Stages of Development in Banking Sector in India.

Good bankers, like good tea, can only be appreciated when they are in hot water. ----- Jaffar Hussein

Bank failures are caused by depositors who don't deposit enough money to cover losses due to mismanagement. ------Dan Quayle

Banks are the backbone of any economy. It provides stability to the economic environment. Banking sector thus needs to be dynamic and robust so as to take a country in the vicinity of a Utopian economy. The Indian banking sector also has to tread the same path in order to help India get abreast to the Utopian status.
Without a sound and effective banking system in India it cannot have a healthy economy. The banking system of India should not only be hassle free but it should be able to meet new challenges posed by the technology and any other external and internal factors.

The Indian banking sector does not fall within the purview of the above mentioned Quotes. This is thanks to the major revamp in the banking sector that has taken place over the past five decades.The India's banking system has several outstanding achievements to its credit. The most
striking is its extensive reach. It is no longer confined to only metropolitans or cosmopolitans in India. In fact, Indian banking system has reached even to the remote corners of the country. This is one of the main reason of India's growth process.

Not long ago, an account holder had to wait for hours at the bank counters for getting a draft or for withdrawing his own money. Today, he has a choice. Gone are days when the most efficient bank transferred money from one branch to other in two days. Now it is simple as instant messaging or dial a pizza. Money has become the order of the day. The first bank in India, though conservative, was established in 1786. From 1786 till today, the journey of Indian Banking System can be segregated into three distinct phases. They are as mentioned below:

Early phase from 1786 to 1969 of Indian Banks Nationalisation of Indian Banks and up to 1991 prior to Indian banking sector Reforms. New phase of Indian Banking System with the advent of Indian Financial & Banking Sector Reforms after 1991.

The Beginning

Banking in India originated in the first decade of 18th century with The General Bank of India coming into existence in 1786. This was followed by Bank of Hindustan. Both these banks are now defunct. The oldest bank in existence in India is the State Bank of India being established as "The Bank of Bengal" in Calcutta in June 1806. A couple of decades later, foreign banks like Credit Lyonnais started their Calcutta operations in the 1850s. At that point of time, Calcutta was the most active trading port, mainly due to the trade of the British Empire, and due to which banking activity took roots there and prospered.

In 1865 Allahabad Bank was established and first time exclusively by Indians, Punjab National Bank Ltd. was set up in 1894 with headquarters at Lahore. Between 1906 and 1913, Bank of India, Central Bank of India, Bank of Baroda, Canara Bank, Indian Bank, and Bank of Mysore were set up. Reserve Bank of India came in 1935.

How was the banking sector during this phase?

During the first phase the growth was very slow and banks also experienced periodic failures between 1913 and 1948. There were approximately 1100 banks, mostly small. To streamline the functioning and activities of commercial banks, the Government of India came up with The Banking Companies Act, 1949 which was later changed to Banking Regulation Act 1949 as per amending Act of 1965 (Act No. 23 of 1965). Reserve Bank of India was vested with extensive powers for the supervision of banking in india as the Central Banking Authority. Public perception During those days public has lesser confidence in the banks. As an aftermath deposit mobilisation was slow. Abreast of it the savings bank facility provided by the Postal department was comparatively safer. Moreover, funds were largely given to traders.

The REVAMP- Stage 2

After India's independence in 1947, the Reserve Bank was nationalized and given broader powers.
Government took major steps in this Indian Banking Sector Reform after independence. In 1955, it nationalised Imperial Bank of India with extensive banking facilities on a large scale specially in rural and semi-urban areas. It formed State Bank of India to act as the principal agent of RBI and to handle banking transactions of the Union and State Governments all over the country. Seven banks forming subsidiary of State Bank of India was nationalised in 1960 On 19th July, 1969, major process of nationalisation was carried out. It was the effort of the then Prime Minister of India, Mrs. Indira Gandhi. 14 major commercial banks in the country was nationalised.

Jayaprakash Narayan, a national leader of India, described the step as a "masterstroke of political sagacity." Within two weeks of the issue of the ordinance, the Parliament passed the Banking Companies (Acquition and Transfer of Undertaking) Bill, and it received the presidential approval on 9th August, 1969.

Second phase of nationalisation Indian Banking Sector Reform was carried out in 1980 with seven more banks. This step brought 80% of the banking segment in India under Government ownership. The following are the steps taken by the Government of India to Regulate Banking Institutions in the Country:

1949 : Enactment of Banking Regulation Act. 1955 : Nationalisation of State Bank of India. 1959 : Nationalisation of SBI subsidiaries. 1961 : Insurance cover extended to deposits. 1969 : Nationalisation of 14 major banks. 1971 : Creation of credit guarantee corporation. 1975 : Creation of regional rural banks. 1980 : Nationalisation of seven banks with deposits over 200 crore.

With the second dose of nationalisation, the GOI controlled around 91% of the banking business of India

Public Perception After the nationalisation of banks, the branches of the public sector bank India rose to approximately 800% in deposits and advances took a huge jump by 11,000%.

The Big Leap

In the early 1990s the then Narasimha Rao government embarked on a policy of liberalisation and gave licences to a small number of private banks, which came to be known as New Generation tech-savvy banks, which included banks such as UTI Bank(now re-named as Axis Bank) (the first of such new generation banks to be set up), ICICI Bank and HDFC Bank. This move, along with the rapid growth in the economy of India, kickstarted the banking sector in India, which has seen rapid growth with strong contribution from all the three sectors of banks, namely, government banks, private banks and foreign banks.

In 1991, under the chairmanship of M Narasimham, a committee was set up by his name which worked for the liberalisation of banking practices.

Relaxations and Enhancements

The next stage for the Indian banking has been setup with the proposed relaxation in the norms for Foreign Direct Investment, where all Foreign Investors in banks may be given voting rights which could exceed the present cap of 10%,at present it has gone up to 49% with some restrictions. The new policy shook the Banking sector in India completely. Bankers, till this time, were used to the 4-6-4 method (Borrow at 4%;Lend at 6%;Go home at 4) of functioning. The new wave ushered in a modern outlook and tech-savvy methods of working for traditional banks.All this led to the retail boom in India. People not just demanded more from their banks but also received more
The country is flooded with foreign banks and their ATM stations. Efforts are being put to give a satisfactory service to customers. Phone banking and net banking is introduced. The entire system became more convenient and swift. Time is given more importance than money. The financial system of India has shown a great deal of resilience. It is sheltered from any crisis triggered by any external macroeconomics shock as other East Asian Countries suffered. This is all due to a flexible exchange rate regime, the foreign reserves are high, the capital account is not yet fully convertible, and banks and their customers have limited foreign exchange exposure.

Key developments in the recent past The business profile of banks has changed significantly to include non-traditional activities such as merchant banking, new financial services, mutual funds, etc. The evolution from class banking to mass banking and rising customer focus is immensely changing the landscape of Indian banking.

Payments and banking transactions through mobile phones in India are likely to reach US$350 billion by 2015, according to global management consulting firm, The Boston Consulting Group (BCG). This, in turn, will provide banks, telecom operators, device makers and service providers an opportunity to earn fee income of US$4.5 billion With an objective of increasing the financial inclusion, the SBI has opened 21 new branches, besides, 101 new Automatic Teller Machines (ATMs) and 400 green channel counters. Around 350,000 villages spanning the entire India would have access to financial services offered by banks in the next two financial years, according to a plan given by banks to the RBI. RBI has directed banks to ensure that 223,473 villages have access to basic financial services by March 2012

Indian Banking Key Investments

Standard Chartered Private Equity (SCPE) said that it has invested US$ 56 million in Ravi Jaipuriapromoted Varun Beverages International (VBIL), buying a "significant minority" stake in the bottling firm. The funds would be used to fast-track VBIL's growth in its beverages business in India and in foreign countries South Indian Bank has signed a service agreement with TimesofMoney, an e-payments service provider to offer remittance solutions to Non Resident Indians (NRIs) in selected countries. The service would enable NRIs to get a strong transaction platform along with better pricing and safety, besides speedy money transfer

Government Initiatives The policy makers for the banking sector, which comprise the Reserve Bank of India (RBI), Ministry of Finance and related government and financial sector regulatory entities, have made several notable efforts to improve regulation in the sector. These changes include:

Strengthening prudential norms Developing the payments system and, Integrating regulations between commercial and co-operative banks To support capitalisation, the government has infused Rs 23,200 crore (US$ 5.2 billion) into stateowned banks during the last three fiscals The RBI has said that for each branch that is proposed to be opened in Tier 3 to Tier 6 centres of under-banked districts of under-banked States, a bank will get the authorisation to open a branch in a Tier 1 or Tier 2 centre. This incentive to banks comes on the back of the continuing need to open more branches in these States in order to ensure more uniform spatial distribution With financial inclusion being a key program for RBI and the government, the central bank has decided to give private banks a push to go rural. The RBI has, in its circular, said that banks should open at least 25 per cent of the branches under the annual branch expansion plan in un-banked rural centres.

Financial Structure
The Indian financial system comprises the following institutions: 1. Commercial banks a. Public sector b. Private sector c. Foreign banks d. Cooperative institutions (i) Urban cooperative banks (ii) State cooperative banks (iii) Central cooperative banks 2. Financial institutions a. All-India financial institutions (AIFIs) b. State financial corporations (SFCs) c. State industrial development corporations (SIDCs) 3. Nonbanking financial companies (NBFCs) 4. Capital market intermediaries About 92 percent of the countrys banking segment is under State control while the balance comprises private sector and foreign banks. The public sector commercial banks are divided into three categories.

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State bank group (eight banks): This consists of the State Bank of India (SBI) and Associate Banks

of SBI. The Reserve Bank of India (RBI) owns the majority share of SBI and some Associate Banks of SBI.1 SBI has 13 head offices governed each by a board of directors under the supervision of a central board. The boards of directors and their committees hold monthly meetings while the executive committee of each central board meets every week. Nationalized banks (19 banks): In 1969, the Government arranged the nationalization of 14 scheduled commercial banks in order to expand the branch network, followed by six more in 1980. A merger reduced the number from 20 to 19. Nationalized banks are wholly owned by the Government, although some of them have made public issues. In contrast to the state bank group, nationalized banks are centrally governed, i.e., by their respective head offices. Thus, there is only one board for each nationalized bank and meetings are less frequent (generally, once a month). The state bank group and nationalized banks are together referred to as the public sector banks (PSBs). Tables 1 and 2 provide details of public issues and post-issue shareholdings of these PSBs.

Indian Banking - Road Ahead The Indian banking story is running in parallel with Indias growth story. With economic growth of India expected to average at double-digit for the current decade, the banking sector is also poised for growth as the factors contributing to the growth of GDP would act as catalysts for the banking sector as well in retail, corporate as well as rural banking. By 2017, the average consumption in rural India will be the same as of urban India in 2005, according to a McKinsey study. As a result, Indias labour force will grow at a higher rate than population growth and therefore, the ratio of working age population to total population will be on the rise, and it will be more urban, rich and educated. This will result in a higher flow of savings to the banking system. Consumer credit is expected to drive future growth of the sector. Further, Indias mortgage loan and wealth management business will grow 10 times by 2020, according to the estimates put by Boston Consulting Group (BCG). An under penetrated market, both in terms of number of accounts and number of borrowers, the banking segment in India holds huge potential for the future.

Leading Indian Banks by Assets and Market Capitalization Bank State Bank of India ICICI Bank Punjab National Bank Bank of Baroda Bank of India Canara Bank Majority Shareholding Government Private Government Government Government Government Asset Size (in $ Billions) 314 81 66 62 61 59 Market Capitalization (in $ Billions) 36.6 25.6 7.6 7.3 5.1 5.5 Stock Listing Mumbai, London Mumbai, New York Mumbai Mumbai Mumbai Mumbai

IDBI Bank HDFC Bank Union Bank of India Axis Bank

Government Private Government Private

52 49 43 40

2.9 22.2 3.7 11.6

Mumbai Mumbai Mumbai Mumbai, London

Market capitalization data based on full capitalization as on March 18, 2011 Bank Assets as on March 31, 2010; Source: Indian Banks Association

Foreign Banks are Ahead in Most Profitability and Return Ratios Cost of Funds % Government-controlled Banks Private Banks Foreign Banks 5.3 4.8 2.8 Net Interest Margin % 3.8 5.1 7.2 Return on Total Assets % 1.0 1.3 1.3 Total Capital Adequacy % 13.3 17.5 17.3

Data as on March 31, 2010; Source: Reserve Bank of India

Foreign Banks also have more Fee Income, but have Higher Employee Costs and Bad Loans Other Income Employee Costs as Bad Loans % of Total % of Total Cost % of Net Assets Income Government-controlled Banks Private Banks Foreign Banks 13.6 19.6 27.4 14.8 12.8 23.5 1.1 1.0 1.8 Number of Branches 61,301 10,387 310

Data as on March 31, 2010; Source: Reserve Bank of India

CORE BANKING SOLUTIONS Unlike their western counterparts, Indian banks had the opportunity to leapfrog through technological innovations as they started off with a comparatively clean slate. CBS enables banks to consolidate their technology platforms across functions and geographies leveraging cost and at the same time acquiring flexibility and scalability to adapt to a fast changing and competitive environment. The shift to IFRS standards by 2011 with valuation of assets on the basis of current rather than historical cost would be one of the major driving forces for the implementation of Core Banking Solutions. 73.33% of our respondents are cent per cent compliant with core banking solution requirements, with the remainder, mostly public sector banks, lagging behind in implementation within rural areas. Integrating CBS with common inter-bank payment systems can benefit banks and financial institutions in terms of facilities such as CRM, customer profiling and differentiation for improved customer service. Amongst those respondents that have not yet implemented Core banking solutions, 75% expect complete implementation of CBS within 0-1 years, with the rest expecting implementation within the next 2 years at the maximum.