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  1. 1. objectives• To make historical accounts of Indian financial system before and after liberalization• To appreciate the evolutionary process for having attained the present phase.• To evaluate each component of the system in a global context
  2. 2. Financial System• An institutional framework existing in country to enable financial transactions• Three main parts Financial assets(loans,deposits,bonds,equities,etc.) Financial institutions(banks, mutual funds , insurance etc) Financial markets(money market,capital,forex market)• Regulation is another aspect of the financial system(SEBI, IRDA, FMC)
  3. 3. Financial assets/instruments• Enable channelizing funds from surplus units to deficit units.• Instruments for savers• Instruments for borrowers• Business, governments too raise funds through issuing of bonds, Treasury bills,etc.
  4. 4. Financial Markets• Money Market- for shirt-term funds(less than a year) Organised (Banks) Unorganised (money lenders, chit funds, etc.)• Capital Market-for long –term funds Primary market Stock Market Bond Market
  5. 5. Organised Money Market• Call money market• Bill MarketTreasury billCommercial bills• Bank loans(short-term)• Organised money market comprises RBI, banks(Commercial and Co-operative)
  6. 6. Call money market• Is an integral part of the Indian money market where day-to-day surplus funds(mostly of banks) are traded.• Call Money• Notice Money• Term Money
  7. 7. Call money market• Call loans are generally made on a clean basis-i.e. no collateral is required.• The main function of the call money market is to redistribute the pool of day-to day surplus funds of banks among in temporary deficit of funds.• The call market helps bank economies their cash and yet improve their liquidity• It is highly competitive and sensitive market• It acts as a good indicator of the liquidity position
  8. 8. Money market instruments• Certificates of deposit• Commercial paper• Inter-bank participation certificates• Inter-bank term money• Treasury bills• Bill rediscounting• Call/notice/term money.
  9. 9. Indian banking system• Central Bank(Reserve Bank of India)• Commercial banks• Co-operative BanksBanks can be classified as:• Scheduled(II sch of RBI Act, 1934)• Non-Scheduled – 4Scheduled banks can be classified as:-• public sector banks• private sector banks• foreign banks• regional rural banks
  10. 10. Indigenous banks• Individuals bankers like shroffs, seths, sahukars, mahajans, etc. combine trading and other business with money lending.• Vary in size from petty lenders to substantial shroffs.• Acts as a money lenders and finance internal trade through hundis (internal bill of exchange).• Indigenous banking is usually family owned business employing own working capital .• At one point it was estimated that IB’s met 90% of the financial requirements of rural India
  11. 11. RBI and indigenous bankers• Methods employed by the indigenous bankers are traditional with vernacular system of accounting.• RBI suggested that bankers give up their trading and commission business and switch over to the western system of accounting.• It also suggested that these banker should develop the deposit side of their business.• Some of them should pay the role of discount houses(buy and sell bill of exchange)
  12. 12. RBI and indigenous bankers• IB should have their accounts audited by certified chartered accountants.• Submit their accounts to RBI periodically.• As againts these obligations the RBI promised to provide them with priveleges offered to commercial banks including – Being entitled to borrow from rediscount bills with RBI.• The RBI declined to accept the restrictions as well as compensation from the RBI.• Therefore, the IB’s remain out of RBI’s purview.
  13. 13. Development Oriented Banking• Historically, close association between banks and some traditional industries – cotton textiles in the west , jute textiles in the east.• Banking has not been mere acceptance of deposits and sending money; included development banking.• Lead bank Scheme – opening banks offices in all important localities• Providing credit for development of the district mobilising saving in the district. ‘Service area approach’
  14. 14. Progress of banking in India• Nationalising of banks in 1969: 14 banks were nationalised• Branch expansion : increased from 8260 in 1969 to 71177 in 2006• Population served per branch has come down from 64000 to 16000• A rural branch office serves 15 to 25 villages within a radius of 16 kms• However at presently only 32180 villages out of 5 lakh have been covered.
  15. 15. Progress of banking in India• Expansion of bank credit: growing at 20 – 30% p.a. thanks to rapid growth in industrial and agricultural output• Development oriented banking : priority sector lending
  16. 16. Progress of banking in India• Diversification in banking: has moved from deposit and lending to : – Merchant banking and underwriting – Mutual funds – Retail banking – ATM’s – Internet bankings – Venture capital funds – factoring
  17. 17. Profitability of banks• Reforms have shifted the focus of banks from being development oriented to commercially viable• Prior to reforms banks were not profitable and in fact made losses for the following reasons: – Declining interest income – Increasing cost of operations
  18. 18. Profitability of banks• Declining interest income was for the following reasons: – High proportion of deposits impounded for CRR and SLR earning relatively low interest rates – System of directed lending – Political interface – leading to huge NPAs• Rising cost of operations for banks was because of several reasons : economic and political
  19. 19. Profitability of banks• As per Narsimham committee(1991) the reasons for rising costs of banks were:Uneconomic branch expansionHeavy recruitment of employeesGrowing indiscipline and inefficiency of staff due to trade union activitiesLow productivity
  20. 20. Bank profitability:Suggestions• Some suggestions made by Narsimham committee are: – Set up an asset reconstruction fund to take over double debts – SLR to be reduced to 25% of total deposits – CRR to be reduced to 3% to 5% of total deposits – Banks to get more freedom to set minimum lending rates – Share of priority sector credit be reduced to 10% from 40%
  21. 21. Suggestions• All concessional rates of intrest should be removed• Banks should go for new source of funds such as certificates of deposits• Branch expansion should be carried strictly on commercial principles• Diversification of banking activities• Almost all suggestions of narasimham committee have been accepted and implemented in a phased manner.