Introduction of Banking Sector Essay Example

as treasurers and bankers for the state, and managing the country's currency. Borrowers would sign loan deeds and indigenous bankers maintained a regular system of accounts.

The State Bank of India, established in June 1806, is the oldest bank in India and currently the largest commercial bank in the country. The Reserve Bank of India took over central banking responsibilities from the Imperial Bank of India in 1935 and later became nationalized with more powers after India's independence in 1947. In 1969, the government further nationalized the 14 largest commercial banks and followed suit by nationalizing the next six largest banks in 1980.

In India, there are a total of 88 scheduled commercial banks (SCBs), which consist of 27 public sector banks, 31 private banks, and 38 foreign banks. The combined branches and ATMs operated by these SCBs exceed 53,000 and 17,000 respectively. According to ICRA Limited's findings, the public sector banks dominate India's banking industry with over 75 percent of the total assets. On the other hand, private banks hold around 18.2 percent while foreign banks possess approximately 6.5 percent.

Banking in India has a rich history dating back to the late 18th century. The General Bank of India and the Bank of Hindustan were founded during this time, but they no longer exist. However, the State Bank of India, originally known as the Bank of Calcutta in June 1806 and later renamed the Bank of Bengal, continues to operate as India's oldest bank. It is important to note that the Bank of Bombay and the Bank of Madras were also established at this time as presidency banks under charters granted by the British East India

Company.

Throughout history, there have been quasi-central banks known as Presidency banks. These banks existed for a long time and eventually merged to form the Imperial Bank of India in 1925. After India gained independence, the Imperial Bank became the State Bank of India.

In 1839, Indian merchants established the Union Bank in Calcutta but unfortunately, it collapsed in 1848 due to an economic crisis. However, the Allahabad Bank was established in 1865 and is still operational today, making it the oldest Joint Stock bank in India. Nonetheless, it was not the first bank of its kind.

The Bank of Upper India, founded in 1863 and the first bank in India, ceased operations in 1913 due to failure. Its assets and liabilities were transferred to the Alliance Bank of Shimla. This setback was caused by the disruption of cotton supply from Confederate States to Lancashire during the American Civil War, leading to the emergence of banks supporting Indian cotton trade. However, numerous banks established during this period also faced failures due to involvement in speculative ventures. Consequently, depositors not only suffered financial losses but also lost faith in entrusting their funds with banks.

In the following decades, European control over banking in India persisted until the early 1900s. During the 1860s, foreign banks began entering India, particularly Calcutta. Comptoire d'Escompte de Paris opened a branch in Calcutta in 1860 and another one in Bombay two years later. Branches were also established in Madras and Pondicherry (a French colony at that time). HSBC established its presence in Bengal in 1869. As the busiest trading port in India due to British Empire's trade activities, Calcutta naturally became a hub for banking.

The

Bank of Bengal, originally named the State Bank of India, was India's first joint stock bank. It was founded in Faizabad in 1881 and stopped operating in 1958. In contrast, the Punjab National Bank was established in Lahore in 1895 and remains one of India's prominent banks today. The late 19th and early 20th centuries witnessed a period of relative economic stability for India after the Indian Mutiny. This era also saw notable progress in social, industrial, and infrastructure development.

Indian banks included a diversity of small banks that served specific ethnic and religious communities. The presidency banks, exchange banks, and Indian joint stock banks were the major players in Indian banking. Each bank had its own focus within the economy. Exchange banks, mainly owned by Europeans, focused on facilitating international trade. On the other hand, Indian joint stock banks often struggled with capital shortages and lacked expertise to effectively compete against the presidency and exchange banks.

Lord Curzon once likened the banking system to an antiquated sailing vessel with sturdy compartments, deeming it outmoded. Motivated by the Swadeshi movement, indigenous entrepreneurs and political leaders founded banks for the Indian populace from 1906 to 1911. Several of these banks such as Bank of India, Corporation Bank, Indian Bank, Bank of Baroda, Canara Bank, and Central Bank of India have endured till present times.

The districts of Dakshina Kannada and Udupi, also known as South Canara district, saw the establishment of numerous private banks during the Swadeshi movement. This region holds a significant place in Indian banking history as it is where four nationalized banks and a prominent private sector bank originated. The period from World War I to

India's independence brought about major obstacles for the banking sector in India.

Between 1913 and 1918, the Indian economy saw growth due to war-related economic activities. However, this turbulent period also resulted in the failure of numerous banks. In India, a total of 94 banks collapsed during this time, as indicated in the table below. The table provides information on their authorized and paid-up capital.

Lakhs) | |1913 |12 |274 |35 |
|1914 |42 |710 |109 |
|1915 |11 |56 5 |
|1916 |13 231 4 |
|1917 9 76 25 |
|1918 7 209 1 |

Following India's independence, the partition in 1947 had a detrimental impact on Punjab and West Bengal's economies, resulting in a temporary suspension of banking operations. Coinciding with this was the end of the laissez-faire era in Indian banking, marking a significant shift. In response to these developments, the Government of India enacted measures to actively engage in economic endeavors through the Industrial Policy Resolution of 1948, which aimed to foster a mixed economy. Consequently, the state assumed an expanded role across multiple sectors including banking and finance.

The major steps to regulate banking in India included:

• The Reserve Bank of India (RBI), India's central banking authority, was nationalized and became government-owned in 1948.
• In 1949, the Banking Regulation Act was passed, which granted the RBI the authority to "regulate, control, and inspect" banks in India. It also stipulated that opening a new bank or branch required a license from the RBI and prohibited common directors between two banks.

With the exception of the State Bank of India, all banks in India were privately owned and operated despite regulations and control. However, this changed on 19

July, 1969 when major banks in India were nationalised. The banking industry in India had become crucial for supporting economic growth by the 1960s. It also became a significant employer and sparked discussions about potentially nationalising the banking sector.

During the All India Congress Meeting, Indira Gandhi, the Prime Minister of India at that time, announced the government's intention to nationalize banks in a paper titled "Stray thoughts on Bank Nationalisation." This announcement was well received and shortly after, the Government of India (GOI) unexpectedly issued an ordinance to nationalize the 14 largest commercial banks. Jayaprakash Narayan, a prominent national leader in India, praised this move.

Rapidly responding to these developments, Parliament passed the Banking Companies (Acquisition and Transfer of Undertaking) Bill within two weeks. The bill received presidential approval on August 9th of that year. Subsequently, six more commercial banks underwent a second round of nationalization in 1980. These actions were primarily aimed at increasing government control over credit delivery. As a result of this second wave of nationalization, approximately 91% of India's banking business came under GOI governance.

In accordance with government directives in 1993, New Bank of India merged with Punjab National Bank.

The number of nationalized banks decreased from 20 to 19 as a result of the merger. These banks then experienced a growth rate of approximately 4%, which was similar to the overall growth rate of the Indian economy. Home Minister P. Chidambaram and others commended the nationalized banks for their role in helping India withstand the global financial crisis of 2007-2009.

In the early 1990s, during the Narsimha Rao government, a policy of liberalization was introduced, leading to the licensing of a small number

of private banks.

The banking industry in India was revitalized by the emergence of technologically advanced banks, also known as New Generation banks. Global Trust Bank, the first of its kind, merged with Oriental Bank of Commerce. Axis Bank (formerly UTI Bank), ICICI Bank, and HDFC Bank were other influential players. This development played a crucial role in rejuvenating the sector alongside India's rapidly expanding economy. The growth was primarily driven by government banks, private banks, and foreign banks.

The Indian banking sector is moving towards the next stage with the proposed relaxation in the norms for Foreign Direct Investment. Under the new policy, all Foreign Investors in banks may be granted voting rights that could exceed the current cap of 10%. Currently, this cap has been increased to 49%, albeit with certain restrictions. This change has had a significant impact on the Banking sector in India. Previously, bankers were accustomed to operating using the 4-6-4 method (Borrow at 4%; Lend at 6%; Go home at 4). However, the introduction of this new policy has brought about a modern outlook and the adoption of tech-savvy methods for traditional banks.

India's retail boom has resulted in increased demands from and offerings by banks. Despite challenges in reaching rural areas, the banking sector in India has achieved maturity in terms of supply, product range, and reach. Indian banks stand out with their clean, strong, and transparent balance sheets compared to their counterparts in similar economies in the region.

The Reserve Bank of India functions autonomously with minimal government intervention. It aims to manage fluctuations in the Indian Rupee without fixing a specific exchange rate, a policy that has generally been upheld.

The projected growth of the Indian economy, especially in the services sector, is expected to result in significant demand for banking services like retail banking, mortgages, and investment services. Furthermore, it is conceivable that there will be mergers and acquisitions, takeovers, and asset sales.

In March 2006, the Reserve Bank of India (RBI) granted Warburg Pincus permission to increase its stake in Kotak Mahindra Bank, a private sector bank, to 10%. This is significant because it is the first time that an investor has been allowed to hold more than 5% ownership in a private sector bank since the RBI introduced regulations in 2005 requiring approval for ownership exceeding this threshold. Recently, critics have accused privately-owned banks of being overly aggressive in their efforts to recover loans connected to housing, vehicle, and personal loans.

There have been press reports indicating that banks, in their efforts to recover loans, have faced a tragic consequence: borrowers unable to repay their debts resorting to taking their own lives. According to the Oxford Dictionary, a bank is an establishment responsible for safeguarding and distributing money upon customer request. In India, the Banking Companies Act of 1949 defines a banking company as an entity engaged in activities such as accepting deposits and granting loans.

The banking system plays a crucial role in the overall financial system by collecting savings from households and providing them to businesses. The Reserve Bank of India (RBI) serves as both the central bank and regulatory authority for all banking-related issues in India, while also functioning as the primary banker for other banks.

Banks can be categorized into two types: non-scheduled banks that are not listed in the Second Schedule

of the Banking Regulation Act of 1965.

There are certain conditions in the schedule that some banks fail to meet. These banks can be categorized into two groups: Central Co-operative Banks and Primary Credit Societies, along with Commercial Banks. Scheduled Banks, however, are banks listed in the second schedule of the Banking Regulation Act, 1965. As per this schedule, a scheduled bank must have a paid-up capital and reserves of at least Rs. 5,00,000. Furthermore, it must demonstrate to the RBI that its activities do not adversely affect depositors' interests.

The passage examines different categories of scheduled banks, distinguishing between state-cooperative banks and commercial banks. State-cooperative banks are owned and run by the government, while commercial banks aim to generate profits by accepting deposits and providing loans for the benefit of shareholders. Commercial banks can be further classified as Indian Banks, which are registered companies in India under the Companies Act and have their roots in India. An illustration is given with the State Bank of India and its associated subsidiaries.

The paragraph discusses various banks in India and their establishment. It includes the State Bank of India (SBI) and its subsidiaries like State Bank of Patiala, State Bank of Hyderabad, State Bank of Travancore, State Bank of Bikaner and Jaipur, State Bank of Mysore, State Bank of Saurastra, and State Bank of Indore. Furthermore, there are nationalized banks which comprise private sector banks that were later nationalized by the Government of India. The first wave occurred in 1969 when 14 private banks were nationalized followed by another 6 in 1980. Lastly, the Regional Rural Banks were established by the RBI in 1975 as part of the

Banking Commission.

It was established to operate exclusively in rural areas to provide credit and other facilities. Old Private Sector Banks: This group consists of banks that were established by the privy states, community organizations or by a group of professional for the cause of economic betterment in their area of operations. Initially their operations were concentrated in a few regional areas. New Private Sector Banks: These banks were started as profit oriented companies after the RBI opened the banking sector to the private sector. These banks are mostly technology driven and better managed than other banks.

Foreign Banks are banks that were registered outside India and originated in a foreign country.

Retail Banking, as defined by investopedia.com, encompasses the standard banking services offered to individual customers through local branches of larger commercial banks. These services include savings and checking accounts, mortgages, personal loans, debit cards, credit cards, and more.

One type of retail bank is the Private Bank which is an unincorporated bank owned either by an individual or by general partner(s) with limited partner(s).

The assets of a Swiss bank and the sole proprietor or general partners can be utilized for repayment of creditors, a structure that has been established since 1685 when the Edict of Nantes was revoked. A commercial bank, distinct from an investment bank, functions as a financial intermediary specializing in commercial activities and is commonly known as a "bank."

Commercial banks, previously distinct from other bank types, are now known as banks primarily catering to businesses. In certain English-speaking nations beyond North America, these commercial banks are referred to as "trading banks." Commercial banks accumulate funds by acquiring deposits, including checkable deposits, savings deposits, and

time deposits, from both businesses and consumers. They extend loans to both businesses and consumers while also investing in corporate bonds and government bonds. Deposits serve as the primary sources of funds for commercial banks, whereas their principal assets comprise loans and bonds.

Detailed information on banks sectoral exposure of credit reveals that more than 66% of the credits flow is due to retail, housing, and other priority sector loans. Banks credit flow exposure to large Enterprises remains strong, and there are recent indications that credit to agriculture and Microcredit has also increased. The Investment Banking and Markets division combines the advisory and financing, equity securities, asset management, treasury and capital markets, and private equity activities of the Group to form the CIBM structure and offer a comprehensive range of financial products to our clients.

Customers are increasingly considering ECA financing and we collaborate with our project export finance teams, both onshore and offshore, to offer structured solutions. The industry's growth and current state can also be defined by commercial banking, which caters to deposits and loans from corporations or large businesses, as opposed to retail banking for individual members of the public, such as in the Indian banking.

The main focus in the banking industry currently revolves around the consequences of the Basel II accord. Banks face stricter regulations compared to non-financial firms due to their unique characteristics. These characteristics include higher leverage and the ability to gather public deposits. Additionally, the asset - liability structure of banks differs from both non-financial firms and other financial institutions.

The risk in an insurance company primarily stems from insurance claims on the liability side of the balance sheet, while

in a bank, the risk primarily results from the decrease in asset values (such as illiquid loans that cannot be fully recovered). The liability of banks mainly consists of deposits, which are unsecured and repayable upon demand, and their principal amount remains unchanged in value. On the other hand, bank loans are illiquid and may experience a reduction in value, along with other bank assets.

The insurance company has a liquidity transformation that is opposite to that of a bank. While the balance-sheet structure of the insurance company is unlikely to cause systemic risk, banks may be more vulnerable to a "run" due to their asset liability mismatches, such as long term assets funded by short term liabilities. This poses a significant degree of potential systemic risk. The resolution costs and problems associated with systemic bank insolvencies can vary greatly. The Basel I proposals prompted banks to closely examine credit risk and regulatory capital, which they hadn't done extensively before.

As banks in the G-10 countries discovered methods to exploit the regulatory capital system, certain aspects of Basel I became less important. At the same time, banks in these countries started using advanced techniques to handle credit risk by constructing portfolio models for pricing, provisioning, and distributing economic capital for their credit portfolios. These advancements highlighted the flaws in the Basel I framework, leading to the development of Basel II, also known as the 'International Convergence of Capital Measurement and Capital Standards: A Revised Framework'.

The Basel Committee on Banking Supervision aims to establish a framework that fosters stability and strength in the global banking system. It also seeks consistency in regulating capital adequacy. The committee believes that

adopting this revised Framework will encourage the banking sector to adopt stronger risk management practices, which is seen as a major advantage.

When looking ahead to the future of banking, it is important to prioritize addressing undercapitalized banks and improving the rural co-operative credit system. This includes enhancing governance and financial management. It will be crucial for the banking system as a whole to establish a strong credit culture that covers fair pricing, excellent service, financial inclusion, and enforcement of contracts.

The Reserve Bank of India is well respected for its professionalism and reputation, which has established its credibility domestically and internationally. This credibility allows the RBI to effectively implement reforms that aim to maintain price and financial stability while promoting inclusive growth. According to a survey, 95% of respondents believe that the Indian financial sector is prepared for consolidation.

The survey suggests that the banking industry in the country would gain advantages from having six to seven banks of equal size as the State Bank of India. This is because it would lead to increased competition and align with the upcoming implementation of Basel II norms. However, the survey emphasizes that mergers should be voluntary rather than forced. Furthermore, several public sector banks have expressed a desire for more autonomy in determining salary levels based on individual performance. The survey underscores the significance of offering competitive compensation packages at all levels to improve employee productivity.

Approximately 92% of the public sector banks respondents expressed a lack of autonomy in providing appealing incentive packages to employees, resulting in lower commitment levels. Certain banks also suggested that they should be allowed to issue preference shares within a year. The survey

highlights several strengths in the banking industry, including regulatory systems, economic growth, technological advancements, risk assessment systems, and credit quality.

The text outlines various areas of improvement in the banking sector, such as expanding markets beyond major cities, enhancing human resources systems, addressing bank size and transaction costs, improving infrastructure, and managing labor inflexibilities. A survey suggests that implementing strategies like consolidation, strict corporate governance norms, regional and international expansion within India, increasing FDI limits, and establishing Free Trade Agreements with countries where India has a comparative advantage in banking can contribute to achieving a world-class banking system. The survey also emphasizes the importance of making quality banking products more accessible outside major cities. Despite this need for improvement, Indian banks have been slow to adopt technology; however, ICICI Bank is praised for its early adoption of mediums like the Internet. Furthermore, retail loan penetration in India is relatively low compared to other Asian countries.

Although the banking sector has experienced a 15% growth, there is still a substantial untapped potential. Moreover, retail loan interest rates have been steadily decreasing, particularly for residential mortgages which have seen a 7% decline in the past four years. Kamath highlights that the entry of new banks in India has expanded market coverage and introduced new product offerings.

The current value of the banking sector is approximately Rs 17 trillion, with total deposits projected to reach Rs 13 trillion.

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