Chapter – 2 : INDIAN BANKING SYSTEM

2.1. Indian Banking System

2.2. Reforms in Banking Sector
2.3. 10 years of Reforms

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 2.1

THE INDIAN BANKING SYSTEM

The word 'Bank' is said to be derived from French word "Bancus" or " Banque", i.e., a bench. It is
believed that the early bankers, the Jews in Lombardy, transacted their business on benches in the
market place. Others think it is derived from German word "Back" meaning a Joint stock fund.
The modern banking System started with the opening of Bank of England in 1694. Bank of Hindustan
was the first bank to be established in India, in 1770. The earliest institutions that undertook banking
business under the British regime were agency houses which carried on banking business in addition
to their trading activities. Most of these agency houses were closed down during 1929-32. Three
presidency banks known as Bank of Bengal, Bank of Bombay and Bank of Madras were opened in
1809, 1840 and 1843 respectively at Calcutta, Bombay and Madras. These were later merged into
Imperial Bank of India in 1919 following a banking a crises.
The first bank of limited liability managed by Indians was Oudh Commercial Bank started in 1881.
Earlier between 1865 and 1870, only one bank, the Allahabad Bank Ltd., was established. Subsequently
the Punjab National Bank started in 1894 with its office at Anarkali Market in Lahore (now in Pakistan).
Swadeshi movement, which started in 1906, prompted formation of a number of commercial banks
such as the Peoples Bank of India Ltd., the Bank of India Ltd., the Central Bank of India, the Indian
Bank Ltd. and the Bank of Baroda Ltd. Banking crises between 1913-1917 witnessed the failure of 588
banks. The Banking companies (Inspection Ordinance) came in January-1946 and the Banking
Companies (Restriction of Branches) Act was passed in February- 1946. The Banking companies Act
was passed in February 1946, which was later, amended to be known as Banking Regulation Act
1949.
Meanwhile, the RBI Act 1934 was passed and the Reserve Bank of India became the first Central
Bank of the country. w.e.f. 01.04.1935, it tookover the Central Banking activities from the Imperial Bank
of India. The RBI was nationalised on 1.1.1949. The Imperial Bank of India was partially nationalised to
form the State Bank of India in 1955. In 1959, subsidiaries of the SBI namely, State Bank of Bikaner &
Jaipur, State Bank of Hyderabad, State Bank of Indore, State Bank of Mysore, State bank of Patiala,
State Bank of Saurashtra and State Bank of Travancore were established.
On July 19th 1969, the Govt. of India took over the ownership and control of 14 major banks in the
Country with deposits exceeding Rs. 50 crore each. Again on 15th April 1980, six more banks with total
time and demand liabilities exceeding Rs. 200 crore were nationalised. On 4th Sept. 1993, one of the
nationalised banks namely New Bank of India was merged with another nationalised bank i.e. Punjab
National Bank.
At the end of June 2004, there were 286 schedule commercial banks in the country, with a network
of 67,097 branches. Scheduled commercial banks are banks that are listed in the second schedule to
the Reserve Bank of India Act, 1934, and may further be classified as public sector banks, private
sector banks and foreign banks. Industrial Development Bank of India was converted into a banking
company by the name of Industrial Development Bank of India Ltd. with effect from October 2004 and
is a scheduled commercial bank. Scheduled commercial banks have a presence throughout India, with
nearly 70.2% of bank branches located in rural or semi-urban areas of the country.

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 There are 27 public sector banks in India. They include the SBI and its associate banks and 19
nationalised banks. Nationalised banks are governed by the Banking Companies (Acquisition and
Transfer of Undertakings) Act 1970 and 1980. The banks nationalised under the Banking Companies
(Acquisition and Transfer of Undertakings) Act 1970 and 1980. The banks nationalised under the Banking
Companies (Acquisition and Transfer of Understandings) Act 1970 are referred to as 'corresponding
new banks'. At the end of June 2004, public sector banks had 46,715 branches and accounted for
74.7% of the aggregate deposits and 70.1% of the outstanding gross bank credit of the scheduled
commercial banks.
In July 1993, as part of the banking reform process RBI permitted the introduction of "new" private
sector banks. There are nine "new" private sector banks operating at present.
At the end of June 2004, there were around 33 foreign banks with 200 branches operating in India,
accounting for 4.7% of aggregate deposits and 7.3% of outstanding gross bank credit of scheduled
commercial banks. The Government of India permits foreign banks to operate through (i) branches; (ii)
a wholly owned subsidiary or (iii) a subsidiary with aggregate foreign investment of up to 74% in a
private bank. The primary activity of most foreign banks in India has been in the corporate segment.
However, some of the larger foreign banks have made consumer financing a significant part of their
portfolios. These banks offer products such as automobile finance, home loans, credit cards and
household consumer finance. The GoI in 2003 announced that wholly-owned subsidiaries of foreign
banks would be permitted to incorporate wholly-owned subsidiaries in India. Subsidiaries of foreign
banks will have to adhere to all banking regulations, including priority sector lending norms, applicable
to domestic banks. In Mach 2004, the Ministry of Commerce and Industry, GoI announced that the
foreign direct investment limit in private sector banks has been raised to 74% from the existing 49%
under the automatic route including investment by FIIs. The announcement also stated that the aggregate
of foreign investment in a private bank from all sources would be allowed up to a maximum of 74% of
the paid up capital of the bank. The RBI notification increasing the limit to 74% is however still awaited.

PRE-REFORMS DEVELOPMENT
1. Lead Bank Scheme
On the recommendations of FKF Nariman Committee, the Lead Bank Scheme was introduced in
December 1969. Under the scheme the country was divided into 338 districts and they were distributed
among major scheduled banks mostly in Public Sector to play the 'Lead' role.
2. Co-operative Banks
Co-operative banks were started to cater the needs of the rural areas and small borrowers with
focus on financing the farm sector. These are established under State Cooperative Societies Acts of
different states and include: -
a) Cooperative Banks which has a three tire set up: -
i) State Cooperative Bank, which is the apex cooperative bank at the State level.
ii) Central Cooperative Bank at District level.
iii) Primary Cooperative Bank at the grass root level.

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 b) Cooperative Credit Societies viz. Land Development Banks. E.g. State Land Development
Bank (SLDB) and Primary Land Development Bank (PLDB) and Land Mortgage Bank. They
provide long-term credit for agriculture.
c) Primary agriculture credit Societies (PACS), large sized Adivasi Multi purpose Societies
(LAMPS), Farmers Service Society (FSS) etc.
The RBI regulates these banks since 1st March 1966. In light of the liquidity and insolvency problems
experienced by some cooperative banks in fiscal 2001, the RBI undertook several interim measure to
address the issues, pending formal legislative changes, including measures related to lending against
shares, borrowings in the call market and term deposits placed with other urban cooperative banks.
The RBI is currently responsible for supervision and regulation of urban co-operative societies, the
National Bank for Agriculture and Rural Development, state co-operative banks and district central co-
operative banks. The Banking Regulation (Amendment) and Miscellaneous Provisions Bill, 2003, which
was introduced in the Parliament in 2003, proposed the regulation of all co-operative banks by the RBI.
The Bill has not yet been ratified by the Indian Parliament and is not in force.

3. Regional Rural Bank (RRB)

On the recommendations of Narasimham Committee, the concept of Regional Rural Bank (RRB)
was introduced in India. Initially 5 RRBs started in UP, Rajasthan, Haryana, Bihar and West Bengal on
2nd October 1975. Each RRB has the maximum authorised capital of Rs. 5 crore and an issued capital
of minimum Rs. 25 lacs and maximum Rs.1 crore. The share capital of an RRB is subscribed by
Central Government, State Govt. and Sponsoring Bank in the ratio of 50:15:35 respectively. There are
196 RRBs in all. PNB sponsored RRBs are 19 in number. At the end of June 2004, RRBs have 14,433
branches, which accounts for 3.6% of aggregate deposits and 2.9% of gross bank credit of SCBs. After
recent amalgamation, PNB sponsored RRBs are reduced to 9 covering 6 states.

4. Some Important Financial Institutions :

A) National Bank for Agriculture and Rural Development (NABARD)
It was established on 12th July 1982 as an apex bank for agriculture and rural development in
accordance with the recommendations of The Committee to Review Arrangements for Institutional
Credit for Agriculture and Rural Development (CRAFICARD) set up by the RBI under the chairmanship
of Sri B. Sivaraman. It took over the functions of erstwhile Agriculture Credit Department (ACD), Rural
Planning & Credit Cell (RPCC) of RBI and Agricultural Refinance and Development Corporation (ARDC).
Its paid up capital was Rs. 100 crore which was enhanced to Rs. 500 crore, contributed by the
Government of India (GOI) and RBI in equal proportions. Currently it is Rs. 2000 crore, contributed by
GOI (Rs. 550 crore) and RBI (1450 crore). NABARD operates throughout the country through its 28
Regional Offices and one sub-office, located in the capitals of all the states/UTs. It has 336 District
Offices. It provides refinance assistance to State Cooperative Agriculture and Rural Development Banks
(SCARDBs), State Cooperative Banks (SCBs), RRBs, Commercial Banks and other financial institutions
approved by RBI in respect of credit to agriculture, SSI, and other allied activities in rural areas. Investment
credit is given to individuals, partnership concerns, companies, State-owned Corporations or cooperative
societies, production credit is generally given to individuals. It also grants advances to state Govt. for
maximum 20 years for subscribing directly or indirectly to share capital of cooperative societies. It
undertakes and coordinates all promotional activities for rural development viz. policy formulation,
research and training and also supervises the same.

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B) Export Import Bank of India (EXIM Bank)
It was established on 1.1.1982 as an apex bank for export- import activities, financing, facilitity &
promoting foreign trade of India) wholly owned by Govt. of India. At present, its paid up capital is Rs.
500 crores. It borrows from open market through issue of shares and debentures and also from RBI. It
is the principal Financial Institution in the country for coordinating working of institutions engaged in
financing exports & imports.
It provides financial assistance to exporters and importers directly and also indirectly as refinance
(of term loan, export credit etc.), export bill rediscounting, guarantee cum refinance to banks and other
notified financial institutions for their advances to this sector and coordinates the working of other
institutions engaged in financing export import activities. It also provides investment finance to Indian
companies and undertakes activities like buying selling or other dealings of foreign exchange. It also
undertakes forfaiting. It is also engaged in various activities relating to overseas entities. A special fund
called "Export Development Fund" has been established for research, training, market survey etc. with
regard to foreign trade. The Bank is involved in promotion of two way technology transfer through the
outward flow of investment in Indian joint ventures overseas and foreign direct investment flow to India.
It is also a partner Institution with European union and operater for fecilitating promotion of joint ventures
in India through technical & financial collaboration with medium size firm of the European Union.

C) National Housing Bank (NHB)

It was established on 9.7.1988 as wholly owned subsidiary of RBI. Its authorised capital can be
raised to Rs. 500 crores. Its paid up capital at present is Rs. 100 crore. It is an apex financial institution
for monitoring, regulating and promoting housing finance. It issues directions to HFCs to ensure their
growth on sound lines, make loans and advances and render any other form of financial assistance to
schedule banks and HFCs and formulation schemes for the purpose of mobilization of resource and
extention of credit for housing. It has since established guidelines for deposit acceptance, interest
rates, terms and conditions of sanction of loans, capital funding, debt equity ratio etc. for Housing
Finance Companies (HFCs). It also provides refinance as well as equity support to HFCs. Home loan
account scheme was introduced by NHB on 1.7.89 to be operated through the commercial and
cooperative banks. But this scheme stands discontinued now.

D) Housing and Urban Development Corporation Ltd (HUDCO)

It was set up in 1970 as a Govt. of India undertaking for financing and undertaking housing and
urban development. It provides loans to public institutions viz. State Housing Boards, Cooperative
Societies etc.

E) Housing Development Finance Corporation (HDFC)

It was incorporated on 17.10.77 under Companies Act. 1956. The FI caters to the needs of residential
housing. HDFC Bank is its subsidiary.

F) Industrial Development Bank of India (IDBI)

It is India's premier Development Financial Institution (DFI) and 10th largest development bank of
the world. It was established on 1.7.64 as wholly owned subsidiary of RBI. Its ownership was transferred
to Govt. of India on 16.2.76, which now holds 72% of shares. Its authorised capital is Rs. 1000 crores

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which can be increased further to Rs. 2000 crores. During 1995-96, it issued 17.31 lakh shares to the
public at a premium of Rs.120 per share. Besides owned funds, its resources are loans from RBI and
Govt. SLR bonds, retail bonds, deposits and foreign currency loans and bonds. It provides financial
assistance to industry directly as well as indirectly by way of refinance. SIDBI and IDBI Bank are its
subsidiaries. It has co-sponsored a number of financial institutions e.g. National Stock Exchange of
India, Over the Counter Exchange of India, Discount & Finance House of India, etc. Industrial
Development Bank of India was converted into a banking company with the name of Industrial
Development Bank of India Ltd. within the meaning of the Bank Regulation Act and the Companies Act
with effect from October, 2004. It is currently able to carry on banking operations in addition to the
business being transacted by it as a term lending institution. IDBI Ltd. & IDBI Bank stands amalgamated.

G) Industrial Finance Corporation of India (IFCI) Ltd.

It was established in July 1948 for catering to medium and long-term credit needs of industry in
setting up new industrial projects, renovation, modernisation, diversification and expansion of existing
units particularly in circumstances, when normal banking accommodation is inappropriate and / or
when there is no recourse to capital issue. It also grants loans in foreign currencies for import of capital
goods only. It also undertakes promotional services viz., Technical Consultancy Services (TCS), Risk
Capital Assistance, up gradation of managerial skill, R&D in Banking and Industrial Economics. It has
promoted several specialised institutions viz. Tourism Finance Corporation of India (TFCI), ICRA Ltd,
Risk Capital and Technical Finance Corporation Ltd (RCYC) etc. It is also nodal agency for administration
of "Sugar Development Fund" and " Jute Modernisation Fund" set up by Govt. of India. It became a
public limited company on 1.7.1993. IDBI, LIC and other retail investors subscribe majority of its share
capital. They command nearly half of its paid equity capital (Rs. 352.81 crore as on 31.3.97). It has
issued fully paid up preference capital of Rs. 100 crores during 1997-98.

H) Industrial Reconstruction Bank of India (IRBI)

It was established in 1971 as Industrial Reconstruction Corporation of India and reconstituted in

1986 as Industrial Reconstruction Bank of India with authorised capital of Rs. 200 crores. It was set up
as principal credit and reconstruction agency for revival / rehabilitation of sick industrial units. It also
coordinates similar activities of other institutions. In 1991, it was allowed to finance the going concerns.
IRBI now advances term loans, hire purchase, equipment leasing etc. and also undertake merchant
banking business. It also raises resources from public through bond issue and other instruments.

I) Industrial Credit and Investment Corporation of India (ICICI)

It was established in 1955 as private sector development bank for encouraging and assisting
industrial investment in private sector and also promoting participation of private capital, both internal
and external in industrial investment. Major Indian subscribers are LIC, GIC and its subsidiaries, UTI
and banks. Its resources are rupee loans of Govt. of India, IDBI, lines of credit from World Bank,
borrowings from domestic / international capital markets etc. It has also entered into Rs. 167 crores
structured deal of asset securitisation with Telco against latter's receivables of truck leasing and hire
purchase business. It has merged with its banking arm ICICI bank.

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J) Small Industrial Development Bank of India (SIDBI)
It was established under SIDBI Act. 1988 on 2.4.90 as subsidiary of IDBI taking over the latter's
activities relating to SSI. It is now the apex institution for small industries. It has recently introduced
factoring services for SSIs. Its share capital stood at Rs. 450 crore as on 31.3.1997.

SIDBI SME Fund :

Objective :
❏ Making available timely and adequate financial resources for the sector at competitive rates
i.e. 2% below the PLR of SIDBI i.e. @ 9.5% p.a.
❏ Proper and dedicated coverage for "Medium Sector" in India for financial assistance, especially
for small-scale sector units graduating to the medium scale.
Instrument for assistance : For the present, Term Loans and Bill discounting facility are covered
under the Fund.
Definition of Medium Sector : A unit having investment in plant and machinery in excess of SSI
limit and upto Rs.10 crore would be considered as Medium Sector Enterprise. There is no change in
the present definition of SSI unit.
K) Infrastructure Development Finance Co. (IDFC)
It was set up in 1997 as a non government company for financing infrastructure sector with authorised
capital of Rs. 5000 crore and initial capital based of Rs. 1600 crore- comprising of Rs. 1000 crores as
paid up capital and Rs. 600 crores as long term subordinated debt. Out of the initial paid up capital of
Rs. 1000 crores, Rs. 600 crores have already been contributed by domestic FIs and remaining Rs. 400
crores is tobe received from overseas agencies.

L) Power Finance Corporation (PFC)

It was incorporated on 10.7.1986 as prime DFI, dedicated to growth and development of power
sector

M) LIC
It is largest institutional investor in this country and invests under Section 27-A of the Insurance
Act, 1938.
N) GIC
Besides being a holding company of 4 Public Sector Insurance Companies, GIC has made
investment in socially oriented sectors.

O) UTI
It is a statutory public sector investment institution set up in 1964. It mobilises community savings
through the sale of its units under various schemes and invests them in the shares & debentures of the
companies. The profit so earned is distributed among the investors in the form of dividend.

P) DFHI
It was set up in April 1988 with an authorised capital of Rs. 200 crores, subscribed by RBI (10.5%),
PSU Banks (62%) and FIs (26.6%). It facilitates the softening of short-term liquidity imbalances by
developing & co-ordinating an active Money Market.

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Q) DICGC
The Deposit Insurance Corporation was established on 1.1.1962 and took over the Credit Guarantee
Corporation of India Ltd. in July 1978. Its name was changed to DICGC. The RBI wholly owns its share
capital Rs. 50 crores. Recently, many Banks including PNB have opted out of the credit guarantee
schemes. The name has been changed as BDIC through Finance Bill 2002-03.

R) ECGC
ECGC offers protection to Indian exporters from the risks inherent in selling goods on credit to
foreign buyers.

S) NORTH EASTERN DEVELOPMENT FINANCE CORPORATION LTD. (NEDFi)

❏ North Eastern Development Finance Corporation Ltd. (NEDFi) was incorporated under the
Companies Act, 1956, on August 9, 1956 with its registered office at Guwahati, Assam, for the
development of industries, infrastructure, animal husbandry, agri-horticulture plantation,
medicinal plantation, sericulture plantation, aquaculture, poultry and dairy in the North Eastern
states of India.
❏ NEDFi has been promoted by All India Financial Institutions - Industrial Development Bank of
India, ICICI Ltd., Industrial Finance Corporation of India, Small Industries Development Bank
of India, Insurance companies - Life Insurance Corporation of India, General Insurance
Corporation and its subsidiaries, Investment company - Unit Trust of India and Bank - State
Bank of India.
❏ NEDFi's authorized share capital is Rs. 500 crore and its initial paid up capital is Rs.100 crore.
❏ The Management of NEDFi has been entrusted upon the Board of Directors comprising of
eminent persons from the NE region and outside having wide experience in Industry,
Econonmics, Finance and Management. At present, the Board has ten members.

SME Rating Agency of India Ltd. (SMERA)

❏ Set up by SIDBI in association with Dun & Bradstreet (D&B), Credit Information Bureau (India)
Limited (CIBIL) and leading public and private sector banks on 5th September, 2005.
❏ Provides SME ratings that are comprehensive, transparent and reliable so as to reflect their
intrinsic strength.

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 2.2

REFORMS IN FINANCIAL / BANKING SECTOR

With effect from Ist February 1969, the Govt. imposed "Social Control" on banks. Soon after the
first nationalisation of 14 major banks on 19th July 1969, the Govt. appointed the Saraiya Commission
in 1969, to examine the banking system and recommended ways to make it efficient in working in
coordination with Govt. policies for national economic development. One of the main recommendations
of the committee was related to the reconstruction of the banking system into 8 or 9 banks, consisting
of 3 all India banks SBI and 2 of the nationalised banks plus 5 or 6 regional banks with overlapping
jurisdiction over the neighbouring areas. This was not accepted. However, almost all the
recommendations of the commission regarding bank's operations so as to simplify the credit procedure
and rationalise the internal control system and organisational management, were accepted. Accordingly,
section 19 of the BR act. 1949 was amended to allow the banks to form subsidiaries.
Owing to 1991 crisis of balance of payment, the Govt. appointed Narsimham Committee on 14th
August 1991. It submitted its report, known as its first report, on 16th Nov.'1991. The first phase of
banking sector reform started during 1992-93 was based on twin principles of "Operational Flexibility"
and "Functional autonomy".

NARASIMHAM COMMITTEE – I REPORT

The main recommendations are as follows: -
i) SLR & CRR
– SLR to be brought down to 25% over a period of 5 years.
– The interest of SLR securities should be market oriented.
– CRR to be reduced progressively and interest rate on CRR to be fixed at the level of bank's
one-year deposit.
ii) PRIORITY SECTOR LENDING
– The target of priority sector lending to be reduced to 10% of total credit.
– Priority sector credit to be redefined, and subsidy in development programmes may be withdrawn
iii) INTEREST RATES
– Interest rates on Govt. securities to be in line with market rates.
iv) CAPITAL ADEQUACY
– Banks to achieve Capital Adequacy Norms of as under:
– Foreign banks- achieve 8% norm by March 1993
– Indian Banks having branches abroad to achieve 8% by March-94.
– Other Indian Banks to reach 4% by March 93 and 8% by March 96.

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v) *ACCOUNTING POLICIES:
– Investment portfolio to be bifurcate into permanent and current category and full provisions
must be made for depreciation in case of current category.
– Classification of Loans assets into four categories namely, i) Standard Assets, ii) Sub standard
assets, iii) Doubtful assets and iv) Loss assets.
– For Standard, Sub standard, Doubtful and Loss asserts, provisioning should be done on the
following basis: Standard 0.25% (w.e.f. 31.03.2000); Sub-standard 10% of total outstanding;
Doubtful Asset 100% of security shortfall plus 20%, 30% or 50% depending on the age of
doubtful advance and Loss assets 100% of outstanding.
*INCOME RECOGNITION
– In case of Non-performing assets, no interest should be recognised unless it is actually received.
vi) New Institution :
– Special recovery Tribunals (Debt Recovery Tribunals) to be set up for speedy recovery of bank
dues.
– Asset Reconstruction fund to be formed to take over the bad and doubtful debts from banks.
vii) Entry of Private Sector Banks :
– No further nationalisation of banks.
– No difference in treatment between public sector and private sector banks
– No bar to open banks in private sector
– More foreign banks should be allowed to open branches in India.

viii) Branch Licensing Policy

– Branch Licensing policy to be abolished
ix) Staff Related Issues:
– A portion of the posts in different cadre should be filled up from open market in view of the
need for special expertise.
– Accelerated Promotion opportunities to skilled and talented officers to proven merit.
– Banks to recruit officers directly and clerks through BSRBs
– A panel of eminent persons should select chairman and MDs/EDs.
– RBI needs not to have representation in Bank Boards.
x) Supervision of Financial Sector :
– The duality of control over banking system by RBI and by Banking Division of Ministry of
Finance should be stopped. RBI should be the primary agency to regulate Banking system.
– RBI should review the directions given by the Govt. with a view to decide on their relevance.
– A Quasi Autonomous Banking Supervisory Board (Board for Financial Supervision) to be set
up for supervision of banks and financial institutions.

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 xi) Legislative Measures:

– The banking companies (Acquisition and Transfer of Undertaking) Act 1970 / 1980 to be
amended to raise Paid up capital and raise equity from the market.

– Banking Regulation Act to be amended to give effect to transparency and disclosure.

– RBI Act 1934 to be amended to allow the to banks perform all types of banking business.

The second phase of reforms :

The second phase of reforms envisaged greater autonomy to Priority Sector banks with respect
to recruitment and promotion of staff, better asset liability management, lesser external
intervention and pressures etc. The focus of the banks will, therefore, be on profit maximisation,
NPA recovery management and diversification through merger, acquisition and participation
with peers in the market.

NARASIMHAM COMMITTEE REPORT (II)

❏ RBI should withdraw from 91 days T Bill market. Inter-bank and call money and term money
markets should be restricted only to banks and primary dealers.

❏ Minimum shareholding by the Govt./RBI in the equity of Nationalised bank and SBI should be
brought down to 33%. RBI directors should be withdrawn from bank boards.

❏ 5% risk weight be considered for market risk for government and approved securities. Govt.
guarantee advance those have turned sticky should be treated as NPA.

❏ Banks should attain a minimum CRR of 9% by 2000 AD and 10% by 2002 AD.

❏ Accrual of interest for income recognition should be done in 90 days instead of 180 days

❏ Minimum start up capital needs for foreign banks should be raised from $ 10 million to $ 25 million.
This capital should be brought in one go and no in phases. Foreign banks should be allowed to set
up subsidiaries or joint ventures in India and these should be treated on par with other private
banks.

❏ Bank Chairman should be given a minimum of three years at the helm. Need to delink salaries of
bank and FIs chiefs and whole time director from the Civil Services pay scale.

❏ All loans in doubtful / loss category should be identified and their realisable value determined.
These assets could be transferred to an Asset reconstruction Company which would issue NPA
swap bond to the banks

❏ SBIs associate banks should be constituted on the lines of Nationalised Banks with CMD and two
whole time directors. No need for SBI Chairman to be ex-officio Chairman of these banks.

❏ The start up requirements of Rs. 100 crore for new private sector banks should be hiked. Restriction
on promoters voting right (at present 10%) should be done away with provided the promoter group
does not hold more than 14% of equity.

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REPORTS OF OTHER IMPORTANT COMMITTEES
VERMA COMMITTEE REPORT ON WEAK BANKS
The committee was constituted on 8.2.1999 for suggesting of weak banks. The committee submitted
report on 3.10.1999. The major recommendations are as under: -
1. OPERATIONAL :
– Cut staff strength by 25% through VRS
– If VRS scheme fails cut wages across the board
– Effective five year wage freeze
– Close down subsidiaries of these banks, sell off foreign branches
– Set up Govt. owned ARF manage by private sector AMC

2. ORGANISATIONAL :
– Rationalise branch network
– Reconstruct Bank Boards The committee used the following 7
– CMD should have long tenure parameters for identification of banks
– Appoint 2 EDs in big bank strength/weakness :

3. SYSTEMIC : 1. Capital Adequacy Ratio 8% or more

– RBI to set up a special wing to supervise weak banks 2. Coverage ratio 0.50% ore more
– Nodal body to monitor progress of weak banks 3. Return on assets Median level
– Debt Recovery tribunals to work on war footing
4. Net Intt. Margin – do –
4. FINANCIAL : 5. Profit/ Av. Working fund – do –
– Spend Rs. 5500 crore over next 3 years on
6. Cost/Income – do –
– Rs. 300-400 crores on technology up gradation
7. Staff cost/ Income – do –
– Rs. 1100 - 1200 crore on VRS
– Rs. 1000 crore on NPA buy out
– Rs. 3000 crore for capital adequacy
Three weak banks identified were UCO Bank, Indian Bank and United Bank of India. The Committee
identified key problems for their dismal performance and suggested ways for improvement. Out of 3
weak banks, two banks viz. UCO Bank and United Bank of India came out of the weak banks' category
during 2000-2001. Dena Bank, however, appears to be the latest entrant. However, during the year
ended March '2002, all these banks have shown net profit.
GHOSH COMMITTEE 1993
– This committee was appointed by RBI at the instance of Govt. of India under the chairmanship
of Mr. A. Ghosh (the then Dy. Governor of RBI) to enquire into various aspects of frauds and
malpractices in banks.
Main recommendations accepted by RBI w.e.f. 26.9.93 are;
– Photographs of operators should be obtained while opening new deposit accounts
– Bank to nominate a senior level officer as 'Compliance Officer' who should ensure and report
that various items of work in different departments are carried out strictly in accordance with

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 system and procedures laid down by bank. He should ensure that all RBI/Board instructions
are meticulously observed.
– Bank should provide desk cards (Job-Work) for different type of works to help the employees
understand and observe their duties.
– Cash and other valuables must be kept in joint custody. Currency Chest Transactions should
be reported to RBI on the same day.
– No official should exceed his delegated authority except in every emergent circumstances
– Cash should not be received other than in the cash department and cashier should not be
allowed to make entries in passbook.
– The paying cashier before making payment must ensure that the token number and signature
of the person are obtained without fail

PADMANABHAN COMMITTEE 1995

– Appointed by RBI in 1995 to suggest changes in the approach and style of inspection and
follow up by the Central Bank, under chairmanship of S. Padmanabhan (Former Chairman of
Indian Overseas Bank)
– Recommendations are yet to accepted by RBI. The major recommendations are;
i) On going supervision
– Shift from the current system of periodical inspection to on going or continuous supervision
ii) CAMEL Rating Model
– Each bank should be raised on a five score scale A to E indicating in descending order the
soundness and strength of the bank
– For Indian Banks the rating will be based on six parameters (C.A.M.E.L.S): i) Capital Adequacy,
ii) Asset Quality, iii) Management, iv) Earnings, v) Liquidity and vi) Systems and control
– For foreign banks the raring will be based on four parameters (C.A.C.S.): i) Capital Adequacy,
ii) Asset Quality, iii) Compliance & iv) Systems and control
– Penodicity of supervision should be discriminatory based on bank's rating

CAMELS
RBI has approved a plan to rate the banks on the basis of CAMELS - a rating method on a scale
of 1 to 100.
CAMELS COMPONENTS WEIGHTAGE
1# Capital to Risk Weighted Asset Ratio (CRAR) 70
2# Quality of Capital 10
C :- CAPITAL ADEQUACY 3# Ability to assess capital market 10
4# Asset growth and risk profile 10
1# Ratio of net NPAs to net advances 40

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 A :- ASSET QUALITY 2# Adequacy of lending policy 20
3# Management of Investment portfolio 20
4# Debt Recovery 10
5# Adequacy of provisions 10
1# Working of Board 20
M :- MANAGEMENT 2# Technical Competence 20
3# Effectiveness of Management in laying down policies 20
4# Adequacy of Control 20
5# Achievement of Corporate Mission 10
6# Effectiveness of various committees 10
1# Return on Assets 40
2# Return on Equity 20
E :- EARNINGS 3# Net Interest Margin 10
4# Ratio of non-interest income to non-interest expenses 10
5# Ratio of retained earnings to net profit 10
6# Operating profit as percentage to total assets 10
1# Liquidity of Appraisal - Stock Approach 30
2# Liquidity of Appraisal - Flow Approach 30
L :- LIQUIDITY 3# Effectiveness of Asset Liability Management 20
4# Access to markets 10
5# Compliance of CRR 10
S :- SYSTEMS AND 1# Adequacy of Internal Inspection 30
CONTROLS
On the basis of weightages attached to each of the components, the banks would be provided
with a composite ranking under 4 categories from A to D. While category A denotes a sound institution,
category D implies serious financial, operational and managerial weaknesses

RASHID JILANI COMMITTEE (May 1992)

– This committee was set up on 15th May 1992 under the chairmanship of Mr. Rashid Jilani,
Chairman Punjab National Bank, to suggest alternate method of lending in place of the present
cash credit system. The committee's main recommendations include:
– Permitting Authorised Dealers to initiate Cross Currency Position Overseas
– Allowing Banks to lend and borrow short term funds upto six months in overseas market
– Permitting exporters to retain 100% of their export earning in foreign currency in India
– Setting up off shore Banking unit in Bombay
– Giving banks greater freedom to use derivative product for their asset liability management.

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SHERE COMMITTEE (1995)
– Shere Committee, headed by Smt. KS Shere, Principal Legal Advisor, RBI was set up on Aug-
1995 to study all aspects of Electronic Fund Transfer
Its chief recommendations are :
– To start with EFT can be introduced by framing regulations under RBI Act 1934. The committee
has suggested a model EFT agreement tobe entered into between banks themselves and
banks and their customers
– A comprehensive EFT legislation may be enacted after gaining some experience
– Amendment to RBI Act to pave the way for development of multiple EFT system in different
segments like ATMs, EFT POS and other consumer payment systems
– An amendment to Bankers Book of Evidence Act to accord status to admissible evidence to
computer print outs and other electronic records.
Implementation
– RBI is framing regulations under Sec 58 of RBI Act 1934 to implement the EFTS pending
introduction of the proposed Electronic Funds Transfer Act, Computer Misuses Act and
amendments to RBI Act 1934 and Bankers Book Evidence Act 1891

SARAF COMMITTEE (June 1994)

– Set up in June 1994 and known as "Committee on technology issues in the banking industry"
– Chairman WS Saraf, ED RBI
Recommendations are :
– To set up Electronic Fund Transfer System
– To start Electronic Clearing Service
– Decentralisation of cheque clearing
– Introduction of Delivery Vs Payment system in SGL transaction in Govt. securities
– Introduction of Cheque Truncation system
– Promoting Card Culture
– MICR clearing at all places with more than 100 bank branches
– Establishment of an institute on Banking Technology

KALIA COMMITTEE (November 1994)

– The Working Group on Non government Organisation (NGOs) and self help group (SHGs)
was set up in Nov. 1994 under Chairmanship of Shri S. K. Kalia.

MALEGAM COMMITTEE (1995)

– Malegam committee was Set up in 1995 by SEBI (Securities and Exchange Board of India) to
review the existing disclosure requirements for companies making public issues" under the
chairmanship of Mr. YH Malegam (Past President of Institute of Chartered Accountants of
India). It submitted its report on 29.6.1995

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 Recommendations (Accepted by SEBI) are :
– Companies must quantify audit qualifications into actual figures

DR. A.C. SHAH COMMITTEE

– This committee is also known as Working Group on Non-Banking Financial Companies.
– Chairman Dr. AC Shah
Recommendations accepted by RBI are :
– In order to be eligible to accept deposits from public, NBFCs should adhere to the following :
a) All non banking financial companies (NBFCs) having a net worth of Rs. 40 lacs and above
must get themselves registered with RBI
b) The total amount of deposits to be mobilised is to be restricted to certain times of network,
c) They must maintain liquidity ratio @ 10% (i.e. 10% of their deposit liability to be kept in cash/
approved securities)
d) They should get their debt instruments rated by rating agency compulsory

J.V. SHETTY COMMITTEE (January 1993)

– "Committee to Review the system of lending under Consortium Arrangement" was set up
under Chairman of JV Shetty (CMD Canara Bank)

Recommendations (Accepted by RBI) are:

– Where a borrower enjoys fund based working capital credit limit from the banking system for
Rs. 50 crores and above, Consortium should be made obligatory.
– There is no ceiling on the number of banks in a consortium.

VAZ COMMITTEE (1993) (Chairperson Miss I.T. Vaz, ED, RBI)

– Also called in-house group to "Review the role of RBI in laying down norms for bank lending for
Working capital purpose"
Recommendations (Accepted by RBI) are :
– In case of units availing fund based working capital LIMIT OF LESS THAN Rs, one crore, the
working capital is to be computed minimum 20% of their projected turnover
– Banks are given free hand to fix inventory norms etc.

SODHANI COMMITTEE (November 1994) (Chairman—Mr. O. P. Sodhani (the then ED, RBI)
– Sodhani committee, also known as "Export Group on Foreign Exchange Markets in India" was
set up in Nov. 1994.
Recommendations are :
– Permitting Corporate to cancel and rebook option contract and hedge genuine exposure using
options
– Permitting banks to decide their open position limits
– A company can come out with public issue only if it has been in commercial operation for two
years or more and its post issue capital is minimum Rs. 5 crores. However, there is no ban for
any company to go for public issues through OTCEI

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 – Process of public issue need be strengthened further by allowing book building process prior
to offer to public
– Companies with an issue size of Rs. 100 crores or more would be allowed to use the book
building process for that part of the issue which can be allotted on a firm basis as per present
guidelines
– The lead manager to participate upto 5% of the issue size on firm allotment basis.

TARAPORE COMMITTEE RECOMMENDATIONS

The committee on Capital Account Convertibility headed by Shri SS Tarapore, former Dy. Governor
of RBI set up by the RBI presented its report on 3.6.97. The other member of the committee were SS
Bhalla, MG Bhind, Kirti Parikh and AV Rajwade. The committee was of the view that capital account
convertibility (CAC) should be phased over a three-year period ending 2000 with the first phase starting
in 1997-98. Second in 1998-99 and the third falling in 1999-2000. CAC means the freedom to convey
local financial assets into foreign financial assets and view versa at market determined exchange
rates. It implies freedom to citizen to buy and sell foreign exchange and utilize it for defined purposes.
The committee recommends the phased liberalisation of capital inflows and outflows to allow for the
following:
a) Allowing Indian companies to invest upto $ 50 million in venture abroad
b) Allowing exporters/ exchange earners to keep their entire forex earning in the EEFC account
and giving them full flexibility in the use of such funds
c) Permitting individual residential to invest in financial assets abroad upto $ 25000 in phase 1
(1997-98) and rising upto $ 50000 and $ 100000 over the next two years
d) Allowing SEBI registered Indian funds to invest in securities abroad within a overall limit of $
500 million in phase 1 and rising to $ 2 billion in 1999-2000.
e) Giving banks greater freedom to borrow and deploy funds outside Indian in stages
f) Allowing FII portfolio funds tobe invested and repatriated without prior RBI scrutiny
g) Allowing FIIs, NRIs and foreign banks full access to forward cover to the extent of their assets
in India
h) Permitting banks and financial institutions to participate in gold markets abroad
The following preconditions have been suggested by the committee before achieving full float of
the rupee.
1. Reduction of the gross fiscal deficit to GDP ratio to 3.5% by 1999-2000 accompanies by a
reduction in the states deficit as also a reduction in the quasi fiscal deficit
2. The mandated rate of inflation for the three-year period should an average of 3- 5 %. There
should be an early empowering of the RBI on the inflation mandate approved by parliament
and only the Parliament should alter that mandate. Once the mandate is given, the RBI should
be given freedom to attain the target
3. Interest rates should be fully deregulated in 1997-98 and there should be no formal or informal
interest rate controls

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 4. The average effective CRR, which was 9.3% in April 1997, should be reduced to 8% in 1997-
98, 6% in 1998-99 and further to 3% in 1999-2000.
5. The NPAs of public sector banks, estimated at 13.7% of the total advances at the end of March
1997 to 12% 1997-98, 9% in 1998-99 and 5 percent in 1999-2000. Drastic measures should
be taken to reduce the level of NPAs.
6. To avoid volatility in exchange rates, the Committee has called for a system under which any
corrections of the real effective exchange rates (REER) can be brought about smoothly. The
Central Bank should have monitoring exchange rate band of plus or minus five percent around
the neutral REER. The REER band should be made public
The high level of NPAs of public sector banks cannot be borne by them if the financial system is
opened upto the forces of international competition. The strengthening of the financial system is the
single most important precondition to the move to CAC. Noting the systemic dangers of some of the
weak banks growing at rates faster that the system. The committee recommends that the weak banks
should act was "narrow banks". The incremental resources of these narrow banks should be restricted
only to investment in government securities and in extreme case of weakness not only should such
banks not be allowed to increase their advances but there would need to be a severe restraint on their
liability growth.
With a progressive reduction in CRR and decline in NPAs and with other cost/ returns remaining
unchanged, the spreads available to the banking system would increase by Approximate 1.8 percentage
points. Taking account that there would be a squeeze on spreads as a result of financial liberalisation,
the successful; implementation of these signposts would result in return on asserts (ROA) comparable
to the internationally acceptable level of one percent.
Changes on account of recommendations of the Tarapore committee : Exporters/ exchange
earners will be allowed 50% retention of exchange earnings in EEFC account. 100% EOUs/EPS units
will continue to have the existing ceiling of 70%. Indian project exporters will no longer have to approach
RBI for prior approval for a variety of purposes while executing projects abroad. Powers will be delegated
to Authorised Dealers (ADs) in terms of which they can give such approvals. Ads will be allowed to
undertake forfeiting for medium term export receivable Corporate entities will be allowed to open offices
abroad without the need for prior approval from RBI. Capital and current expenditure will be allowed by
ADs without any limit out of EEFC accounts. For other corporate, limits for such expenditure will be
related to the turnover. Banks will be allowed to provide credit/ non-credit facilities to Indian joint venture/
wholly owned subsidiaries abroad. Bank will also be allowed to provide at their discretion, buyers
credit/ acceptances finance for facilitating exports of goods and services from India. The above exposures
will, however, be subject to limit of 5 percent of the unimpaired Tier I Capital. RBI may consider higher
limits on merits. SEBI registered Indian funds managers including Mutual Funds will be allowed to
invert in the overseas market subject to SEBI guidelines. Initially, there will be an overall cap of $ 5000
million; the ceiling for individual funds will be related to size of the funds subject to a maximum, of US
$ 50 Million.

KANNAN COMMITTEE RECOMMENDATIONS

Kannan Committee has suggested that the banks should have the sole discretion to determine
borrowing limits of corporate. Members of committee however differed on the key issues such as whether

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the MPBF concept should be completely done away with and how the change over to a new system
should be made. While some felt that it can be immediately done, others felt that the changeover would
have to be given time. Some of them also felt that Tandon Committee formula for assessment of working
capital requirement should not be abandoned completely but RBI should withdraw its prescription of
1.33:1 Current ratio and leave it to banks to arrive at a ratio, which may be borrower as well as industry
specific. Any shift away from the existing system of working capital assessment must keep in view the
size of various banks, their delegation system, exposure limit, corporate policies rating to financing
various industries and products groups etc. Banks and borrowers should be left free to decide the
system they adopt for financing working capital irrespective of the size.
The committee also suggested the following :
a) Definition of an industrial group should be left to the perception of the financing bank
b) System of cash credit should be replaced by a system of loans for working capital
c) Banks should dispose off all the loan applications within 2 to 8 weeks
d) Banks should be allowed to decide policy norms for issue of commercial papers.
e) The uniform formula for MPBF should be abolished and banks should have their own borrowings
limits for corporate
f) Corporate borrowers may be allowed to issue short term working capital debentures of 12-18
months maturity and banks may be subscribe to these debentures
g) Alternatively, the borrowers with credit requirements of Rs. 20 crores or more may be allowed
working capital by way of demand loan to the extent of 100% and borrowers with requirements
of over Rs. 10 crore and upto Rs. 20 crore may have a demand loan component of 75%.
h) Interest rate incentives may be provided to borrowers opting for 100% working capital demand
loan
i) Margins and holdings levels of stocks and receivables as security for working capital facility
may be left to the discretion of the financing bank
j) Bench mark current ratio of 1.33:1 and ideal debt equity ratio should be left to the discretion of
the banks
k) QIS & CMA should cease tobe a regulatory requirement
l) Borrowers will have to obtain prior approval for investment of funds outside the business like
inter-corporate deposits, investment in associate concerns and in other investments.
m) Bank should try out the syndicated form of lending
n) A credit information bureau be floated independently by bank
o) Rs. 50 crore mandatory limit fixed for consortium should be done away with.

S.L. KAPOOR COMMITTEE RECOMMENDATIONS

The RBI has accepted 35 out of 106 recommendations of SL Kapoor committee on credit to SSI
Sector for immediate implementations by banks. The RBI has asked banks to:
1. Introduce tri-lingual loan application forms
2. Straightway use the application forms prescribed for credit facilities upto Rs. 2 lacs for facilities
upto Rs. 10 lacs, for facilities upto 15 lacs tobe used for facilities Upto Rs. 50 lacs and for facilities
upto One crore tobe used for facilities beyond Rs. 50 lacs.

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3. Adopt committee approach for sanction of limits and dispose off loan applications in time bound
manner. The prescribed time limit is a fortnight for facilities upto Rs. 25000 and 8 to 9 weeks for
credit facility beyond Rs. 25000
4. For quick disposal of application the apprising official should maintain a checklist and advise the
applicant to submit the additional information that may be required to appraise the application.
5. Necessary help to the applicant may be provided to fill up the application forms properly. Sufficient
number of brochures, schemes instructions of bank and RBI/SIDBI/NABARD/State and Central
Govt. should be made available at the branch
6. Branch Manager may be delegated power to grant adhoc facilities to the extent of 20% of the
sanctioned limit subject to the usual lending discipline
7. Clear guidelines should be set up with the approval of the board of computing the working capital
limits, particularly for borrowers requiring fund based facility beyond Rs. 4 crores
8. Unless there is any contrary specific reason banks should accept the projections of the new units
for the first year of operation as accepted by the term lending institutions
9. As now the flow of credit to the SSI Sector would be assessed by using the date on disbursement
instead of outstanding balances disbursement targets should be fixed along with outstanding
balances. Out of the total fund allocated by banks to SSI sector 40% should be earmarked to the
units with investment in plant and machinery upto Rs. 5 lacs only. 20% to the units having
investments in plant and machinery between Rs. 5 lacs to Rs. 25 lacs
10. More attention is tobe given to the backward states such as Bihar, J&K, Madhya Pradesh and
North Eastern States while fixing the lending targets
11. The limits of composite loans may be enhanced from Rs. 2 lacs to Rs. 5 lacs so that entire
requirement of the unit can be met by single documentation and security creation
12. This facility of composite loan to SSI unit requiring assistance upto Rs. 5 lacs may be given
irrespective of their location
13. Single window concept may be implemented. Banks will entertain projects both the term and
working capital loans of borrowers requiring assistance upto Rs. 5 lacs. Similarly for projects
requiring institutional credit of more than Rs. 5 lacs upto Rs. 25 lacs either the bank or the SFCs
should sanction both the term and working capital facility
14. For requirement exceeding Rs. 25 lacs SIDBI should make arrangement with the public sector
banks to have a memorandum of understanding tobe signed by the SFCs with the selected banks
active in different regions of the country for joint financing. Both the term loan and working capital
facility should be shared alongwith sharing of securities on pari-passu basis. However, the borrowers
may be given an option to avail the entire facility from a single agency.
15. The overall interest rate payable by SSI units should be limited to the maximum PLR plus 4% as
existing now. Additional spread over the PLR should be used a premium for guaranteeing the
repayment of the loan. SSI Units with good track record will thus have to pay lower premium and
would derive some advantage out of lower spreads
16. The SSI Units may be allowed to invest overseas upto US $ 20000 based on a simple procedure
17. More specialised branches may be opened to meet the requirement of SSI Units and customer
grievances machinery may be made more effective.

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R.V. GUPTA COMMITTEE ON AGRICULTURE CREDIT
Highlights :
– Interest rates on agricultural loans to be fixed by banks
– 90% of loan applications tobe cleared by local branches
– A liquid savings facility in built into loan products
– Special agriculture credit plans to accelerate flow of credit
– Extension of composite cash credit limit to include farm credit
– Abolition of stamp duty on mortgage of farm land
– Indicate annual increase in credit flow to agriculture
– Modify so as to provide borrowers a choice of banks
The committee recommended the deregulation of interest on farm loans; substituting the agriculture
credit target of 18% of bank's assets portfolio with a system of fixing annual targets. Since smaller
loans revolve higher transaction cost, bankers usually seek larger loans where interest rates are
deregulated the changes will enable them to judge individual cases and fix rates on the basis of the risk
return perception, paving the way for larger loans tobe given. Only by making it viable for banks to lend
to farmers can the roots of agriculture development be cultivated
During cash rich period farmers have a propensity to invest in gold lands etc, to address this issue,
farmers should be offered a liquid savings products with an appropriate return. Which should be in built
in the loan product so as to provide them a cushion during lean periods
The focus of credit appraisal should be on evaluation of the income stream of the borrower and a
comprehensive assessment of credit need staking into account track record credibility, capability as
well as technical viability of the proposal. Agreement and other documents be simplified and all banks
to examine their systems and make modifications within two months and report compliance to the RBI.

RECOMMENDATIONS OF STUDY GROUP UNDER THE CHAIRMANSHIP OF SH. B.D. NARANG

ON LARGE VALUE FRAUDS (RUPEES ONE CRORE AND ABOVE)
The study group was set up in 1998 at the instance of the Board for financial supervision. The
study group submitted its report in March 1999. The group studied frauds reported by commercial
Banks from 1995-1997 and confined itself to those areas which led to the weakening of the internal
control system for prevention and detection of frauds. The group has made following observations:
– There is always a time lag between the detection and reporting of a fraud
– It is not the lacunae in the rules but the non observance of the same, which leads to the fraud

NADKARNI COMMITTEE RECOMMENDATIONS ON ASSESSMENT OF COST OF PROJECT

– A committee under the chairmanship of Shri SS Nadkarni (the then Chairman of IDBI) was set
up to examine the various issues involved in cost overruns of projects.
– All financial institutions have agreed to implement the recommendations of this committee.

RECOMMENDATIONS :
1. Inflation Factor : While assessing the project cost, possible escalation in cost on account of
inflation during the implementation period should be provided for. The rate of inflation to be taken
into consideration is the rate of inflation mentioned in RBI Bulletin for the type of commodity as
given below :

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2. Civil Works : Where the period of implementation is within one year the current cost can be taken
into account. However, if the period of implementation exceeds one year, the cost estimate should
be inflated for the period of implementation by using inflation rate for Iron steel and Ferro Alloys
3. Plant and Machinery : Where quotations are received on firm price basis the same price should
be accepted, and no further escalation in the cost is tobe provided. In case the quotation is on
"Cost plus" basis or only indicative, the inflation rate as applicable for non-electrical machinery or
electrical machinery as the case may be, should be taken into account for inflating the cost.
4. Miscellaneous Fixed Assets : For all the machineries, the cost should be estimated as per the
point 3 above. For furniture and fixtures where prices are not firmed up, the cost should be escalated
for implementation period by using the inflation rate for manufactured products.
5. Pre-operative expenses : The per-operative expenses increase mostly due to the increase in
implementation period. Therefore, at the appraisal stage itself the schedule of implementation
should be scrutinised and finalised on realistic basis.
6. Provision for Contingency : It should be made at a flat rate of 10% on all items excluding Margin
Money for working capital
7. Margin money for Working capital : It should be worked out as per the 2nd method of lending
suggested by Tandon Committee.

NARESH CHANDRA COMMITTEE ON CORPORATE GOVERNANCE

In its report, the Naresh Chandra Committee has commented on the poor structure and composition
of the Board of Directors of Indian companies; scant fiduciary responsibility; poor disclosures and
transparency; inadequate accounting and auditing standards; the need for experts to go thoroughly the
nitty-gritty of transactions among companies, banks and financial institutions, capital markets, etc. The
committee highlighted that in India, companies need to follow very stringent guidelines on corporate
governance :

Major Recommendations of the Committee

(i) Maintaining Auditor's Independence :
❏ Fees received from any one client and its subsidiaries and affiliates, all together should not
exceed 25% of the total revenues of the audit firm. Where a firm has subsidiary, associate or
affiliated entities, no more than 25% of the revenues of the consolidates entity should come
from a single corporate client with whom there is also an audit engagement.
❏ Prohibition of any direct financial interest in the audit client by the audit firm, its partners or
members of the engagement team as well as their 'direct relatives'.
❏ Prohibition of any business relationship with the audit client by the auditing firm, its partners or
any member of the engagement team and their 'direct relatives'.
❏ Prohibition of service or cooling off period, under which any partner or member of the
engagement team of an audit firm who wants to join an audit client, or any key officer of the
client company wanting to join the audit firm, would only be allowed to do so after two years
from the time they were involved in the preparation of accounts and audit of that client.

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(ii) List of prohibited non Audit Services :
Accounting and book keeping services, related to the accounting records or financial statements
of the audit client;
Internal audit services;
Financial information systems design and implementation, including services related to IT systems
for Actuarial services;
Broker, dealer, investment adviser or investment banking services;
Outsourced financial services;
Management functions, including the provision of temporary staff to audit clients;
Any form of staff recruitment, and particularly hiring of senior management staff for the audit client;
Valuation services and faireness opinion.
In case the firm undertakes any services other than audit, or the prohibited services listed above,
it should be done only with the approval of the Audit Committee.

(iii) Rotation of Audit Partners :

The committee did not recommend any statutory rotation of audit firms, but expressed itself in
favour of compulsory rotation of audit partners.

(iv) Disclosures :
Company Management should provide a clear description in plain English of each material liability
and its risk, which should be followed by the auditor's clearly worded comments on the management's
view. This section should be highlighted in the significant accounting policies and notes on accounts,
as well as, in the auditor's report, where necessary.

(v) Replacement of Auditors :

In case an auditor, while being eligible to re-appointment, is sought to be replaced, the explanatory
statement accompanying such a special resolution must disclose the management's reasons for such
a replacement, on which the outgoing auditor shall have the right to comment. The Audit committee will
have to verify that this explanatory statement is 'true and fair'.

(vi) Audit firm to file a 'certificate of independence' :

Before agreeing to be appointed, the audit firm must submit a certificate of independence to the
Audit Committee or to the board of directors of the client company certifying that the firm, together with
its consulting and specialised service affiliates, subsidiaries and associated companies are independent
and have arm's length relationship with the client company and have not engaged in any non audit
services listed and prohibited in as above and that they are not disqualified from audit assignments by
virtue of breaching any of the limits, restrictions and prohibitions listed above.

(vii) Empowering Audit Committees :

Audit Committee of the Board of Directors of a company shall be the first point of reference regarding
appointment of auditors.

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 To discharge their fiduciary responsibility, the Audit Committee shall discuss the annual work
programme with the auditor and review the independence of the audit in line with the above listed
recommendations.
Audit committee should recommend to the Board of Directors, with reasons, either the appointment/
reappointment or removal of the external auditors, along with the annual audit remuneration. Exceptions
to this rule may cover Govt. companies (which follow section 619 of the Companies Act) and scheduled
commercial banks (where the RBI has a role to play).

(viii)Certification of financial reports by the CEO and CFO :

For all listed companies as well as public limited companies, whose paid up capital and free
reserves exceeds Rs. 10 crore, or turnover exceeds Rs. 50 crore, there should be a certification by the
CEO (either the Executive Chairman or the Managing Director) and the CFO (whole time Finance
Director or otherwise), stating the following :–
To the best of their knowledge and belief, they have reviewed the balance sheet, profit and loss
account, all its schedules and notes on accounts, as well as the cash flow statements and Directors'
Report; these statements together represent a true and fair picture of the financial and operational
state of the company and are in compliance with the existing accounting standards and/or applicable
laws/regulations.

(ix) Supervising the work of Auditors :

With appropriate legislative support, three independent Quality Review Boards (QRB) should be
constituted, one each for the ICAI, the ICSI and ICWAI to periodically review the quality of audit, secretarial
and cost accounting firms and pass judgement and comments on the quality and sufficiency of systems,
infrastructure and practices.

(x) Changes in the structure and composition of Board of Directors :

Atleast 50% of the board of directors of any listed company, as well as unlisted public limited
companies with a paid up share capital and free reserves of Rs. 10 crore and above, or turnover of Rs.
50 crore and above, should consist of independent directors. A Nominee director will not be treated as
an Independent director.
The minimum board size of all listed companies, as well as unlisted public limited companies with
a paid up share capital and free reserves of Rs. 10 crore and above, or turnover of Rs. 50 crore and
above should be 7, of which at least 4 should be independent director.
Regarding the remuneration of non executive directors, loss making companies should be permitted
by the DCA to pay special fees to any independent director, subject to reasonable caps, in order to
attract the best restructuring and strategic talents to the boards of such companies.

The present provisions relating to stock options, and to the 1% commission on net profit, is adequate
and does not, at present, need any revision. However, the vesting schedule of stock options should be
staggered over at least 3 years, so as to align the independent and executive directors, as well as
managers two levels below the Board, with the long term profitability and value of the company.

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 The DCA should encourage institutions of prominence including their proposed Centre for Corporate
Excellence to have regular training programmes for independent directors. An untrained independent
director should be disqualified under section 274(1) (g) of the Companies Act, 1956 after being given
reasonable notice.

(xi) Setting up a Corporate Serious Fraud Office (CSFO) :

A Corporate Serious Fraud Office should be set up in the DCA. This should be in the form of a
multidisciplinary team that not only uncovers the fraud, but is able to direct and supervise prosecutions
under various economic legislations through appropriate agencies.

(xii) Others :
Greater accountability should be provided for with respect to transfer of money by way of inter-
corporate deposits, or advances of any kind, from listed companies to any other company, as a necessary
concomitant of the liberalisation that section 372 A of the Companies Act, 1956 provides.
In order to ensure that proceeds from illegal acts and frauds do not escape recovery, Companies
Act needs to be amended to give DCA the powers of attachment of bank accounts etc.
Managers / promoters should be held personally liable when found guilty of offences. In such
cases, the legal fees and other charges should be recovered from the officers in default, especially if
the offences pertain to betrayal of shareholder's trust, or oppression of minority shareholders.
Consolidated Financial Statements should be made mandatory for companies having subsidiaries.
Outsourcing of non statutory work and tightening the law regarding lapses in secretarial compliance.
Prevent stripping of assets, random scrutiny of accounts, better training for articles and propagation of
an internal code of ethics for companies.
Strengthening the CDA and ROC Infrastructure.

SARKAR COMMITTEE ON ANTI-MONEY LAUNDERING GUIDELINES FOR BANKS IN INDIA

IBA set up a study group under the chairmanship of Shri P. K. Sarkar to study the anti-money
laundering practices and know your customer guidelines being followed in other countries. The major
recommendations of the group are as under : –
1. Urgent need to adopt anti-money laundering policy.
2. Each bank's own anti-money laundering policy.
3. A time bound action plan to implement the bank's anti-money laundering policy.
4. Adoption of 'Know Your Customer' guidelines by banks.
5. The bank account opening forms should contain information about the financial status of the
customer, his source of income etc.
6. Customers profiles be prepared while opening of accounts and the bank should classify the
account into appropriate risk category (high/low) for monitoring activity / transaction.
7. Banks should follow uniform norms for activity monitoring, e.g. the threshold may be reduced
to Rs. 5 lacs and be continued to Rs. 10 lacs respectively.

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 8. Bank should endeavour to track transaction chains in case of suspicion.
9. Bank branches should report all types of suspicious activities / transactions to the Money
Laundering Reporting Officer (MLRO – identified at the bank level).
10. Both inward as well as outward remittances (fund transfer etc.) especially the cross border
remittances should be closely monitored.
11. Bank should evolve a suitable system for transaction monitoring, e.g. the threshold limit for
cash remittances and payment of FDRs may be lowered in accounts with high risk perception
from Rs. 50,000 and Rs. 20.000 respectively.
12. Banks should use the latest IT solutions for monitoring transactions above the threshold limits.
13. Banks should report suspicious transactions to RBI.
14. A data bank of suspicious transactions be created and be made available to all banks.
15. IBA / RBI should take up with Govt. of India for expeditious enactment of Prevention of Money
Laundering Bill.
16. Banks should have structured training modules to impart full knowledge of anti-money laundering
guidelines.
17. IBA / RBI may review anti-money laundering measures and suggest suitable changes.

Irani Committee's recommendations on Mergers and Acquisitions

❏ Statutory recognition be given to mergers without court intervention.
❏ Approval of shareholders is mandated
❏ Notices be issued to the Official Liquidator and the Registrar of Companies which would have
the power to file any information before the court that approves the amalgamation.
❏ Single window concept - to approve M & A in an effective time bound manner.
❏ Concept of deemed approval is recommended when the regulators do not respond within a
reasonable time.
❏ Valuation of shares be done by independent valuers rather than by those appointed by court.
❏ Audit Committee be entrusted with the responsibility of appointing the valuer.
❏ Anomalies be removed regarding payment of stamp duty.
❏ Filing of a certified copy of court order should be enough to meet the requirement of law.
❏ Law recognizes that a listed company can be merged with an unlisted one.
❏ Requirements of law is met when the M&A is approved by 75% shareholders and creditors
present rather than 75% shareholders and creditors.

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 GIST OF THE IMPORTANT COMMITTEES
M. N. Goiporia Customer Service in Banks
Ghosh Frauds and malpractices in Banks, Concurrent Audit
Jankiraman Irregularities in Securities transactions
Dr. C. Rangarajan Mechanisation and Computerisation in Banking
Kalyana Sundram Factoring Services in India
P. R. Nayak Institutional Credit ot SSI sector and related aspects (Annual Projected Turnover
Method)
M. Narasimham – I Financial Sector Reforms – 1991
M. Narasimham – II Banking Sector Reforms – 1998
S. Chakraverty To review working of the monetary system
M. Vaghul Money Markets Reforms
R. N. Malhotra Insurance Sector Reforms
J. Raja Chellaiah Tax Reforms
Goswami Industrial Sickness
J. V. Shetty Cosortium Finance
I. T. Vaz Working Capital Lending norms for Banks
Rashid Jilani Revised method of lending in place of Cash Credit System
W. S. Saraf Technology Issues in the Banking Industry
O. P. Sodhani Commitee on Foreign Exchange Markets
D. R. Mehta Committee on IRDP
S. K. Khalia Non Govt. Organisations and Self Help Groups
P. N. Bhagwati Substantial acquisition of Shares & Takeovers Regulation of 1996
Smt. K. S. Shere Legislation on Electronic Fund Transfer
P. R. Khanna (a) Declaring of accounts as out of order on accounts of delay in submission of
stock statement for more than 3 months and delay in renewal of limits for more
than 6 months.
(b) Classification of account as doubtful where realisable value of security is
less than 50% of the outstanding.
Y. B. Damle Working Group recommendation of MICR Technology
S. S. Tarapore Capital Account Convertibility, Narrow Banking Recommendations
Kannan Method of lending – respective Banks can decide their own method of lending
for assessment of working capital requirements.
S. M. Kelkar Regional Rural Banks
Dr. P. D. Ojha Rural lending & service area approach
R. K. Talwar Customer Service
Basel Capital Adequacy Norms
P. L. Tandon Follow up of Bank Credit
K. B. Chore Review of the cash credit system – Implementation of second method of lending
Dantwala Non Banking Finance Companies

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G. S. Dahotre Bank Credit for hire purchase & Leasing Companies
S. Padmanaban Inspection and follow up by RBI, Camels Rating
Y. V. Reddy Rationalisation of interest rates on small savings
M. S. Verma Weak Banks Classification – 1999
S. S. Kohli Definition of Sick SSI units, Wilful defaulters
Y. V. Reddy Modificated Liquidity & Monetary Aggregates (M1, M2, M3)
R. H. Khan Universal Bank Recommendations – 1998
Rakesh Mohan Infrastructure Finance
S. L. Kapoor Credit Guarantee Fund for SSI, Credit Delivery System for SSI – 1998
R. V. Gupta Credit Delivery System for Agriculture – 1998
Y. H. Malegam Corporate Positioning – Restructuring of UTI
R. J. Kamath Revised Education Loan Scheme
C. B. Bhave Reducing Cost of Demat Operations
N. K. Singh Foreign Direct Investment – 2002
Zarir Cama Electronic Money
Shetty Consortium Finance
Pannier Selvam On NPAs of Public Sector Banks – 1988
Mitra Legal Aspects of Bank Frauds – 2001
Kumar Mangalam On corporate Governance – 2000
Vasudevan On Technology Upgradation – 1999
Abid Hussain Small Scale Enterprises – 1997
L. C. Gupta On Derivatives – 1997
V. S. Vyas Committee on Rural Credit
A. S. Ganguly Committee on flow of Credit to SSI (SME) Sector
A. C. Shah On NBFC
Irani On Mergers & acquisition
Rashid Jilani Internal audit system on PSB's
M. H. Kania Change in certain provisions of SEBI Act.
Lahiri Incouraging FII flows and chaking the vulnerability of capital markets to
speculative flows.
S. S. Tarapore Fuller A/c convertability.
Sarkar Anti money laundring for banks in India.
Naresh Chandra Corporate Governance
B. D. Narang Large value frauds
Kalia Non Govt. Organisation (NGO) and Self-Help Groups (SHG)
Nadkarni Assesment of cost of project

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 2.3

BANKING & FINANCE – 10 YEARS OF REFORMS

1992 – 93
❏ Narsimham Committee on bank reforms submits report.
❏ SLR, CRR cut to reduce state pre-emption of loanable funds.
❏ Number of lending rates cut from six to four.
❏ Capital Adequacy norms laid down for the first time.
❏ 364 – day treasury-bill introduced with market related rates.
❏ Other securities' rates raised to bring them close to market rates.
❏ Guidelines for entry of new private banks issued.
❏ Deposit rates freed, subject to ceiling.

1993 – 94
❏ SBI Act amended to allow the bank to access equity market.
❏ The number of interest rates cut from 4 to 3. Floor lending and deposit rates brought down.
❏ Budget provides Rs. 5700 crore to capitalize banks to meet new provisioning norms.
❏ Prudential norms regarding NPAs laid down.
❏ Debt recovery tribunals set up.
❏ Malhotra committee report recommends private sector entry into the insurance sector.

1994 – 95
❏ Banks free to determine PLRs.
❏ No minimum lending rate for loans above Rs. 2 lakhs.
❏ Ad-hoc treasury bills limited by agreement between govt. and RBI, to limit monetisation of govt.
debt.

1995 – 96
❏ IDBI Act amended. IDBI raises Rs. 1200 crore through its initial public offering.
❏ SBI becomes first Indian bank to be listed overseas, following a GDR issue.
❏ RBI allows setting up of primary dealership firms to deal in govt. securities.
❏ Six primary dealership firms, promoted by banks and financial institutions, granted licence to operate.

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 1996 – 97
❏ CRR cut from 13 % to 10 %.
❏ PLRs cut. Govt. decides to allow setting up of private sector Local Area Banks, which will operate
in three contiguous non-metro districts.

1997 – 98
❏ Interest on Foreign currency deposits deregulated to “not more than Libor”
❏ Fixed interest rate regime relaxed.
❏ Banks freed to assess working capital needs of borrowers.
❏ RBI Act amended after CRB scam.
❏ RBI gets sweeping powers to register and regulate NBFCs.

1998 – 99
❏ Banks get tougher provisioning norms for government securities, state guaranteed loans.
❏ Risk weights assigned to government securities, state govt. guaranteed loans, forex open positions.
❏ NBFC regulations tightened.
❏ Insurance Regulation and Development ( IRD ) Bill introduced in Parliament.

1999 – 00
❏ IRDA Act passed in Parliament, allows private equity in insurance, caps foreign equity at 26 per
cent of total, sets up Insurance Regulation Development Authority ( IRDA )
❏ Banks allowed to operate different PLRs for different maturities.
❏ Times Bank merged with HDFC Bank.
❏ ICICI and ICICI Bank get listed in NYSE after their respective ADR issues.

2000 – 01
❏ Amendments to Banking Companies Acquisition and Transfer of Undertakings Act allow banks to
enter insurance.
❏ Govt. says it will cut its stake in public sector banks to 33 per cent, but will retain the ‘public sector
character’ of these banks.
❏ State owned banks announce voluntary retirement schemes (VRS ) to shed staff. About 10 to 15
per cent of bank staff apply.

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❏ RBI allows NBFCs to convert themselves into banks. However big industrial groups such as the
Tatas, Birlas and Reliance not allowed to start banks. Large industrial houses not allowed to hold
more than 10 per cent.
❏ IRDA issues licenses to private insurers –initially, 11 joint ventures get licenses.
❏ Bank of Madura merged with ICICI Bank.
❏ Global Trust Bank merged with UTI Bank.
❏ RBI announces cut in Bank Rate to combat slowdown. Announces cut in CRR.
❏ IDBI Act amended to make film financing an eligible activity for the financial institution.

2001 – 02
❏ More DRT's established raising the number of DRTs 29.
❏ Government has proposed to bring legislation for facilitating foreclosure and enforcement of
securities to enable the banks and FI's to recover the dues.
❏ Banks allowed to offer higher interest rates to Sr. Citizens.
❏ PLR norms reviewed and Banks allowed to offer loans below PLR to exporters or other credit
worthy borrowers on the basis of a transparent and objective policy approved by their boards.

RECENT STRUCTURAL REFORMS IN INDIAN BANKING INDUSTRY

Amendments to the Banking Regulation Act

Legislation seeking to amend the Banking Regulation Act was introduced in the Parliament in
2003 but has not yet been ratified by the Indian Parliament and is therefore not in force. The main
amendments proposed to :
❏ Permit banking companies to issue non-redeemable and redeemable preference shares;
❏ Make prior approval of the RBI mandatory for the acquisition of more than 5.0% of a banking
company's paid up capital by any individual or firm or group;
❏ Prohibit lending to relatives of directors and to non-subsidiary companies that are under the same
management as the banking company, joint ventures, associates or the holding company of the
banking company. Lending to directors and to companies with directors common to the banking
company is already prohibited;
❏ Bring mergers of non-bank finance companies with banking companies into the governance of the
Indian Banking Regulation Act. Mergers of non-bank finance companies with banking companies
are currently governed by the Companies Act. The Banking Regulations (Amendment) and
Miscellaneous Provisions Bill, 2003 will, if passed, require mergers of non-bank finance companies
with banking companies to be approved by the majority of the shareholders of both companies
and by the RBI. It also provides, if the merger is approved, for dissenting shareholders at their
option to be paid in exchange for their shares, the value of their shares as determined by the RBI;
and
❏ Bring all co-operative banks under the supervision of the RBI.

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Legislative Framework for Recovery of Debts Due to Banks
In fiscal 2003, the Parliament passed the Securitisation Act. The Securitisation Act provides the
powers of "seize and desist" to banks. The Act provides that a "secured creditor" may, in respect of
loans classified as non-performing in accordance with the RBI guidelines, give notice in writing to the
borrower requiring it to discharge its liabilities within 60 days, failing which the secured creditor may
take possession of the assets constituting the security for the loan, and exercise management rights in
relation thereto, including the right to sell or otherwise dispose of the assets. This Act also provides for
the setting up of asset reconstruction companies regulated by the RBI to acquire assets from banks
and financial institutions. The constitutionality of the Securitisation Act was challenged in Mardia
Chemicals Limited v. Union of India, AIR 2004 SC 2371, a petition filed before the Supreme Court. The
Supreme Court upheld the validity of the Act except Section 17(2) wherein they found that the requirement
of making a deposit of 75% of the amount claimed at the time of making a petition or an appeal to the
DRT under Section 17 in order to challenge the measures taken by the creditor in pursuance of Section
13(4) was unreasonable and therefore, struck down. The RBI has issued guidelines for asset
reconstruction companies in respect of their establishment, registration and licensing by the RBI, and
operations.

Corporate Debt Restructuring Forum (CDR)

To put in place an institutional mechanism for the restructuring of corporate debt, the RBI has
devised a corporate debt restructuring system. The objective of this framework is to ensure a timely
and transparent mechanism for the restructuring of corporate debts of viable entities facing problems,
outside the purview of the Board for Industrial and Financial Reconstruction, debt recovery tribunals
and other legal proceedings. In particular, the framework aims to preserve viable corporates that are
affected by certain internal and external factors and minimize the losses to the creditors and other
stockholders through an orderly and coordinated restructuring programme. The corporate debt
restructuring system is a non-statutory mechanism and a voluntary system based on debtor-creditor
and inter-creditor agreements. Any lender having a minimum 20% exposure in term loan or working
capital may make a reference to the Corporate Debt Restructuring Forum.
The system put in place by the RBI contemplates a three tier structure with the CDR Standing
Forum at the helm, which is the general body of all member institutions, out of which is carved out the
core group, a niche body of select institutions that decides policy matters. The decisions on restructuring
are taken by the CDR Empowered Group, which has all the member banks / FII's as its members. To
assist the CDR Forum in secretarial matters and for analysis of the restructuring packages, a CDR Cell
has been formed.
The total membership of the CDR Forum is at present 60, of which there are 14 FIIs. 27 public
sector banks and 19 private sector banks.

DEBT RESTRUCTURING MECHANISM FOR SMEs

Definition of SME : The definition of a small and medium enterprise varies from country to country.
"A small scale industrial unit is defined as an undertaking in which investment in plant and machinery,
does not exceed Rs.1 crore, except in respect of certain specified items under hosiery, hand tools,
drugs and pharmaceuticals, stationery items and sports goods, where this investment limit has been
enhanced to Rs. 5 crore. Units with investment in plant and machinery in excess of SSI limit and up to
Rs. 10 crore may be treated as Medium Enterprises (ME)."

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 Eligibility criteria : Debt Restructuring guidelines would be applicable to the following entities,
which are viable or potentially viable :
a. All non-corporate SMEs irrespective of the level of dues to banks.
b. All corporate SMEs, which are enjoying banking facilities from a single bank, irrespective of
the level of dues to the bank.
c. All corporate SMEs, which have funded and non-funded outstanding up to Rs.10 crore under
multiple / consortium banking arrangement.
Accounts where recovery suits have been filed or action under SARFAESI Act has been initiated
will generally not be considered eligible for restructuring under DRM for SMEs.
In respect of BIFR cases, branch should ensure completion of all formalities in seeking approval
from BIFR before implementing the package.
Companies indulging in fraud and malfeasance and accounts classified as loss assets will not be
eligible for restructuring under these guidelines. Accounts classified as wilful defaulters, may be admitted
for restructuring only by approval of the Board of Directors after review of the classification as wilful
defaulter.
Enterprises indulging in frauds and malfeasance will be ineligible under DRM for SMEs.
Legal Basis
The borrowers requesting for restructuring shall have to sign a Debtor Creditor agreement.
Viability Criteria
PARTICULARS DRM for SMEs
Minimum Average DSCR 1.25
Period within which the unit should 7 years
become viable
Repayment period of all term loans 10 years
Repayment period for FITL/ WCTL
❏ Units in tiny and SSI sector 5 years
❏ Units in medium sector 7 years
Minimum Promoters' Contribution of 10% of the long term requirement of funds plus the
which at least 50% must come upfront monetary value of the sacrifices made by the lenders in
tiny sector and 20% in others.

Procedure
The borrowers intending to avail the benefit of restructuring under DRM for SMEs shall approach
the financing branch with all relevant details including ABS for last three years, unaudited financial data
for the current year and discuss the need for and the extent of restructuring required to make the unit
viable. The borrower shall execute the DCA and provide all necessary information sought by the branch.
Timeframe
The restructuring package would be worked out and implemented by all lenders within a maximum
period of 60 days from date of receipt of request.

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Technology
Technology is emerging as a key-driver of business in the banking and financial services industry.
Banks are developing alternative channels of delivery like ATMs, telebanking, remote access and internet
banking etc. Besides computerization of front-office operations, the banks have moved towards back-
office centralization. Banks are also implementing "Core Banking", which provides connectivity between
branches and helps offer a large number of value-added products, benefiting a larger number of
customers. The RBI Annual Report for the year 2003-04 states that the use of automated teller machines
("ATMs") has been growing rapidly and this has helped in optimising the investments made by banks in
infrastructure. Banks have joined together in small clusters to share their ATM networks during the
year. There are five such ATM network clusters functioning in India. The total number of ATMs installed
by the public sector banks stood at 8,219 at end March 2004 as compared with 5,963 ATMs at the end
of March 2003.

Corporate Governance
Adoption of good corporate governance practices has been getting the attention of banks as well
as the regulators and owners in India. Banks in India now typically have an audit committee of the
board of directors which is entrusted with the task of overseeing the organisation, operationalisation
and quality control of the internal audit function, reviewing financial accounts and follow-up with the
statutory and external auditors of the banks as well as examinations by regulators. Disclosure levels in
bank balance sheets have been enhanced, while measures have also been initiated to strengthen
corporate governance in banks.

NEW INITIATIVES IN THE BANKING SECTOR

Risk Management & Basel II

With gradual deregulation, banks are now exposed to different types of risks. In view of the
dynamic nature of the financial market, banks face various market risks like interest rate risk, liquidity
risk, and exchange risk. In respect of lending, they face credit risk which includes default risk and
portfolio risk. Banks also face risks like operational risk.
In preparation for the adoption of the Basel II accord, banks have already been required by the
Reserve Bank of India to take active measures in terms of risk management systems, evaluate capital
charges including for operational risk and bring about more transparency in financial reporting as part
of market discipline. The RBI has also moved towards adoption of Risk Based Supervision (RBS) of
banks under which the risk profile of the banks will decide their supervisory cycles – a bank with higher
risk rating will undergo more frequent supervisory reviews than those with lower risk rating. The RBI
has also indicated that it will adopt a phased approach to the implementation of the Base II.

RTGS Implementation in India

With the commencement of operations of the Real Time Gross Settlement i.e. RTGS system from
March 26, 2004, India crossed a major milestone in the development of systemically important payment
systems and complied with the core principle framed by the Bank for International Settlements. It was
a 'soft' launch with four banks, besides the RBI, as participants. Currently, there are 71 direct

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participants in the RTGS system, including PNB. The salient features of the RTGS are as follows :
❏ Payments are settled transaction by transaction for high value and retail payments;
❏ Settlement of funds is final and irrevocable;
❏ Settlement is done on a real time basis and the funds settled can be further used immediately;
❏ It is a fully secure system which uses digital signatures and Public Key Infrastructure (PKI) based
inscription for safe and secure message transmission;
❏ There is a provision for intra-day collaterised liquidity support for member banks to smoothen the
temporary mismatch of fund flows; and
❏ RTGS provides for transfer of funds relating to inter bank settlements as also for customer related
fund transfers.
More than 75% of the value of inter bank transfers, which was earlier being settled through the
deferred net settlement systems ("DNSS") based inter-bank clearing, is now being settled under RTGS.

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