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Meaning

 A commercial bank is a financial institution which


performs the functions of accepting deposits from the
general public and giving loans for investment with
the aim of earning profit.
 In fact, commercial banks, as their name suggests, axe
profit-seeking institutions, i.e., they do banking
business to earn profit.
Functions
 The two most distinctive features of a commercial
bank are borrowing and lending, i.e., acceptance of
deposits and lending of money to projects to earn
Interest (profit).
 The difference between the rates is called ‘spread’
which is appropriated by the banks.
 Functions of commercial banks are classified in to two
main categories—(A) Primary functions and (B)
Secondary functions.
Primary Functions:
1. It accepts deposits:
Deposits are of three types as under:
(i) Current account deposits:
(ii) Fixed deposits (Time deposits):
(iii) Savings account deposits:
2. It gives loans and advances:
(i) Cash Credit:
(ii) Demand Loans:
(iii) Short-term Loans:
Investment: Commercial banks invest their surplus fund in 3 types
of securities:
(i) Government securities, (ii) Other approved securities and (iii)
Other securities. Banks earn interest on these securities.
(B) Secondary
 (i) Discounting bills ofFunctions:
exchange or bundles:
 (ii) Overdraft facility:.
 Difference between Overdraft facility and Loan:
 1. Overdraft is made without security in current
account but loans are given against security.
 2. In the case of loan, the borrower has to pay interest
on full amount sanctioned but in the case of overdraft,
the borrower is given the facility of borrowing only as
much as he requires.
 3. Whereas the borrower of loan pays Interest on
amount outstanding against him but customer of
overdraft pays interest on the daily balance.
Secondary Functions:
(iii) Agency functions of the bank
The bank acts as an agent of its customers
and gets commission for performing
agency functions as under:-
(i) Transfer of funds
(ii) Collection of funds
(iii) Payments of various items
(iv) Purchase and sale of shares and
securities
(vii) Letters of References
Secondary Functions:
The banks provide many general utility services,
some of which are as under:
(i) Traveller’s cheques
(ii) Locker facility.
(iii) Underwriting securities issued by government,
public or private bodies.
(iv) Purchase and sale of foreign exchange (currency).
Types of Commercial Banks:
 Scheduled banks are those banks which are included in Second
Schedule of Reserve Bank of India.
 Non-scheduled Banks:
 The banks which are not included in Second Schedule of RBI are
known as non-scheduled banks.
 Other types of Banks:
 Industrial Banks provide finance to industrial concerns by subscribing
(buying) shares and debentures of companies and also give long-term
loans to acquire machinery, plants, etc.
 Foreign Exchange Banks are commercial banks which are branches of
foreign banks and facilitate international financial transactions
through buying and selling of foreign bills.
 Agricultural Banks finance agriculture and provide long-term loans for
buying tractors and installing tube-wells.
 Post office saving bank. Cooperative Banks are organised by the people
for their own collective benefits.
Lending principles of Banks
Banks follow the following principles of lending:
1. Liquidity
2. Safety
3. Diversity
4. Stability
5. Profitability
Priority Sector lending
 The objective of priority sector lending program is to
ensure that adequate credit flows into some of the
vulnerable sectors of the economy, which may not be
attractive for the banks from the point of view of
profitability.
 These sectors include agriculture, small scale
enterprises, retail trade, etc. Small housing loans,
loans to individuals for pursuing education, loans to
weaker sections of the society etc also qualify as
priority sector loans.
Priority Sector
 The RBI guidelines requirelending
banks to lend at least 40% of
Adjusted Net Bank Credit (ANBC) or credit equivalent
amount of Off-Balance Sheet Exposure (CEOBSE),
whichever is higher. In case of foreign banks, the target for
priority sector advances is 32% of ANBC or CEOBSE,
whichever is higher.
 A bank having shortfall in lending to priority sector
lending target or sub-target shall be required to make
contribution to the Rural Infrastructure Development
Fund (RIDF) established with NABARD or funds with
other financial institutions as specified by the RBI.
Export Credit
 RBI requires banks to make loans to exporters at
concessional rates of interest. Export credit is provided
for pre-shipment and post-shipment requirements of
exporter borrowers in rupees and foreign currencies.
At the end of any fiscal year, 12.0% of a bank's credit is
required to be in the form of export credit.
 This requirement is in addition to the priority sector
lending requirement but credits extended to exporters
that are small scale industries or small businesses may
also meet part of the priority sector lending
requirement.
Retail Loan
 Banks offer a range of retail asset products, including
home loans, automobile loans, personal loans (for
marriage, medical expenses etc), credit cards,
consumer loans (such as TV sets, personal computers
etc) and, loans against time deposits and loans against
shares.
 Banks also may fund dealers who sell automobiles, two
wheelers, consumer durables and commercial vehicles.
Retail Loan
 Customers for retail loans are typically middle and
high-income, salaried or self-employed individuals,
and, in some cases, proprietorship and partnership
firms.
 Except for personal loans and credit through credit
cards, banks stipulate that (a) a certain percentage of
the cost of the asset (such as a home or a TV set)
sought to be financed by the loan, to be borne by the
borrower and (b) that the loans are secured by the
asset financed.
Home Finance:
 Banks extend home finance loans, either directly or through
home finance subsidiaries.
 Such long term housing loans are provided to individuals and
corporations and also given as construction finance to builders.
 The loans are secured by a mortgage of the property financed.
These loans are extended for maturities generally ranging from
five to fifteen years and a large proportion of these loans are at
floating rates of interest.
 Fixed rate loans may also be provided; usually with banks
keeping a higher margin over benchmark rates in order to
compensate for higher interest rate risk.
 Equated monthly installments are fixed for repayment of loans
depending upon the income and age of the borrower(s).
Personal Loans:
 These are often unsecured loans provided to
customers who use these funds for various purposes
such as higher education, medical expenses, social
events and holidays.
 Sometimes collateral security in the form of physical
and financial assets may be available for securing the
personal loan. Portfolio of personal loans also includes
micro-banking loans, which are relatively small value
loans extended to lower income customers in urban
and rural areas.
International Loans Extended by
Banks
 Indian corporate raise foreign currency loans from
banks based in India as well as abroad as per
guidelines issued by RBI/ Government of India. Banks
raise funds abroad for on-lending to Indian corporate.
 Further, banks based in India have an access to
deposits placed by Non Resident Indians (NRIs) in the
form of FCNR (B) deposits, which can be used by
banks in India for on-lending to Indian customers.
Significance of Commercial Banks:
(i) They promote savings and accelerate the rate of capital formation.
(ii) They are source of finance and credit for trade and industry.
(iii) They promote balanced regional development by opening branches
in backward areas.
(iv) Bank credit enables entrepreneurs to innovate and invest which
accelerates the process of economic development.
(v) They help in promoting large-scale production and growth of priority
sectors such as agriculture, small-scale industry, retail trade and
export.
(vi) They create credit in the sense that they are able to give more loans
and advances than the cash position of the depositor’s permits.
(vii)They help commerce and industry to expand their field of operation.
(viii) Thus, they make optimum utilisation of resources possible.

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