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BANKING AND FINANCIAL INSTITUTIONS 20.01.2011 AJIT SINHA

FINANCIAL SYSTEMS
Financial systems are of crucial significance to capital formationThe main function of financial systems is the collection of savings and their distribution for industrial investment thereby stimulating the capital formation and accelerating the process of economic growth.

FINANCIAL SYSTEMS
The process of capital formation involves three activities Savings the ability by which claims to resources are set aside and become available for other purposes Finance- the activity by which claims to resources are either assembled from those released by domestic savings, obtained from abroad or created as bank deposits or notes and then placed in the hands of the investors

FINANCIAL SYSTEMS
InvestmentsThe activity by which the resources are actually committed to production. The effective mobilization of savings, the efficiency of the financial organization/system and the channelization of these savings into the most productive forms of investment have a great bearing on the contribution of capital formation to economic development.

ORGANISATION
The organization/structure of the financial system consists of the following Financial intermediaries Financial markets Financial assets/Instruments

Financial Intermediaries
Banks Mutual funds Insurance organization NBFCs Asset finance companies Housing finance companies Venture capital funds Stock Broking Firms

Financial Markets
Financial markets perform a crucial function in the savings-investment process as facilitating organizations. They are not sources of finance but they are a link between the savers and investors both individual as well as institutional. Financial Markets Money markets Capital /Securities markets

Financial Assets/Instruments
Financial instruments represent claims on a stream of income and assets of another economic unit and are held as a store of value and for the return that is expected. Equity shares Debentures

INDIAN FINANCIAL SYSTEMAN OVERVIEW

Evolution of Indian Financial system Up to 1951, corresponding to the postindependence scenario, on the eve of the initiation of planned economic development. Between 1951 and the mid 80s reflecting the imperatives of planned economic growth

INDIAN FINANCIAL SYSTEMAN OVERVIEW

After the early nineties responding to the requirements of liberalised/deregulated/globalised economic environment.

INDIAN FINANCIAL SYSTEM- AN OVERVIEW

Phase 1 The organization of the Indian Financial System before 1951 had a close resemblance with the theoretical model of a financial organization in a traditional economy. Industry had very limited access to outside savings. Financial system was not responsive to opportunities for industrial investment

INDIAN FINANCIAL SYSTEM- AN OVERVIEW

Phase II- 1951 to mid 80sThe ability of the system to provide finance and credit to varied enterprises in diverse forms was greatly strengthened during the second phase. Planning signified the distribution by the financial system to be in conformity with the priorities of the five year plans

INDIAN FINANCIAL SYSTEM- AN OVERVIEW

The main elements of the financial organization in planned economic development could be categorized into four broad groups Public /Government ownership of financial institutions Fortification of the institutional resources Protection to investors Participation of financial institutions in corporate management

INDIAN FINANCIAL SYSTEM- AN OVERVIEW

Public ownership of Financial InstitutionsImportant segments of the financial mechanism were assigned to the direct control of Public authorities through nationalization measures as well through the creation of entirely new institutions in the public sector

Nationalization
The nationalisation of the Reserve Bank of India in 1948 marked the beginning of the transfer of important financial intermediaries to Government control. This was followed in 1956 by the setting up of the State Bank of India by taking over the then Imperial Bank of India.

Nationalization
In 1956 ,245 Life insurance companies were nationalized and merged in to the state owned Life Insurance Corporation of India (LIC). In 1969 fourteen commercial banks were brought under the direct ownership of the Government of India, six more commercial banks were brought under the public ownership. General insurance corporation (GIC) was set up in 1972

New Institutions
In addition to nationalisation ,the control of public authorities on the sources of credit and finance led to the creation of a number of new institutions in the Public Sector. Setting up of national/regional Development banks Creation of an investment trust- the Unit Trust of India

Fortification of Institutional Structure

Development Banks- The setting up of the structure of development finance/Banking/term lending institutions was the most outstanding development in this area. In quantitative terms they grew into a massive source of industrial finance and as the most important supplier of capital during that period.

Fortification of Institutional Structure

The role of Development banks had a qualitative dimension also which refers to their role as instruments of state policy, of directing capital into chosen areas of industry in conformity with planning priorities. The setting up of the Industrial Finance corporation of India (IFCI) in 1948 marked the beginning of the era of Development banking in India.

Fortification of Institutional Structure

The Government of India set up the Refinance corporation of India (RCI) Ltd in 1958 to provide refinance to the banks against term loans granted by them to medium/small enterprises. The RCI subsequently merged with the Industrial Development Bank of India(IDBI) in 1964.

Fortification of Institutional Structure

Establishment of IDBI in 1964 is considered to be the most important event in the sphere of development banking in India. IDBI was established as a subsidiary of the Reserve Bank of India. It represented a step towards evolving an integrated structure of financing institutions in India.

Fortification of Institutional Structure

As an apex institution IDBI had an important role in the task of planned economic development. Accordingly it not only provided finance but also coordinated the activities of all the financing institutions. IDBI was delinked from RBI in 1976.

POST NINETIES ORGANISATION

The organization of the Indian financial system, since the mid eighties and the launching of the new economic policy in 1991 has been characterized by profound transformation. The fundamental philosophy of the development process in India shifted to free market economics and the consequent liberalization/deregulation/globalization of the economy.

POST NINETIES ORGANISATION

Major economic policy changes implemented Macro economic stabilization Deli censing of Industries Trade liberalization Currency reforms Reduction in subsidies Financial sector/capital markets/Banking reforms

POST NINETIES ORGANISATION

Privatization/disinvestments in public sector units Tax reforms Company law reforms All of the above helped in capital market oriented developments/reforms. The capital market therefore emerged as the main agency for the allocation of resources and all segments of the Indian economy like the Public sector, Private sector, State Governments started competing to raise resources in the capital markets.

POST NINETIES ORGANISATION

The notable developments in the organization of the organization of the Indian Financial system in Phase III can be briefly summarized as Privatization of Financial Institutions Reorganization of institutional resource Investor protection

Life Insurance Corporation of India

LIC ,in 1956, was formed after amalgamation of 245 life insurance companies into a single state owned organisation. The setting of the LIC was a notable feature in the evolution of the post 1951 organisation of industrial financing in India. The LIC emerged as the single largest reservoir of long term savings in India.

RBI
Establishment The Reserve Bank of India was established on April 1, 1935 . The Central Office of the Reserve Bank was initially established in Calcutta but was permanently moved to Mumbai in 1937. The Central Office is where the Governor sits and where policies are formulated. Though originally privately owned, since nationalization in 1949, the Reserve Bank is fully owned by the Government of India.

RBI
The Preamble of the Reserve Bank of India describes the basic functions of the Reserve Bank as: "...to regulate the issue of Bank Notes and keeping of reserves with a view to securing monetary stability in India and generally to operate the currency and credit system of the country to its advantage."

STATE BANK OF INDIA

First Five Year Plan In 1951, when the First Five Year Plan was launched, the development of rural India was given the highest priority. The commercial banks of the country including the Imperial Bank of India had till then confined their operations to the urban sector and were not equipped to respond to the emergent needs of economic regeneration of the rural areas. In order, therefore, to serve the economy in general and the rural sector in particular, the All India Rural

STATE BANK OF INDIA

Credit Survey Committee recommended the creation of a state-partnered and statesponsored bank by taking over the Imperial Bank of India, and integrating with it, the former state-owned or stateassociate banks. An act was accordingly passed in Parliament in May 1955 and the State Bank of India was constituted on 1 July 1955.

STATE BANK OF INDIA

More than a quarter of the resources of the Indian banking system thus passed under the direct control of the State. Later, the State Bank of India (Subsidiary Banks) Act was passed in 1959, enabling the State Bank of India to take over eight former State-associated banks as its subsidiaries (later named Associates).

STATE BANK OF INDIA

The State Bank of India was thus born with a new sense of social purpose aided by the 480 offices comprising branches, sub offices and three Local Head Offices inherited from the Imperial Bank. The concept of banking as mere repositories of the community's savings and lenders to creditworthy parties was soon to give way to the concept of purposeful banking sub serving the growing and diversified financial needs of planned economic development.

STATE BANK OF INDIA

The State Bank of India was destined to act as the pacesetter in this respect and lead the Indian banking system into the exciting field of national development.

Nationalized Banks
The broad aim of Nationalization wereTo control the heights of the economy and meet progressively and serve better the needs of development of the economy in conformity with national policy and objectives. 14 major banks with individual deposits exceeding Rs.50 crore were nationalized on 19 July 1969

Nationalized Banks
ObjectiveIt was expected that the nationalized banks would Endeavour to ensure that the needs of productive efforts of diverse kinds, irrespective of size and social status of the borrowers and in particular those of farmers, small scale industries and self employed professional groups, are met in increasing measure and to create fresh opportunities for backward areas in the different parts of the country.

Privatization of Financial Institutions

While practically the entire financial system was under the state ownership and control till the mid eighties ,steps were initiated during the phase III to privatize major financial institutions. Conversion of IFCI into a public company IFCI Ltd IDBI also offered its equity to private investors

Foreign Banks
RBI allowed the entry of foreign banks as branches subject to reciprocity and other prudential considerations. Foreign banks/companies have also been permitted to invest up to 20 percent as a technical collaborator (with overall 40 percent ceiling) in a new private sector banks, subject to government approval, provided they do not have presence in India.

Foreign Banks
Foreign equity in new Indian private banks are allowed in accordance with the foreign investment policy. Since 1992 , around 19 new foreign banks with 47 branches have been allowed. It is mandatory for the foreign banks to achieve the minimum target of 32 percent in priority sector lending

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