Evolution of Banking in India
East India Co. established three presidency banks viz.
- Bengal 1806
- Bombay 1840
- Madras 1842
1861 : All 3 were given right to issue currency
1921 : Formation of Imperial Bank of India by merging all above 3 banks
1955 : Nationalization of imperial bank → Birth of SBI
Pre Independence banks in India
Foreign Banks (Pre independence)
- Bombay, Bengal, Madras Presidency Banks → Imperial Bank’ 21 → SBI’ 55
- Catered British Army, Bureaucrats, Judges, merchants
Indian Banks (Pre independence)
- Allahabad Bank, PNB, BoB, Canara Bank
- Focus was majorly on Foreign trade
- Catered Merchants, Shroff & Moneylenders
Birth of RBI
- By 1930 India had more than 1000 banks working solely on company’s law
- In October 24, 1929, the stock market bubble finally burst, as investors began dumping shares en masse.
- A record 12.9 million shares were traded that day, known as “Black Thursday.”
- Finally in 1934, to check this kind of situation in future RBI as banker’s bank was institutionalized.
Post Independence banks in India
- SBI, ICICI, PNB, BOB
- Catered Merchant & industrial houses
- Bank branches increases but only to cater industrial markets
- No expansion in rural areas → No
- No Financial inclusion → No help in five year plans achievement
- Hence to cater the needs of rural banks → Government began nationalizing the banks
Bank Nationalization problems
- Administered interest rate by government
- Political interference→ loan for government nepotism →Rise in NPA → Burden on Civil Courts
- High reserve requirement → CRR 15%, SLR 40%
- Hard to get loans for business → Balance of Payment crisis
- High cost (interest rates) for credit (loans)
- Business expansion decreased → Jobs creation decreased
- Tax-Collection decreased → Government borrowing: Fiscal deficit increased
- Exports decreased → Current Account Deficit increased
Narsimhan Committee I – 1991
Narsimhan Committee I was formed to overhaul banking sector of India & to overcome its problems viz.
- Rising NPA
- Lack of Rural Expansion
- Bank Nationalization
- Lack of Financial inclusion
- High Interest Rates
|Government / RBI must not regulate the banks’ loan interest rates. Banks should be allowed to decide that by themselves.||RBI adopted Benchmark Prime Lending Rate (BPLR) → Now days Base Rate system (2010)|
|Setup Debt recovery tribunals, so loan defaulters cannot get stay orders from courts.||Debt recovery tribunal setup in 1993 → Later came SARFAESI act in 2002 with more powers|
|Liberate Branch expansion policy.||Banks can open branches anywhere. Only condition 25% of branches in rural areas.|
|Reduce CRR and SLR so banks are left with more money to lend.||Gradually reduced from (15,40) → (4, 21.5)|
|NBFC regulatory framework||Implemented|
|Government should reduce its shareholding from public sector banks.||Done, SBI shares sold, nowadays government owns ~ 60%. (this facilitates entry of professionals in the board of directors)|
|Allow entry of private sector banks and foreign banks.||Done, leads to first round of bank licenses|
Benchmark Prime Lending Rate (BPLR) → Base Rate system
- RBI does NOT fix the base rate. It has issued broad guidelines to bank as to how they should arrive at the base rate.
- Thus, individual bank itself fixes its own base rate.
- The calculations of the BPLR by various banks were not transparent.
- In case of BPLR, Banks normally used to take into consideration the factors like cost of funds, administrative costs and a margin over it.
- However, such parameters were neither disclosed by banks nor were same for all the banks
- Result → Base Rate system (2010)
Let’s Say Base rate of SBI is 10%
|Base Rate +||Result|
|Car Loan||0.75 %||10.75 %|
|Two Wheeler Loan||8.25 %||18.25 %|
|Education Loan||3.50 %||13.50 %|
|Home Loan (< 75 L)||0.15 %||10.15 % (10.10 W)|
|Home Loan (> 75 L)||0.30 %||10.30 % (10.25 W)|
Bank licences → 1st Round (1993)
- Total 10 private banks given licenses → 6 still running + 4 closed down
- 6 Running → ICICI, HDFC, UTI (became Axis bank (2007)), IDBI, Indusind, DCB (Development Credit Bank)
- 4 Closed → Global Trust Bank merged with Oriental bank of Commerce, Bank of Punjab merged with Centurion bank, Centurion bank merged with HDFC bank, Times Bank merged with HDFC bank
Narsimhan Committee II – 1998
- Introduced Voluntary retirement scheme (VRS) in public sector banks.
- Legal reforms for loan recovery → SARFAESI act 2002
- Computerization, electronic fund transfer, legal framework
- Payment and Settlement Act
- Retail Transaction → ECS, NEFT, Credit Card
- Wholesale Transaction → RTGS
- Permit new private / foreign banks
New Bank licenses 2nd round (2001)
- This time RBI gave license only two strongest contenders viz.
- Kotak Mahindra
- Yes Bank
New Bank licenses 3rd Round (2013 – 14) – RBI conditions
- 10 years successful work-ex with minimum capital Rs. 5 billion
- Get its shares listed on stock exchange within 3 years; bring down voting rights to 15% within 12 years.
- foreign shareholding must not be more than 49% (for the first five years)
- 50% of directors should be independent & such bank must not invest in shares/bonds of its parent group.
- Must open at-least 25% branches in the unbanked rural areas & Have to comply with PSL norms
RBI – Bimal Jalan Committee
- Based on committees recommendations RBI gave license only two strongest contenders viz.
- Bandhan Microfinance
Bandhan Microfinance → Chandra Shekhar Ghosh
- Micro-finance company at West Bengal
- Net worth 1100 Cr., 45% branches in rural areas
IDFC (Infrastructure Development and Financial Corporation) → Rajiv Lal
- Infrastructure finance company at Mumbai
- Net worth 21000 cr., but rural presence low
These two are given only “in-principle” approval which means
- Within 18 months must get net worth Rs. 1000 crore
- Must open 25% branches in unbanked rural areas
Once they fulfill above conditions, RBI will give them license under Banking Regulation Act, 1949 to open current account, savings account etc. RBI has also prohibited the promoters (Ghosh and Lal) to hold CEO position in their respective banks to prevent conflict of interest.