of three copies thereof as returns to the Reserve Bank within a period of three months which may be extended up to six months. Inspection of books of accounts: Section 35 This Section was incorporated with a view to safeguard the interest of shareholders and depositors of banking companies, as a result of which bank directors and managers are likely to be cautious in employing the funds of their institutions. This section provides wide powers to RBI to cause an inspection of any banking company and its books and accounts. Giving directions to Banking Companies: Section 35A Under Section on 35A, the Reserve Bank may caution or prohibit banking companies generally or any banking company in particular against entering into certain types of operations. Prior approval from RBI for appointment of Managing Director, etc. Section 35 AB According to this section, prior approval of RBI should be obtained for the appointment, re-appointment, remuneration and removal of the chairman or a director of a banking company. And for the amendments of provisions in the Memorandum or Articles or Resolutions of a General Meeting or Board of Directors, the prior approval of RBI is necessary. Removal of managerial and any other persons from office: Section 36AA and Section 36AB Under these sections, the RBI has power to remove managerial and other persons from office and to appoint additional directors.

Moratorium under the orders of High Court (Suspension of Business) Section 37 According to this section when a banking company is temporarily unable to meet its obligations it may apply to the High Court requesting an order for staying the commence-

ment or continuance of all legal actions and proceedings against it for a period of not exceeding 6 months. Such stay is generally called a moratorium. For such requisition, the banking company should submit an application along with a report of the RBI in this regard. In that report the RBI indicates that the banking company is able to pay its debts if the application is granted. If such report is not obtained from the RBI, the banking company cannot get the grant of moratorium.

Winding up of Banking Companies: Section 38 to 44 Sections 38 to 44 of the Act lay down the provisions for winding up of a banking company. The RBI may apply for the winding up of a banking company if, (i) It fails to comply with the requirements as to minimum Paid-up capital and reserves as laid down in Section 11, or (ii) Is disentitled to carry on the banking business for want of license under Section 22, or (iii) It has been prohibited from receiving fresh deposits by the Central Government or the Reserve Bank, or (iv) It has failed to comply with any requirement of the Act, and continues to do so even after the Reserve Bank calls upon it to do so, (v) The Reserve Bank thinks that a compromise or arrangement sanctioned by the court cannot be worked satisfactorily, or (vi) The Reserve Bank thinks that according to the returns furnished by the company it is unable to pay its debts or its continuance is prejudicial to the interests of the depositors. The banking company cannot be voluntarily wound up unless the Reserve Bank certifies that it is able to pay its debts in full.

Amalgamation of Banking Companies: Section 44A

The procedures for amalgamation of banking companies are given under this section. As per this section the scheme of amalgamation (i.e., the terms and conditions of amalgamation) is to be approved by a majority - 2/3 of the total voting ratios - of the shareholders in a general meeting. The unwilling shareholders are entitled to receive the value of their shares as may be determined by the RBI. The RBI has to sanction the scheme of amalgamation after the shareholders' approval. The assets and liabilities are transferred to the acquiring bank according to the directions of RBI mentioned in the sanction order. The RBI issues order for the dissolution of the first bank on a specified date. Application by RBI for Moratorium: Section 45 Under this section the RBI may apply to the Central Government for an order of Moratorium in respect of banking company, if it considers fit. According to the application, an order is passed staying all actions and proceedings against the banking company for a specified period. During the period of Moratorium the RBI may prepare a detailed scheme for its reconstruction or amalgamation with any other banking company.

Reserve Bank of India Act,1934

The Reserve Bank of India is the central bank of India, and was established on April 1,1935 in accordance with the provisions of the Reserve Bank of India Act,1934 RBI was originally privately owned, It has been fully owned by the Government of India since nationalization in 1949 The Reserve Bank of India was set up on the recommendations of the Hilton Young Commission. Current Governor of RBI is Duvvuri Subbarao who succeeded Yaga Venugopal Reddy on September 2, 2008 is the current Governor of RBI. It has 22 regional offices

The Reserve Bank of India is the kingpin of the Indian money market. It issues notes, buys and sells government securities, regulates the volume, direction and cost of credit, manages foreign exchange and acts as banker to the government and banking institutions. The Reserve Bank is playing an active role in the development activities by helping the establishment and working of specialized institutions, providing term finance to agriculture, industry, housing and foreign trade. In spite of many criticisms, it has successfully controlled commercial banks in India and has helped in evolving a strong banking system. A study of the Reserve Bank of India will be useful, not only for the examination, but also for understanding the working of the supreme monetary and banking authority in the country. Functions of the Reserve Bank According to the preamble of the Reserve Bank of India Act, the main functions of the bank is to regulate the issue of bank notes and the keeping of reserves with a view to securing monetary stability in India and generally to operate the currency and credit system of the country to its advantage. The various functions performed by the RBI can be conveniently classified in three parts as follows: A. Traditional Central Banking Functions The Reserve Bank of India discharges all those functions which are performed by a central bank. Among these the more important functions are as follows: 1. Monopoly of Note Issue: Under Section 22 of the Reserve Bank of India Act, the Bank has the sole right to issue bank notes of all denomination. The distribution of one rupee notes and coins and small coins all over the country is undertaken by the Reserve Bank as agent of the Government. The Reserve Bank has a separate Issue Department which is entrusted with the issue of currency notes. The assets and liabilities of the Issue Department are kept separate from those of the Banking Department, originally, the assets of the Issue Department were to consist of not less than two fifths of gold coin, gold bullion or sterling securities provided the amount of gold was not less than Rs. 40 crores in value. The remaining three-fifths of the assets might be held in rupee coins, Government of India rupee securities, eligible bills of exchange and promissory notes payable in India. Due to the exigencies of the second

World War and the post-war period, these provisions were considerably modified since 1957, the Reserve Bank of India is required to maintain gold and foreign exchange reserves of Rs. 200 crores, of which at least Rs. 115 crores should be in gold. The system as it exists today is known as the Minimum Reserve System.

CHAPTER IV GENERAL PROVISIONS 46. Contribution by Central Government to the Reserve Fund. The Central Government shall transfer to the Bank rupee securities of the value of five crores of rupees to be allocated by the Bank to the Reserve Fund. 47. Allocation of surplus profits. After making provision for bad and doubtful debts, depreciation in assets, contributions to staff and superannuation funds and for all other matters for which provision is to be made by or under this Act or which are usually provided for by bankers, the balance of the profits shall be paid to the Central Government. 48. Exemption of Bank from income-tax and super-tax. Notwithstanding anything contained in 1[the Income-Tax Act, 1961], or any other enactment for the time being in force relating to income-tax or super-tax, the Bank shall not be liable to pay income-tax or super-tax on any of its income, profits or gains. 49. Publication of bank rate. The Bank shall make public from time to time the standard rate at which it is prepared to buy or re-discount bills of exchange or other commercial paper eligible for purchase under this Act. 50. Auditors. (1) Not less than two auditors shall be appointed, and their remuneration fixed, by the Central Government. (2) The auditors shall hold office for such term not exceeding one year as the Central Government may fix while appointing them, and shall be eligible for re-appointment

53. Returns.

(1) The Bank shall prepare and transmit to the Central Government a weekly account of the Issue Department and of the Banking Department in such from as the Central Government may, by notification in the Gazette of India, prescribe. The Central Government shall cause these accounts to be published in the Gazette of India at such intervals and in such modified form as it may deem fit. (2) The Bank shall also, within two months from the date on which the annual accounts of the Bank are closed, transmit to the Central Government a copy of the annual accounts signed by the Governor, the Deputy Governors and the Chief Accounting Officer of the Bank, and certified by the auditors, together with a report by the Central Board on the working of the Bank throughout the year, and the Central Government shall cause such accounts and report to be published in the Gazette of India. 54. Rural Credit and Development. The Bank may maintain expert staff to study various aspects of rural credit and development. 55 and 56. Reports by the Bank. Power to require declaration as to ownership of registered shares. 57. Liquidation of the Bank. Nothing in the Companies Act, 1956 shall apply to the Bank, and the Bank shall not be placed in liquidation save by order of the Central Government and in such manner as it may direct 58. Power of the Central Board to make regulations. (1) The Central Board may, with the previous sanction of the Central Government by notification in the official Gazette make regulations consistent with this Act to provide for all matters for which provision is necessary or convenient for the purpose of giving effect to the provisions of this Act. (2) In particular and without prejudice to the generality of the foregoing provision, such regulations may provide for all or any of the following matters, namely: 59 to 61. Amendment of Act 3 of 1906. Repeals, Amendment of section 11, Act 7 of 1913.


20. Obligation of the Bank to transact Government business. 21. Bank to have the right to transact Government business in India. 21A. Bank to transact Government business of States on agreement. 22. Right to issue bank notes. 23. Issue Department. 24. Denominations of notes. 25. Form of bank notes. 26. Legal tender character of notes. 27. Re-issue of notes. 28. Recovery of notes lost, stolen, mutilated or imperfect. 29. Bank not exempted from stamp duty on bank notes. 30. Powers of Central Government to supersede Central Board. 31. Issue of demand bills and notes. 32. Penalty. 33. Assets of the Issue Department. 34. Liabilities of the Issue Department. 35. Initial assets and liabilities. 36. Method of dealing with fluctuations in rupee coin assets. 37. Suspension of assets requirements as to foreign securities. 38. Obligations of Government and the Bank in respect of rupee coin. 39. Obligation to supply different forms of currency. 40. Transactions in foreign exchange. 41. Obligation to buy sterling. 42. 43. 44. 45. Cash reserves of scheduled banks to be kept with the Bank. Publication of consolidated statement by the Bank. Power to require returns from co-operative banks. Appointment of Agents.


The Negotiable Instruments Act was enacted, in India, in 1881. Prior to its enactment, the provision of the English Negotiable Instrument Act were applicable in India, and the present Act is also based on the English Act with certain modifications. It extends to the whole of India except the State of Jammu and Kashmir. The Act operates subject to the provisions of Sections 31 and 32 of the Reserve Bank of India Act, 1934. Section 31 of the Reserve Bank of India Act provides that no person in India other than the Bank or as expressly authorised by this Act, the Central Government shall draw, accept, make or issue any bill of exchange, hundi, promissory note or engagement for the payment of money payable to bearer on demand. This Section further provides that no one except the RBI or the Central Government can make or issue a promissory note expressed to be payable or demand or after a certain time. Section 32 of the Reserve Bank of India Act makes issue of such bills or notes punishable with fine which may extend to the amount of the instrument. The effect or the consequences of these provisions are: 1. A promissory note cannot be made payable to the bearer, no matter whether it is payable on demand or after a certain time. 2. A bill of exchange cannot be made payable to the bearer on demand though it can be made payable to the bearer after a certain time. 3. But a cheque {though a bill of exchange} payable to bearer or demand can be drawn on a persons account with a banker.


According to Section 13 (a) of the Act, Negotiable instrument means a promissory note, bill of exchange or cheque payable either to order or to bearer, whether the word order or bearer appear on the instrument or not. In the words of Justice, Willis, A negotiable instrument is one, the property in which is acquired by anyone who takes it bonafide and for value notwithstanding any defects of the title in the person from whom he took it. Thus, the term, negotiable instrument means a written document which creates a right in favour of some person and which is freely transferable. Although the Act mentions only these three instruments (such as a promissory note, a bill of exchange and cheque), it does not exclude the possibility of adding any other instrument which satisfies the following two conditions of negotiability: 1. the instrument should be freely transferable (by delivery or by endorsement. and delivery) by the custom of the trade; and

2. the person who obtains it in good faith and for value should get it free from all defects, and be entitled to recover the money of the instrument in his own name. As such, documents like share warrants payable to bearer, debentures payable to bearer and dividend warrants are negotiable instruments. But the money orders and postal orders, deposit receipts, share certificates, bill of lading, dock warrant, etc. are not negotiable instruments. Although they are transferable by delivery and endorsements, yet they are not able to give better title to the bonafide transferee for value than what the transferor has.


A negotiable instrument has the following characteristics: 1. Property: The prossessor of the negotiable instrument is presumed to be the owner of the property contained therein. A negotiable instrument does not merely give possession of the instrument but right to property also. The property in a negotiable instrument can be transferred without any formality. In the case of bearer instrument, the property passes by mere delivery to the transferee. In the case of an order instrument, endorsement and delivery are required for the transfer of property. 2. Title: The transferee of a negotiable instrument is known as holder in due course. A bona fide transferee for value is not affected by any defect of title on the part of the transferor or of any of the previous holders of the instrument. 3. Rights: The transferee of the negotiable instrument can sue in his own name, in case of dishonour. A negotiable instrument can be transferred any number of times till it is at maturity. The holder of the instrument need not give notice of transfer to the party liable on the instrument to pay. 4. Presumptions: Certain presumptions apply to all negotiable instruments e.g., a presumption that consideration has been paid under it. It is not necessary to write in a promissory note the words for value received or similar expressions because the payment of consideration is presumed. The words are usually included to create additional evidence of consideration. 5. Prompt payment: A negotiable instrument enables the holder to expect prompt payment because a dishonour means the ruin of the credit of all persons who are parties to the instrument.


Sections 118 and 119 of the Negotiable Instrument Act lay down certain presumptions which the court presumes in regard to negotiable instruments. In other words these presumptions need not be proved as they are presumed to exist in every negotiable instrument. Until the contrary is proved the following presumptions shall be made in case of all negotiable instruments: 1. Consideration: It shall be presumed that every negotiable instrument was made drawn, accepted or endorsed for consideration. It is presumed that, consideration is present in every negotiable instrument until the contrary is presumed. The presumption of consideration, however may be rebutted by proof that the instrument had been obtained from, its lawful owner by means of fraud or undue influence. 2. Date: Where a negotiable instrument is dated, the presumption is that it has been made or drawn on such date, unless the contrary is proved. 3. Time of acceptance: Unless the contrary is proved, every accepted bill of exchange is presumed to have been accepted within a reasonable time after its issue and before its maturity. This presumption only applies when the acceptance is not dated; if the acceptance bears a date, it will prima facie be taken as evidence of the date on which it was made. 4. Time of transfer: Unless the contrary is presumed it shall be presumed that every transfer of a negotiable instrument was made before its maturity. 5. Order of endorsement: Until the contrary is proved it shall be presumed that the endorsements appearing upon a negotiable instrument were made in the order in which they appear thereon. 6. Stamp: Unless the contrary is proved, it shall be presumed that a lost promissory note, bill of exchange or cheque was duly stamped. 7. Holder in due course: Until the contrary is proved, it shall be presumed that the holder of a negotiable instrument is the holder in due course. Every holder of a negotiable instrument is presumed to have paid consideration for it and to have taken it in good faith. But if the instrument was obtained from its lawful owner by means of an offence or fraud, the holder has to prove that he is a holder in due course.

8. Proof of protest: Section 119 lays down that in a suit upon an instrument which has been dishonoured, the court shall on proof of the protest, presume the fact of dishonour, unless and until such fact is disproved.


Section 13 of the Negotiable Instruments Act states that a negotiable instrument is a promissory note, bill of exchange or a cheque payable either to order or to bearer. Negotiable instruments recognize by statute are: (i) Promissory notes (ii) Bills of exchange (iii) Cheques. Negotiable instruments recognised by usage or custom are: (i) Hundis (ii) Share warrants (iii) Dividend warrants (iv) Bankers draft (v) Circular notes (vi) Bearer debentures (vii) Debentures of Bombay Port Trust (viii) Railway receipts (ix) Delivery orders. This list of negotiable instrument is not a closed chapter. With the growth of commerce, new kinds of securities may claim recognition as negotiable instruments. The courts in India usually follow the practice of English courts in according the character of negotiability to other instruments.

Promissory notes

Section 4 of the Act defines, A promissory note is an instrument in writing (note being a bank-note or a currency note) containing an unconditional undertaking, signed by the maker, to pay a certain sum of money to or to the order of a certain person, or to the bearer of the instruments. Essential elements An instrument to be a promissory note must possess the following elements: 1. It must be in writing: A mere verbal promise to pay is not a promissory note. The method of writing (either in ink or pencil or printing, etc.) is unimportant, but it must be in any form that cannot be altered easily. 2. It must certainly an express promise or clear understanding to pay: There must be an express undertaking to pay. A mere acknowledgment is not enough. The following are not promissory notes as there is no promise to pay

(3) Promise to pay must be unconditional: A conditional undertaking destroys the negotiable character of an otherwise negotiable instrument. Therefore, the promise to pay must not depend upon the happening of some outside contingency or event. It must be payable absolutely. (4) It should be signed by the maker: The person who promise to pay must sign the instrument even though it might have been written by the promisor himself. There are no restrictions regarding the form or place of signatures in the instrument. It may be in any part of the instrument. It may be in pencil or ink, a thumb mark or initials. The pronote can be signed by the authorised agent of the maker, but the agent must expressly state as to on whose behalf he is signing, otherwise he himself may be held liable as a maker. The only legal requirement is that it should indicate with certainty the identity of the person and his intention to be bound by the terms of the agreement. (5) The maker must be certain: The note self must show clearly who is the person agreeing to undertake the liability to pay the amount. In case a person signs in an assumed name, he is liable as a maker because a maker is taken as certain if from his description sufficient indication follows about his identity. In case two or more persons promise to pay, they may bind themselves jointly or jointly and severally, but their liability cannot be in the alternative. (6) The payee must be certain: The instrument must point out with certainty the person to whom the promise has been made. The payee may be ascertained by name or b designation. A note payable to the maker himself is not pronate unless it is indorsed by him. In case, there is a mistake in the name of the payee or his designation; the note is valid, if the payee can be ascertained by evidence. Even where the name of a dead person is entered as payee in ignorance of his death, his legal representative can enforce payment. (7) The promise should be to pay money and money only: Money means legal tender money and not old and rare coins. A promise to deliver paddy either in the alternative or in addition to money does not constitute a promissory note. (8) The amount should be certain: One of the important characteristics of a promissory note is certaintynot only regarding the person to whom or by whom payment is to be made but also regarding the amount. However, paragraph 3 of Section 5 provides that the sum does not become indefinite merely because (a) there is a promise to pay amount with interest at a specified rate. (b) the amount is to be paid at an indicated rate of exchange.

(c) the amount is payable by installments with a condition that the whole balance shall fall due for payment on a default being committed in the payment of anyone installment. (9) Other formalities: The other formalities regarding number, place, date, consideration etc. though usually found given in the promissory notes but are not essential in law. The date of instrument is not material unless the amount is made payable at a certain time after date. Even in such a case, omission of date does not invalidate the instrument and the date of execution can be independently ascertained and proved. On demand (or six month after date) I promise to pay Peter or order the sum of rupees one thousand with interest at 8 per cent per annum until payment.

Bill of exchange
Section 5 of the Act defines, A bill of exchange is an instrument in writing containing an unconditional order, signed by the maker, directing a certain person to pay a certain sum of money only to, or to the order of a certain person or to the bearer of the instrument. A bill of exchange, therefore, is a written acknowledgement of the debt, written by the creditor and accepted by the debtor. There are usually three parties to a bill of exchange drawer, acceptor or drawee and payee. Drawer himself may be the payee. Essential conditions of a bill of exchange (1) It must be in writing. (2) It must be signed by the drawer. (3) The drawer, drawee and payee must be certain. (4) The sum payable must also be certain. (5) It should be properly stamped. (6) It must contain an express order to pay money and money alone.

Section 6 of the Act defines A cheque is a bill of exchange drawn on a specified banker, and not expressed to be payable otherwise than on demand. A cheque is bill of exchange with two more qualifications, namely, (i) it is always drawn on a specified banker, and (ii) it is always payable on demand. Consequently, all cheque are bill of exchange, but all bills are not cheque. A cheque must satisfy all the requirements of a bill of exchange; that is, it must be signed by the drawer, and must contain an unconditional order on a specified banker to pay a certain sum of money

to or to the order of a certain person or to the bearer of the cheque. It does not require acceptance.

Parties to Bill of Exchange

1. Drawer: The maker of a bill of exchange is called the drawer. 2. Drawee: The person directed to pay the money by the drawer is called the drawee, 3. Acceptor: After a drawee of a bill has signed his assent upon the bill, or if there are more parts than one, upon one of such pares and delivered the same, or given notice of such signing to the holder or to some person on his behalf, he is called the acceptor. 4. Payee: The person named in the instrument, to whom or to whose order the money is directed to be paid by the instrument is called the payee. He is the real beneficiary under the instrument. Where he signs his name and makes the instrument payable to some other person, that other person does not become the payee. 5. Indorser: When the holder transfers or indorses the instrument to anyone else, the holder becomes the indorser. 6. Indorsee: The person to whom the bill is indorsed is called an indorsee. 7. Holder: A person who is legally entitled to the possession of the negotiable instrument in his own name and to receive the amount thereof, is called a holder. He is either the original payee, or the indorsee. In case the bill is payable to the bearer, the person in possession of the negotiable instrument is called the holder. 8. Drawee in case of need: When in the bill or in any endorsement, the name of any person is given, in addition to the drawee, to be resorted to in case of need, such a person is called drawee in case of need. In such a case it is obligatory on the part of the holder to present the bill to such a drawee in case the original drawee refuses to accept the bill. The bill is taken to be dishonoured by non-acceptance or for nonpayment, only when such a drawee refuses to accept or pay the bill.

9. Acceptor for honour: In case the original drawee refuses to accept the bill or to furnish better security when demanded by the notary, any person who is not liable on the bill, may accept it with the consent of the holder, for the honour of any party liable on the bill. Such an acceptor is called acceptor for honour.

Parties to a Promissory Note

1. Maker. He is the person who promises to pay the amount stated in the note. He is the debtor. 2. Payee. He is the person to whom the amount is payable i.e. the creditor. 3. Holder. He is the payee or the person to whom the note might have been indorsed. 4. The indorser and indorsee (the same as in the case of a bill).

Parties to a Cheque
1. Drawer. He is the person who draws the cheque, i.e., the depositor of money in the bank. 2. Drawee. It is the drawers banker on whom the cheque has been drawn. 3. Payee. He is the person who is entitled to receive the payment of the cheque. 4. The holder, indorser and indorsee (the same as in the case of a bill or note).


Negotiation may be defined as the process by which a third party is constituted the holder of the instrument so as to entitle him to the possession of the same and to receive the amount due thereon in his own name. According to section 14 of the Act, when a promissory note, bill of exchange or cheque is transferred to any person so as to constitute that person the holder thereof, the instrument is said to be negotiated. The main purpose and essence of negotiation is to make the transferee of a promissory note, a bill of exchange or a cheque the holder there of. Negotiation thus requires two conditions to be fulfilled, namely: 1. There must be a transfer of the instrument to another person; and 2. The transfer must be made in such a manner as to constitute the transferee the holder of the instrument. Handing over a negotiable instrument to a servant for safe custody is not negotiation; there must be a transfer with an intention to pass title.

Modes of negotiation

Negotiation may be effected in the following two ways: 1. Negotiation by delivery (Sec. 47): Where a promissory note or a bill of exchange or a cheque is payable to a bearer, it may be negotiated by delivery thereof.

Example: A, the holder of a negotiable instrument payable to bearer, delivers it to Bs agent to keep it for B. The instrument has been negotiated. 2. Negotiation by endorsement and delivery (Sec. 48): A promissory note, a cheque or a bill of exchange payable to order can be negotiated only be endorsement and delivery. Unless the holder signs his endorsement on the instrument and delivers it, the transferee does not become a holder. If there are more payees than one, all must endorse it.


When a negotiable instrument is dishonoured, the holder must give a notice of dishonour to all the previous parties in order to make them liable. A negotiable instrument can be dishonoured either by nonacceptance or by non-payment. A cheque and a promissory note can only be dishonoured by non-payment but a bill of exchange can be dishohoured either by non-acceptance or by non-payment Dishonour by non-acceptance (Section 91) A bill of exchange can be dishonoured by non-acceptance in the following ways: 1. If a bill is presented to the drawee for acceptance and he does not accept it within 48 hours from the time of presentment for acceptance. When there are several drawees even if one of them makes a default in acceptance, the bill is deemed to be dishonoured unless these several drawees are partners. Ordinarily when there are a number of drawees all of them must accept the same, but when the drawees are partners acceptance by one of them means acceptance by all. 2. When the drawee is a fictitious person or if he cannot be traced after reasonable search. 3. When the drawee is incompetent to contract, the bill is treated as dishonoured. 4. When a bill is accepted with a qualified acceptance, the holder may treat the bill of exchange having been dishonoured. 5. When the drawee has either become insolvent or is dead. 6. When presentment for acceptance is excused and the bill is not accepted. Where a drawee in case of need is named in a bill or in any indorsement thereon, the bill is not dishonoured until it has been dishonoured by such drawee. Dishonour by non-payment (Section 92) A bill after being accepted has got to be presented for payment on the date of its maturity. If the acceptor fails to make payment when it is due, the bill is dishonoured by non-payment. In the case of a promissory note if the maker fails to make payment on the due date the note is dishonoured

by non-payment. A cheque is dishonoured by non-payment as soon as a banker refuses to pay. An instrument is also dishonoured by non-payment when presentment for payment is excused and the instrument when overdue remains unpaid (Sec 76). Effect of dishonour: When a negotiable instrument is dishonoured either by non acceptance or by non-payment, the other parties thereto can be charged with liability. For example if the acceptor of a bill dishonours the bill, the holder may bring an action against the drawer and the indorsers. There is a duty cast upon the holder towards those whom he wants to make liable to give notice of dishonour to them.

Notice of dishonour: Notice of dishonour means the actual notification of the dishonour of the instrument by non-acceptance or by non-payment. When a negotiable instrument is refused acceptance or payment notice of such refusal must immediately be given to parties to whom the holder wishes to make liable. Failure to give notice of the dishonour by the holder would discharge all parties other than the maker or the acceptor (Sec. 93). Notice by whom: Where a negotiable instrument is dishonoured either by non- acceptance or by non-payment, the holder of the instrument or some party to it who is liable thereon must give a notice of dishonour to all the prior parties whom he wants to make liable on the instrument (Section 93). The agent of any such party may also be givennotice of dishonour. A notice given by a stranger is not valid. Each party receiving notice of dishonour must, in order to render any prior party liable give notice of dishonour to such party within a reasonable time after he has received it. (Sec. 95) When an instrument is deposited with an agent for presentment and is dishonoured, he may either himself give notice to the parties liable on the instrument or he may give notice to his principal. If he gives notice to his principal, he must do so within the same time as if he were the holder. The principal, too, in his turn has the same time for giving notice as if the agent is an independent holder. (Sec. 96) Notice to whom?: Notice of dishonour must be given to all parties to whom the holder seeks to make liable. No notice need be given to a maker, acceptor or drawee, who are the principal debtors (Section 93). Notice of dishonour may be given to an endorser. Notice of dishonour may be given to a duly authorised agent of the person to whom it is required to be given. In case of the death of such a person, it may be given to his legal representative. Where he has been declared insolvent the notice may be given to him or to his official assignee (Section 94). Where a party

entitled to a notice of dishonour is dead, and notice is given to him in ignorance of his death, it is sufficient (Section 97). Mode of notice: The notice of dishonour may be oral or written or partly oral and partly written. It may be sent by post. It may be in any form but it must inform the party to whom it is given either in express terms or by reasonable intendment that the instrument has been dishonoured and in what way it has been dishonoured and that the person served with the notice will be held liable thereon. What is reasonable time?: It is not possible to lay down any hard and fast rule for determining what is reasonable time. In determining what is reasonable time, regard shall be had to the nature of the instrument, the usual course the dealings with respect to similar instrument, the distance between the parties and the nature of communication between them. In calculating reasonable time, public holidays shall be excluded (Section 105). Section 106 lays down two different rules for determining reasonable time in connection with the notice of disnonour (a) when the holder and the party to whom notice is due carry on business or live in different places, (b) when the parties live or carry on business in the same place. In the first case the notice of dishonour must be dispatched by the next post or on the day next after the day of dishonour. In the second case the notice of dishonour should reach its destination on the day next after dishonour.

Place of notice: The place of business or (in case such party has no place of business) at the residence of the party for whom it is intended, is the place where the notice is to given. If the person who is to give the notice does not know the address of the person to whom the notice is to be given, he must make reasonable efforts to find the latters address. But if the party entitled to the notice cannot after due search b found, notice of dishonour is dispensed with. Duties of the holder upon dishonour (1) Notice of dishonour. When a promissory note, bill of exchange or cheque is dishonoured by non-acceptance or non-payment the holder must give notice of dishonour to all the parties to the instrument whom he seeks to make liable thereon. (Sec. 93) (2) Noting and protesting. When a promissory note or bill of exchange has been dishonoured by non-acceptance or non-payment, the holder may cause such dishonour to be noted by a notary public upon the instrument or upon a paper attached thereto or partly upon each (Sec.

99). The holder may also within a reasonable time of the dishonour of the note or bill, get the instrument protested by notary public (Sec. 100). (3) Suit for money. After the formality of noting and protesting is gone through, the holder may bring a suit against the parties liable for the recovery of the amount due on the instrument. Instrument acquired after dishonour: The holder for value of a negotiable instrument as a rule, is not affected by the defect of title in his transferor. But this rule is subject to two important exceptions (i) when the holder acquires it after maturity and (ii) when he acquires it with notice of dishonour. The holder of a negotiable instrument who acquired it after dishonour, whether by non-acceptance or non-payment, with notice thereof, or after maturity, has only, as against the other parties, the rights thereon of his transfer. (Sec. 59).
NOTING Noting is a convenient method of authenticating the fact of dishonour. Where an instrument is dishonoured, the holder, besides giving the above notice, should get the bill or promissory note 'noted' by the notary public. The notary public presents the instrument, notes down in his register date of its dishonour and the reason, if any, given by the acceptor. If the instrument has been expressly dishonoured, the reason why the holder treats it as dishonoured and the notary's charges should be metioned. 'Noting' must be made within a reasonable time after dishonour. Noting is not compulsory in the case of an inland bill or note, but foreign bills must be protested, if s required by the law of the place where drawn. PROTESTING The protest is the formal notarial certificate attesting the dishonour of the bill and based upon the noting. After the noting has been made, the formal protest may be drawn up by the notary at his leisure. When the protest is drawn up it relates back to the date of noting. A protest to be valid must contain the following particulars: 1. The instrument itself, or a literal transcript thereof. 2. The names of the parties against whom the instrument is protested. 3. The fact and reason/reasons for dishonour. 4. Place and time of dishonour or refusal to give better security. 5. Signature of the notary public. 6.. In the event of an acceptance for honour or of a payment for honour, the name of the person by whom or the person for whom, and the manner in which, such acceptance or payment was offered and effected. COMPENSATION Compensation to holder
The holder is entitled to the amount due upon the instrument with interest plus the expenses properly incurred in noting and protesting it. If an endorser of a bill has paid the amount due thereon, he is entitled to the amount so paid plus expenses with interest @ 6 per cent per annum from the date of his paying to the date of his receiving back amount.

Compensation to Endorser

Compensation against banker

Compensation that may be claimed include damages to credit and reputation of the drawer, and the Court would normally award exemplary or vindictive damages.

The Key terms in the Negotiable Instrument Act 1881 are briefly quoted below: Sec. 1: Application of the Act: All the negotiable instruments are guided by this Act. Sec. 3-B: Banker: "banker" includes any person acting as a banker, and accepting deposits from public for the purpose of lending or investing, and also includes any post office savings bank Sec. 3-C: Bearer: Bearer means a person who by negotiation comes into possession of a negotiable instrument. Sec. 3-f: Material Alteration: Alteration of important parts of negotiable instruments. The material parts include, date, the sum payable, the time and place of payment, etc. Sec. 4: Promissory Note: A promissory note" is an instrument in writing (not being a bank-note or a currency-note) containing an unconditional undertaking, signed by the maker, to pay a certain sum of money only to, or to the order of, a certain person, or to the bearer of the instrument. Sec. 5: Bill-of-Exchange: A "bill of exchange" is an instrument in writing, containing an unconditional order, signed by the maker, directing a certain person to pay a certain sum of money only to, or to the order of, a certain person or to the bearer of the instrument. Sec. 6: Cheque: A "cheque" is a bill of exchange drawn on a specified banker and not expressed to be payable otherwise than on demand. Sec. 8: Holder: The holder" of a negotiable instrument means any person who is in possession thereof and to receive or recover the amount due thereon from the parties thereto. Sec. 9: Holder in due course: "Holder in due course" means any person who for consideration became the possessor of a promissory note, bill of exchange or cheque if payable to bearer, or the payee or indorsee thereof, if payable to order, before the amount mentioned in it became payable, and without having sufficient cause to believe that any defect existed in the title of the person from whom he derived his title. Sec. 10: Payment in due course: "Payment in due course" means payment in accordance with the apparent tenor of the instrument in good faith and without negligence to any person in possession thereof under circumstances which do not afford a reasonable

ground for believing that he is not entitled to receive payment of the amount therein mentioned. Sec. 13: Negotiable Instrument: A Negotiable Instrument mean a Promissory Note, Bill of Exchange or Cheque payable wither to order to or to bearer which are transferable from hand to hand by way pf negotiation but does not contain words prohibiting transfer or indicating an intention that it shall not be transferable. Example: Pay to Mr. Rahman or bear/order Sec. 14: Negotiation: When a promissory note, bill of exchange or cheque is transferred to any person, so as to constitute that person the holder thereof, the instrument is said to be negotiated. Sec. 15: Endorsement: When the maker or holder of a negotiable instrument signs the same, otherwise than as such maker, for the purpose of negotiation, on the back or face thereof or on a slip of paper annexed thereto, or so signs for the same purpose a stamped paper intended to be completed as a negotiable instrument, he is said to indorse the same, -and is called the " indorser ". Sec. 18: If the amount undertaken or ordered to be paid is stated differently in figures and in words, the amount stated in words shall be the amount undertaken or ordered to be paid. Sec. 29-B: Forged or Unauthorized Signature: An instrument having forged signature of the drawer or the persons required for it is not treated as instrument. Sec. 30: Liability of Drawer: The drawer of the Negotiable Instrument will remain responsible to the payee till its paid off.

Sec. 31: Liability of the Drawee of Cheque: The drawee of a cheque having sufficient funds of the drawer in his hands properly applicable to the payment, must pay the cheque when duly, and in default of such payment, must compensate the drawer for any loss or damage caused by such default. Sec. 36: Liability of Prior Parties to Holder in due course: Every prior party to a negotiable instrument is liable thereon to a holder in due course until the instrument is duly satisfied. Sec. 50: Effect of Indorsement: The indorsement transfers the property of negotiable instrument to the indorsee with the right of further negotiation; but the indorsement may, by express words, restrict or exclude such right, or may merely constitute the indorsee an agent to indorse the instrument, or to receive its contents for the indorser, or for some other specified person.

Sec. 51: Who may negotiate: Every sole maker, drawer, payees or indorsee, or all of several joint makers, drawers, payees or indorsees, of a negotiable instrument may, if the negotiability of such instrument has not been restricted or excluded by section 50, indorse and negotiate the same. Sec. 58: Defective Title: A person who receives an instrument which has been lost or by means of fraud or any unlawful mean is not entitled to receive the proceeds unless he claims as holder in due course. Sec. 85: Cheque Payable to Order: Where a cheque payable to order claims to be endorsed by or on behalf of the payee, and where a cheque is originally expressed to be payable to bearer, the drawee is discharged by payment in due course. Notwithstanding any endorsement thereon claims to restrict or exclude further negotiation. Sec. 85-A: Drafts drawn by one branch of a bank on another payable to order. Where any draft drawn by one office of a bank upon another office of the same bank for a sum of money, purports to be endorsed by or on behalf of the payee, the bank is discharged by payment in due course. Sec. 87: Effect of Material Alteration: Any material alteration of a negotiable instrument renders the same void as against any one who is a party thereto at the time of making such alteration and does not consent thereto, unless it was made in order to carry out the common intention of the original parties, and any such alteration, if made by an indorsee, discharges his indorser from all liabilities to him in respect of the consideration thereof. Sec. 89: Payment of Instrument on which Alteration is not apparent: Where a negotiable instrument has been materially altered but is not apparent, or where a crossed cheque which is not apparent, payment thereof by a person or banker otherwise in due course, shall discharge such person or banker from all liability thereon without being questioned by reason of the instrument having been altered or the cheque crossed. Revocation of Bankers Authority: The banker can legally return a valid cheque under the following conditions: (a) Countermand of Payment (b) Notice of Customers Death (c) Notice of Customers Insolvency (d) Insufficient Funds (e) Standing instruction as assignment. Sec. 123: Cheque Crossed Generally: Where a cheque bears across in its face an addition of the words "and company" or its abbreviation between two parallel transverse lines, or those lines simply, either with or without the words "not negotiable" that addition shall be deemed to be have the cheque crossed generally.

Sec. 123-A: Cheque Crossed Account Payee: For such crossing, the cheque(a) Shall cease to be negotiable (b) Shall be the duty of the bank to credit the proceeds only to the account of the payee as mentioned. Sec. 124: Cheque Crossed Specially: Where a cheque bears across in its face an addition of the name of the banker, either with or without the word not negotiable, the cheque shall deemed to be crossed specially. Sec. 126: Payment of Cheque Crossed Generally: The banker on whom a generally crossed cheque is drawn, shall not pay it otherwise than to banker. Payment of Cheque Crossed Specially: The banker on whom a specially crossed cheque is drawn, shall not pay it otherwise than to banker to whom it is crossed. Sec. 127: Payment of Cheque Crossed Specially-more than once: Where a cheque is crossed specially to more than one banker, except to an agent, the bank on whom its drawn shall refuse it. Sec. 128: Payment in Due Course of Crossed Cheque: Where the banker on whom a crossed cheque is drawn- has paid the same in due course, the banker paying the cheque, and (in case such cheque has come to the hands of the payee) the drawer thereof, shall respectively be entitled to the same rights as they would respectively be entitled to and placed in if the amount of the cheque had been paid to and received by the true owner thereof. Sec. 129: Payment of Crossed Cheque Out of Due Course: Any banker paying a cheque crossed generally otherwise than to a banker, or a cheque crossed specially otherwise than to the banker to whom is crossed, or to his agent, the banker shall be liable to the true owner of the cheque for any loss, and may sustain owing to the cheque having been so paid. Sec. 130: Cheque bearing not negotiable: A person taking a cheque crossed generally or specially, bearing the words "not negotiable," shall not have nor shall be capable of giving, a better title to the cheque than that of the person from whom he took it. Sec. 131: Non Liability of Banker Receiving Payment of Cheque: A banker who had in good faith received payment for a customer of a cheque crossed generally or specially to himself, shall not, in case the title to the cheque proves defective, incur any liability to the true owner of the for receiving such payment. Sec. 131-A: The above provisions shall apply to any draft, as defined in section 85A, as if the draft were a cheque. Principal Parts of Negotiable Instruments: (a) Date; (b) Amount; (c) Time for Payment; (d) Place of Payment; (e) Stamp.

Objective of Crossing a Cheque: A cheque is crossed to provide security of property, prevent fraud and crime by enabling drawers and holders to direct payment to be made only through banker, and also to provide protection to the paying banker as well as to the collecting banker. Sec. 131-B: Protection to Banker Crediting Cheque Crossed Account Payee: Where a cheque without having apparent crossed Account Payee or having an altered crossing, presented to the banker, and he in good faith collects & credits the proceeds thereof to a customer, the paying banker shall not be in any liability by reason of the cheque having such crossing
One of the principal functions of a banker is to receive instruments from his customer in order to collect the proceeds and credit them to his customer's account. When acting in this capacity he is called a "collecting banker". While collecting his customer's cheques, a banker acts either: (i) Banker as Holder for value - When, to oblige a customer, a bank pays the proceeds of a cheque drawn upon another banker, before collection, he is treated as a holder for value. Similarly, where, a customer pays in a cheque and the banker expressly or impliedly permits him to draw against it before it is cleared, the banker will be regarded as a holder for value. (ii) Banker as Agent - A collecting banker acts, as an agent of the customer if he credits the customer's account with the amount of the cheque after it is actually realised. Due Care and Diligence in Collection of Cheques Presentation for payment by the next working day after the receipt of the cheques. Notice of Dishonour

Duties and responsibilities of a collecting banker


The 'paying banker' is a term used to denote the position and duties of the drawee-banks in paying cheques of their customers. Thus, 'paying banker' is a banker upon whom a cheque is drawn.


The drawee of a cheque having sufficient funds of the drawer in his hands must pay the cheque when duly required so to do. In default of such payment, the paying bank must compensate the drawer for any loss or damage caused by such default

In Rolin v. Steward it was held that even though the default arose through inadvertence, and in fact the cheque was subsequently paid, the Court will not award merely nominal damages, because credit of the customer was seriously affected. This would be the case even if the customer's account was overdrawn but the banker had agreed to pay his cheques on an overdraft within certain limits. [Fleming v. Bank of New Zealand].

Protection in case of crossed cheques

A banker paying the cheques crossed generally to a banker or to the specified banker, is protected even if it turns out to be a payment to a wrong payee.

Payment in due course [Section 10]

Payment in due course means payment in accordance with the apparent tenor of the instrument made in good faith and without negligence. They are as follows: -

1. Payment must be in accordance with the apparent tenor of the instrument 2. Payment must be made in good faith and without negligence 3. Payment must be made to the person in possession of the instrument 4. Payment must be made to the person entitled to receive. 5. Payment must be made in money only. When banker must refuse payment
A paying banker must refuse payment on cheques if any of the following circumstances exist: 1. Where the customer countermands the payment (stopped by the drawer) 2. On receipt of a notice of customer's death 3. On customer's becoming insolvent 4. On receipt of a notice of the customer's insanity 5. On receipt of Garnishee order 5. On assignment of Credit balance 7. On suspicious misuse by trustee

When banker may refuse payment

1. Where the cheque is post-dated.

2. 3. 4. 5. 5.

Where the funds of the customer are insufficient. Where a cheque is not duly presented. Not properly signed joint holders Material alteration or irregularity Presented after validity period


The term banker refers to a person or company carrying on the business of receiving moneys, and collecting drafts, for customers subject to the obligation of honouring cheques drawn upon them from time to time by the customers to the extent of the amounts available on their current accounts. 1. Sheldon H.P.: The function of receiving money from his customers and repaying it by honouring their cheques as and when required is the function above all other functions which distinguishes a banking business from any other kind of business. The term customer of a bank is not defined by law. In the ordinary language, a person who has an account in a bank is considered its customer According to an old view, as expressed by Sir John Paget, to constitute a customer, there must be some recognizable course or habit of dealing in the nature of regular banking business...... It has been thought difficult to reconcile the idea of a single transaction with that of a customer that the word predicates, even grammatically, some minimum of custom, antithetic to an isolated act. According to this view, in order to constitute a customer of a bank, two conditions are to be fulfilled. (a) There must be some recognizable course or habit of dealing between the customer and the banker. (b) The transactions must be in the form of regular banking business. 1. He must have an account with the bank i.e., saving bank account, current deposit account, or fixed deposit account. 2. The transactions between the banker and the customer should be of banking nature

i.e., a person who approaches the banker for operating Safe Deposit Locker or purchasing travellers cheques is not a customer of the bank since such transactions do not come under the orbit of banking transactions. 3. Frequency of transactions is not quite necessary though anticipated.

Contemporary Issues in Banking NPA

A strong banking sector is important for flourishing economy. The failure of the banking sector may have an adverse impact on other sectors. Non-performing assets are one of the major concerns banks in India. NPAs reflect the performance of banks. A high level of NPAs suggests high probability of a large number of credit defaults that affect the profitability and net-worth of banks and also erodes the value of the asset. The NPA growth involves the necessity of provisions, which reduces the over all profits and shareholders value. The issue of Non Performing Assets has been discussed at length for financial system all over the world. The problem of NPAs is not only affecting the banks but also the whole economy. In fact high level of NPAs in Indian banks is nothing but a reflection of the state of health of the industry and trade. The paper deals with understanding the concept of NPAs, its magnitude and major causes for an account becoming non-performing, projection of NPAs over next three years in Public sector banks and concluding remarks. With a view to moving towards international best practices and to ensure greater transparency, it has been decided to adopt the 90 days overdue norm for identification of NPAs, from the year ending March 31, 2004. Accordingly, with effect from March 31, 2004, a non-performing asset (NPA) shall be a loan or an advance where; Interest and/ or instalment of principal remain overdue for a period of than 90 days in respect of a term loan, The account remains out of order for a period of more than 90 days, in respect of an Overdraft/Cash Credit (OD/CC), The bill remains overdue for a period of more than 90 days in the case of bills purchased and discounted, more

Interest and/or instalment of principal remains overdue for two harvest seasons but for a period not exceeding two half years in the case of an advance granted for agricultural purposes, and

Any amount to be received remains overdue for a period of more than 90 days in respect of other accounts. As a facilitating measure for smooth transition to 90 days norm, banks have been advised to move over to charging of interest at monthly rests, by April 1, 2002. However, the date of classification of an advance as NPA should not be changed on account of charging of interest at monthly rests. Banks should, therefore, continue to classify an account as NPA only if the interest charged during any quarter is not serviced fully within 180 days from the end of the quarter with effect from April 1, 2002 and 90 days from the end of the quarter with effect from March 31, 2004. CAUSES FOR NON-PERFORMING ASSETS IN PUBLIC SECTOR BANKS Granting of credit for economic activities is the prime duty of banking. Apart from raising resources through fresh deposits, borrowings and recycling of funds received back from borrowers constitute a major part of funding credit dispensation activity. Lending is generally encouraged because it has the effect of funds being transferred from the system to productive purposes, which results into economic growth. However lending also carries a risk called credit risk, which arises from the failure of borrower. Non-recovery of loans along with interest forms a major hurdle in the process of credit cycle. Thus, these loan losses affect the banks profitability on a large scale. Though complete elimination of such losses is not possible, but banks can always aim to keep the losses at a low level. Non-performing Asset (NPA) has emerged since over a decade as an alarming threat to the banking industry in our country sending distressing signals on the sustainability and endurability of the affected banks. The positive results of the chain of measures affected under banking reforms by the Government of India and RBI in terms of the two Narasimhan Committee Reports in this contemporary period have been neutralized by the ill effects of this surging threat. Despite various correctional steps administered to solve and end this problem, concrete results are eluding. It is a sweeping and all pervasive virus confronted universally on banking and financial institutions. The severity of the problem is however acutely suffered by Nationalised Banks, followed by the SBI group, and the all India Financial Institutions.

A strong banking sector is important for a flourishing economy. The failure of the banking sector may have an adverse impact on other sectors. The Indian banking system, which was operating in a closed economy, now faces the challenges of an open economy. On one hand a protected environment ensured that banks never needed to develop sophisticated treasury operations and Asset Liability Management skills. On the other hand a combination of directed lending and social banking relegated profitability and competitiveness to the background. The net result was unsustainable NPAs and consequently a higher effective cost of banking services. One of the main causes of NPAs into banking sector is the directed loans system under which commercial banks are required a prescribed percentage of their credit (40%) to priority sectors. As of today nearly 7 percent of Gross NPAs are locked up in 'hard-core' doubtful and loss assets, accumulated over the years. The problem India Faces is not lack of strict prudential norms but i. The legal impediments and time consuming nature of asset disposal proposal. ii. Postponement of problem in order to show higher earnings. iii. Manipulation of debtors using political influence. Macro Perspective Behind NPAs A lot of practical problems have been found in Indian banks, especially in public sector banks. For Example, the government of India had given a massive wavier of Rs. 15,000 Crs. under the Prime Minister ship of Mr. V.P. Singh, for rural debt during 1989-90. This was not a unique incident in India and left a negative impression on the payer of the loan. Poverty elevation programs like IRDP, RREP, SUME, SEPUP, JRY, PMRY etc., failed on various grounds in meeting their objectives. The huge amount of loan granted under these schemes were totally unrecoverable by banks due to political manipulation, misuse of funds and non-reliability of target audience of these sections. Loans given by banks are their assets and as the repayment of several of the loans were poor, the quality of these assets were steadily deteriorating. Credit allocation became 'Lon Melas', loan proposal evaluations were slack and as a result repayment were very poor. There are several reasons for an account becoming NPA. * Internal factors * External factors

Internal factors: 1. Funds borrowed for a particular purpose but not use for the said purpose. 2. Project not completed in time. 3. Poor recovery of receivables. 4. Excess capacities created on non-economic costs. 5. In-ability of the corporate to raise capital through the issue of equity or other debt instrument from capital markets. 6. Business failures. 7. Diversion of funds for expansion\modernization\setting up new projects\ helping or promoting sister concerns. 8. Willful defaults, siphoning of funds, fraud, disputes, management disputes, misappropriation etc., 9. Deficiencies on the part of the banks viz. in credit appraisal, monitoring and follow-ups, delay in settlement of payments\ subsidiaries by government bodies etc., External factors: 1. Sluggish legal system Long legal tangles Changes that had taken place in labour laws Lack of sincere effort. 2. Scarcity of raw material, power and other resources. 3. Industrial recession. 4. Shortage of raw material, raw material\input price escalation, power shortage, industrial recession, excess capacity, natural calamities like floods, accidents. 5. Failures, non payment\ over dues in other countries, recession in other countries, externalization problems, adverse exchange rates etc. 6. Government policies like excise duty changes, Import duty changes etc., Causes for an Account becoming NPA Those Attributable to Borrower Causes Attributable to Banks Other Causes a) Failure to bring in Required capital b) Too ambitious project c) Longer gestation period d) Unwanted Expenses e) Over trading

f) Imbalances of inventories g) Lack of proper planning h) Dependence on single customers i) Lack of expertise j) Improper working Capital Mgmt. k) Mis management l) Diversion of Funds m) Poor Quality Management n) Heavy borrowings o) Poor Credit Collection p) Lack of Quality Control a) Wrong selection of borrower b) Poor Credit appraisal c) Unhelpful in supervision d) Tough stand on issues e) Too inflexible attitude f) Systems overloaded g) Non inspection of Units h) Lack of motivation i) Delay in sanction j) Lack of trained staff k) Lack of delegation of work l) Sudden credit squeeze by banks m) Lack of commitment to recovery n) Lack of technical, personnel & zeal to a) Lack of Infrastructure b) Fast changing technology c) Un helpful attitude of Government d) Changes in consumer preferences e) Increase in material cost f) Government policies g) Credit policies h) Taxation laws i) Civil commotion j) Political hostility k) Sluggish legal system l) Changes related to Banking amendment Act

Capital Adequacy The fundamental objective behind the norms is to strengthen the soundness and stability of the banking system. It is ratio of capital fund to risk weighted assets expressed in percentage terms Capital fund Capital Fund has two tiers - Tier I capital include *paid-up capital *statutory reserves *other disclosed free reserves *capital reserves representing surplus arising out of sale proceeds of assets. Minus *equity investments in subsidiaries, *intangible assets, and *losses in the current period and those brought forward from previous periods to work out the Tier I capital Tier II capital consists of: *Un-disclosed reserves and cumulative perpetual preference shares: *Revaluation Reserves (at a discount of 55 percent while determining their value for inclusion in Tier II capital) *General Provisions and Loss Reserves upto a maximum of 1.25% of weighted risk assets: *Investment fluctuation reserve not subject to 1.25% restriction *Hybrid debt capital Instruments (say bonds): *Subordinated debt (long term unsecured loans Risk weighted assets - Fund Based : Risk weighted assets mean fund based assets such as cash, loans, investments and other assets. Degrees of credit risk expressed as percentage weights have been assigned by RBI to each such assets. Non-funded (Off-Balance sheet) Items : The credit risk exposure attached to offbalance sheet items has to be first calculated by multiplying the face amount of each of the off-balance sheet items by the credit conversion factor. This will then have to beagain multiplied by the relevantweightage. Reporting requirements : Banks are also required to disclose in their balance sheet the quantum of Tier I and Tier II capital fund, under disclosure norms. An annual return has to be submitted by each bank indicating capital funds, conversion of off-balance sheet/non-funded exposures, calculation of risk -weighted assets, and calculations of capital to risk assets ratio, Heres why Indian banks are safe

RATIO Among the big Indian banks, ICICI Bank has the highest capital adquacy ratio, or CAR 13.97% against the regulatory requirement of 9%. Four banks have a higher CAR than ICICI Bank, but they are relatively smaller banks. Overall, 30 banks have more than 12% CAR. Not a single bank has less than 9% CAR. Under the norms, for every Rs100 worth of assets, banks need Rs9 worth of capital. The higher capital base shows they are less leveraged and, hence, strong Going by the fiscal 2008 data, none of the Indian banks, big or small, can fail. This fiscal, beginning April, the situation has changed slightly for certain banks as their nonperforming assets, or NPAs, are going up as consumers have started defaulting on their payment obligations with the rise in interest rates. Their exposure to some of the troubled global banks that have either gone under or are staying afloat with government support have also come to the surface. But that is minuscule and will not make any significant dent in their balance sheets. The best way of judging a banks health is looking at the most critical parameters such as capital adequacy ratio, asset quality and earnings, which define their ability to pay service depositors. On all these parameters, Indian banks more than meet the accepted norms. NET WORTH State Bank of India has the highest net worthcapital and reservesamong all Indian banks, followed by ICICI Bank. Each has about four times the net worth of the third biggest bank in this category, Punjab National Bank. Overall, seven banks have more than Rs10,000 crore net worth. NET NPAs Most Indian banks have less than 1% NPA. The average NPA of all banks operating in India (including foreign banks) is 1%. So, no worry on the quality of assets, as of now.

Introduction to Capital Adequacy Norms Along with profitability and safety, banks also give importance to Solvency. Solvency refers to the situation where assets are equal to or more than liabilities. A bank should select its assets in such a way that the shareholders and depositors' interest are protected. 1. Prudential Norms The norms which are to be followed while investing funds are called "Prudential Norms." They are formulated to protect the interests of the shareholders and depositors. Prudential Norms are generally prescribed and implemented by the central bank of the country. Commercial Banks have to follow these norms to protect the interests of the customers. For international banks, prudential norms were prescribed by the Bank for International Settlements popularly known as BIS. The BIS appointed a Basle Committee on Banking Supervision in 1988. 2. Basel Committee Basel committee appointed by BIS formulated rules and regulation for effective supervision of the central banks. For this it, also prescribed international norms to be followed by the central banks. This committee prescribed Capital Adequacy Norms in order to protect the interests of the customers.

3. Definition of Capital Adequacy Ratio Capital Adequacy Ratio (CAR) is defined as the ratio of bank's capital to its risk assets. Capital Adequacy Ratio (CAR) is also known as Capital to Risk (Weighted) Assets Ratio (CRAR).

India and Capital Adequacy Norms The Government of India (GOI) appointed the Narasimham Committee in 1991 to suggest reforms in the financial sector. In the year 1992-93 the Narasimhan Committee submitted its first report and recommended that all the banks are required to have a minimum capital of 8% to the risk weighted assets of the banks. The ratio is known as Capital to Risk Assets Ratio (CRAR). All the 27 Public Sector Banks in India (except UCO and Indian Bank) had achieved the Capital Adequacy Norm of 8% by March 1997. The Second Report of Narasimham Committee was submitted in the year 1998-99. It recommended that the CRAR to be raised to 10% in a phased manner. It recommended an intermediate minimum target of 9% to be achieved by the year 2000 and 10% by 2002.

Concepts of Capital Adequacy Norms

Capital Adequacy Norms included different Concepts, explained as follows :-

1. Tier-I Capital

Capital which is first readily available to protect the unexpected losses is called as Tier-I Capital. It is also termed as Core Capital. Tier-I Capital consists of :1. Paid-Up Capital. 2. Statutory Reserves. 3. Other Disclosed Free Reserves : Reserves which are not kept side for meeting any specific liability. 4. Capital Reserves : Surplus generated from sale of Capital Assets.

2. Tier-II Capital

Capital which is second readily available to protect the unexpected losses is called as TierII Capital. Tier-II Capital consists of :1. 2. 3. 4. 5. Undisclosed Reserves and Paid-Up Capital Perpetual Preference Shares. Revaluation Reserves (at discount of 55%). Hybrid (Debt / Equity) Capital. Subordinated Debt. General Provisions and Loss Reserves.

There is an important condition that Tier II Capital cannot exceed 50% of Tier-I Capital for arriving at the prescribed Capital Adequacy Ratio.

3. Risk Weighted Assets

Capital Adequacy Ratio is calculated based on the assets of the bank. The values of bank's assets are not taken according to the book value but according to the risk factor involved. The value of each asset is assigned with a risk factor in percentage terms.

Suppose CRAR at 10% on Rs. 150 crores is to be maintained. This means the bank is expected to have a minimum capital of Rs. 15 crores which consists of Tier I and Tier II Capital items subject to a condition that Tier II value does not exceed 50% of Tier I Capital. Suppose the total value of items under Tier I Capital is Rs. 5 crores and total value of items under Tier II capital is Rs. 10 crores, the bank will not have requisite CRAR of Rs. 15 Crores. This is because a maximum of only Rs. 2.5 Crores under Tier II will be eligible for computation.

4. Subordinated Debt These are bonds issued by banks for raising Tier II Capital. They are as follows :1. They should be fully paid up instruments. 2. They should be unsecured debt. 3. They should be subordinated to the claims of other creditors. This means that the bank's holder's claims for their money will be paid at last in order of preference as compared with the claims of other creditors of the bank. 4. The bonds should not be redeemable at the option of the holders. This means the repayment of bond value will be decided only by the issuing bank.

The Negotiable Instruments Act Provisions

The Negotiable Instruments Act was passed in 1881. Some provisions of the Act have become redundant due to passage of time, change in methods of doing business and technology changes. However, the basic principles of the Act are still valid and the Act has stood test of time. The Act extends to the whole of India. There is no doubt that the Act is to regulate commercial transactions and was drafted to suit requirements of business conditions then prevailing. The instrument is mainly an instrument of credit readily convertible into money and easily passable from one hand to another. LOCAL USAGE PREVAILS UNLESS EXCLUDED - The Act does not affect any local usage relating to any instrument in an oriental language. However, the local usage can be excluded by any words in the body of the instrument, which indicate an intention that the legal relations of the parties will be governed by provisions of Negotiable Instruments Act and not by local usage. [section 1]. Thus, unless specifically excluded, local usage prevails, if the instrument is in regional language. BILL OF EXCHANGE AND PROMISSORY NOTES EXCLUDED FROM INFORMATION TECHNOLOGY ACT - Section (1)(4)(a) of Information Technology Act provides that the Act will not apply to Bill of Exchange and Promissory Notes. Thus, a Bill of Exchange or Promissory Note cannot be made by electronic means. However, cheque is covered under of Information Technology Act and hence can be made and / or sent by electronic means. CHANGES MADE BY AMENDMENT ACT, 2002 - (a) Definition of cheque and related provisions in respect of cheque amended to facilitate electronic submission and/or electronic clearance of cheque. Corresponding changes were also made in Information Technology Act. (b) Bouncing of cheque - Provisions amended * Provision for imprisonment upto 2 years against present one year * Period for issuing notice to drawer increased from 15 days to 30 days * Government Nominee Directors excluded from liability * Court empowered to take cognizance of offence even if complaint filed beyond one month * Summary trial procedure permitted for imposing punishment upto one year and fine even exceeding Rs 5,000 * Summons can be issued by speed post or courier service * Summons refused will be deemed to have been served * Evidence of complainant through affidavit permitted * Banks slip or memo indicating dishonour of cheque will be prima facie evidence unless contrary proved * Offence can be compounded. - - The amendments have been made effective from 6-2-2003.

Transferee can get better title than transferor Normal principle is that a person cannot transfer better title to property that he himself has. For example, if a person steals a car and

sells the same, the buyer does not get any legal title to the car as the transferor himself had no title to the car. The real owner of car can anytime obtain possession from the buyer, even if the buyer had purchased the car in good faith and even if he had no idea that the seller had no title to the car. This provision is no doubt sound, but would make free negotiability of instrument difficult, as it would be difficult to verify title of transferor in many cases. Hence, it is provided that if a person acquires Negotiable Instrument in good faith and without knowledge of defect in title of the transferor, the transferee can get better title to the negotiable instrument, even if the title of transferor was defective. This is really to ensure free negotiability of instrument so that persons can deal in the instrument without any fear. DIFFERENCE BETWEEN NEGOTIATION AND TRANSFER/ASSIGNMENT Difference between Negotiation and assignment/transfer is that in case of negotiation, the transferee can get title better than transferor, which can never happen in assignment/transfer. STATUTORY DEFINITION OF NEGOTIABLE INSTRUMENT - A negotiable instrument means a promissory note, bill of exchange or cheque payable either to order or to bearer. Explanation (i) : A promissory note, bill of exchange or cheque is payable to order which is expressed to be so payable or which is expressed to be payable to a particular person, and does not contain words prohibiting transfer or indicating an intention that it shall not be transferable. Explanation (ii) : A promissory note, bill of exchange or cheque is payable to bearer which is expressed to be so payable or on which the only or last endorsement is an endorsement in blank. Explanation (iii) : Where a promissory note, bill of exchange or cheque, either originally or by endorsement, is expressed to be payable to the order of a specified person, and not to him or his order, it is nevertheless payable to him or his order at his option. [section 13(1)]. - - A negotiable instrument may be made payable to two or more payees jointly, or it may be made payable in the alternative to one of two, or one or some of several payees. [section 13(2)]. Promissory Note - A promissory note is an instrument in writing (not being a bank-note or a currency-note) containing an unconditional undertaking, signed by the maker, to pay a certain sum of money only to, or to the order of, a certain person, or to the bearer of the instrument. [Section 4]. Bill of Exchange As per statutory definition, bill of exchange is an instrument in writing containing an unconditional order, signed by the maker, directing a certain person to pay a certain sum of money only to, or to the order of, a certain person or to the bearer of the instrument. [Para 1 of section 5]. A cheque is a special type of Bill of Exchange. It is drawn on banker and is required to be made payable on demand.

DRAWER, DRAWEE AND PAYEE - The maker of a bill of exchange or cheque is called the drawer; the person thereby directed to pay is called the drawee [section 7 para 1]. - The person named in the instrument, to whom, or to whose order the money is by the instrument directed to be paid, is called the payee [section 7 para 5]. - - However, a drawer and payee can be one person as he can order to pay the amount to himself. AT SIGHT, ON PRESENTMENT, AFTER SIGHT - In a promissory note or bill of exchange the expressions at sight and on presentment mean on demand. The expression after sight means, in a promissory note, after presentment for sight, and, in a bill of exchange, after acceptance, or noting for non-acceptance, or protest for nonacceptance. [section 21]. - - Thus, in case of document after sight, the countdown starts only after document is sighted by the concerned party. Stamp duty on Negotiable Instrument A negotiable instrument is required to be stamped. Stamp duty on Bill of Exchange and Promissory Note is a Union Subject. Hence, stamp duty is same all over India. Hundi a local instrument Hundi is an indigenous instrument similar to Negotiable Instrument. The term is derived from Sanskrit word hund which means to collect. If it is drawn in local language, it is governed by local usage and customs. Provisions in respect of Cheques - A cheque is a bill of exchange drawn on a specified banker and not expressed to be payable otherwise than on demand. Cheque includes electronic image of a truncated cheque and a cheque in electronic form. [section 6]. The definition is amended by Amendment Act, 2002, making provision for electronic submission and clearance of cheque. The cheque is one form of Bill of Exchange. It is addressed to Banker. It cannot be made payable after some days. It must be made payable on demand. Crossing of Cheque The Act makes specific provisions for crossing of cheques. CHEQUE CROSSED GENERALLY - Where a cheque bears across its face an addition of the words and company or any abbreviation thereof, between two parallel transverse lines, or of two parallel transverse lines simply, either with or without the words not negotiable, that addition shall be deemed a crossing, and the cheque shall be deemed to be crossed generally. [section 123] CHEQUE CROSSED SPECIALLY - Where a cheque bears across its face an addition of the name of a banker, either with or without the words not negotiable, that addition shall be deemed a crossing, and the cheque shall be deemed to be crossed specially, and to be crossed to that banker. [section 124].

PAYMENT OF CHEQUE CROSSED GENERALLY OR SPECIALLY - Where a cheque is crossed generally, the banker on whom it is drawn shall not pay it otherwise than to a banker. Where a cheque is crossed specially, the banker on whom it is drawn shall not pay it otherwise than to the banker to whom it is crossed, or his agent for collection. [section 126]. CHEQUE BEARING NOT NEGOTIABLE - A person taking a cheque crossed generally or specially, bearing in either case the words not negotiable, shall not have, and shall not be capable of giving, a better title to the cheque than that which the person form whom he took it had. [section 130]. Thus, mere writing words Not negotiable does not mean that the cheque is not transferable. It is still transferable, but the transferee cannot get title better than what transferor had. Electronic Cheque - Provisions of electronic cheque has been made by Amendment Act, 2002. As per Explanation I(a) to section 6, A cheque in the electronic form means a cheque which contains the exact mirror image of a paper cheque, and is generated, written and signed by a secure system ensuring the minimum safety standards with the use of digital signature (with or without biometrics signature) and asymmetric crypto system. Truncated Cheque - Provisions of electronic cheque has been made by Amendment Act, 2002. As per Explanation I(b) to section 6, A truncated cheque means a cheque which is truncated during the clearing cycle, either by the clearing house during the course of a clearing cycle, either by the clearing house or by the bank whether paying or receiving payment, immediately on generation of an electronic image for transmission, substituting the further physical movement of the cheque in writing. Penalty in case of dishonour of cheques for insufficiency of funds - If a cheque is dishonoured even when presented before expiry of 6 months, the payee or holder in due course is required to give notice to drawer of cheque within 30 days from receiving information from bank.. The drawer should make payment within 15 days of receipt of notice. If he does not pay within 15 days, the payee has to lodge a complaint with Metropolitan Magistrate or Judicial Magistrate of First Class, against drawer within one month from the last day on which drawer should have paid the amount. The penalty can be upto two years imprisonment or fine upto twice the amount of cheque or both. The offense can be tried summarily. Notice can be sent to drawer by speed post or courier. Offense is compoundable. It must be noted that even if penalty is imposed on drawer, he is still liable to make payment of the cheque which was dishonoured. Thus, the fine/imprisonment is in addition to his liability to make payment of the cheque. Return of cheque should be for insufficiency of funds - The offence takes place only when cheque is dishonoured for insufficiency of funds or where the amount exceeds the arrangement. Section 146 of NI Act only provides that once complainant produces banks slip or memo having official mark that the cheque is dishonoured, the Court will presume dishonour of the cheque, unless and until such fact is disproved.

Calculation of date of maturity of Bill of Exchange - If the instrument is not payable on demand, calculation of date of maturity is important. An instrument not payable on demand is entitled to get 3 days grace period. Presentment of Negotiable Instrument - The Negotiable Instrument is required to be presented for payment to the person who is liable to pay. Further, in case of Bill of Exchange payable after sight, it has to be presented for acceptance by drawee. Acceptance means that drawee agrees to pay the amount as shown in the Bill. This is required as the maker of bill (drawer) is asking drawee to pay certain amount to payee. The drawee may refuse the payment as he has not signed the Bill and has not accepted the liability. In case of Promissory Note, such acceptance is not required, as the maker who has signed the note himself is liable to make payment. However, if the promissory note is payable certain days after sight [say 30 days after sight], it will have to be presented for sight. If the instrument uses the expressions on demand, at sight or on presentment, the amount is payable on demand. In such case, presentment for acceptance is not required. The Negotiable Instrument will be directly presented for payment. Acceptance and payment for honour and drawee in need - Provisions for acceptance and payment for honour have been made in case when the negotiable instrument is dishonoured. Bill is accepted for honour when it is dishonoured when presenting for acceptance, while payment for dishonour is made when Bill is dishonoured when presented for payment. Negotiation of Instrument - The most salient feature of the instrument is that it is negotiable. Negotiation does not mean a mere transfer. After negotiation, the holder in due course can get a better title even if title of transferor was defective. If the instrument is to order, it can be negotiated by making endorsement. If the instrument is to bearer, it can be negotiated by delivery. As per definition of delivery, such delivery is valid only if made by party making, accepting or indorsing the instrument or by a person authorised by him. An instrument can be negotiated any number of times. As per section 118(e), endorsements appearing on the negotiable instrument are presumed to have been made in the order in which they appear on the instrument, unless contrary is proved. [There is no mandatory provision to put date while signing, though advisable to do so]. Section 118(d) provides that there is presumption that the instrument was negotiated before its maturity, unless contrary is proved. As per section 60, Bill can be negotiated even after date of maturity by persons other than maker, drawee or acceptor after maturity. However, person getting such instrument is not holder in due course and does not enjoy protections available to holder in due course.

Liability of parties - Basic liability of payment is as follows (a) Maker in case of Promissory Note or Cheque and (b) Drawer of Bill till it is accepted by drawee and acceptor after the Bill is accepted . They are liable as principal debtors and other parties to instrument are liable as sureties for maker, drawer or acceptor, as the case may be. When document is endorsed number of times, each prior party is liable to each subsequent party as principal debtor. In case of dishonour, notice is required to be given to drawer and all earlier endorsees. PRESUMPTIONS AS TO NEGOTIABLE INSTRUMENTS - Until the contrary is proved, the following presumptions shall be made : (a) of consideration - that every negoticble instrument was made or drawn for consideration, and that every such instrument, when it has been $ accepted, indorsed, negotiated or transferrgd, was accepted, indorsed, negotiated or transferred for consideration; - - (b) as to date - that every negotiable instrument bearing a date was oide or drawn on such date; - - (c) as to time of acceptance - that every accepted bill of exchange was accepted within a reasonable time after its date and before its maturity; - - (d) as to time of transfer - - that every transfer of a negotiable instrument was made before its maturity; - - (e) as to order of indorsements - that the indorsements appearing upon a negotiable instrument were made in the order in which they appear thereon; (f) as to stamps - that a lost promissory note, bill of exchange or cheque was duly stamped; - - (g) that holder is a holder in due course - that the holder of a negotiable instrument is a holder in due course : provided that, where the instrument has been obtained from its lawful owner, or from any person in lawful custody thereof, by means of an offence or fraud, or has been obtained from the maker or acceptor thereof by means of an offence or fraud, or for unlawful consideration, the burden of proving that the holder in due course lies upon him. [section 118]

Universal Banking
Universal Banking is a multi-purpose and multi-functional financial supermarket (a company offering a wide range of financial services e.g. stock, insurance and real-estate brokerage) providing both banking and financial services through a single window. Definition of Universal Banking: As per the World Bank, "In Universal Banking, large banks operate extensive network of branches, provide many different services, hold several claims on firms(including equity and debt) and participate directly in the Corporate Governance of firms that rely on the banks for funding or as insurance underwriters". In a nutshell, a Universal Banking is a superstore for financial products under one roof. Corporate can get loans and avail of other handy services, while can deposit and borrow. It includes not only services related to savings and loans but also investments. However in practice the term 'universal banking' refers to those banks that offer a wide range of financial services, beyond the commercial banking functions like Mutual Funds, Merchant Banking, Factoring, Credit Cards, Retail loans, Housing Finance, Auto loans, Investment banking, Insurance etc. This is most common in European countries. For example, in Germany commercial banks accept time deposits, lend money, underwrite corporate stocks, and act as investment advisors to large corporations. In Germany, there has never been any separation between commercial banks and investment banks, as there is in the United States. THE CONCEPT OF UNIVERSAL BANKING The entry of banks into the realm of financial services was followed very soon after the introduction of liberalization in the economy. Since the early 1990s structural changes of profound magnitude have been witnessed in global banking systems. Large scale mergers, amalgamations and acquisitions between the banks and financial institutions resulted in the growth in size and competitive strengths of the merged entities. Thus, emerged new financial conglomerates that could maximize economies of scale and scope by building the production of financial services organization called Universal Banking. By the mid-1990s, all the restrictions on project financing were removed and banks were allowed to undertake several in-house activities. Reforms in the insurance sector in the late 1990s, and opening up of this field to private and foreign players also resulted in permitting banks to undertake the sale of insurance products. At present, only an 'arm's length relationship between a bank and an insurance entity has been allowed by the regulatory authority, i.e. IRDA (Insurance Regulatory and Development Authority).

The phenomenon of Universal Banking as a distinct concept, as different from Narrow Banking came to the forefront in the Indian context with the Narsimham Committee (1998) and later the Khan Committee (1998) reports recommending consolidation of the banking
industry through mergers and integration of financial activities.

UNIVERSAL BANKING PROS AND CONS The solution of Universal Banking was having many factors to deal with, which can be further analyzed by the pros and cons. Advantages of Universal Banking

Economies of Scale. The main advantage of Universal Banking is that it results in greater economic efficiency in the form of lower cost, higher output and better products. Many Committees and reports by Reserve Bank of India are in favour of Universal banking as it enables banks to explit economies of scale and scope. Profitable Diversions. By diversifying the activities, the bank can use its existing expertise in one type of financial service in providing other types. So, it entails less cost in performing all the functions by one entity instead of separate bodies. Resource Utilization. A bank possesses the information on the risk characteristics of the clients, which can be used to pursue other activities with the same clients. A data collection about the market trends, risk and returns associated with portfolios of Mutual Funds, diversifiable and non diversifiable risk analysis, etc, is useful for other clients and information seekers. Automatically, a bank will get the benefit of being involved in the researching Easy Marketing on the Foundation of a Brand Name. A bank's existing branches can act as shops of selling for selling financial products like Insurance, Mutual Funds without spending much efforts on marketing, as the branch will act here as a parent company or source. In this way, a bank can reach the client even in the remotest area without having to take resource to an agent. One-stop shopping. The idea of 'one-stop shopping' saves a lot of transaction costs and increases the speed of economic activities. It is beneficial for the bank as well as its customers. Investor Friendly Activities. Another manifestation of Universal Banking is bank holding stakes in a form : a bank's equity holding in a borrower firm, acts as a signal for other investor on to the health of the firm since the lending bank is in a better position to monitor the firm's activities.

Disadvantages of Universal Banking

Grey Area of Universal Bank. The path of universal banking for DFIs is strewn with obstacles. The biggest one is overcoming the differences in regulatory requirement for a bank and DFI. Unlike banks, DFIs are not required to keep a portion of their deposits as cash reserves. No Expertise in Long term lending. In the case of traditional project finance, an area where DFIs tread carefully, becoming a bank may not make a big difference to a DFI. Project finance and Infrastructure finance are generally long- gestation projects and would require DFIs to borrow long- term. Therefore, the transformation into a bank may not be of great assistance in lending long-term. NPA Problem Remained Intact. The most serious problem that the DFIs have had to encounter is bad loans or Non-Performing Assets (NPAs). For the DFIs and Universal Banking or installation of cutting-edge-technology in operations are unlikely to improve the situation concerning NPAs.

UNIVERSAL BANKING IN INDIA In India Development financial institutions (DFIs) and refinancing institutions (RFIs) were meeting specific sect oral needs and also providing long-term resources at concessional terms, while the commercial banks in general, by and large, confined themselves to the core banking functions of accepting deposits and providing working capital finance to industry, trade and agriculture. Consequent to the liberalisation and deregulation of financial sector, there has been blurring of distinction between the commercial banking and investment banking. Reserve Bank of India constituted on December 8, 1997, a Working Group under the Chairmanship of Shri S.H. Khan to bring about greater clarity in the respective roles of banks and financial institutions for greater harmonization of facilities and obligations . Also report of the Committee on Banking Sector Reforms or Narasimham Committee (NC) has major bearing on the issues considered by the Khan Working Group. The issue of universal banking resurfaced in Year 2000, when ICICI gave a presentation to RBI to discuss the time frame and possible options for transforming itself into an universal bank. Reserve Bank of India also spelt out to Parliamentary Standing Committee on Finance, its proposed policy for universal banking, including a case-by-case approach towards allowing domestic financial institutions to become universal banks. Now RBI has asked FIs, which are interested to convert itself into a universal bank, to submit their plans for transition to a universal bank for consideration and further discussions. FIs need to formulate a road map for the transition path and strategy for smooth conversion into a universal bank over a specified time frame. The plan should specifically provide for full compliance with prudential norms as applicable to banks over the proposed period.

SALIENT OPERATIONAL AND REGULATORY ISSUES OF RBI TO BE ADDRESSED BY THE FIs FOR CONVERSION INTO A UNIVERSAL BANK a) Reserve requirements. Compliance with the cash reserve ratio and statutory liquidity ratio requirements (under Section 42 of RBI Act, 1934, and Section 24 of the Banking Regulation Act, 1949, respectively) would be mandatory for an FI after its conversion into a universal bank. b) Permissible activities. Any activity of an FI currently undertaken but not permissible for a bank under Section 6(1) of the B. R. Act, 1949, may have to be stopped or divested after its conversion into a universal bank.. c) Disposal of non-banking assets. Any immovable property, howsoever acquired by an FI, would, after its conversion into a universal bank, be required to be disposed of within the maximum period of 7 years from the date of acquisition, in terms of Section 9 of the B. R. Act. d) Composition of the Board. Changing the composition of the Board of Directors might become necessary for some of the FIs after their conversion into a universal bank, to ensure compliance with the provisions of Section 10(A) of the B. R. Act, which requires at least 51% of the total number of directors to have special knowledge and experience. e) Prohibition on floating charge of assets. The floating charge, if created by an FI, over its assets, would require, after its conversion into a universal bank, ratification by the Reserve Bank of India under Section 14(A) of the B. R. Act, since a banking company is not allowed to create a floating charge on the undertaking or any property of the company unless duly certified by RBI as required under the Section. f) Nature of subsidiaries. If any of the existing subsidiaries of an FI is engaged in an activity not permitted under Section 6(1) of the B R Act , then on conversion of the FI into a universal bank, delinking of such subsidiary / activity from the operations of the universal bank would become necessary since Section 19 of the Act permits a bank to have subsidiaries only for one or more of the activities permitted under Section 6(1) of B. R. Act. g) Restriction on investments. An FI with equity investment in companies in excess of 30 per cent of the paid up share capital of that company or 30 per cent of its own paid-up share capital and reserves, whichever is less, on its conversion into a universal bank, would need to divest such excess holdings to secure compliance with the provisions of Section 19(2) of the B. R. Act, which prohibits a bank from holding shares in a company in excess of these limits. h) Connected lending . Section 20 of the B. R. Act prohibits grant of loans and advances by a bank on security of its own shares or grant of loans or advances on behalf of any of its directors or to any firm in which its director/manager or employee or guarantor is interested. The compliance with these provisions would be mandatory after conversion of an FI to a universal bank.

i) Licensing. An FI converting into a universal bank would be required to obtain a banking licence from RBI under Section 22 of the B. R. Act, for carrying on banking business in India, after complying with the applicable conditions. j) Branch network An FI, after its conversion into a bank, would also be required to comply with extant branch licensing policy of RBI under which the new banks are required to allot at least 25 per cent of their total number of branches in semi-urban and rural areas. k) Assets in India. An FI after its conversion into a universal bank, will be required to ensure that at the close of business on the last Friday of every quarter, its total assets held in India are not less than 75 per cent of its total demand and time liabilities in India, as required of a bank under Section 25 of the B R Act. l) Format of annual reports. After converting into a universal bank, an FI will be required to publish its annual balance sheet and profit and loss account in the forms set out in the Third Schedule to the B R Act, as prescribed for a banking company under Section 29 and Section 30 of the B. R. Act. m) Managerial remuneration of the Chief Executive Officers. On conversion into a universal bank, the appointment and remuneration of the existing Chief Executive Officers may have to be reviewed with the approval of RBI in terms of the provisions of Section 35 B of the B. R. Act. The Section stipulates fixation of remuneration of the Chairman and Managing Director of a bank by Reserve Bank of India taking into account the profitability, net NPAs and other financial parameters. Under the Section, prior approval of RBI would also be required for appointment of Chairman and Managing Director. n) Deposit insurance . An FI, on conversion into a universal bank, would also be required to comply with the requirement of compulsory deposit insurance from DICGC up to a maximum of Rs.1 lakh per account, as applicable to the banks. o) Authorized Dealer's License. Some of the FIs at present hold restricted AD licence from RBI, Exchange Control Department to enable them to undertake transactions necessary for or incidental to their prescribed functions. On conversion into a universal bank, the new bank would normally be eligible for full-fledged authorised dealer licence and would also attract the full rigour of the Exchange Control Regulations applicable to the banks at present, including prohibition on raising resources through external commercial borrowings. p) Priority sector lending. On conversion of an FI to a universal bank, the obligation for lending to "priority sector" up to a prescribed percentage of their 'net bank credit' would also become applicable to it. q) Prudential norms. After conversion of an FI in to a bank, the extant prudential norms of RBI for the all-India financial institutions would no longer be applicable but the norms as applicable to banks would be attracted and will need to be fully complied with. (This list of regulatory and operational issues is only illustrative and not exhaustive).

THE FUTURE TREND OF UNIVERSAL BANKING IN DIFFERENT COUNTRIES Universal banks have long played a leading role in Germany, Switzerland, and other Continental European countries. The principal Financial institutions in these countries typically are universal banks offering the entire array of banking services. Continental European banks are engaged in deposit, real estate and other forms of lending, foreign exchange trading, as well as underwriting, securities trading, and portfolio management. In the Anglo-Saxon countries and in Japan, by contrast, commercial and investment banking tend to be separated. In recent years, though, most of these countries have lowered the barriers between commercial and investment banking, but they have refrained from adopting the Continental European system of universal banking. In the United States, in particular, the resistance to softening the separation of banking activities, as enshrined in the Glass-Steagall Act, continues to be stiff. In Germany and Switzerland the importance of universal banking has grown since the end of World War II. Will this trend continue so that universal banks could completely overwhelm the specialized institutions in the future? Are the specialized banks doomed to disappear? This question cannot be answered with a simple "yes" or "no". The German and Swiss experiences suggest that three factors will determine future growth of universal banking. First, universal banks no doubt will continue to play an important role. They possess a number of advantages over specialized institutions. In particular, they are able to exploit economies of scale and scope in banking. These economies are especially important for banks operating on a global scale and catering to customers with a need for highly sophisticated financial services. As we saw in the preceding section, universal banks may also suffer from various shortcomings. However, in an increasingly competitive environment, these defects will likely carry far less weight than in the past. Second, although universal banks have expanded their sphere of influence, the smaller specialized institutions have not disappeared. In both Germany and Switzerland, they are successfully coexisting and competing with the big banks. In Switzerland, for example, the specialized institutions are firmly entrenched in such areas as real estate lending, securities trading, and portfolio management. The continued strong performance of many specialized institutions suggests that universal banks do not enjoy a comparative advantage in all areas of banking. Third, universality of banking may be achieved in various ways. No single type of universal banking system exists. The German and Swiss universal banking systems differ substantially in this regard. In Germany, universality has been strengthened without significantly increasing the market shares of the big banks. Instead, the smaller institutions have acquired universality through cooperation. It remains to be seen whether the cooperative approach will survive in an environment of highly competitive and globalized banking.


Position of Universal banking in India