Industry life cycle

India power sector is expected to grow at higher speed because there is

hugedifference between demand and supply if we see power consume by rest of
the worldwe found there is huge gap between India power demand and supply in
India percapita consumption is 704 kwh where as the world average is 2300 kwh.
That figureshows the difference.


India power sector can be categorized in into power generated by government
ownedcompany and private owned companies. The statistics says total power
generatedfrom government owned companies 22000 GW and private companies
contribute16588.5 Gw power to India growth story.


At present, the energy shortage in the India is 10% but there are States where
theenergy shortage is as high as 25%. To combat this, over 80,000 MW of
newgeneration capacity is planned in the next five years. A corresponding
investment isrequired in Transmission and Distribution networks.


A huge capital investment of about US$ 200 billion is required to meet Mission
2012targets. This has welcomed numerous global companies to establish their
operationsin India under the famous PPP (public-private partnership) programs.
Additionalmassive capital investment is further required over the subsequent years
with the
countrys power req
uisite expected to touch 800,000 MW by 2031-32.So, I conclude that the Indian
power sector is in initial growth stage there is long way to gofrom the above
information
POWERSECTOR

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Evolution of the Indian Banking Industry:
The Indian banking industry has its foundations in the 18th century, and has had a varied
evolutionary experience since then. The initial banks in India were primarily traders banks
engaged only in financing activities. Banking industry in the pre-independence era developed
with the Presidency Banks, which were transformed into the Imperial Bank of India and
subsequently into the State Bank of India. The initial days of the industry saw a majority private
ownership and a highly volatile work environment. Major strides towards public ownership and
accountability were made with nationalisation in 1969 and 1980 which transformed the face of
banking in India. The industry in recent times has recognised the importance of private and
foreign players in a competitive scenario and has moved towards greater liberalisation.
http://www.dnb.co.in/bfsisectorinindia/BankC2.asp


In the evolution of this strategic industry spanning over two centuries, immense developments
have been made in terms of the regulations governing it, the ownership structure, products and
services offered and the technology deployed. The entire evolution can be classified into four
distinct phases.
Phase I- Pre-Nationalisation Phase (prior to 1955)
Phase II- Era of Nationalisation and Consolidation (1955-1990)
Phase III- Introduction of Indian Financial & Banking Sector Reforms and Partial Liberalisation
(1990-2004)
Phase IV- Period of Increased Liberalisation (2004 onwards)
Current Structure
Currently the Indian banking industry has a diverse structure. The present structure of the Indian
banking industry has been analyzed on the basis of its organised status, business as well as
product segmentation.
Organisational Structure
The entire organised banking system comprises of scheduled and non-scheduled banks. Largely,
this segment comprises of the scheduled banks, with the unscheduled ones forming a very small
component. Banking needs of the financially excluded population is catered to by other
unorganised entities distinct from banks, such as, moneylenders, pawnbrokers and indigenous
bankers.
Scheduled Banks
A scheduled bank is a bank that is listed under the second schedule of the RBI Act, 1934. In
order to be included under this schedule of the RBI Act, banks have to fulfill certain conditions
such as having a paid up capital and reserves of at least 0.5 million and satisfying the Reserve
Bank that its affairs are not being conducted in a manner prejudicial to the interests of its
depositors. Scheduled banks are further classified into commercial and cooperative banks. The
basic difference between scheduled commercial banks and scheduled cooperative banks is in
their holding pattern. Scheduled cooperative banks are cooperative credit institutions that are
registered under the Cooperative Societies Act. These banks work according to the cooperative
principles of mutual assistance.
Scheduled Commercial Banks (SCBs):
Scheduled commercial banks (SCBs) account for a major proportion of the business of the
scheduled banks. As at end-March, 2009, 80 SCBs were operational in India. SCBs in India are
categorized into the five groups based on their ownership and/or their nature of operations. State
Bank of India and its six associates (excluding State Bank of Saurashtra, which has been merged
with the SBI with effect from August 13, 2008) are recognised as a separate category of SCBs,
because of the distinct statutes (SBI Act, 1955 and SBI Subsidiary Banks Act, 1959) that govern
them. Nationalised banks (10) and SBI and associates (7), together form the public sector banks
group and control around 70% of the total credit and deposits businesses in India. IDBI ltd. has
been included in the nationalised banks group since December 2004. Private sector banks include
the old private sector banks and the new generation private sector banks- which were
incorporated according to the revised guidelines issued by the RBI regarding the entry of private
sector banks in 1993. As at end-March 2009, there were 15 old and 7 new generation private
sector banks operating in India.
Foreign banks are present in the country either through complete branch/subsidiary route
presence or through their representative offices. At end-June 2009, 32 foreign banks were
operating in India with 293 branches. Besides, 43 foreign banks were also operating in India
through representative offices.

Regional Rural Banks (RRBs) were set up in September 1975 in order to develop the rural
economy by providing banking services in such areas by combining the cooperative specialty of
local orientation and the sound resource base which is the characteristic of commercial banks.
RRBs have a unique structure, in the sense that their equity holding is jointly held by the central
government, the concerned state government and the sponsor bank (in the ratio 50:15:35), which
is responsible for assisting the RRB by providing financial, managerial and training aid and also
subscribing to its share capital.
Between 1975 and 1987, 196 RRBs were established. RRBs have grown in geographical
coverage, reaching out to increasing number of rural clientele. At the end of June 2008, they
covered 585 out of the 622 districts of the country. Despite growing in geographical coverage,
the number of RRBs operational in the country has been declining over the past five years due to
rapid consolidation among them. As a result of state wise amalgamation of RRBs sponsored by
the same sponsor bank, the number of RRBs fell to 86 by end March 2009.
Scheduled Cooperative Banks:
Scheduled cooperative banks in India can be broadly classified into urban credit cooperative
institutions and rural cooperative credit institutions. Rural cooperative banks undertake long term
as well as short term lending. Credit cooperatives in most states have a three tier structure
(primary, district and state level).
Non-Scheduled Banks:
Non-scheduled banks also function in the Indian banking space, in the form of Local Area Banks
(LAB). As at end-March 2009 there were only 4 LABs operating in India. Local area banks are
banks that are set up under the scheme announced by the government of India in 1996, for the
establishment of new private banks of a local nature; with jurisdiction over a maximum of three
contiguous districts. LABs aid in the mobilisation of funds of rural and semi urban districts. Six
LABs were originally licensed, but the license of one of them was cancelled due to irregularities
in operations, and the other was amalgamated with Bank of Baroda in 2004 due to its weak
financial position.
Business Segmentation
The entire range of banking operations are segmented into four broad heads- retail banking
businesses, wholesale banking businesses, treasury operations and other banking activities.
Banks have dedicated business units and branches for retail banking, wholesale banking (divided
again into large corporate, mid corporate) etc.

Retail banking
It includes exposures to individuals or small businesses. Retail banking activities are identified
based on four criteria of orientation, granularity, product criterion and low value of individual
exposures. In essence, these qualifiers imply that retail exposures should be to individuals or
small businesses (whose annual turnover is limited to Rs. 0.50 billion) and could take any form
of credit like cash credit, overdrafts etc. Retail banking exposures to one entity is limited to the
extent of 0.2% of the total retail portfolio of the bank or the absolute limit of Rs. 50 million.
Retail banking products on the liability side includes all types of deposit accounts and mortgages
and loans (personal, housing, educational etc) on the assets side of banks. It also includes other
ancillary products and services like credit cards, demat accounts etc.
The retail portfolio of banks accounted for around 21.3% of the total loans and advances of
SCBs as at end-March 2009. The major component of the retail portfolio of banks is housing
loans, followed by auto loans. Retail banking segment is a well diversified business segment.
Most banks have a significant portion of their business contributed by retail banking activities.
The largest players in retail banking in India are ICICI Bank, SBI, PNB, BOI, HDFC and Canara
Bank.
Among the large banks, ICICI bank is a major player in the retail banking space which has had
definitive strategies in place to boost its retail portfolio. It has a strong focus on movement
towards cheaper channels of distribution, which is vital for the transaction intensive retail
business. SBIs retail business is also fast growing and a strategic business unit for the bank.
Among the smaller banks, many have a visible presence especially in the auto loans business.
Among these banks the reliance on their respective retail portfolio is high, as many of these
banks have advance portfolios that are concentrated in certain usages, such as auto or consumer
durables. Foreign banks have had a somewhat restricted retail portfolio till recently. However,
they are fast expanding in this business segment. The retail banking industry is likely to see a
high competition scenario in the near future.
Wholesale banking
Wholesale banking includes high ticket exposures primarily to corporates. Internal processes of
most banks classify wholesale banking into mid corporates and large corporates according to the
size of exposure to the clients. A large portion of wholesale banking clients also account for off
balance sheet businesses. Hedging solutions form a significant portion of exposures coming from
corporates. Hence, wholesale banking clients are strategic for the banks with the view to gain
other business from them. Various forms of financing, like project finance, leasing finance,
finance for working capital, term finance etc form part of wholesale banking transactions.
Syndication services and merchant banking services are also provided to wholesale clients in
addition to the variety of products and services offered.
Wholesale banking is also a well diversified banking vertical. Most banks have a presence in
wholesale banking. But this vertical is largely dominated by large Indian banks. While a large
portion of the business of foreign banks comes from wholesale banking, their market share is still
smaller than that of the larger Indian banks. A number of large private players among Indian
banks are also very active in this segment. Among the players with the largest footprint in the
wholesale banking space are SBI, ICICI Bank, IDBI Bank, Canara Bank, Bank of India, Punjab
National Bank and Central Bank of India. Bank of Baroda has also been exhibiting quite robust
results from its wholesale banking operations.
Treasury Operations
Treasury operations include investments in debt market (sovereign and corporate), equity
market, mutual funds, derivatives, and trading and forex operations. These functions can be
proprietary activities, or can be undertaken on customers account. Treasury operations are
important for managing the funding of the bank. Apart from core banking activities, which
comprises primarily of lending, deposit taking functions and services; treasury income is a
significant component of the earnings of banks. Treasury deals with the entire investment
portfolio of banks (categories of HTM, AFS and HFT) and provides a range of products and
services that deal primarily with foreign exchange, derivatives and securities. Treasury involves
the front office (dealing room), mid office (risk management including independent reporting to
the asset liability committee) and back office (settlement of deals executed, statutory funds
management etc).
Other Banking Businesses
This is considered as a residual category which includes all those businesses of banks that do not
fall under any of the aforesaid categories. This category includes para banking activities like hire
purchase activities, leasing business, merchant banking, factoring activities etc.
Products of the Banking Industry
The products of the banking industry broadly include deposit products, credit products and
customized banking services. Most banks offer the same kind of products with minor variations.
The basic differentiation is attained through quality of service and the delivery channels that are
adopted. Apart from the generic products like deposits (demand deposits current, savings and
term deposits), loans and advances (short term and long term loans) and services, there have
been innovations in terms and products such as the flexible term deposit, convertible savings
deposit (wherein idle cash in savings account can be transferred to a fixed deposit), etc.
Innovations have been increasingly directed towards the delivery channels used, with the focus
shifting towards ATM transactions, phone and internet banking. Product differentiating services
have been attached to most products, such as debit/ATM cards, credit cards, nomination and
demat services.

Other banking products include fee-based services that provide non-interest income to the banks.
Corporate fee-based services offered by banks include treasury products; cash management
services; letter of credit and bank guarantee; bill discounting; factoring and forfeiting services;
foreign exchange services; merchant banking; leasing; credit rating; underwriting and custodial
services. Retail fee-based services include remittances and payment facilities, wealth
management, trading facilities and other value added services.


Deposits
Deposits of the schedule commercial banks have witnessed significant growth in the past few
years backed by the rapid growth of the Indian economy. The deposits of SCBs grew at an
annual average rate of 20.86% during FY05-FY09. At present (end-March 2009) all SCBs
control deposits worth over Rs. 40632 bn, of which over Rs. 27160 bn comprise of term deposits.

The trend towards term deposits has been increasing especially since FY07, because of the
interest rate differentials between demand and term deposits, which intensified since FY07 and
tax benefits that were extended to long term deposits. This trend strengthened further with
private and public sector companies having surplus cash, increasingly going in for bulk deposits.
The demand deposits of the SCBs have also experienced robust growth in the past few years
backed by greater demand for transitional balances, on account of high economic growth,
developments in Mutual fund segments and increased activity in the capital markets.

The growth in bank deposit, however, moderated during FY09 as the ripple effects of global
financial crisis affected the growth momentum of the Indian economy. The growth in aggregate
deposits of SCBs moderated to 22.38% y-o-y during FY09 as compared to a growth of 23.10%
in FY08 and 24.59% in FY07. During FY09, there have been considerable fluctuations in growth
rates of different deposit types, because of the rapidly changing interest rate scenario and
economic environment. In view of the monetary tightening adopted by the RBI towards the
beginning of FY09, to rein in inflationary pressures, most banks had hiked the rates on offer for
term deposits of short to medium maturity, which caused a shift towards term deposits. During
Q1 FY09, banks offered interest rates as high as 10.5% on term deposits of one to three years
maturity, making them attractive. However, as the global financial crisis intensified leading to
significant liquidity crunch and putting downward pressures on growth the RBI reversed its
monetary stance and eased the policy interest rates since Oct-08. This induced banks to lower
their deposit rates in turn leading to the reversal in trend away from term deposits. However, the
growth rate for term deposits remains reasonably high given the high risk free return on the time
deposits offered by the banks as compared to volatile expected returns on other financial
instruments. The increased expectation of decline in interest rates in the near term, following the
lower policy rates is likely to have supported the growth in term deposits during this period. The
growth in demand deposits experienced significant volatility during FY09. By end of FY09, the
growth in demand deposits moderated substantially, partly due to the slowdown in activity in the
capital markets, mutual fund segment etc.
Player Concentration in the Deposits Market
The commercial banks control most of the deposits in the markets, which is reflected in their
total business size as compared to cooperative banks. Their large geographical reach greatly
contributes in maintaining their market share. In the commercial banks segment, the deposits
products market has been historically dominated by public sector banks and continues to be so.
However on account of increased competition in the banking system there has been decline in
the share of public sector banks in aggregate deposits. The share of the public sector banks in the
aggregate deposit of commercial banks had reduced from around 82.6% during FY99 to 73.9%
in FY08. However, the share of public sector banks increased to 76.6% during FY09, given that
they are perceived as a safe investment avenue. The Share of New Private sector banks in the
total deposits have increased from around 4.0% in FY99 to 15.3 in FY08. However, it declined
to 13.2% during FY09. Within the private sector banks ICICI bank dominated the deposit market
followed by HDFC and Axis bank during FY09. Among the foreign banks Citibank accounted
for the largest share in deposits followed by Hongkong & Shanghai Banking Corpn. (HSBC) and
Standard Chartered Bank.

During the past few years the deposits of new private sector banks have grown at a rapid pace
compared to the other bank groups, which has helped them to increase their share in the total
deposits. The public sector banks have been growing at a good pace too, which has kept the
balance in favor of public sector banks. While the public sector banks continued to maintain their
deposit growth momentum, the private sector banks and foreign banks have witnessed significant
moderation in their deposit growth during FY09. The deposit of private and foreign banks
expanded merely by 12.7% and 8.9% respectively as at end-March 2009, as compared to robust
growth of 24.4% and 22.9% respectively as at end-March 2008. The increase in deposits of the
public sector banks during FY09 largely indicates the increased risk aversion among customers,
leading to migration of deposits to public sector banks which are considered to be comparatively
safer.

Player Concentration According to Type of Deposits
According to the latest available data for FY07, player concentration in each of the three
categories of deposit accounts shows some variation. The share of public sector banks is
undoubtedly the highest across all categories of deposit accounts, but they have lost some ground
in current accounts over the years, where the private sector and foreign banks have gained. The
focus of a majority of private and foreign players is towards the high growth SME and corporate
sector, which accounts for the gain they have made. Public sector banks are also increasingly
directing attention towards the SME sector.
The distribution of market share in the savings account and time deposits have remained fairly
constant over the years. The sovereign guarantee perception available to the public sector banks
seems to have clearly helped it in keeping its savings accounts base intact. They have a strong
customer base for small savings accounts. The deposits portfolio of private sector players is more
in favor of term deposits. 69% of the deposits portfolio of private banks comprises of term
deposits, against an average of 61.5% for all scheduled commercial banks. Foreign banks have a
portfolio skewed towards current deposits- 29.7% against an average of 12.4% for all SCBs.
Sources and Nature of Deposits
Majority of the deposits comes from the household sector, unlike credit, where majority of the
demand originates from corporates. The major deposit sources in addition to the household and
corporate sector (financial and non financial) are the foreign and the government sector. The
contribution of the individual sectors in the total deposits has remained fairly constant over the
years. Only some mild fluctuations in the trend are witnessed. The dependence of banks on
household deposits is higher in the savings deposits segment, than for the other types of deposits.
Term deposits segment, which was historically dominated by deposits coming from households,
has seen an increasing participation from the corporates and government sector.

Household Sector
The household sector deposits come mainly from individuals, thereafter, from trusts,
associations, and proprietary and partnership concerns, educational and religious institutions.

Household deposits have the largest share in total deposits of banks. However, the share of
household deposits has dropped over the past decade reducing the dependence to some extent.
The decrease was from 69.2% in FY96 to 58.5% in FY06. The share fell further to 57.4% in
FY07. This drop has come about largely due to the drop in term deposits from households, which
has declined significantly- from a share of 67.9% in FY05 to a mere 47.9% in FY07. The reason
for the trend is the growth in after tax returns being offered from other saving avenues like
mutual funds.
Government Sector
Government sector includes deposits from central and state governments, local authorities, quasi
government bodies and public sector corporations and companies.

The government sectors deposits have risen from 9.2% in FY95 to 14.5% in FY07. This is
mainly attributable to the better performance of non departmental government enterprises and
their increased savings over the said period. The savings rate of public sector enterprises
increased from -0.9% in FY00 to 2.2% in FY05, largely contributed by non departmental
enterprises.
Corporate Sector
The share of corporate sector, including financial and non financial entities in total deposits
increased, which indicates a better performance on their front. The corporate sector (financial
and non financial) depicted more share in total deposits in FY07 as compared to FY06.
Private Corporate Sector (Non Financial)
The private corporate non financial sector deals with the private non financial companies, non
credit cooperative institutions and others.

Private Corporate Sector (Financial)
This sector includes all banks, financial institutions and other financial companies. The various
financial institutions include financial companies, mutual funds, insurance companies, provident
funds institutions and other financial services companies.

Foreign Sector
Foreign sector also accorded a decline in its share in FY07 as compared to FY06. This sectors
deposits comprise those coming from non residents and foreign countries embassies and
missions etc.

Credit
Bank credit has played a catalytic role in the high growth rate that India has achieved in the past
few years. The outstanding bank credit of SCBs has increased at an average annual rate of 26.1%
during FY04-FY09 primarily on account of sustained improvement in industrial activity in
particular and over all economic growth in general since FY03. Notwithstanding the robust
growth in bank credit during this period, the outstanding credit of schedule commercial banks
grew merely by 14.17% in FY04 as compared to 26.9% in FY03, on account of moderation in
growth of nonfood credit and a sharp decline in the food credit. The outstanding food credit of
SCBs registered a decline during FY04 on account of low procurement and higher off take of
food grains . The SCBs credit to industries which accounts for a large share in non-food credit
also moderated during this period, due to increased recourse by the corporates to the internal
sources of financing and cheaper funds raised in the overseas market. Favorable interest rate
differential between domestic and international markets and an appreciating domestic currency
during this period resulted in larger recourse to External commercial borrowings (ECBs) by
corporate.
However, bank credit registered a phenomenal growth of around 38.2% during FY06 backed by
decline in real interest rate, moderation in inflation and inflationary expectation, improvement in
the asset quality of the credit institutions. With tight monetary policy followed by RBI, to curb
the inflationary pressure on the economy due to the high money supply and huge capital inflows,
interest rate began to firm up since the beginning of FY07, leading to slight moderation in bank
credit. While the growth in gross bank credit of scheduled commercial banks moderated to
27.9% in FY07 and further to 21.6% in FY08, it has been substantially high. However, the bank
credit witnessed a significant surge by the mid of FY09, as the alternative funding options for the
corporates began to dry up on account of intensification of financial crisis leading to a credit
crunch in latter part of Q2 FY09. The bank credit witnessed a substantial growth of 29.4% as on
October 10, 2008 as compared to 23.3% growth during the corresponding period last fiscal. In
the subsequent period, however, the credit demand witnessed moderation on account of slowing
economic growth in general and the rapid decline in industrial sector in particular. Moreover, the
lowering commodity prices coupled with inventory drawdown by companies resulted in decline
in the working capital requirement, thereby leading to slowdown in credit demand. Further, with
increased reports of investment slowdown in some core sectors, concerns of rising NPAs, which
made banks restrict disbursals and impose more stringent lending norms, bank credit growth
moderated to 17.9% as at end- March 2009. But the impact on overall credit growth is still less
as compared to the international scenario.

Player Concentration in Credit Market:
The commercial banks form the major portion of food credits too, the residual being with the
cooperative banks.

Player concentration in the credit market (SCBs) is dominated by the public sector banks. The
sovereign guarantee available to these banks plays a very important role in maintaining the
market share in the core banking products segment.

The nationalized banks have maintained their growth rate of credit, which has been higher than
other bank groups during most of the recent past. Another reason for the credit sanctions and
outstanding growing at a faster pace than other bank groups is that, the public sector banks as a
whole have maintained a lower PLR than private and foreign banks, more so in the past couple
of years. Nonetheless, Aggressive lending and marketing operations responsible for the credit
growth of the private and foreign sector banks have made them a force to reckon with in the
future. Historical data shows the improved performance of private sector banks in this segment.
The private sector banks group has increased its share steadily over the years, eating into the
share of public sector banks.

While the growth rates of all bank groups remained fairly uniform over the years, credit growth
from private sector banks and foreign banks has moderated significantly during the latter half of
FY09 due to the global financial crisis. While the credit growth of public sector banks has also
witnessed some moderation, it has been substantially higher compared to the private sector banks
and foreign banks.

Sources and Nature of Demand for Credit
The demand for gross bank credit comes from food or non food sources. Food credit is a very
small portion of gross bank credit, whereas the major demand comes from non food credit. The
primary sources of non food credit demand are four identifiable sectors- agriculture and allied
activities, industry (small, medium and large), services sector and personal loans. Within the
personal loans segment, demand comes from loans for consumer durables, housing, advances
against fixed deposits, credit card loans, and educational loans amongst loans for other purposes.
Other areas of credit deployment that deserve careful scrutiny by industry participants as well as
regulatory agencies are credit to sensitive sectors, retail portfolio and credit to priority sectors.
The growth in bank credit during last few years has been well diversified across all the sectors of
the economy. This is a healthy development as it reduces the vulnerability to specific sector
problems and also reduces the credit risk of the lending institutions to certain extent.


During FY09, the demand for credit from agriculture and allied activities accounted for around
12.8% of the total nonfood credit demand. The major portion of the credit demand, around
39.8% comes from industries, which is also a high growth segment. Within the industrial sector
infrastructure industries account for a major share of around 26% in the total credit to industries.
With the government laying emphasis on public private partnership for contributing more and
helping to bridge the infrastructure gap in India, the role of private sector in infrastructure
provision has increased. The increasing role of private sector in the infrastructure provision has
been one of the instrumental factors contributing to increase in credit off take by the
infrastructure industry. Basic metals and metal products and textile industries, which account for
around 12% and 10% of the total credit to industry respectively, are other major segments
propelling credit demand.

Credit to services sector account for around 24.4% of the total non-food credit. While the
composition of demand from services sector is widely distributed, trade segment is the single
largest contributor. Trade contributes over 20% of credit demand from the services sector.

With a share of 21.6% in the total non-food bank credit personal loans is the major source of
bank credit demand. The demand for personal loans is largely driven by housing loans, which
account for almost 49% of personal loans. The housing loan segment has witnessed substantial
growth in the last few years. The significant growth in housing credit can be attributed to tax
incentives offered to salary earners which made housing loans more attractive by bringing down
the effective rate of interest. The increasing number of second tier cities as upcoming business
centers also had a positive impact on households demand for housing and hence credit to
finance the same. Also the introduction of innovative products, which catered to specific needs
of the borrowers, led to easy availability of credit, thereby increasing credit off take. Housing
sector has registered a substantial year on year growth of around 50.11% during FY05. Although
the outstanding credit balances to housing sector have been increasing during FY06 & FY07, the
pace at which it grew has reduced as compared to that in FY05 on account of high interest rates
and increase in real estate prices.

In the personal loans segment, credit card outstandings have shown a robust growth (50%) in
FY08 indicating increased usage of credit cards as a mode of making payment. However, during
FY09 the growth in credit card outstanding moderated to mere 6.1% reflecting the adverse
impact of the global meltdown on the consumption of high end consumer goods. Within the
personal loan segment education loans has also witnessed significant growth in the past few
years. A confluence of factors such as resilient demand, lower levels of NPAs, discounted
interest rates, introduction of online system for processing loan applications etc, have facilitated
the growth of education loan portfolio for banks over the past few years. The scheme to provide
full interest subsidy during the moratorium period on education loans taken from scheduled
banks for pursuing any of the approved courses of study in technical and professional streams
from a recognized institution in India, proposed in the Union Budget FY10 is likely to support
the growth in education loans going forward. Further, the tax deduction under IT Act 2000-
section 80E allowed for interest on loans taken for pursuing higher education in specified fields
of study, has been extended to cover all study fields, including vocational studies might provide
some stimulus to the demand for educational loans.
While the education loan portfolio of banks has continued to show resilient growth in FY09, the
growth in overall personal loan segment experienced some moderation primarily due to
deceleration in housing loans and decline in loans taken for consumer durables. Growth in
personal loans moderated to 10.8% as on March 27, 2009 as compared to 12.1% as on March 28,
2008. Comparatively high interest rates during most part of FY09 coupled with slowing
economic activity and increased uncertainty on employment front by the end of FY09 is likely to
have constrained growth of the personal loan in general and housing loans in particular.
Other classifications of credit flow include the credit to priority sectors and sensitive sectors.
According to the current classification applicable, priority sectors include agriculture (direct and
indirect credit), small enterprises (direct and indirect credit), retail trade, micro credit, housing
loans and education loans. During FY09, 32.99% of non-food gross bank credit came from
priority sectors.

Credit deployment to priority sector has experienced a distinct improvement with outstanding
credit to the priority sector growing at an annual average rate of 27.9% during FY04-FY09 as
compared to 12.6% during the 1990s. This healthy development is a result of conscious policy
effort of the government of India and RBI towards directing credit to the weaker sections of the
economy, which are deprived of institutional credit.
Among the sensitive sectors, are capital markets (investments and advances), real estate (direct
and indirect finance) and commodities. Lending to sensitive sectors is highly monitored by banks
and regulatory agencies. The exposure to sensitive sectors in India is largely towards real estate,
which accounts for almost 90.3% (as at end March-2009) of the sensitive sector exposure of the
SCBs.

Investment
Commercial banks investments broadly classified as SLR investments (government and other
approved securities) and non-SLR investments (comprising commercial papers, shares, bonds
and debentures issued by the corporate sector). The overall investment by the banks registered a
robust increase of 23.8% during FY08 as compared to 9.7% in FY07 backed by moderation in
the bank credit growth.
SLR Investment
Banks in India have historically maintained a significant share of investments because of
prescription of SLR. Banks are required to invest a prescribed minimum of their net demand and
time liabilities in government and other approved securities under the BR Act, 1949. The
prescribed SLR, which was raised to as high as 38.5 per cent by September 22, 1990, was
brought down to 25.0% of NDTL since October 1997. With increased liquidity pressures
following the global financial crisis, the RBI reduced the SLR to 24.0% of NDTL with effect
from November 8, 2008. However, as the liquidity condition improved and economic stability
began to restore, the RBI hiked the SLR to its pre-crisis level of 25% from 24% with effect from
with effect from the fortnight beginning 7-Nov-09.

Banks have been endowed with greater flexibility in their investment portfolio since the mid-
1990s, which they have used to maximise returns. Despite of lowered SLR requirement, the
banks have continued to invest in government securities well above the statutory minimum of
25%. While lower credit demands induces banks to park their funds in government securities, the
banks tend to liquidate the excess stock of government securities as the credit demand picks-up.
Non-SLR Investment
Banks non-SLR investments constituted a small percentage (2.7% at end-March 2009) of their
total assets. Banks investments in non-SLR securities registered an increase of 20.5% during
FY09 as against an increase of 21.5% in the FY08.

In terms of instruments, bonds/debentures constituted the largest component of non-SLR
investments, though their share in total non-SLR investments declined to 57% at end-March
2009 as compared to 85.4% in 1998. The share of equities, on the other hand has witnessed a
gradual increase, particularly from FY05.
Net Interest Margins
The Net interest margin (NIM) of the banking sector has witnessed a decline as competitive
pressures increased post liberalisation period. The NIM as a percentage of total assets declined to
around 2.57% in FY02 from around 3.30% in FY1992. However, with robust economic growth
and increase in credit demand since FY03, the NIM of SCBs increased to 2.87% by FY04.
However, it witnessed a downward trend since FY05, reaching 2.3% in FY08. However,
reversing its declining trend the NIM as percentage of total assets of SCBs increased to 2.4 per
cent during FY09. Among the bank groups, net interest margin of foreign banks have continued
to be comparatively higher.

Off-balance Sheet Exposure
Off-balance sheet items are the contingent liabilities that do not reflect in a balance sheet. These
items are so called because they are not directly funded by banks, and the banks actual liability
towards these arises only when its client fails to fulfil commitments. These exposures thus pose a
significant risk to the banking sector. Off-balance sheet exposure largely includes forward
exchange contracts, including derivatives, LCs and guarantees on behalf of constituents.
Guarantees, acceptances and endorsements are a part of normal business and are extended quiet
often. The off balance sheet exposure of banks has increased many fold in the last few years. The
notional principal amount of off-balance sheet exposure increased from Rs 8,420 bn by the end
of March 2002 to Rs 144,958.87 bn by the end of March 2008. However, the increasing trend in
the off balance sheet exposure of banks was reversed in FY09 as the off balance sheet exposure
witnessed a decline of 26.4% (y-o-y) during this period. This in part could be attributed to the
strengthening of prudential regulations effected by the Reserve Bank on OBS exposures as the
global financial crisis intensified.
Among the bank groups the foreign banks have the largest share in off-balance sheet exposures
of the SCBs (65.8 %), followed by public sector banks (17.9%) and new private sector banks
(15.2%).
During FY09, the outstanding forward exchange contract for SCBs constituted more than
74.16% of the total off-balance sheet exposure, whereas guarantees had a 3.91% share.
Acceptances and endorsements accounted for the balance 21.92%. Due to the fluctuations in the
currency market, many banks hedged their positions through currency forward contracts. Unlike
the lending business, no fresh capital is required to back up the derivative business, therefore, in
the event of any unforeseen currency movement, this exposure can jeopardise the balance sheet
of banks.






Evolution of the Indian Banking Industry:
The Indian banking industry is governed by a very diligent regulatory and supervisory
framework. The Reserve Bank of India is the primary regulatory body for all banks in India. The
RBI is the central bank of the country and is responsible for managing the operations of the
entire financial system. The legal framework which governs the banking industry includes some
umbrella acts like the RBI Act (1934) and the Banking Regulation Act (1949) that applies to all
activities of all banking companies and other acts like the Companies Act (1956), Banking
Companies Act, SBI Act (1955), Regional Rural Bank Act (1976), Bankers Books Evidence Act
(1891), SARFAESI act (2002) and Negotiable Instruments Act (1881). The Reserve Bank of
India is entrusted under the BR Act, to be solely responsible for the regulation and supervision of
banks. It is also empowered to inspect and regulate banks keeping in view the banking policy in
place and in the interest of the banking system as a whole. The monetary authority function of
the RBI is also critical to the functioning of banks, as it has direct implications on interest rates
and bank credit.
Within the RBI, most of the regulatory powers with respect to commercial banks and LABs are
vested in the Department of Banking operations and Development (DBoD), whereas the RRBs
and state cooperative banks are governed by the Rural Planning and Credit Department. The
urban cooperative banks are regulated by the Urban Banks Department of the RBI. Other
agencies like NABARD and the registrar of cooperative societies are also involved, along with
the RBI in the regulation and supervision process of RRBs and cooperative banks.
Regulatory Framework for SCBs
The main elements of regulatory framework for the SCBs, which have evolved from time to
time, comprise branch authorization policy, prudential norms, corporate governance, foreign
investment norms, priority sector norms, and statutory requirements, including, cash reserve ratio
(CRR) and statutory liquidity ratio (SLR). While the regulatory framework applicable to RRBs is
similar to the other scheduled commercial banks, there exist some variations given their unique
nature and focus.
Setting up New Banks and Branch Authorisation Policy
The minimum statutory requirements for setting up new banks in India are stipulated in the BR
Act, 1949. The RBI explicates the eligibility criteria for the entry of new banks as and when
fresh applications from prospective entrants are invited. The branch authorization policy is a
critical policy framework for the banking industry, as it has direct implications for the business
development of banks. The RBI, at regular intervals, releases documents to update its branch
authorization policy, which governs the opening of new branches by all SCBs in the country.
With the objective of liberalising and rationalising the existing branch authorisation policy, a
revised policy framework was put in place in September 2005, which was agreed to be consistent
with the medium term corporate strategy of banks and in public interest. This was an important
development for the branch authorisation process, because, since the implementation of this
policy framework, the RBI moved from the system of granting authorizations for one branch at a
time, to the system of aggregated approvals, on an annual basis. Also, in terms of this revised
policy, banks were not required to approach the regional offices of the RBI for approvals for
opening branches or setting up of off-site ATMs. Under the liberalized framework, banks can
submit their annual branch expansion plans for aggregated approvals and can also approach the
RBI on an urgent basis at any time of the year. Setting up of on-site ATMs were freed from the
requirement of RBIs approvals after this policy liberalisation. This policy change proved
extremely beneficial for the industry, and many banks, particularly the larger ones like SBI went
for massive branch expansions. However, foreign banks did not gain much, as the number of
branch approvals to them remained very low, as compared to Indian banks. Various host country
issues were responsible for this.
With the implementation of the new policy RBI also renewed its focus towards unbanked areas.
It explicitly stated that new branches in unbanked areas will be given weightage in the evaluation
process. To serve the same purpose, a number of restrictions were placed on the shifting and
shutting down of rural branches. New private sector banks are required to ensure that atleast 25%
of their total branches was in semi urban and rural areas on an ongoing basis.
Foreign Banks
The new policy was made applicable to foreign banks also in the same respects, subject to
certain additional conditions such as bringing an assigned capital of US$ 25 million, up front at
the time of opening their first branch in India etc. In addition certain other parameters such as
foreign banks and its groups track record of compliance and functioning in the global markets,
even distribution of home countries of foreign banks having presence in India etc are also
considered by the RBI for foreign banks, which to an extent proves to be a restriction for foreign
banks branch expansion.
Presence through WOS or branches: The roadmap for the inclusion of foreign banks in India was
declared in 2005. As per the guidelines issued in 2004, foreign banks wishing to establish
presence in India for the first time could either choose to operate through branch presence or set
up a Wholly Owned Subsidiary (WOS), following the one-mode presence criterion. They could
also hold a subsidiary which has a foreign investment (capped at 74%) in a private bank. The
WOS required a minimum capital requirement of Rs. 3 billion and a CAR of 10%.
Prudential Norms
The RBI stipulates prudential norms concerning income recognition, asset classification and
provisioning, to be applicable to all banks in the country. It has made credible efforts over the
past decade to bring the prudential norms at par with international standards to ensure the
stability and strength of the financial sector as a whole. Prudential norms are modified by the
RBI to encounter regular challenges faced with the banking industry, as they have a direct impact
on the financials of the banks.
As the turmoil in the global financial markets intensified the RBI made changes in the
provisioning and asset classification norms, to help banks tide over the financial crisis. Banks
were allowed to take advantage of regulatory forbearance in respect of classification of
restructured accounts as standard accounts. Besides, provisioning requirements have been
lowered for the same purpose. Various measures taken were aimed at helping the banks in
maintaining healthier financial statements, and free up additional resources, to be used towards
business growth. However, as the liquidity pressures eased and some banks experienced increase
in NPAs, the RBI again tightened the prudential norms. In its second quarter review of monetary
policy FY10, the RBI advised banks to augment their provisioning cushions consisting of
specific provisions against NPAs as well as floating provisions, and ensure that their total
provisioning coverage ratio, including floating provisions, is not less than 70%.The provisioning
requirement for advances to the commercial real estate sector classified as standard assets was
also increased from 0.4% to 1.0%.
Risk management and capital adequacy norms: While the Indian banks with international
presence and foreign banks operating in India were required to follow the Basel 2 capital
adequacy norms with effect from end March 2008, all other banks operating in accordance with
Basel 1 migrated to the Basel 2 framework by end March 2009. They are presently required to
follow the standardized approach for credit risk and the basic indicator approach for operational
risk. As against the international norms of capital to risk weighted assets ratio (CRAR) of 8%,
the CRAR for banks in India has been stipulated at 9% for banks both under Basel 1 and 2.
However, in view of the global financial crisis, the RBI has temporarily mandated that this
CRAR requirement be hiked to 12% by all banks. This raised benchmark has increased the
pressure on banks in India, and could prove to be a restriction for their business growth.

Exposure limits: In view of better risk management, banks in India are required to limit their
exposure to different industries, sectors, NBFCs, individual borrowers, group borrowers and the
capital market. According to the existing guidelines the credit extended to a single borrower
should not exceed 15% of capital funds, and 40% in case of group borrowers. A relaxation of 5%
is allowed in case of an approval from the board under exceptional circumstances. Banks can
extend an additional 5% and 10% to a single borrower and a group of borrowers, respectively, if
the additional amount is for financing infrastructure. With effect from May 29, 2008, the
exposure limit in respect of single borrower has been increased to 25% of the capital funds, only
in respect of Oil Companies who have been issued Oil Bonds (which do not have SLR status) by
the government of India.
Exposure diversification: Banks are also required to keep their exposures well diversified
across sectors, for which purpose, they are required to keep their exposures to specific sectors
such as textiles, tea, jute etc within limits. Similarly, the exposure of the bank to a single NBFC
and NBFC-Asset Financing Company (AFC) is fixed at 10% and 15%, respectively. Banks are
also required to maintain a diversified exposure of hire purchase, equipment leasing and
factoring services. Their exposures to each of these activities must not exceed 10% of total
advances.
Exposure to capital markets: The exposure of banks to the capital market in all forms is fixed
at 40% of its net worth as on end March of the previous year. However, within this overall
ceiling, banks direct investment in shares, convertible bonds or debentures, units of equity
oriented mutual funds and exposure to venture capital funds is limited to 20% of its net worth.
These protection mechanisms have worked well for the Indian banking industry.
Prudential norms governing investment portfolio of banks: Banks are allowed to invest in
government securities, other approved securities, shares, debentures and bonds, subsidiaries,
joint ventures, commercial papers, mutual fund units among others. Banks are required to frame
their own investment policies, keeping in view their overall investment objectives, which are
required to be approved by the board. Under the prudential norms applicable, they have to
classify their entire investment portfolios into three categories (to be decided at the time of
investing) - Held to Maturity (HTM), Available for Sale (AFS) and Held for Trading (HFT). The
qualifications for each classification, upper limits and rules for transition from one category to
the other differ. Indian banks have a majority part of their investment portfolio in government
and other approved securities- reflecting a risk-averse stance.
Foreign Investment and Diversified Ownership norms
Owing to the high systemic risks involved in the industry, the RBI has been proactive in the
maintenance of well diversified ownership norms as well as well regulated foreign investments.
Gradual changes in the policy framework have led to the present state of affairs in the Indian
banking industry, for ensuring proper governance in the industry. The current regulatory
guidelines are:
Foreign investment in private sector banks: In terms of the government of India press note of
March 5, 2004, the aggregate foreign investment in private banks from all sources (FDI, FII,
NRI) is now limited to 74%. At all times, at least 26 per cent of the paid up capital of the private
sector banks is required to be held by resident Indians. This limit was raised from the earlier
49%, as the industry is moving towards greater liberalization.
Foreign Direct Investment (FDI) (other than by foreign banks or foreign bank group): The
guidelines (dated February 3, 2004) for determining fit and proper status of shareholding of 5%
and above was made to be equally applicable for FDI. Hence any FDI in private banks where
shareholding reached or exceeded 5% (either individually or as a group) was required to get RBI
permission for transfer of shares. This led to a direct involvement of the RBI in the process.
Foreign Institutional Investors (FIIs): Currently there is a limit of 10% for individual FII
investment with the aggregate limit for all FIIs restricted to 24% which can be raised to 49%
with the approval of Board or General Body.
The present policy requires RBIs acknowledgement for acquisition or transfer of shares of 5%
and more of a private sector bank by FIIs based upon the policy guidelines on acknowledgement
of acquisition or transfer of shares (issued on February 3, 2004).
Non-Resident Indians (NRIs): Currently there is a limit of 5% for individual NRI portfolio
investment with the aggregate limit for all NRIs restricted to 10% which can be raised to 24%
with the approval of Board or General Body.
Priority Sector Norms
Banks in India are required to meet prescribed targets for lending to the priority sector in
pursuance of the overall objective of financial inclusion.
The overall ceiling on priority sector lending has been fixed at 40% and 32% for the domestic
and foreign banks, respectively. These targets are calculated as a percentage of adjusted net bank
credit (ANBC) or credit equivalent amount of off-balance sheet exposures, whichever is higher.
The 40% overall target has been in operation since 1985. Earlier the limit was at 33%.
The sub categories included under priority sector have been modified at intermittent intervals
over the years. Agriculture and allied activities, small enterprises, retail trade, micro credit,
weaker sections, education loans and housing loans are eligible to be included under priority
sector lending (with upper limits on the individual exposures).
Domestic schedule banks that have shortfalls in the priority sector or agriculture lending target
are required to make a contribution to the Rural Infrastructure Fund Development fund (RIDF)
established by National Bank for Agriculture and Rural Development (NABARD). However if
the Foreign Banks fail to attain their prescribed targets and sub targets, they are required to
deposit an equivalent amount with the Small Industries Development Bank of India (SIDBI) for
a period of one year at the rates decided by RBI.
Statutory Requirements
Statutory preemption of resources has been mandated for banks in the form of CRR and SLR, to
provide for the safety of depositors and other stakeholders of the banks. They have been used at
required intervals as tools of implementation of the monetary policy. The SLR has seen minor
changes over the years, whereas, the CRR is a more widely used and effective tool for
maneuvering liquidity in the financial system. The basic structure of the statutory requirements
applicable to banks has remained same over time; however, the rates applicable have varied
widely over the years, depending on the RBIs monetary policy stance.

Interest Rate Regime
The RBI has allowed the banking industry in India to move towards a more market driven
mechanism, adding to the price based competitiveness in the industry.
Deposits: Prior to reforms, RBI prescribed the deposit rates and the maturities on deposits that
could be offered by banks. There was no price competition among suppliers of banking services
and the customer had only limited products to choose from.
As a result of deregulation, barring saving deposits, banks have been made free to fix their own
deposit rates for different maturities. Banks are now also free to offer varying rates of interest for
different sizes of deposits above a cutoff point, since the cost of transaction differs by size.
Earlier, RBI decided the penalty structure for premature withdrawal of deposits, but this has now
been left to each bank so that banks can manage interest rates. RBI continues to regulate interest
rates on savings bank accounts, which is currently fixed at 3.5%, unchanged since March 1,
2003. Now, the RBI has steadily moved towards the mechanism of moral suasion to control the
rates being offered by banks, rather than direct action.
Advances: With effect from October 18, 1994, RBI deregulated the interest rates on advances
above Rs 0.2 million and thereafter the rates of interest on such advances are determined by the
banks themselves, subject to BPLR and spread guidelines. For credit limits up to Rs 0.2 million,
banks are to charge interest not exceeding their BPLR. In line with the international practices and
to provide operational flexibility to commercial banks in deciding their lending rates, the RBI
has allowed banks to offer loans at below BPLR to exporters or other creditworthy borrowers,
including public enterprises, on the basis of a board approved transparent and objective policy.
Banks are also now free to determine the rates of interest without reference to BPLR and
regardless of the size in respect of loans for purchase of consumer durables, loans to individuals
against shares and debentures or bonds, other nonpriority sector personal loans, etc.
Supervisory Framework
Various departments of the RBI are largely responsible for the supervision of the banking
industry in India. The board for financial supervision was set up under the RBI to keep a close
watch on the financial markets and supervise it effectively to prevent the occurrence of a
financial crisis. As the nature of financial markets and financial instruments become increasingly
complex, the role of supervisors for the banking industry has assumed greater importance.
The entire supervisory process is centered on various forms of inspections. They can be broadly
classified into on site and off site inspection processes. Off site monitoring processes involve the
analysis of a banks performance based largely on its financials. These are backed up be the on
site surveillance processes. When undertaking on site inspections of banks, focus is laid on the
core assessments based on the CAMELS model (and CALCS model for foreign banks). The
frequency and focus of such inspections are modified on a case to case basis. On site inspections
effectively supplement the off site inspection processes to complete the monitoring mechanism
applicable to banks in India. But, these processes were not considered adequate, as the business
has developed significantly over the years. Risk based supervision is a new concept that has been
undertaken to reform the process of bank supervision.
Risk based supervision: India has implemented the Risk Based Supervision (RBS) framework
which evaluates the risk profile of the banks through an analysis of 12 risk factors, of which are
eight business risks and four control risks. The eight business risks relate to capital, credit risk,
market risk, earnings, liquidity risk, business strategy and environment risk, operational risk and
group risk. The control risks relate to internal controls risk, organization risk, management risk
and compliance risk. The RBS framework is currently undergoing further refinement by the RBI,
and can be expected to be undertaken on a larger scale in the future.

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Information technology is one of the most important facilitators for the transformation of the
Indian banking industry in terms of its transactions processing as well as for various other
internal systems and processes. The various technological platforms used by banks for the
conduct of their day to day operations, their manner of reporting and the way in which interbank
transactions and clearing is affected has evolved substantially over the years.
The technological evolution of the Indian banking industry has been largely directed by the
various committees set up by the RBI and the government of India to review the implementation
of technological change. No major breakthrough in technology implementation was achieved by
the industry till the early 80s, though some working groups and committees made stray
references to the need for mechanization of some banking processes. This was largely due to the
stiff resistance by the very strong bank employees unions. The early 1980s were instrumental in
the introduction of mechanisation and computerisation in Indian banks. This was the period
when banks as well as the RBI went very slow on mechanisation, carefully avoiding the use of
computers to avoid resistance from employee unions. However, this was the critical period
acting as the icebreaker, which led to the slow and steady move towards large scale technology
adoption.
Computerisation
The process of computerisation marked the beginning of all technological initiatives in the
banking industry. Computerisation of bank branches had started with installation of simple
computers to automate the functioning of branches, especially at high traffic branches.
Thereafter, Total Branch Automation was in use, which did not involve bank level branch
networking, and did not mean much to the customer.

Networking of branches are now undertaken to ensure better customer service. Core Banking
Solutions (CBS) is the networking of the branches of a bank, so as to enable the customers to
operate their accounts from any bank branch, regardless of which branch he opened the account
with. The networking of branches under CBS enables centralized data management and aids in
the implementation of internet and mobile banking. Besides, CBS helps in bringing the complete
operations of banks under a single technological platform.
CBS implementation in the Indian banking industry is still underway. The vast geographical
spread of the branches in the country is the primary reason for the inability of banks to attain
complete CBS implementation.
Satellite Banking
Satellite banking is also an upcoming technological innovation in the Indian banking industry,
which is expected to help in solving the problem of weak terrestrial communication links in
many parts of the country. The use of satellites for establishing connectivity between branches
will help banks to reach rural and hilly areas in a better way, and offer better facilities,
particularly in relation to electronic funds transfers. However, this involves very high costs to the
banks. Hence, under the proposal made by RBI, it would be bearing a part of the leased rentals
for satellite connectivity, if the banks use it for connecting the north eastern states and the under
banked districts.
Development of Distribution Channels
The major and upcoming channels of distribution in the banking industry, besides branches are
ATMs, internet banking, mobile and telephone banking and card based delivery systems.
Automatic Teller Machines
ATMs were introduced to the Indian banking industry in the early 1990s initiated by foreign
banks. Most foreign banks and some private sector players suffered from a serious handicap at
that time- lack of a strong branch network. ATM technology was used as a means to partially
overcome this handicap by reaching out to the customers at a lower initial and transaction costs
and offering hassle free services. Since then, innovations in ATM technology have come a long
way and customer receptiveness has also increased manifold. Public sector banks have also now
entered the race for expansion of ATM networks. Development of ATM networks is not only
leveraged for lowering the transaction costs, but also as an effective marketing channel resource.

Introduction of Biometrics
Banks across the country have started the process of setting up ATMs enabled with biometric
technology to tap the potential of rural markets. A large proportion of the population in such
centers does not adopt technology as fast as the urban centers due to the large scale illiteracy.
Development of biometric technology has made the use of self service channels like ATMs
viable with respect to the illiterate population. Though expensive to install, the scope of
biometrics is expanding rapidly. It provides for better security system, by linking credentials
verification to recognition of the face, fingerprints, eyes or voice. Some large banks of the
country have taken their first steps towards large scale introduction of biometric ATMs,
especially for rural banking. At the industry level, however, this technology is yet to be adopted;
the high costs involved largely accounting for the delay in adoption.
Multilingual ATMs
Installation of multilingual ATMs has also entered pilot implementation stage for many large
banks in the country. This technological innovation is also aimed at the rural banking business
believed to have large untapped potential. The language diversity of India has proved to be a
major impediment to the active adoption of new technology, restrained by the lack of knowledge
of English.
Multifunctional ATMs
Multifunctional ATMs are yet to be introduced by most banks in India, but have already been
recognized as a very effective means to access other banking services. Multifunctional ATMs are
equipped to perform other functions, besides dispensing cash and providing account information.
Mobile recharges, ticketing, bill payment, and advertising are relatively new areas that are being
explored via multifunctional ATMs, which have the potential to become revenue generators for
the banks by effecting sales, besides acting as delivery channels. Most of the service additions to
the ATM route require specific approval from the regulator.
ATM Network Switches
ATM switches are used to connect the ATMs to the accounting platforms of the respective
banks. In order to connect the ATM networks of different banks, apex level switches are required
that connect the various switches of individual banks. Through this technology, ATM cards of
one bank can be used at the ATMs of other banks, facilitating better customer convenience.
Under the current mechanism, banks owning the ATM charge a fee for allowing the customers of
some other bank to access its ATM.
Among the various ATM network switches are CashTree, BANCS, Cashnet Mitr and National
Financial Switch. Most ATM switches are also linked to Visa or MasterCard gateways. In order
to reduce the cost of operation for banks, IDRBT, which administers the National Financial
Switch, has waived the switching fee with effect from December 3, 2007.
Internet Banking
Internet banking in India began taking roots only from the early 2000s. Internet banking services
are offered in three levels. The first level is of a banks informational website, wherein only
queries are handled; the second level includes Simple Transactional Websites, which enables
customers to give instructions, online applications and balance enquiries. Under Simple
Transactional Websites, no fund based transactions are allowed to be conducted. Internet
banking in India has reached level three, offering Fully Transactional Websites, which allow for
fund transfers and various value added services.
Internet banking poses high operational, security and legal risks. This has restrained the
development of internet banking in India. The guidelines governing internet banking operations
in India covers a number of technological, security related and legal issues to be addressed in
relation to internet banking. According to the earlier guidelines, all internet banking services had
to be denominated in local currency, but now, even foreign exchange services, for the permitted
underlying transactions, can be offered through internet banking.
Internet banking can be offered only by banks licensed and supervised in India, having a physical
presence in India. Overseas branches of Indian banks are allowed to undertake internet banking
only after satisfying the host supervisor in addition to the home supervisor.
Phone Banking and Mobile Banking
Phone and mobile banking are a fairly recent phenomenon for the Indian banking industry. There
exist operative guidelines and restrictions on the type and quantum of transactions that can be
undertaken via this route. Phone banking channels function through an Interactive Voice
Response System (IVRS) or telebanking executives of the banks. The transactions are limited to
balance enquiries, transaction enquiries, stop payment instructions on cheques and funds
transfers of small amounts (per transaction limit of Rs 2500, overall cap of Rs 5000 per day per
customer). According to the draft guidelines on mobile banking, only banks which are licensed
and supervised in India and have a physical presence in India re allowed to offer mobile banking
services. Besides, only rupee based services can be offered. Mobile banking services are to be
restricted to bank account and credit card account holders which are KYC and AMC compliant.
With the rapidly growing mobile penetration in the country, mobile banking has the potential to
become a mass banking channel, with very minimum investment required by the banks.
However, more security issues need to be addressed before banking can be conducted more
freely via this channel.
Card Based Delivery Systems
Among the card based delivery mechanisms for various banking services, are credit cards, debit
cards, smart cards etc. These have been immensely successful in India since their launch.
Penetration of these card based systems have increased manifold over the past decade. Aided by
expanding ATM networks and Point of Sale (POS) terminals, banks have been able to increase
the transition of customers towards these channels, thereby reducing their costs too.
Payment and Settlement Systems
The innovations in technology and communication infrastructure in recent years have impacted
banks in a large way through the development of payment and settlement systems, which are
central to the major portion of the businesses of banks.
In order to strengthen the institutional framework for the payment and settlement systems in the
country, the RBI constituted, in 2005, a Board for Regulation and Supervision of Payment and
Settlement Systems (BPSS) as a Committee of its Central Board. The BPSS now lays down
policies relating to the regulation and supervision of all types of payment and settlement systems,
sets standards for existing and future systems, approves criteria for authorisation of payment and
settlement systems, and determines criteria for membership to these systems, including
continuation, termination and rejection of membership. Thereafter, the government and the RBI
felt the need for a legal framework dedicated to the efficient functioning of the payment and
settlement systems. The Payment and Settlement Systems Act was passed in December 2007,
which empowered the RBI to regulate and supervise the payment and settlement systems and
provided a legal basis for multilateral netting and settlement.
Important technological innovations in payment and settlement systems introduced by the RBI in
recent years are discussed here.
Paper Based Clearing Systems
Among the most important improvement in paper based clearing systems was the introduction of
MICR technology in the mid 1980s. Though improvements continued to be made in MICR
enabled instruments, the major transition is expected now, with the implementation of the
Cheque Truncation System for the processing of cheques.

Cheque Truncation System (CTS)
Truncation is the process of stopping the movement of the physical cheque which is to be
truncated at some point en-route to the drawee branch and an electronic image of the cheque
would be sent to the drawee branch along with the relevant information like the MICR fields,
date of presentation, presenting banks etc. Thus, the CTS reduces the probability of frauds,
reconciliation problems, logistics problems and the cost of collection.
The cheque truncation system was launched on a pilot basis in the National Capital Region of
New Delhi on February 1, 2008, with the participation of 10 banks. The main advantage of the
cheque truncation system is that it obviates the physical presentation of the cheque to the
clearing house. Instead, the electronic image of the cheque would be required to be sent to the
clearing house. This would provide a more cost-effective mode of settlement than manual and
MICR clearing, enabling realization of cheques on the same day. Amendments have already
been made in the NI Act to give legal recognition to the electronic image of the truncated
cheque, providing for a sound legal framework for the introduction of CTS.
Currently the effort is on increasing the processing efficiency with respect to paper based
transactions, and as far as possible, to reduce the burden on paper based clearing. Through the
introduction of advanced electronic funds transfer mechanisms, the RBI has been successful in
diverting a large portion of paper based transactions to the electronic route.
Electronic Clearing Service
The Electronic Clearing Service (ECS) introduced by the RBI in 1995, is akin to the Automated
Clearing House system that is operational in certain other countries like the US. ECS has two
variants- ECS debit clearing and ECS credit clearing service. ECS credit clearing operates on the
principle of single debit multiple credits and is used for transactions like payment of salary,
dividend, pension, interest etc. ECS debit clearing service operates on the principle of single
credit multiple debits and is used by utility service providers for collection of electricity bills,
telephone bills and other charges and also by banks for collections of principal and interest
repayments. Settlement under ECS is undertaken on T+1 basis. Any ECS user can undertake the
transactions by registering themselves with an approved clearing house.

Operating from 74 different locations, ECS handles an average of 20 million transactions per
month. It enables easy payments and collections for repetitive and bulk transactions. ECS takes
off a lot of burden of paper work from the banks, enabling smooth flow of transactions. The
volume of electronic transactions has increased at an annual average growth rate of 32.1% during
FY05-FY09. The use of ECS (credit) and ECS (debit), in particular, has witnessed substantial
growth in the last few years.
The RBI has recently launched the National Electronic Clearing Service (NECS), in September
2008, which is an improvement over the ECS currently operational. Under NECS, all
transactions shall be processed at a centralized location called the National Clearing Cell, located
in Mumbai, as against the ECS, where processing is currently done at 74 different locations. ECS
system has a decentralised functioning, and requires users to prepare separate set of ECS data
centre-wise. Users are required to tie-up with local sponsor banks for presenting ECS file to each
ECS Centre. As on September 2008, 25000 branches of 50 banks participate in the NECS.
Leveraging on the core banking system, NECS is expected to bring more efficiency into the
system.
Electronic Funds Transfer Systems
The launch of the electronic funds transfer mechanisms began with the Electronic Funds
Transfer (EFT) System. The EFT System was operationalised in 1995 covering 15 centres where
the Reserve Bank managed the clearing houses.
Special EFT (SEFT) scheme, a variant of the EFT system, was introduced with effect from April
1, 2003, in order to increase the coverage of the scheme and to provide for quicker funds
transfers. SEFT was made available across branches of banks that were computerised and
connected via a network enabling transfer of electronic messages to the receiving branch in a
straight through manner (STP processing). In the case of EFT, all branches of banks in the 15
locations were part of the scheme, whether they are networked or not.
A new variant of the EFT called the National EFT (NEFT) was decided to implemented
(November 2005) so as to broad base the facilities of EFT. This was a nation wide retail
electronic funds transfer mechanism between the networked branches of banks. NEFT provided
for integration with the Structured Financial Messaging Solution (SFMS) of the Indian Financial
Network (INFINET). The NEFT uses SFMS for EFT message creation and transmission from
the branch to the banks gateway and to the NEFT Centre, thereby considerably enhancing the
security in the transfer of funds. While RTGS is a real time gross settlement funds transfer
product, NEFT is a deferred net settlement funds transfer product. As the NEFT system
stabilized over time, the number of settlements in NEFT was increased from the initial two to
six. NEFT now provides six settlement cycles a day and enables funds transfer to the
beneficiaries account on T+0 basis, bringing it closer to real time settlement.
The commencement of NEFT led to discontinuation of SEFT, and EFT is now available only for
government payments. With the SFMS facility, branches can participate in both the RTGS and
the NEFT System. It is envisioned that all the RTGSenabled bank branches would be NEFT-
enabled too, so that the customer would have a choice between RTGS or NEFT, based on time
urgency, value of the transaction and different charges applicable on the two systems. Using the
NEFT infrastructure, a one-way remittance facility from India to Nepal has also been
implemented by the RBI since 15th May 2008.
In order to increase the coverage of NEFT to a wider section of bank customers in semi-urban
and rural areas, an enhancement of the NEFT called the NEFT-X [National EFT (Extended)] is
also proposed for phase wise implementation. This would facilitate non-networked branches of
banks to transfer funds electronically by accessing NEFT-enabled branches for transfer of funds.
NEFT (Extended) would work on a T+1 basis and would ensure wide rural coverage of the
electronic funds transfer system.
RTGS
The other payment and settlement systems deployed were mostly aimed at small value repetitive
transactions, largely for the retail transactions. The introduction of RTGS in 2004 was
instrumental in the development of infrastructure for Systemically Important Payment Systems
(SIPS).

The payment system in India largely followed a deferred net settlement regime, which meant that
the net amount was settled between banks on a deferred basis. This posed significant settlement
risks.RTGS was launched by RBI, which enabled a real time settlement on a gross basis. To
ensure that RTGS system is used only for large value transactions and retail transactions take an
alternate channel of electronic funds transfer, a minimum threshold of one lakh rupees was
prescribed for customer transactions under RTGS on January 1, 2007.
RTGS minimizes systemic risks too, in addition to settlement risks, as paper based funds
settlement through the Interbank clearing are replaced by the electronic, credit transfer based
RTGS system. High systemic risks are posed by high value interbank transfers, so, it is
considered desirable that all major interbank transfers among commercial banks having accounts
with RBI be routed only through the RTGS system. The RTGS system had a membership of 107
participants (96 banks, 8 primary dealers, the Reserve Bank and the Deposit Insurance, Credit
Guarantee Corporation and Clearing Corporation of India Ltd.) as at end-August 2009. The reach
and utilisation of the RTGS has witnessed a sustained increase since its introduction in 2004. The
bank/branch network coverage of the RTGS system increased to 58,720 branches at more than
10,000 centres facilitating the increased usage of this mode of funds transfer.

Technology Vendors
Many Indian banks handled technological issues in house till the late 1990s. Thereafter, the
complications of the business necessitated the engagement of specialized vendors to handle
complex issues. Due to the complexities involved, most banks now prefer to engage IT vendors
to introduce specialized softwares to help in their risk management systems, retail and corporate
banking, card management systems, complete back office support including data management
systems.



Over the past decade the banking industry has witnessed many positive developments. The
banking industry in India compares quite well with many of its international counterparts on
metrics such as growth, NPAs, ROA, etc. Although the Indian banking industry has witnessed
significant growth in last few years, comparatively lower levels of financial inclusion remains a
concern. A large proportion of the population is still financially excluded, with the number of
bank branches per one lakh (hundred thousand) adults being low (by global standards) at 9.4
branches. Further, the progress made during past decade is limited to a small part of the industry.
While the onus for tackling the emerging challenges lie mainly with bank managements, a
facilitating policy and regulatory framework will be critical for the further development of the
banking industry. The following are some of the challenges faced by the Indian banking sector.
Increase penetration of banking in India- tackle demand supply mismatch
Primarily supply side constraints are responsible for the high levels of financial exclusion in the
country, as they have a causal effect in keeping demand low from certain factions of the
population. The demand supply mismatch, which is reflected in measures of financial exclusion,
shows the limitations on the banks ability to supply products and services.
A large proportion of the population in India, largely concentrated in rural areas is believed to be
financially excluded from formalized credit markets (implies having access to bank credit) and
payments systems (implies not having access to bank accounts). Inaccessible institutional credit
drives these people to use the services of unorganized credit markets which charge interest at
rates in the range of 35-60%. According to the Report of the Committee on Financial Inclusion
(NABARD, 2008) and NSSO, 45.9 million farmer households in India do not have access to
credit, even from noninstitutional sources. Only 27% of farmer households have loans from
institutionalized sources, two-thirds of which also borrow from the unorganized sector. Among
the urban poor class, financial exclusion level is not determined with certainty, since this
population group is highly migratory. But, clearly, north eastern, eastern and central regions
suffer more from financial exclusion than other regions of the country.
Many initiatives are being taken by the RBI and other banks in the country, notably public sector
banks, to increase supply of financial services to the unbanked areas. Introduction of no frills
account (2005) and utilizing services of NGOs and other civil organizations for providing
financial services (2006) are some steps in that direction. The ability of banks to supply products
and services is clearly reflected in the population being served by them per branch, or their
physical presence geographically.

Foreign banks committed to making a play in India will need to adopt alternative approaches to
win the race for the customer and build a value-creating customer franchise in advance of
regulations potentially opening up post 2009. At the same time, they should stay in the game for
potential acquisition opportunities as and when they appear in the near term. Maintaining a
fundamentally long-term value-creation mindset will be their greatest challenge.
Credit disbursement to the priority sector:
One of the major challenges faced by the banking system in India is to provide timely and cost
effective credit to the priority sectors especially the agriculture and Small scale industries, which
are critical in generating employment and support the growth momentum of the economy. After
witnessing robust growth between FY05-FY07, the growth in agriculture credit witnessed some
moderation in FY08. Thus banks are required to ensure availability of credit to the agriculture
sector, which forms the backbone of the Indian economy. With significant slowdown in
economic activity and exports during the latter part of FY09, the credit growth to the micro and
small experienced some moderation. While it is important for the banks to maintain the asset
quality, they also need to direct the credit flow towards small and medium enterprises which play
a critical role in Indias economic development.
Maintain asset quality:
The secured advances made by banks have shown a mild decline in FY09. The unsecured
advances of banks particularly of credit card receivables have increased substantially. In FY09,
the quality of assets of banks has come under scrutiny, as the rising interest rates started putting
pressure on the repayment by borrowers in the H1 FY09. While the interest rates began to soften
in the latter part of the fiscal, the risk of default persisted mainly due to slowdown in economic
activity. Thus a major challenge in the current economic scenario for the Indian banks is to
maintain the gains made with respect to asset quality over the past few years.
In such situations, unsecured advances possess greater risk to business. The sensitive sector
advances is an important indicator towards the quality of assets held by banks. Though this does
not in itself indicate a high risk, the higher exposure signals a greater need for monitoring by the
banks as the susceptibility increases. This is of even greater importance in the current scenario
when capital markets and real estate are extremely risky sectors. The exposures of SCBs to
sensitive sectors have increased inexplicably from less than 3.5% to over 20% within a span of
two years. New private sector banks have the highest exposure to sensitive sectors, largely due to
the exposure in real estate.
Improve risk management mechanism:
Strategies to combat the problem of high risk perception must be taken up by banks on priority
basis. Increased usage of rating services must be employed to reduce risk. Besides, SME specific
risk management procedures must be setup to make the business more viable, as the risk
perception associated with lending to small enterprises is generally very high. Further, the banks
would also be required to acquire skill for managing emerging risks resulting from innovations in
financial products as well as technological advancements.
The availability and ease access to reliable data/information to both banks and
regulators/supervisors of the banking system is a key for prudent risk management. Hence,
strengthen the existing system would be another challenge for the banking industry. More over
the recent global financial market turmoil has accentuated the need for further improvement in
the transparency and disclosure standards.
Technology adoption:
The problem of resistance from workforce has largely been neutralized over the years, but the
primary issue involved with the adoption and rapid integration of technological processes within
banks still related to human resources- the availability of technically skilled resources is scarce.
Technology is not among the core competencies of financial institutions, which necessitates
outsourcing. Banks in India are different from banks in many other countries, in ways that they
have a very large branch network and varied needs specific to regions and customers. Most off
the shelf solutions are not exactly in conformity to the needs of the banks, which makes room for
large customizations.
Besides, a serious concern in implementing complex technologies is protection against frauds
and hackings. Security concern slows down technology adoption significantly for the banking
industry. A fast pace of development of security systems is imperative to the adoption of large
scale innovations in the industry.
Another issue is that of business process reengineering, which is required after computerization.
Failure to successfully carry out BPR neutralizes the benefits that an institution wishes to
accomplish via adoption of a technological process.


Capital Adequacy
The capital adequacy ratio (CAR), measures the amount of a banks capital in relation to its risk-
weighted credit exposures, for all banks in India has improved over the years. This indicates the
cushion the banking system has against potential losses. The capital adequacy ratio for all SCBs
in India over the years has been well above the Basel mandate of 8% and RBIs requirement of
9%. The overall CRAR of all SCBs improved to 13.2% at end-March 2009 from 13% at end-
March 2008 and 12.3% at end March 2007, indicating a relatively higher growth rate in capital
funds maintained by banks than risk-weighted assets. During FY09, the improvement in CRAR
was witnessed across all bank groups except public sector banks which witnessed a marginal
decline in CRAR to 12.3% from 12.5% in FY08. The improvement in CRAR was more
pronounced in respect of foreign banks followed by new and old private sector banks.

At individual bank level, the CRAR of all SCBs was above the prescribed requirement of 9% at
end-March 2008. Around 56 SCBs had a CRAR in excess of 12% during FY08. The
performance of banks in India on capital adequacy parameters has been comparable with
emerging as well as developed economies. In FY09, in view of bank failures in other countries
and domestic safety concerns, the RBI mandated banks to maintain 12% CAR, and assured
assistance to banks to maintain the same. This has required some banks to raise additional capital
or request capital infusion from the RBI.
Asset Quality
The quality of assets held by banks is extremely important for their performance. This is the
guiding factor in the decisions related to the incremental credit disbursement. The gross and net
NPA ratio has steadily declined since FY01, which indicates an improving quality of credit. The
gross NPA ratio, which stood at 2.3% in FY09, was at over 15% in FY97. The net NPAs of these
banks during the same period declined from 8.1% to 1.1%. These figures compare favourably
with the international trends and have been driven by the improvements in loan loss provisioning
by the banks as also by the improved recovery climate enabled by the legislative environment.
The remarkable improvement in the NPA ratios despite progressive tightening of the asset
classification norms by the RBI over the years is indeed a notable development for the banking
industry.
However, during FY08 the gross NPAs of SCBs increased in absolute terms for the first time
since FY02. The gross NPAs of SCBs increased by Rs. 61.36 bn during FY08. Hardening of
interest rates is likely to have made repayment of loans difficult for some borrowers leading to
increase in gross NPAs especially in the housing portfolio where the loan is extended on floating
rates.
The asset quality of public sector banks and old private banks as reflected in the absolute gross
NPAs improved, though that of new private banks and foreign banks declined during FY08. The
comparison of Indian banks with other select countries, with regards to asset quality indicates a
globally comparable standing.

Between FY06 and FY08, the net NPA ratio of public sector banks and old private sector banks
declined, while it increased for new private sector and foreign banks. 75 out of the 82 banks in
March 2007 had a NPA ratio of less than 2%. The situation improved to some extent in FY08,
with only 4 banks falling in that bracket. The share of standard assets in total advances increased
to 97.6% in March 2008 from 96.5% in March 2006.
In the H2 FY09, the gross NPA ratio of foreign banks and new private sector banks witnessed
significant increase indicating deteriorating asset quality of these banks on account of slowing
economic activity following the global economic crisis. Despite extension of certain relaxations
permitted to banks to restructure certain advances both gross and net NPAs increased during
FY09, thereby increasing the need for better risk management to avoid future deterioration in
asset quality. Net NPAs of nine banks were in excess of 2 per cent of net advances in FY09.
During the Second quarter monetary policy review of FY10, RBI advised banks to augment their
provisioning cushions consisting of specific provisions against NPAs as well as floating
provisions, and ensure that their total provisioning coverage ratio, including floating provisions,
is not less than 70%. The ratio of provisioning made by the banking system to total non
performing loans indicates the ability of the system to absorb shocks. The ratio of provisions and
contingencies of SCBs to total assets stood at 1.12% in FY09, higher compared to 0.94% in
FY08.
Liquidity position

At this time, liquidity has become an all important factor for the financial stability of the
economy and of the banking system. The maturity profile of the assets and liabilities is an
indicator towards the liquidity risk of the bank. The SCBs have 64.27% term deposits in FY08,
which has been broadly maintained over the years. Term loans in comparison stands at 57.99%
of total deposits. The liquidity position in the financial markets was very volatile throughout
FY09, with call money rates witnessing violent spurts, crossing the 20% mark on one occasion.
The liquidity situation eased towards the end of Q3 FY09, backed by a plethora of measures
being announced by the RBI. Liquidity with the banks is expected to be comfortable with
additional funding windows from the RBI open. However, how much of this shall translate into
credit disbursal shall depend on other market factors too.