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PRINCIPLES OF BANKING
Module A & B
April 15/2008

Financial System in India
Financial Sector consists of three main
segments viz.,
1) Financial institutions -banks, mutual
funds, insurance companies
2) Financial markets -money market,
debt market,capital market, forex
market
3) Financial products -loans, deposits,
bonds, equities
Financial Sector - Regulators
Regulators
Reserve Bank of
India
(RBI)
Securities Exchange
Board of India
(SEBI)
Insurance Regulatory
and Development
Authority
(IRDA)
Banks
Capital Markets/
Mutual Funds
Insurance
Companies
Banking in India
Legal frame work
of
Banks
Banking Regulation
Act,1949

Reserve Bank of India
Act,1934

Banking in India
- Banking in India is governed by
BR Act,1949 and RBI Act,1934
- Banking in India is controlled/monitored
by RBI and Govt of India
- The controls for different banks are different
based on whether the bank/s is/are
a) statutory corporation
b) a banking company
c) a cooperative society

Banking Regulation Act,1949 (BR Act)-
1
- BR Act covers banking companies and
cooperative banks, with certain modifications.
- BR Act is not applicable to
a) primary agricultural credit societies b) land
development banks
- BR Act allows RBI (Sec 22) to issue
licence for banks

Banking Regulation Act,1949 (BR Act)-2
Regulation

Control over
management
Penalities

Suspension
&
Winding up
Reserve Bank of India
Act,1934(RBI Act)-1
- RBI Act was enacted to constitute the
Reserve Bank of India
- RBI Act has been amended from time to
time
- RBI Act deals with the constitution,
powers and functions of RBI

Reserve Bank of India Act,1934(RBI Act)-2
- RBI Act deals with:
- incorporation, capital management and
business of banks
- central banking functions
- financial supervision of banks and
financial institutions
- management of forex/reserves
- control functions : bank rate,audit,accounts
- penalities for violation
Reserve Bank of India - 1
Reserve Bank of India was established in
1935, after the enactment of the Reserve
Bank of India Act 1934 (RBI Act).
Banking Regulation Act,1949 (BR Act)gave
wide powers to RBI as regards to
establishment of new banks/mergers and
amalgamation of banks,opening of new
branches,etc
BR Act,1949 gave RBI powers to
regulate,superivse and develop the banking
system in India

Reserve Bank of India 2
CENTRAL BANK
RBI
REGULATOR SUPERVISOR FACILITATOR
Money Market Instruments
Inter bank call money/deposit
Inter bank notice money/deposit
Inter bank term money/deposit
Certificates of Deposit
Commercial Paper
Treasury Bills
Bill rediscounting
Repos
Certificates of Deposit
CDs are short-term borrowings in the form of UPN
issued by scheduled commercial banks and are
freely transferable by endorsement and delivery.
Introduced in 1989
Minimum period 7 days and maximum period one
year. FIs are allowed to issue CDs for a period
between 1 year and up to 3 years
Minimum amount is Rs 1,00,000.00
Subject to payment of stamp duty under the Indian
Stamp Act, 1899
Issued to individuals, corporations, trusts, funds and
associations
Issued at a discount rate freely determined by the
market/investors
Commercial Paper
Short-term borrowings by corporates, financial
institutions, primary dealers from the money market
Can be issued in the physical form (Usance Promissory
Note) or de mat format
Introduced in 1990
When issued in physical form are negotiable by
endorsement and delivery and hence, highly flexible
Maturity is 7 days to 1 year
Unsecured and backed by credit rating of the issuing
company
Issued at discount to the face value
Repos
Repo (repurchase agreement) instruments
enable collateralised short-term borrowing
through the selling of debt instruments
A security is sold with an agreement to
repurchase it at a pre-determined date and
rate
Reverse repo is a mirror image of repo and
reflects the acquisition of a security with a
simultaneous commitment to resell

INDIAN CAPITAL MARKET
Indian Capital Market plays an important role in the
economic development of the country

It provides opportunities for investors to invest in the
market and also to earn attractive rate of return.

It also creates source of funds for the various sectors

National Stock Exchange (NSE) and Bombay Stock
Exchange (BSE) are the major stock exchanges in
India
Securities & Exchange Board of India
(SEBI)

SEBI was constituted on April 12/1988, and
obtained the statutory powers in March,1992
SEBIs functions:
To protect the interests of investors
To recognize the business in stock exchanges
and other security markets
To supervise and regulate work of
intermediaries, such as stock brokers
merchant bankers/custodians
depositories/bankers to the issues

Association of Mutual Funds in India
(AMFI)
AMFI is an association as a non profit
organization.
AMFI represents mutual funds in India
and working for healthy growth of the
Mutual Funds.
AMFI conduct examinations for MF
executives as part of their training
activities
Insurance Regulatory & Development
Authority (IRDA)
The regulator for insurance business in
India is IRDA.
IRDA was established in 2000
IRDAs functions:
To regulate, promote and ensure
orderly growth of the insurance
business and reinsurance business in
India
To protect the interests of policy
holders

Insurance Sector
Insurance Sector in
India can be divided
into two main
sections

General Insurance
Life Insurance
Financial Intermediaries (1)
Mutual Funds- As financial intermediary promote
savings and mobilise funds which are invested in the
stock market and bond market
MFs are associations or trusts of public members and
assist them in making investments in the financial
instruments of the business/corporate sector for the
mutual benefit of its members.
MFs aims to reduce the risks in investments
Mutual funds help their investors to enhance their
value by investing the funds in capital market.
Mutual funds offer various schemes: growth fund,
income fund, balanced fund,sector wise funds, etc.,
Regulated by SEBI
Financial Intermediaries (2)
Merchant banking- Another important
financial intermediary which manages and
underwrites new issues, undertake
syndication of credit, advise corporate clients
on fund raising
Subject to regulation by SEBI and RBI
SEBI regulates them on issue activity and
portfolio management of their business.
RBI supervises those merchant banks which
are subsidiaries or affiliates of commercial
banks
Indian Banking - Significant events 1

Three presidency banks were established in Calcutta (1806) in
Bombay (1840) and in Madras (1843)
In the early part of 20
th
century, on account of the Swadeshi
movement a number of join stock banks were established by
Indians like Bank of India, Bank of Baroda and Central Bank of
India.
In 1921 the three presidency banks were merged and the
Imperial Bank of India was created.
During the period 1900 to 1925 many banks failed, and the
Government appointed in 1929 a Central Banking Enquiry
Committee to trace the reasons for the failure of banks.
The Reserve Bank of India Act was passed in 1934 and the RBI
came into existence in 1935 and RBI was nationalised in 1949
The Banking Regulation Act,1949 gave wide powers to RBI to
act as the regulator for banks in India


Indian Banking -Significant events 2

In 1955 State Bank of India became the successor to
the Imperial Bank of India ,under the State Bank of
India Act,1955.
In 1959 State Bank of India (Subsidiary Banks) Act
was passed to enable SBI to take over State
Associated banks as SBIs subsidiaries
In 1969 the Government of India nationalised 14
major commercial banks having deposits of Rs.50
crore or more
In 1975 Regional Rural Banks were established under
RRB Act 1976, which was preceded by RRB
Ordinance in 1975
In 1980 six more commercial banks were
nationalised, with a deposit of Rs.200 crore or more



Progress of banking in India
In the liberalised, privatised and
globalised environment, banks opeating
in India have diversified their banking
activities by offering Para Banking
facilities like
Merchant banking/Mutual funds
ATMs/Credit Cards/Internet banking
Venture capital funds
Factoring
Bancassurance
Classification of Banks-1
Central
Bank
RBI
Public Sector
Banks
New Private
Sector
Banks
Old
Private
Sector
Foreign Banks
Co-operative
Banks
Regional
Rural
Banks
Classification of Banks-2
PUBLIC SECTOR
BANKS
STATE BANK OF
INDIA
SBI
SBI ASSOCIATE
BANKS
NATIONALISED
BANKS
Classification of Banks-3
Public Sector Banks =State Bank of
India+SBIs associate banks+
Nationalised banks
Private Sector Banks=Indian Private
Sector Banks (Old/New generation
banks)+Foreign banks in India
Other Banks=Regional Rural
Banks(RRB)
Functions of Banks - 1
CENTRAL BANK
RBI
REGULATOR SUPERVISOR FACILITATOR
RESERVE BANK OF INDIA
SUPERVISORY & REGLATORY
Issuance of currency notes
Bankers Banker
Lender of the last resort
Credit Control & Monetary Policy
Exchange Control & Forex Management
Funds Transfer
CREDIT CONTROL


QUANTITATIVE CREDIT CONTROL
QUALITATIVE CEDIT CONTROL
CRR & SLR
BANK RATE
OPEN MARKET OPERATIONS
Functions of Banks - 2
Commercial Banks-Core Banking
Functions
- Acceptance of deposits from public
- Lending funds to public/corporates
- Investing funds in various opportunities
- Collecting cheques/drafts and other
Negotiable Instruments
- Remitting funds

Functions of Banks-3
Commercial Banks Para Banking
Services
Providing safe deposit lockers
Acceptance of safe custody items
Acceptance of standing instructions
Offering internet banking facilities
Issuance of credit and other cards
including ATM cards
Offering various products like Mutual
funds,insurance products, merchant
banking services
Acting as executors and trustees

Commercial Banks
DEPOSIT PRODUCTS
CERTIFICATE
FLEXI
RECURRING
FIXED
SAVINGS
CURRENT
DEPOSITS
Non-Resident Accounts - 1
Rupee accounts
Non-resident
Ordinary account
(NRO)
Non-resident
External account
(NRE)
Foreign Currency Non-resident
Deposit Accounts FCNR (B)
FCNR (B) accounts
NRIs,PIOs,residing outside India can open FCNR (B)
accounts
FCNR (B) accounts are maintained as fixed deposits
in certain designated currencies
The designated currencies are:
US$, GBP, Japanese Yen, Euro, Cad$, Aus $
Maintained in Banks in India in the above
mentioned foreign currencies and interest is also
earned in such foreign currencies
Repatriation of funds (principal, interest) is allowed



Loan Products Fund Based
BILLS
FINANCE
TERM
FINANCE
RETAIL
FINANCE

OVERDRAFT
CASH CREDIT
LOANS
&
ADVANCES
Loan Products Non Fund Based
Letters of
Credit
Bank Guarantee
Co-Acceptance
Of
Bills
Know Your Customer (KYC) -1
KYC: Know Your Customer
Know your customer (KYC) norms are
applicable to all types of customer a/cs.
It deals with not only to identify the
customer but also to understand the
activities of the customer, and to ensure
that the operations in the customer
account/s is/are for genuine purpose
Know Your Customer (KYC) -2
Application of KYC norms have become
important due to various reasons.
In view of many issues on account of
drugs smuggling, money laundering,
terrorist activities, arms dealing,etc.,
banks need to be careful in dealing with
their clients.
Know Your Customer (KYC) -3
Customer
Acceptance
Policy
Monitoring of
Transactions
Risk Management
Customer
Identification
Procedure
Bank Customers - 1
Power of
Attorney
Holders
Executors/Trustees
Illiterate
Perons
Minors
Joint account
hoders
Individuals
Bank Customers
Bank Customers - 2
Sole
Proprietor
Clubs/
Socities
Coproates
Hindu
Undivided
Family
Partnership

BANKER-CUSTOMER
RELATIONSHIP
DEBTOR-CREDITOR
CREDITOR-DEBTOR
AGENT-PRINCIPAL
LESSOR-LESSEE
BAILEE-BAILOR
CHEQUES
OPEN
CROSSED
ORDER
BEARER
NEGOTIABLE INSTRUMENTS
Paying Banker:
Payment in
Due
Course
Apparent
Tenor
In good faith
Without
Negligence
NEGOTIABLE
INSTRUMENTS
BANKERS DUTIES
&
RESPONSIBILITIES
C0LLECTING
BANKER
COLLECTION OF
CHEQUES

HOLDER IN
DUE
COURSE
CONSIDERATION

TITLE
BEFORE
MATURITY
Six Cs
Character
Capital
Capacity
Collateral
Condition
Compliance

Working Capital Cycle
Cash
Raw material
Semi finished goods Finished goods
sales
Bills receivables
CHARGES
HYPOTHECATION
PLEDGE
MORTGAGE
ASSIGNMENT
LIEN
SET OFF
Risk Management
Credit
Risk
Liquidity
Risk
Operations
Risk
Price
Risk
Interest Rate
Risk
SRFAESI Act,2002
- Securitisation and Reconstruction of
Financial Assets and Enforcement of
Security Interest Act (SRFAESI) was
enacted in 2002
_ Securitisation Company/Reconstruction
Company (SCRC) can finance the
acquistion from own resources or rise
sources from Qualified Institutional
Buyers (QIBs)
SRFAESI Act,2002
Enforcement of
Security interest
Transfer of NPA
Legal framework
Priority Sector 1
Priority Sector
Primay Secondary Teritary
Priority Sector 2
Primary Sector
Agriculture Allied Activities
Direct Indirect
Priority Sector 3
Secondary Sector
SSI/SME SSSBE
Priority Sector 4
Tertiary Sector
Small road/water
Transport operator
Small business/businee
enterprises
Professional/self
employed
Educational loans
Housing finance
Others
Small & Medium Enterprises (SMEs)
SMEs are classified based on Small &
Medium Enterprises Development Act,2006
SMEs are divided into micro,small & medium
sized entities.
SMEs are classified based on two categories
viz., manufacturing units and service
companies.
In case of manufacturing units investments
in plant and machinery and for service
companies investments in equipment are
considered for classification as SMEs
Credit Management in Banks
Capital adequacy
norms
Prudential
norms
Credit appraisal
system
Exposure
norms
Risks-ALM
Documentation 1
- Loan documents are classified as
primary and secondary
- Documents are obtained based on the
type of credit facility/constitution of the
borrower/nature of securities offered by the
borrowers
- Documents should have a clear title
and can be valid to be enforced in a
court of law
- Wherever required documents need to be
stamped appropriately
- Documents should be properly filled up and duly
executed by authorised persons.
Documentation 2
Documentary evidence as per Sec 61
of Evidence Act :
a) Primary: original documents needs to
be produced for inspection of court
b) Secondary:
- certified copies
- copies made from or compared with
original
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ALL THE BEST & THANK YOU
T.M.C.VARADARAJAN
TEL : 022-25638965 (R)
022-66364206 (O)
e.mail: t.varadarajan@scotiabank.com
tmc_varadarajan@yahoo.co.in