challenges before indian banking system. - copy1
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OBJECTIVE OF STUDYOBJECTIVE OF STUDY
1. TO STUDY ABOUT THE BANKING SERVICES IN INDIA.
With years, banks are also adding services to their customers. The Indian
banking industry is passing through a phase of customers market . The
customers have more choices in choosing their banks. A competit ion has
been established within the banks operating in India.
2. TO STUDY ABOUT THE VARIOUS CHALLENGES FACED BY BANKINGINDUSTRY IN INDIA
The banking industry in India is undergoing a major transformation due
to changes in economic conditions and continuous deregulation. These
mult iple changes happening one af ter other has a r ipple effect on a
bank t rying to graduate f rom completely regulated seller market to
completed deregulated customers market.
THE VARIOUS CHALLENGES ACCORDING TO ME THE INDIAN
BANKS FACE ARE:-
GLOBALISATION
SUB-PRIME CRISIS
1. TO FIND OUT THE OPTIONS WITH BANKS TO COPE UP WITH THE
CHALLENGES
EXECUTIVE SUMMARY
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Banking in Ind ia or ig inated in the f ir st decade of 18 cen tury with The
eneral Bank of India coming into existence in1786. The Reserve Bank of
India formally took on the responsibili ty of regulating the Indian banking
sector from1935. After India 's independence 1947, the Reserve Bank was
nationalized and given broader powers.
A retrospect of the events clearly indicates that the Indian banking sector
has come fa r away f rom the days of nat iona liza tion . The Naras imham
Committee laid the foundation for the reformation of the Indian banking
sector. Constituted in 1991, the Committee submitted two reports, which
laid s ignificant thrust on enhancing the eff ic iency and viabi l ity of the
banking sec tor. The deregula tion process has resul ted in de livery of
innovative financial products at competitive rates; this has been proved by
the increasing divergence of banks in retail banking for their development
and survival. The Narasimham Committee has presented a detailed analysis
of various problems and challenges facing the Indian banking system and
made wide-ranging recommendations for improving and strengthening its
functions.
The recent internat ional consensus on preserving the soundness of the
banking system has veered around certain core themes. These are: effectiverisk management systems, adequate capital provision, sound practices of
supervis ion and regulat ion, t ransparency of operation, conducive public
policy intervent ion and maintenance of macroeconomic s tabi li ty in the
economy. Until recently, challenges like the lack of competitiveness vis--
vis global standards, low technological level in operations, over staffing,
high NPAs and low levels of motivation had shackled the performance of
the banking industry. The competi t ive environment created by f inancialsector reforms has nonetheless compelled the banks to gradually adopt
modern technology to maintain their market share. The developments, in
general have an emphasis on service and technology.
The global challenges which banks face are not confined only to the global
banks. These aspects are also highly relevant for banks which are part of a
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global ised banking system. Further, overcoming these chal lenges by the
o ther banks i s expec ted t o not only s tand them in good s tead dur ing
difficult t imes but also augurs well for the banking system to which they
belong and will also equip them to launch themselves as a global ban k.
Today, the banking sector in India is fairly mature in terms of supply, product range and reach. In terms of quality of assets and capital adequacy,
Indian banks are considered to have clean, strong and transparent balance
sheets relative to other banks in comparable economies in i ts region. The
Reserve Bank of India is an autonomous body, with minimal pressure from
the government. With passing time, Indian economy is further expected to
grow and be strong for quite some time-especially in i ts services sector.
The s ignif icant change in the pol icy and at t i tude that is current ly beingseen is encouraging for the banking sector gro wth.
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CHAPTER 1 EVOLUTION OF INDIAN BANKING SYSTEM
Without a sound and effect ive banking system in India i t cannot have ahealthy economy. The banking system of India should not only be hassle
free but i t should be able to meet new challenges posed by the technology
and any other external and internal factors.
For the past three decades India's banking system has several outstanding
achievements to i ts credit . The most striking is i ts extensive reach. It is
no longer confined to only metropol i tans or cosmopoli tans in India . In
fact, Indian banking system has reached even to the remote corners of thecountry. This is one of the main reasons of India 's growth process. The
government 's regular pol icy for Indian bank s ince 1969 has paid r ich
dividends with the nationalization of 14 major private banks of India.
The f i rs t bank in India , though conservat ive, was establ ished in 1786.
From 1786 t il l today, the journey of Ind ian Banking Sys tem can be
segregated into three distinct phases.They are as mentioned below:
Early phase from 1786 to 1969 of Indian Banks
Nat iona liza tion of Ind ian Banks and up to 1991 prior to Indian
banking sector Reforms.
New phase of Ind ian Banking Sys tem with the advent o f Ind ian
Financial & Banking Sector Reforms after 1991
To make th i s wr i te -up more explana tory, I p re f ix the scenar io as
Phase I, Phase II and Phase III.
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Phase I
The General Bank of India was set up in the year 1786. Next came Bank
of Hindustan and Bengal Bank. The East India Company established Bank
of Bengal (1809), Bank of Bombay (1840) and Bank of Madras (1843) as
independent units and called it Presidency Banks. These three banks were
amalgamated in 1920 and Imperial Bank of India was established which
started as private shareholders banks, mostly Europeans shareholders.
In 1865 Allahabad Bank was establ ished and f i rs t t ime exclusively by
Indians, Punjab National Bank Ltd. was set up in 1894 with headquarters
at Lahore. Between 1906 and 1913, Bank of India, Central Bank of India,
Bank of Baroda, Canara Bank, Indian Bank, and Bank of Mysore were set
up. Reserve Bank of India came in 1935. During the first phase the growth
was very slow and banks also experienced periodic failures between 1913
and 1948. There were approximately 1100 banks, mos tly small . To
s treaml ine the func tion ing and act iv it ies o f commercial banks, the
Government of India came up with The Banking Companies Act , 1949
which was later changed to Banking Regulation Act 1949 as per amending
Act of 1965 (Act No. 23 of 1965). Reserve Bank of India was vested with
extensive powers for the supervis ion of banking in India as the Central
Banking Authority. During those days public has lesser confidence in the
banks. As an aftermath deposit mobilization was slow. Abreast of i t the
savings bank facility provided by the Postal department was
comparatively safer. Moreover, funds were largely giv en to traders.
Phase II
Government took major steps in this Indian Banking Sector Reform after
independence . In 1955 , i t nat ional ized Imper ia l Bank of Ind ia with
extensive banking facil i t ies on a large scale especially in rural and semi-
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urban areas. It formed State Bank of India to act as the principal agent of
R BI an d to h andle b ankin g transactio ns of the Un ion an d State
Governments a l l over the country. Seven banks forming subsidiary of
State Bank of India was nationalized in 1960 on 19th July, 1969, major
process of nationalization was carried out. I t was the effort of the then
Prime Minister of India, Mrs. Indira Gandhi. 14 major commercial banks
in the country were nationalized.
Second phase of nat iona liza tion Ind ian Banking Sec tor Reform was
carried out in 1980 with seven more banks. This step brought 80% of the
banking segment in India under Government ownership.
The following are the steps taken by the Government of India to Regulate
Banking Institutions in the Country:
1949: Enactment of Banking Regulation Act.
1955: Nationalization of State Bank of India.
1959: Nationalization of SBI subsidiaries.
1961: Insurance cover extended to de posits.
1969: Nationalization of 14 major banks.
1971: Creation of credit guarantee corporation.
1975: Creation of regional rural banks.
1980: Nationalization of seven banks with deposits over 200crore.
After the nationalization of banks, the branches of the public sector bank
India rose to approximately 800% in deposits and advances took a huge
jump by 11,000%. Banking in the sunshine of Gov ernment ownership gave
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the public implicit faith and immense confidence about the sustainability
of these institutions
Phase III
This phase has int roduced many more products and fac il it ies in the
banking sector in its reforms measure. In 1991, under the chairmanship of
M Narasimham, a committee was set up by his n ame which worked for the
liberalization of banking practices.
The country is flooded with foreign banks and their ATM stations. Efforts
are being put to give a satisfactory service to customers. Phone banking
and net banking is introduced. The entire system became more convenient
and swift . Time i s g iven more impor tance than money. The f inancial
system of India has shown a great deal of resil ience. It is sheltered from
any crisis tr iggered by any external macroeconomics shock as other East
Asian Count ries suffe red. This i s a ll due to a f lex ib le exchange rate
regime, the foreign reserves are high, the capital account is not yet fully
convertible, and banks and their customers have limited foreign exchange
exposure.
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CHAPTER 2CHAPTER 2 BANKING SERVICES IN INDIABANKING SERVICES IN INDIA
BANKING SERVICES
With years, banks are also adding services to their customers. The Indian
banking industry is passing through a phase of customers market . The
customers have more choices in choosing their banks. A competit ion has
been established within the banks operating in India.
With s ti ff competi tion and advancement of t echnology, the serv ice
provided by banks has become more easy and convenient. The past days
are witness to an hour wait before withdrawing cash from accounts or a
cheque from north of the cou ntry being cleared in one month in the south.
This sect ion of banking deals with the la test discovery in the banking
instruments along with the polished version of their o ld systems.
Strategic issues in banking services
Strategic issues in banks services are known as or define by these ways,which are known as,
Non performing assets Capital adequacy ratio Total quality management Management information system.
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CHAPTER 3CHAPTER 3 -- KINDSKINDS OF BANKSOF BANKS
Financial requirements in a modern economy are of a d iverse nature,
distinctive variety and large magnitude. Hence, different types of banks
have been ins ti tu ted to cater to the vary ing needs of the community.
Banks in the organized sec tor may, however, be c lass if ied in to the
following major forms:
1) Commercial banks
2) Co-operative banks
3) Specialized banks
4) Central bank
COMMERCIAL BANKS
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Commercial banks are joint stock companies dealing in money and credit.
In India, however there is a mixed banking system, prior to July 1969, all
the commercial banks-73 scheduled and 26 non-scheduled banks, except
the s ta te bank of Ind ia and i ts subsidiar ies-were under the cont ro l o f
pr ivate sector. On July 19, 1969, however, 14 major commercial banks
with deposits of over 50 Corers were nationalized. In April 1980, another
six commercial banks of high standing were taken over by the
government . At present, there are 20 national ized banks plus the s ta te
bank of India and i ts 7 subsidiar ies const i tut ing publ ic sector banking
which controls over 90 per cent of th e banking business in the country.
CO-OPERATIVE BANKS
Co-operative banks are a group of financial insti tutions organized under
the provisions of the Co-operative societies Act of the states. The main
object ive of co-opera tive banks i s to provide cheap c redi ts to the ir
members. They are based on the principle of self-reliance and mutual co-
operat ion. Co-operat ive banking system in India has the shape of a
pyramid a three tier structure, constituted by:
SPECIALIZED BANKS
There are specialized forms of banks catering to some special needs with
this unique nature of activities. There are thus,
1 . Foreign exchange banks,
2 . Indust rial banks ,
3. Development banks,
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3. Land deve lopment banks,
5. Exim bank.
CENTRAL BANK
A cen tr al bank i s t he apex f inanci al i ns ti tu ti on i n t he banking and
f inanc ia l sys tem of a country. I t i s regarded as the h ighes t monetary
authori ty in the country. I t acts as the leader of the money market . I t
supervises, control and regulates the activities of the commercial banks. It
is a service oriented financial institution.
Indias central bank is the reserve bank of India es tabl ished in 1935.a
c en tr al b an k i s us ua lly st at e o wn ed b ut i t m ay al so b e a p ri va te
organization. For instance, the reserve bank of India (RBI), was started as
a shareholders organization in 1935, however, i t was nationalized after
independence, in 1949.it is free from parliamentary control.
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CHAPTER CHAPTER 44 -- NATIONALISATION NATIONALISATION
By the 1960s, the Indian banking industry had become an important tool
to facil i tate the development of the Indian economy . At the same time, i t
had emerged as a la rge employer, and a deba te had ensued about the
possibil i ty to nationalize the banking industry. Indi ra Gan dhi , the- then
Prime Minis ter of India expressed the intent ion of the GOI in a paper
entit led "Stray thoughts on Bank Nationalization." Thereafter, her move
was swift and sudden, and the GOI issued an ordinance and national iz ed
the 14 largest commercial banks with effect from the midnight of July 19 ,
1969 .
A second dose of nationalization of 6 more commercial banks followed in
1 98 0. Th e s ta te d r eas on f or t he na ti on al iz at io n wa s t o g iv e t he
government more cont ro l o f c red it de livery. With the second dose of
nationalization, the GOI controlled around 91% of the banking business of
India. Later on, in the year 1993, the government merged New Bank of
India with Punjab National Bank . I t wa s t he o nl y m erge r b et wee n
nat iona li zed banks and r esul ted i n t he r educ tion o f t he number o f
nat iona li zed banks f rom 20 to 19. Aft er t hi s, unt il t he 1990s , t he
nat ional ized banks grew at a pace of around 4%, closer to the average
growth rate of the Indian economy.
The nationalized banks were credited by some, including Home minister
P. Chidambaram , to have the Indian economy withstand the global
financial crisis of 2007-2009 .
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CHAPTER 5CHAPTER 5 -- LIBERALISATIONLIBERALISATION
In the ear ly 1990s , the then Nar simha Ra o government embarked on a
policy of liberalization , l icensing a small number of private banks. These
came to be known as New Generat ion tech-savvy banks, and included
Global Trust Bank (the first of such new generation banks to be set up),
which l at er ama lgamated with Ori en ta l Bank o f Commerce, Axis
Bank (earlier as UTI Bank ), ICICI Bank and HDFC Bank . This move ,
a long with the rap id growth in the economy of India , revi tal ized the
banking sec to r i n Ind ia , which has s een r ap id g rowth with s trong
contr ibut ion from al l the three sectors of banks, namely, government
banks, private banks and foreign banks.
The next stage for the Indian banking has been setup with the proposed
relaxation in the norms for Foreign Direct Investment, where all Foreign
Investors in banks may be given vot ing r ights which could exceed the
p re se nt c ap o f 1 0% ,a t p res en t i t h as g one u p t o 4 9% w it h so me
restrictions.
The new pol icy shook the Banking sector in India completely. Bankers,
t i l l th i s t ime , were used to the 4-6-4 method (Borrow a t 4%; Lend a t
6%;Go home at 4) of funct ioning. The new wave ushered in a modern
outlook and tech-savvy methods of working for traditional banks. All this
led to the retail boom in India. People not just demanded more from their
banks but also received more.
Currently (2007), banking in India is generally fairly mature in terms of
supply, product range and reach-even though reach in rural India s t i l l
remains a challenge for the private sector and foreign banks. In terms of
qual i ty of assets and capi ta l adequacy, Indian banks are considered to
have clean, strong and transparent balance sheets relative to other banks
in comparable economies in i ts region. The Reserve Bank of India is an
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autonomous body, with minimal pressure from the government. The stated
policy of the Bank on the Indian Rupee is to manage volatility but without
any fixed exchange rate-and this has mostly been tru e.
With the growth in the Indian economy expected to be s t rong for qui te
some t ime-especial ly in i ts services sec tor- the demand for banking
services, especially retail banking , mortgages and investment services are
expected to be strong. One may also expect M&As, takeovers, and asset
sales.
In March 2006, the Reserve Bank of India a l lowed Warburg Pincus to
increase its stake in Kotak Mahindra Bank (a private sector bank) to 10%.
This is the first t ime an investor has been allowed to hold more than 5%
in a private sector bank since the RBI announced norms in 2005 that any
stake exceeding 5% in the private sector bank s would need to be vetted by
them.
In recent years critics have charged that the non-government owned banks
are too aggressive in the ir loan recovery e ffort s in connec tion with
hous ing, veh ic le and personal loans. There a re press repor ts that the
banks' loan recovery efforts have driven defaulting borrowers to suicide.
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CHAPTER 6CHAPTER 6 -- RBI ROLE AS REGULATORY MONETORY AUTHORITYRBI ROLE AS REGULATORY MONETORY AUTHORITY
RBI ROLE AS REGULATORY MONETORY AUTHORITY
In past few months we saw RBI using 2 of i ts possible measures to tackle
the inflation. RBI actually has four chief weapons in i ts arsenal to control
the inflation. They are Reserve Requirements (CRR and SLR), Bank Rate
or Discount rate and Repo rate. We now discuss each one of them in detail
and their effects as well:
Reserve Requirements
This main ly const itute of Cash to Reserve Rat io (CRR) and S ta tu tory
Liquidity ratio (SLR). CRR is the portion of deposits (as cash) which banks
have to keep/maintain with the RBI. This serves two purposes: firstly, i t
ensures that a portion of bank deposits is totally risk-free and secondly i t
enables that RBI control l iquidi ty in the system, and thereby, inf la t ion.
Whereas SLR is the portion of their deposits banks are required to invest in
government securi t ies . So due to CRR and SLR obl igat ion towards RBI
financial insti tutions will be able to lend only the part of money available
with them al though this effect is small when t ransact ion is between just
two entities and constitute one layer. But when money flows through series
of players and layers very less money wil l be lef t with the inst i tut ions
present at the bottom of pyramid. So higher is the CRR less is the money
available in the economy. So interest rates will move in upward direction
sand opposite happens when CRR is reduced.
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Bank Rate or Discount rate
This is the ra te a t which the RBI makes very short term loans to banks.
Banks borrow from the RBI to meet any shortfal l in their reserves . An
increase in the d i scount ra te means the RBI wants to s low the pace of
growth to reduce inflation. A cut means that the RBI wants the economy to
grow and take up new ventures. Indian bank rate is at 6 per cent down from
10 per cent in 1981 and 12 per cent in 1991
Repo rate
It is the rate at which the RBI borrows short term money from the market.
After economic reforms RBI started borrowing at market prevailing rates.
So it makes more sense to banks to lend money to RBI at competit ive rate
with no risk at all . Although the repo rate transactions are for very short
d ur ati on t he e ve ry da y q ua nt um o f o pe ra ti on s i s ap pr ox im at el y R s
40,000crore everyday. Thus, large amount of capi ta l is not avai lable for
circulation. With increase in repo rate banks tend to invest more in repo
transactions.
Open market operations have l imitat ions due to amount of government
securit ies with RBI is l imited and close to Rs 60,000crore and out of that
only Rs 45,000crore is in form of marketable securit ies. Considering Bank
Rate which is untouched in current scenario RBI is left with only 2 major
measures v iz . CRR and Repo Rate in i ts a rmory to guard aga ins t the
onslaught of inflation.
Since large part of inflation is attributed to large increase in international
oil and metal prices, the cooling price trend in them comes as a great relief
to RBI and Indian economy as a whole and along with RBI measures has
helped stabilize inflation.
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CHAPTER 7CHAPTER 7 -- ROLE OF BANKS INROLE OF BANKS IN DEVELOPING ECONOMYDEVELOPING ECONOMY
Banks play a very useful and dynamic role in the economic l ife of every
modern state. A study of the economic history of western country shows
tha t without the evolu tion of commerc ia l banks in the 18th and 19th
centuries, the industrial revolution would not have taken place in Europe.
The economic impor tance o f commerc ia l banks t o t he develop ing
countries may be viewed thus:
1. Promoting capi tal formation
2 . Encouraging innovat ion
3. Inf luence economic activity
4. Faci l ita tor of monetary policy
5. Banks organization system in India
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CHAPTER 8CHAPTER 8 -- GLOBAL MELTDOWN AND COLLAPSE OF AMERICANGLOBAL MELTDOWN AND COLLAPSE OF AMERICAN
BANKSBANKS
When did the slide begin?
A retrospect does help when the market is in a cr is is . The countdown
began on June 30, 2004, when the Federal Reserve (the central bank in the
US) began a cycle of interest rate hikes that raised the cost of borrowing
from the lowest levels registered since the 1950s.
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I t increased the interest ra tes seventeen t imes and paused only in June
2006 when the borrowing cost touched 5.25 per cent.
The US housing market began sliding in August 2005 and that continued
through 2006. Building rates and housing prices tumbled.
Did this cause business failure?
Yes. Several sub-prime mortgage holders defaulted on their loans and the
f ir st s ign o f a cr is is emerged in March 2007 when sha re s i n New
Century Financial , one of the largest sub-prime lenders in the US, were
suspended amid fears that the firm could be heading for bankruptcy.
Another US-based sub-prime firm Accredited Home Lenders Holding said
it would pass on $2.7 billions of its loans at a heavy discount. On April 2,
2007, New Century Financial f i led for bankruptcy protection after i t was
forced by its backers to repurchase billions of dollars worth of bad loans.
What do you think was the spillover effect of the slide?
The sub-prime mortgage crisis went on to affect major global investment
banks as well . Shares in Bear Stearns came under pressure in May 2007
because of the banks exposure to the US sub-prime market . In June,
Merril l Lynch seized and sold $800 millions of bonds used as collateral
for loans made to Bear Stearns hedge funds that were used to bet on the
sub-prime mortgage market.
In July 2007, General Electr ic decided to sel l the WMC Mortgage sub-
prime lending business it bought in 2004. Goldman Sachs also announced
f inanci al support for one o f i ts s truggl ing hedge funds h it by t he
defaulting sub-prime mortgages.
What has the US sub-prime market cr is is got to do with s tock markets
going haywire in India?
First , several foreign insti tutional investors (FIIs) are reeling under the
impact of non-performing or bad loans or iginat ing in the US sub-prime
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market. I t i s l ikely to s lowdown, or even reverse , the f low of fore ign
direct investments in the Indian economy. This, as you know, will affect
the long-term growth prospects of our economy.
Second, several aspects in the Indian housing sector eerily resemble the
fundamentals of the US sub-prime mortgage crisis. Property prices here
have grown tremendously; borrowing and lending rates have seen gradual
increases; banks and other lending insti tutions have recorded an increase
in their non-performing assets.
These points to a cognizable risk of collapse in the Indian credit markets.
Major sectors in India that would be affected out to a certain exten t due to
the current crisis are:
Banking Industry.
IT & IT enabled services.
Real Estate.
Oil & Gas.
FMCG
Case st udy o n THE SU B PRIM E CRISI S .
LEHMAN BROTHERS
Lehman Brothers Holdings Inc. was a global financial-service firm that
d id bus ines s i n investment banking, equity and fixed-income sales ,
research and trading , investment management , private equity , and private
banking . It was a primary dealer in the U.S. Treasury securities market.
In Augus t 2007, t he f irm c lo sed i ts subprime lender , BNC Mor tgage ,
eliminating 1,200 positions in 23 locations, and took an after-tax charge of
$25 million and a $27 million reduction in goodwill .
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In 2008, Lehman faced an unprecedented loss to the continuing subprime
mortgage crisis . Lehman's loss was apparently a result of having held on
to large posi t ions in subprime and other lower-rated mortgage tranches
when securit izing the underlying mortgages; In the second fiscal quarter,
Lehman repor ted losses of $2 .8 b i l l ion and was forced to se l l o ff $6
billion in assets. In the first half of 2008 alone, Lehman stock lost 73% of
i ts value as the credi t market continued to t ighten. In August 2008,
Lehman reported that i t intended to release 6% of i ts work force, 1,500
people
On August 22, 2008, shares in Lehman closed up 5% on reports that the
state-controlled Korea Development Bank was consider ing buying the
bank. Most of those gains were qu ickly eroded as news came in that Korea
Development Bank was " facing d ifficu lt ies p leas ing regulators and
at tract ing par tners for the deal ." I t culminated on September 9 , when
Lehman ' s shares p lunged 45% to $7 .79 , a f te r i t was repor ted tha t the
state-run South Korean firm had put talks o n hold.
The next day, Lehman announced a loss of $3.9 bil l ion and their intent to
sell off a majority stake in their investment-management business, which
includes Neuberger Berman . The stock slid seven percent that day.
On Saturday Sep tember 13, 2008, announced the pos sibi li ty o f an
emergency liquidation of i ts assets. Lehman reported that i t had been in
talks with Bank of America and Barclays for the company's possible sale.
However, bo th Barc lays and Bank of America u lt imately dec lined to
purchase the entire company.
In New York, short ly before 1 a .m. the next morning, Lehman Brothers
Holdings announced i t would file for Chapter 11 bankruptcy protection
ci t ing bank debt of $613 bi l l ion, $155 bi l l ion in bond debt , and assets
worth $639 bill ion. It further announced that i ts subsidiaries will continue
to operate as normal . A group of Wal l S tree t f irms agreed to provide
capital and financial assistance for the bank's orderly liquidation and the
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Federa l Reserve, in turn, agreed to a swap of lower-qual ity asset s in
exchange for loans and other assistance from the government.
On September 17, 2008, the New York Stock Exchange delisted Lehman
Brothers. Nomura Holdings , Japan's top brokerage firm, agreed to buy the
Asian d iv is ion of Lehman Brothers for $225 mi l l ion and par t s o f the
European division for a nominal fee o f $2.It would not take on any trad ing
assets or l iabili t ies in the European units. Nomura negotiated such a low
price because it will acquire only Lehman's employees in the regions, and
not its stocks, bonds or other assets.
The las t Lehman Brothers Annual Report ident i f ied that these non-US
subsidiaries of Lehman Brothers were responsible for over 50% of global
revenue produced immediately following the bankruptcy filing, an already
unstable market began an uncontrollable tailspin. What resulted was what
many have called the perfect storm of economic distress factors.
Anatomy of Financial Instabilit y
I t was the abrupt breakdown of t rust fol lowing the col lapse of Lehman
Bro ther s i n mid -Sep tember 2008 tha t caused f inanci al marke ts i n
advanced economies to go into seizure. Suddenly, there was a great deal
of uncertainty not only about the extent of losses and the ability of banks
to withstand those losses, but about th e extent of risk in the system, where
it lay and how it might explode. This uncertainty triggered unprecedented
p an ic a nd a lm ost t ot al ly p ar al yz ed t he en tir e ch ai n o f f in an ci al
intermediation. Banks hoarded liquidity. Credit , bond and equity markets
nearly froze. Several venerable financial institutions came to the brink of
collapse. Massive deleveraging drove down asset pr ices sett ing off a
vicious cycle. Trust totally dried up.
The epic centre of the crisis lay in the advanced economies, but i t soon
spread in two directions. First, in the advanced economies, it spread from
the f inancia l sec tor to the real sec tor severely hur ting consumption ,
investment, export and import. Second, i t spread geographically from the
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advanced economies to the emerging market economies and soon engulfed
almost the entire world through trade, finance and confidence channels. In
sho rt , f inanci al s tabi li ty t ha t we had g rown to t ake for g rant ed got
impaired.
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CHAPTER 9CHAPTER 9 CHACHA LLENGES FACINGLLENGES FACING BANKING INDUSTRYBANKING INDUSTRY IN INDIAIN INDIA
CHALLENGES FACING BANKING INDUSTRY IN INDIA
The banking industry in India is undergoing a major t ransformation due to
changes in economic condi tions and con tinuous deregulat ion. These
mult iple changes happening one af ter other has a r ipple effect on a bank
trying to graduate from completely regulated sel ler market to completed
deregulated customers market.
DEREGULATION:
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This continuous deregulation has made the Banking market extremely
competitive with greater autonomy, operational flexibili ty and decontrolled
interest rate and liberalized norms for foreign exchange. The deregulation of the industry coupled with decontrol in interest rates has led to entry of a
number o f p laye rs in the banking indus try. A t the same t ime r educed
corporate credi t off take thanks to s luggish economy has resul ted in large
number of competitors batting for the same pie.
NEW RULES :
As a result , the market place has been redefined with new rules of thegame. Banks are t ransforming to universal banking, adding new channels
with lucrative pricing and freebees to offer. Natural fall out of this has led
to a series of innovat ive product offerings ca ter ing to various customer
segments, specifically retail credit .
EFFICIENCY:
This in turn has made i t necessary to look for eff iciencies in the business .
Banks need to access low cos t funds and s imul taneously improve the
eff iciency. The banks are facing pricing pressure, squeeze on spread and
have to give thrust on retail assets.
DIFFUSED CUSTOMER LOYALTY:
This will definitely impact Customer preferences, as they are bound to react
to the value added offer ings. Customers have become demanding and the
loyal ti es a re d if fused. The re a re mul tipl e cho ices , t he wal le t sha re i s
reduced per bank with demand on f lexibi l i ty and customizat ion. Given the
re la t ive ly low switching costs ; customer retent ion cal l s for customized
service and hassle free, flawless service delivery.
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MISALIGNED MINDSET:
These changes are creat ing chal lenges, as employees are made to adapt to
changing conditions. There is resistance to change from employees and theSeller market mindset is yet to be changed coupled with Fear of uncertainty
and Control orientation. Acceptance of technology is slowly creeping in but
the util ization is not maximized.
COMPETENCY GAP:
P lacing the r ight ski ll a t t he r ight p lace wil l det ermine success . Thecompetency gap needs to be addressed simultaneously otherwise there will
be missed opportunities. The focus of people will be on doing work but not
providing solutions, on escalating problems rather than solving them and on
disposing customers instead of using the opportunity to cross sell .
GLOBALISATION A CHALLENGE
The benef it s of g lobalizat ion have been well documented and are be ing
increas ingly recognized . Globalizat ion of domestic banks has a l so been
facili tated by tremendous advancement in information and communications
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t ec hno lo gy. G lo bal iz at io n ha s th row n u p l ot o f o pp ort un it ie s b ut
accompanied by concomitant r isks. There is a growing realization that the
abil i ty of count ries to conduct business across na tional borders and the
abili ty to cope with the possible downside risks would depend, inter-alia, onthe soundness of the f inancia l sys tem and the s t rength of the indiv idual
partic ipants . Adoption of appropriate prudential, regulatory, supervisory,
and t echnolog ical f ramework on par with int erna tional bes t p ract ices
enables strengthening of the domestic banking system, which would help in
fortifying it against the risks that might arise out of globalization. In India,
we had strengthened the banking sector to face the pressures that may arise
out of globalization by adopting the banking sector reforms in a calibratedmanner, which fo llowed the twin governing pr inc ip les of non-dis rupt ive
progress and consultative process.
Global challenges in banking
Recently I was afforded an opportunity to speak on the challenges faced by
the Indian banking industry. To recapi tulate , I had ident if ied a few broad
ch al len ge s fa ce d b y t he In di an b an ks i n t he fo ll ow in g a reas , v iz. ,enhancement of customer service; application of technology;
implementa t ion of Base l I I; improvement of r i sk management sys tems;
implementation of new accounting standards; enhancement of transparency
& disclosures; and compliance with KYC aspects . I f we were to ident ify a
few global chal lenges which banks face today, I am sure we would cover
some common ground. An overview of the global challenges would include
the fol lowing: Basel I I implementat ion; enhancing corporate governance;
alignment of regulatory and accounting requirements; outsourcing risks; and
application of advanced technology. I propose to cover these aspects now.
BASE L II IMPLE MENT ATIO N- A CHA LLEN GE
Basel II implementation is widely acknowledged as a significant challenge
faced by both banks and the regulators internationally. It is true that Basel
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II implementation may be seen as a compliance challenge. While i t may be
so for some banks, I would venture to mention that Basel II implementation
has another dimension which offers considerable opportuni t ies to banks. I
would l ike to highl ight two opportuni t ies that are offered to banks, viz . ,r ef inemen t o f r isk managemen t sys tems ; and improvement in cap it al
efficiency
Comprehens ive r i sk management : Under Base l I banks were focused on
credi t and market r isks. Basel I I has brought into focus a larger number of
risks requiring banks to focus on a larger canvas. Besides the increase in the
number of r isks, banks are now beginning to focus on their inter- l inkages
with a view to achieve a more comprehensive risk management framework.Basel II implementation, therefore, is being increasingly seen as a medium
through which banks constantly endeavour to upgrade the risk management
systems to address the changing environment. Further, in the initial stages,
banks were managing each r i sk in i so la t ion . I t i s no longer adequate to
manage each risk independently. Enterprises worldwide are, therefore, now
putt ing in p lace an in tegra ted f ramework for r i sk management which i s
proac tive, systemat ic and spans across the en ti re organizat ion . Banks inIndia are also moving from the individual silo system to an enterprise wide
risk management system. While the first milestone would be risk integration
across the entity, banks are also aware of the desirabili ty of risk aggregation
across the group both in the spec i f ic r i sk a reas as a l so across the r i sks .
Banks wou ld , t he re fo re , be r equi red to a llocate s igni fi cant r esources
towards this endeavor.
Capital efficiency: Basel II prescriptions have ushered in a transition from
the t radi t ional regulatory measure of capi tal adequacy to an evaluat ion of
whether a bank has found the most efficient use of i ts capital to support i ts
business i .e. , a transition from capital adequacy to capital efficiency. In this
transi t ion, how effect ively capi tal is used wil l determine return on equity
and a consequent enhancement of shareholder value. In effect , banks may
adopt a more dynamic approach to use of capital, in which capital will flow
quick ly to i ts mos t e ff ic ient u se . Thi s r ev ised e ff ic iency approach i s
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expec ted to guide the r eturn-on-equ ity s tr at egy and inf luence banks
business plans. With the extension of capital charge for market risks to the
AFS por t fo l io th is year and the coming in to force of Base l I I norms in
March 2007, banks would need to shore up the capi tal levels not only for complying with these requirements but also for supporting the balance sheet
g rowth. With a v iew to enhancing the opt ions ava il ab le to banks for
augmenting their capi tal levels , the Reserve Bank has recent ly permit ted
banks to issue new capital instruments, including perpetual instruments. A
notable feature of these instruments is that these are designed to help banks
in not only managing their capital effectively but also efficiently.
ENHANCING CORPORATE GOVERNANCE- A CHALLENGE
The i ssues r el at ed to corpora te governance have con tinued to a tt ract
cons iderable na t ional and in terna t ional a t ten t ion in l ight of a number of
high-profile breakdowns in corporate governance. This becomes all the more
relevant for banks s ince they not only accept and deploy large amount of
uncollateral ized public funds in f iduciary capacity, but also leverage suchfunds through credi t creat ion. Banks are also important part ic ipants in the
payment and set t lement systems. In view of the above, legal prescript ions
for ownership and governance of banks in Banking Regulat ion Act , 1949
have been supplemented by regula tory prescr ip t ions i ssued by RBI f rom
time to time.
In v iew of the impor tance of the banking sys tem for f inancia l s tab i l i ty,
s ou nd c or po ra te g ov er na nc e i s n ot o nl y r el ev an t a t t he l ev el o f t he
ind iv idua l bank, but i s a lso a c ri ti ca l i ng redien t a t t he sys t em l evel .
Effect ive r isk management systems determine the heal th of the f inancial
system and its abili ty to survive economic shocks. To a large extent, many
r isk management fa ilures re flect a breakdown in corpora te governance
which ar i se due to poor management of conf l ic t s of in te res t , inadequate
under st anding o f key banking r isks, and poor Board ove rs ight o f t he
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mechanisms for risk management and internal audit . Corporate governance
is , therefore, the foundat ion for effect ive r isk managements in banks and
thus the foundat ion for a sound f inancial system. Therefore, the choices
which banks make when they establish their risk management and corporategovernance systems have important ramificat ions for f inancial s tabi l i ty.
These systems can affect how the inst i tu t ion funct ions and how others
perceive it in the marketplace .
A good "governance culture" is crucial for financial stabili ty but since it is
an in tangib le , ru les may not be ab le to capture i t s essence effec t ive ly.
Therefore, banks may have to cultivate a good governance culture buildingin appropr ia te checks and balances in the ir ope ra tions. The re a re fou r
important forms of oversight that should be included in the organizational
structure of any bank in order to ensure appropriate checks and balances:
(1) Oversight by the board of directors or supervisory board;
(2) Oversight by individuals not involved in the day-to-day running of
the various business areas;(3) Direct l ine supervision of different business areas; and
(4) Independent risk management, compliance and audit functions.
In addit ion, i t is important that key personnel are f i t and proper for their
jobs. Although some ownership structures might have the potential to alter
the s trategies and object ives of a bank, these banks wil l a lso face many of
the same r isks associated with weak corporate governance. Consequently,
the general principles of sound corporate governance should also be applied
to all banks irrespective of their unique ownership structures.
C OM PL IA NC E W IT H I NT ER NATI ON AL A CC OU NT IN G
STANDARDS A CHALLENGE
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One of the prime international standards considered relevant for ensuring a
safe and sound banking system is the Core Principles for Effective Banking
Supervi sion i ssued by the Basel Commi tt ee on Banking Supervi sion
(BCBS). Accounting standards are now a part of the set of twelve standardsthat have been identified by the Financial Stabili ty Forum as conducive to a
r ob us t f in an ci al i nf ra st ru ct ur e. F in an ci al r ep or ti ng a nd p ru de nt ia l
supervi sion have s ligh tly d if fe rent per spec tives. Whi le the former i s
oriented towards capturing the his tor ical posi t ion, the lat ter has a forward
looking element particularly with reference to measurement of impairment
and capital. An important challenge, therefore, is to ensure that accounting
s tandards and p rudent ia l f rameworks a re mutua lly consi st en t. Whi leworking towards ach ieving thi s consi st ency between the two set s o f
standards, i t is essential for the regulators to be in a position to address any
impl ica t ions that the changes in account ing s tandards may have for the
safety and soundness of banks.
Derivat ive act ivi ty in banks in India has been increasing at a br isk pace.
While the r isk management framework for derivat ive t rading, which is ar el at ively new a rea for Ind ian banks (pa rt icular ly more in r espect o f
s t ruc tured products ), i s an essentia l pre- requis i te , the absence of c lear
account ing guide l ines in th is a rea i s mat te r of s igni f icant concern . I t i s
widely accepted that as the volume of t ransac t ions increases, which i s
happening in the Indian banking system, the need to upgrade the accounting
framework needs no emphasis. The World Banks ROSC on Accounting and
Auditing in India has commented on the absence of an accounting standard
which deals with recognit ion, measurement , presentation and disclosures
pertaining to financial instruments. The Accounting Standards Board of the
Inst i tute of Chartered Accountants of India (ICAI) is considering issue of
A cc ou nt in g S ta nd ar ds o n t he a bo ve a sp ec ts p er ta in in g t o f in an ci al
Inst ruments . These wi ll be the Indian para l le l to In terna t ional F inancia l
Report ing Standard 7, Internat ional Accounting Standards 32 and 39. The
proposed Account ing Standards wi ll be of cons iderable s igni ficance for
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f inancial ent i t ies and could therefore have implicat ions for the f inancial
sector. The formal introduction of these Accounting Standards by the ICAI
i s l ik el y t o t ak e s om e t im e i n v ie w o f t he p ro ce ss es i nv ol ve d. I n t he
m ea nw hi le , t he Re se rv e B an k i s c on si de ri ng t he n ee d f or b an ks a ndfinancial entit ies adopting the broad underlying principles of IAS 39. Since
this is l ikely to give r ise to some regulatory prudential issues al l relevant
aspects are being comprehensively examined. The proposals in this regard
would , a s i s norma l, be d iscussed with the marke t par ti cipant s before
introduction. Adoption and implementation of these principles are l ikely to
pose a great challenge to both the banks and the Reserve Bank.
OUTSOURCING RISKS-A CHALLENGE
Banks are increas ingly us ing outsourc ing for achieving s t ra teg ic a ims
leading to ei ther rat ional izat ion of operat ional costs or tapping special is t
expertise which is not available internally. 'Outsourcing' may be defined as
a b an k' s u se o f a t hi rd p ar ty, i nc lu di ng a n a ff il ia te d en ti ty w it hi n a
corpora te group, to perform act ivi t ies on a cont inuing basis tha t would
normally be undertaken by the bank i tself . Typical ly outsourced f inancial
serv ices include appl ica t ions process ing ( loan or ig ina t ion , c redi t card),
document process ing , inves tment management , marketing and research,
supervision of loans, data processing and back office related activities etc.
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Outsourcing might g ive r is e to several r isks inc luding , s tr at eg ic r isk,
r eputat ion r isk, compl iance r isk, ope ra tional r isk, exi t s tr at egy r isk,
counterparty risk, country risk, access risk, concentration risk and systemic
risk. The failure of a service provider to provide a specified service, ensuresecurity/ confidentiality, comply with legal and regulatory requirements can
lead to financial losses/ reputational risk for the bank and could also lead to
systemic risks for the entire banking system in a country. It would therefore
be imperat ive for the bank outsourcing i ts act ivi t ies to ensure effect ive
management of these risks.
It is in this background that RBI has issued draft guidelines on outsourcing,which is intended to provide direction and guidance to banks to effectively
manage r isks ar is ing from such outsourcing act ivi t ies . Outsourcing banks,
therefore, should take steps to ensure that the service provider employs the
same high standard of care in performing the s ervices as would be employed
by the banks i f the ac t ivi t ies were conducted wi th in the banks and not
outsourced. Accordingly, banks are not expected to outsource any act ivi ty
that would resul t in their internal control , business conduct , or reputat ion being compromised or weakened.
APPLICATION OF ADVANCED TECHNOLOGY-A CHALLENGE
Technology i s a key dr iver in the banking indus try, which crea tes new
b us in es s m od el s a nd p ro ce ss es , a nd a ls o r ev ol ut io ni ze s d is tr ib ut io n
channels. Banks which have made inadequate investment in technology have
consequently faced an erosion of their market shares. The beneficiaries are
those banks which have invested in technology. Adoption of technology also
enhances the quality of risk management systems in banks.
Recognizing the benefi t s of moderniz ing thei r technology infrast ruc ture
banks are taking the r ight in it iat ives . While doing so , banks have four
options to choose from: they can build a new system themselves, or buy best
of the modules , or buy a comprehens ive so lu t ion , or outsource. In th is
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context banks need to clearly define their core competencies to be sure that
they are inves t ing in a reas tha t wi l l d i s t inguish them f rom other market
players, and give them a competitive advantage.
A further chal lenge which banks face in this regard is to ensure that theyderive maximum advantage from their investments in technology and avoid
wasteful expenditure which might ar ise on account of uncoordinated and
piecemeal adoption of technology; adoption of inappropriate/ inconsis tent
technology and adoption of obsolete technology.
CAPACITY BUILDING- A CHALLENGE
A s d ic ta ted b y th e ch an gi ng en vi ro nme nt , b an ks n eed to fo cus on
appropr ia te capac ity bui ld ing measures to equ ip the ir s ta ff t o handle
advanced r isk management systems and supervisors also need to equal ly
equip themselves with appropriate ski l ls to have effect ive supervision of
banks adopting those systems. In the l ikelihood of a high level of at t ri t ion
in the sys tem, banks need to focus on mot iva t ing the i r sk i l led s ta ff and
retaining them 7 . Skill requirements would be significantly higher for banks planning to migrate to the advanced approaches under Basel I I . Capaci ty
building gains greater relevance in these banks, so as to equip themselves to
take advantage of the incentives offered under the advanced approaches.
A relevant point in this regard is that capacity building should be across the
inst i tut ion and not confined to any part icular level or any part icular area.
The demand for better skills can be met either from within or from outside.
It would perhaps be worthwhile to first glean through the existing resources
to identify misplaced or hidden or forgotten resources and re-position them
to boost the banks efforts to capi tal ize on avai lable ski l ls . This does not
undermine the benefits that a bank may derive by meeting their
requirements from the market, but is only intended to priorit ize the process
INTEREST RATE RISK A CHALLENGE
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In teres t ra te r i sk can be def ined as exposure of bank ' s ne t in te res t
income to adverse movements in in te res t ra tes . A bank 's ba lance shee t
consis ts mainly of rupee assets and l iabi l i t ies . Any movement in domest icinterest rate is the main source of interest rate risk.
Over the last few years the t reasury departments of banks have been
responsible for a substant ial part of profi ts made by banks. Between July
1997 and Oct 2003, as interest rates fel l , the yield on 10-year government
bonds (a barometer for domestic interest rates) fell , from 13 per cent to 4.9
per cent . Wi th y ie lds fal l ing the banks made huge prof i ts on thei r bond portfolios.
Now as yields go up (with the r ise in inf lat ion, bond yields go up and
bond prices fal l as the debt market s tar ts factoring a possible interest rate
h ike) , t he banks wil l have to set a side funds to mark to marke t t he ir
investment.
T hi s w ill ma ke i t d iffi cu lt t o s how h ug e p ro fi ts fr om t re as ur y
opera tions . This concern becomes much s t ronger because a subs tant ia l
percentage of bank deposits remain invested in government bonds.
Banking in the recent years had been reduced to a trading operation in
government securities. Recent months have shown a rise in the bond yieldshas led to the profi t f rom treasury operat ions fal l ing. The latest quarter ly
reports of banks clearly show several banks making losses on their treasury
operat ions. I f the r ise in yields continues the banks might end up post ing
huge losses on their t rading books. Given these facts , banks wil l have to
look at alternative sources of investment.
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INTEREST RATES AND NON-PERFORMING ASSETS A
CHALLENGE
The best indicator of the heal th of the banking industry in a country is i tslevel of NPAs. Given this fact , Indian banks seem to be bet ter placed than
they were in the past . A few banks have even managed to reduce their net
NPAs to less than one percent (before the merger of Global Trust Bank into
Oriental Bank of Commerce, OBC was a zero NPA bank). But as the bond
yie lds s ta r t to r i se the chances a re the ne t NPAs wi l l a l so s ta r t to go up .
This wi ll happen because the banks have been making huge provisions
against the money they made on their bond portfol ios in a scenario where bond yields were falling.
Reduced NPAs generally gives the impression that banks have strengthened
their credit appraisal processes over the years. This does not seem to be the
case. With increasing bond yields, t reasury income wil l come down and if
the banks wish to make large provisions, the money will have to come from
their interest income, and this in turn, shall bring down the profitabili ty of banks.
COMPETITION IN RETAIL BANKING A CHALLENGE
The ent ry of new genera t ion pr iva te sec tor banks has changed the en t i re
scenario. Earlier the household savings went into banks and the banks then
lent out money to corpora te. Now they need to se ll banking . The reta il
segment , which was earl ier ignored, is now the most important of the lot ,
with the banks jumping over one another to give out loans. The consumer
has never been so lucky with so many banks offer ing so many products to
choose from. With supply far exceeding demand i t has been a race to the
bot tom, with the banks undercut t ing one another. A lot of foreign banks
have already burnt their fingers in the retail game and have now decided to
get out of a few retail segments completely.
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The nimble footed new generation private sector banks have taken a lead on
this front and the public sector banks are trying to play catch up.
The PSBs have been los ing bus iness to the pr iva te sec tor banks in th is
segment. PSBs need to figure out the means to generate profitable business
from this segment in the days to come
THE URGE TO MERGE A CHALLENGE
In the recent past there has been a lot of talk about Indian Banks lacking in
scale and size. The State Bank of India is the only bank from India to make
it to the list of Top 100 banks, globally. Most of the PSBs are either looking
to pick up a smaller bank or waiting to be picked up by a larger bank.
The central government also seems to be game about the issue and is seen to
be encouraging PSBs to merge or acqui re o ther banks . Global ev idence
seems to suggest that even though there is great enthusiasm when companies
merge or get acquired, majori ty of the mergers/acquisi t ions do not real ly
work.
So in the zeal to merge with or acquire another bank the PSBs should not let
their common sense take a back seat. Before a merger is carried out cultural
i ssues should be looked in to . A bank based pr imar i ly out of Nor th India
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might want to acquire a bank based primarily out of South India to increase
its geographical presence but their cultures might be very different. So the
integration process might become very difficult. Technological
compatibili ty is another issue that needs to be looked into in details beforeany merger or acquisition is carried out.
The banks must not just merge because everybody around them is merging.
As Keynes wrote, "Worldly wisdom teaches us that i t 's better for reputation
to fail conventionally than succeed unconventionally". Banks should avoid
falling into this trap.
CUSTOMER SERVICE A CHALLENGE
I t i s no longe r adequate for banks to p rovide only t radi tional banking
services. Apart f rom providing the conventional banking services, bankshave begun o ffer ing a bouquet o f f inancial s ervices to the ir c li en ts ,
including cross selling of financial products. The ultimate aim is to offer a
one-stop-shop for meet ing varied customers ' f inancial needs. Some banks
have begun employing customer relat ionship management systems to not
only retain the exist ing customers but also to at t ract new customers. The
es tabl i shment of new pr iva te sec tor banks and fore ign banks has rap id ly
changed the competitive landscape in the Indian consumer banking industry
and p laced grea ter demands on banks to gear themselves up to meet the
i nc re as in g n ee ds o f cu st om er s. F or t he d is ce rn in g c ur re nt d ay b an k
customers, i t is not only relevant to offer a wide menu of services but also
provide these in an increasingly efficient manner in terms of cost, t ime and
convenience.
While banks are focus ing on the methodologies of meet ing the
increasing demands placed on them, there are legitimate concerns in regard
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to the banking practices that tend to exclude rather than attract vast sections
of populat ion, in particular pensioners, self-employed and those employed
in unorganized sector. Further, exper ience has shown that consumers
interests are at t imes not accorded ful l protect ion and their gr ievances arenot properly attended to. Feedback received reveals recent trends of levying
unreasonably high service/user charges and enhancement of user charges
without proper and prior intimation.
It is in this context that the Governor, Reserve Bank of India had mentioned
in the Annual Pol icy Sta tement 2007-08 tha t RBI wi l l t ake in i t ia t ives to
encourage
greater degree of financial inclusion in the country;
setting up of a mechanism for ensuring fair treatment of consumers;
Effective redressal of customer grievances.
I t would, therefore, be reasonable to expect banks to focus on the
above aspects while designing their products for customers.
BRANCH BANKING A CHALLENGE
Traditionally banks have been looking to expansion of their branch network
to inc rease the ir bus iness. Aga inst t hi s background i t i s i nt eres ting to
observe that the new private sector banks as well as the foreign banks have
been able to achieve business expansion through other means. I t has been
realized that i t might not be necessary to establish a wider brick and mortar
network to reach a wider populat ion. Banks are, therefore, examining the
potential benefits that may accrue by tapping the agency arrangement route
and the outsourcing route. While proceeding in this direct ion banks ought
not to lose sight of the new risks that they might be assuming and hence put
in place appropriate strategies and systems for managing these new risks.
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COMPETITION A CHALLENGE
With the ever increas ing pace and extent of g lobalizat ion of the Indian
economy and the sys temat ic opening up of the Indian banking sys tem tog loba l compe ti ti on , banks need to equ ip themselves to ope ra te in the
increas ingly competi t ive envi ronment . This wi ll make i t imperat ive for
banks to enhance their systems and procedures to internat ional s tandards
and also simultaneously fortify their financial positions.
TRANSPARENCY AND DISCLOSURES A CHALLENGE
In pursuance of the Financial Sector Reforms introduced since 1991
and in order to br ing about meaningful d isc losure of the t rue f inancia l
posi t ion of banks to enable the users of f inancial s tatements to s tudy and
have a meaningful comparison of their positions, a series of measures were
ini ti at ed . The d isclosure r equi rement s b road ly covered the fol lowingaspects:
Capital adequacy
Asset quality
Maturity distribution of select i tems of assets and liabili t ies
Profitabili ty
Country risk exposure Risk exposures in derivatives
Related party disclosure
With a view to moving closer towards international best practices
inc luding Int erna tional Account ing S tandards ( IAS) and the d isclosure
requirements under Pillar 3 of Basel II , Reserve Bank has proposed enhanced
disclosures which lay a greater emphasis on disclosure of certain qualitative
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aspec ts . Transpa rency and d isclosu re s tandards a re a lso r ecognized a s
important constituents of a sound corporate governance mechanism.
Banks are required to formulate a formal disclosure pol icy approved by theBoard of directors that addresses the banks approach for determining what
disclosures it will make and the internal controls over the disclosure process.
In addition, banks should implement a process for assessing the
appropriateness of their disclosures, including validation and frequency.
CHAPTER 10
STRATEGIC OPTIONS WITH BANKS TO COPE WITH THE
CHALLENGES
Leading players in the industry have embarked on a ser ies of s t rategic and
tactical initiatives to sustain leadership.
The major initiatives include:
Inves t ing in s ta te of the a r t technology as the back bone to ensure
reliable service delivery.
Leveraging the branch network and sales s t ructure to mobil ize low
cost current and savings deposits.
Making aggressive forays in the retail advances segment of home and
personal loans.
Implementing organization wide initiatives involving people, process
and technology to reduce the fixed costs and cost per transaction.
Focus ing on fee based income to compensa te for squeezed spread ,
(e.g. CMS, trade services).
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Innovat ing Products to capture customer mind share to begin with
and later the wallet share.
Improving the asset quality as per Base II norms
INDIA - IMPORTANT MEASURES TOWARDS FINANCIAL STABILITY
It may be relevant to highlight some of the specific features of our system
that have contributed to financial stabili ty:
Banks are required to hold a minimum percentage of their l iabi l i t ies in
r isk free government securi t ies under the s tatutory l iquidi ty rat io (SLR)
system. This s t ipulat ion ensures that banks are buffered by l iquidi ty intimes of stress.
We managed the capi ta l account ac t ive ly. In the face of la rge capi ta l
inf lows dur ing 2006-08 , we s te ri li sed the r esul tant excess l iquidi ty
through ca libra ted h ikes in the cash reserve ra tio (CRR) and i ssue of
market s tabi l isat ion scheme (MSS) securi t ies . When the f lows reversed
during the last quarter of 2008, we reversed the measures too. We cut the
CRR and bough t back the MSS secur it ie s t o inj ec t l iquidi ty into the
banking system.
Through pre-emptive countercycl ical provisioning and a different iated
risk weight stipulation for sensitive sectors, we were able to contain the
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adverse impact of h igh credit growth in some sectors and asse t pr ice
fluctuations on banks balance sheets.
To ensure that securitization is value adding, we insist on true sale, and
cred it en ha nce men ts an d l iq ui di ty su pp ort a re s ub jec t t o ca pit al
r egu la t ions . We a l so r equ i re p ro f i t f rom sa l e o f a s se t s t o SPVs to be
amortised over the life of the securities issued.
Access to overn ight unsecured cal l market i s res t ric ted to banks and
pr imary dea lers . Other en ti t ies can access the overn ight market onlythrough colla te ral i sed inst ruments which are c leared and se tt led on a
guaranteed basis through a central counterparty.
Regulat ion and oversight have been extended to systemical ly important
non-deposi t taking, non-banking f inance companies, and this has l imited
leverage and space for regulatory arbitrage.
Sys temic int erconnec tedness has been addressed by b ring ing banks
ex po su re s t o n on -b ank fi nan ce co mp ani es w it hi n t he p ru den ti al
framework.
Central counterparty (CCP) clearing and guaranteed settlement is currently
operative for government securities transactions and inter-bank rupee-USDforex transactions. CCP guaranteed arrangements for forex forwards and
OTC rupee interest rate swaps are underway.
TRANSFORMATION INITIATIVES NEEDED FOR BANKS
The ECS value proposition for helping banks in their transformation agenda.
We a t ECS have vas t exper ience in par tner ing with l eading p laye rs in
banking for addressing these challenges in a holistic manner. Our expertise
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is ref lected in our product offer ings for addressing the key chal lenges. A
select few are outlined below:
Strategy Sales & Marketing strategy for both retail & wholesale banking
Expanding geographies
Brand Understanding the values of the brand
Repositioning the brand to communicate the values
Organization restructuring Re organization of the bank in line with the strategic thrust
Re engineering of the key business processes Redesign of Sales processes to increase conversion ratio
Six Sigma process improvements for branch channel, Call Centre
& back office processes Centralization of branch operations and deferred processes to free
up resources
Cost efficiency Reduction in Total cost of acquisition
Reduction in transaction costs
Reduction in fixed and overheads cost
Creating a high performing organization Define new roles & responsibili t ies, KRA
Assess ing competencies of people across leve ls and match the
position with the skill set D es ig ni ng a nd i mp le me nt in g a n ew P MS f or r es tr uc tu re d
organization
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Change management & creating a new mind set Develop ing c ri ti ca l mass o f champions and d rive Change
across the organisat ion to move from conventional banking tonew age bank
ANALYSIS
1. This bank has not caused any effect because of nice monitoring activity done by
RBI.2. The Indian banks which have their foreign bank a/c they have to follow that.
Yes, they should follow the same
3.this does not cause any effect on federal resrve after subprime
4.yes,CBS core banking solution because pof that one bank connect to the other.
a) All reports & documents are being getted or collected from one branch.
i.e. under one roof function of universal banking.Manpower has controlled & costing has decreased.
b)due to globalisation, financial innovation has changed .
by adopting or following bank rules & norms.
c)capital requirement- flow of money has increased that has not caused any effect.
d)yes, it has effected.
e)yes, basel II implementation is being following such as capital adequacy, non
performing assets etc.
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CONCLUSIONCONCLUSION
After the study, I have found that Indian Banking System is growing tremendouslyBecause it has a strong base for development of an economy.
And due to globalization,many banks got relief against working activities
done by them by adopting new foreign rules& norms &
also technological infrastructure has increased.
With stiff competition and advancement of technology, the service provided
by banks has become more easy and convenient. The past days are witness to
an hour wait before withdrawing cash from accounts or a cheque from northof the country being cleared in one month in the south.
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CASE STUDIES
SUBPRIME CRISIS
How and when did the sub-prime mortgage crisis begin?
Here, cr is is began at home, or more exact ly, home loans. Housing prices
began sp i ra l ing upwards in the US in the ear ly years of th is decade and
c on ti nu ed t hr ou gh m id -2 00 6, w it h t he b or ro wi ng a nd l en di ng r at es
extremely low which helped boost the demand for and supply of new and
existing houses.
Many inst i tut ions offered home loans to borrowers with poor or no credi t
histories by requiring higher than normal repayment levels creating what
is now referred to as sub-prime mortgages attracting investment banks
a nd h ed ge f un d o wn er s t o b et b ig o n t hi s e me rg in g a sp ec t o f t he U S
economy.
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APPENDIX
1) What could be the lesson which India can learn from sub-prime crisis.
2) Do you think whether the foreign banks should follow the prudent norms which
Indian banks are following?
3) Your comments on loose monetary policy followed by US Federal Reserve after sub-
prime issue.
4) Effect of globalisation on Indian banking system.
a) Do you think whether globalisation has helped Indian banks to improve their
technological infrastructure?
b) Financial innovation
c) Capital requirement i.e. flow of money
d) Whether the globalisation has affected in reduction of cost for bank?
e) Basel II implementation in your bank.
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BIBLIOGRAPHYBIBLIOGRAPHY
WWW.BANKNETINDIA.COM
WWW.RBI.ORG.IN
WWW.IBA.COM
WWW.WIKIPEDIA.COM
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http://www.banknetindia.com/http://www.rbi.org.in/http://www.iba.com/http://www.wikipedia.com/http://www.banknetindia.com/http://www.rbi.org.in/http://www.iba.com/http://www.wikipedia.com/ -
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