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Principles of bank lending & Priority sector lending

Principles of bank lending & Priority sector lending

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Published by SheejaVarghese
useful for bank management
useful for bank management

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Published by: SheejaVarghese on Oct 29, 2010
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10/29/2013

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 1
BASIC PRINCIPLES OF BANK LENDINGDefinitions of 
 
l
ending
 Disposing of money or property with the expectation that the same thing (or an equivalent) will be returned . Credit is the provision of resources (such as granting a loan) by one party to another  party where that second party does not reimburse the first party immediately, thereby generatinga debt, and instead arranges either to repay or return those resources (or material(s) of equalvalue)
y
 
L
enders - A loan is a type of debt.
L
ike all debt instruments, a loan entails the redistributionof financial assets over time
y
 
T
o provide money temporarily on condition that the amount borrowed be returned, usuallywith an interest fee.
T
oday ,the important types of banks, commercial and merchant banks, operating under theregulation of the Central Bank.
T
he commercial banks engage in retail banking servicesthrough branch networks and operate with a broad deposit base consisting of demand andtime deposit ± they provide short term lending. On the other hand, merchant banks arelicensed to provide wholesale banking, take deposit and arrange syndicated loan facilities for long terms by pooling, sometimes, a consortium of banks, including other financialinstitutions, to finance capital intensive projects. From the foregoing, it is realized that banksare generally debtors; they borrow money in order to lend them out to make profit. No bank can ever survive by just being a custodian of deposit, but they exist by lending from thedeposit on fixed interest charged. Money lent on interest is always supposed to be secured onsome guarantees or security.Since banks depend largely on lending, the need to adhere to the basic principles of lending isquite inevitable.
T
he principles, if strictly followed, will guarantee depositors and shareholders¶funds, increase profitability and make a healthy turn over. Such advances in turn assist in thetransformation of rural environment, promote rapid expansion of banking habit and improve and boost the nation¶s economy.
 
 2
T
he basic considerations in bank lending are the character of the client seeking loan from the bank.
T
he client must be an honest, upright customer whose record of transaction with thefinancial institution or in the society is remarkable.
T
he information on the character of the borrower could be obtained through a completed form of his guarantor or his statement of account.For effective credit administration, the bank must assign functioning lending officers, properlytrained on lending, to be responsible for evaluation of reports and collection and reportingfindings to relevant senior schedule officers, for further consideration and final approval or rejectionAn internal credits/lending policy should be formulated, implemented and pursued vigorously bythe bank to minimize the risk of default from borrowers.
T
he successful banks operating withinthe financial system are those that consider and coordinate basic principles of lending andmonitor the activities of borrowers regularly.
T
he major business of banking company is to grant loans and advances to traders as well ascommercial and industrial institutes.
T
he most important use of banks money is lending. Yet,there are risks in lending. While lending loans or advances the banks usually keep suchsecurities and assets as a supports so that lending may be safe and secured. Suppose, any particular state is hit by disasters but the bank shall get advantages from the lending to another states units.
T
hus, the effect on the entire business of banking is reduced. So the banks followcertain principles to minimize the risk. Following are the important areas to be taken carewhile lending:
Princip
l
es of good
l
endingBasic princip
l
es Genera
l
princip
l
es
 
 3
Basic princip
l
es
T
he success of banks depends upon the basic principles.
T
hese are the prime principles inlending as well as investment
SafetyLiquidityProfitabi
l
itySafety
 Normally the bank uses the money of depositors in granting loans and advances. Because of that while granting loans the banker should think about the safety of depositor¶s money.
T
he purpose behind the safety is to see the financial position of the borrower, whether he can paythe debt as well as interest easily. Ensuring safety means reducing risk associated with lending.
T
he risk involved in lending money is the credit risk.ie the possibility of the borrower notrepaying the amount back on the due date. It is necessary for the banks to maintain expert staff to appraise every credit proposal received by it. Market risk also there , it can be avoided by preferring high ± grade securities of short terns. 
Liquidity
 It is a legal duty of a banker to pay the total deposited money to the depositor on demand. Sothe banker has to keep certain percent cash of the total deposits in hand. Moreover the bank grants loan. It is also for the addition of short term or productive capital. Such type of lendingis recovered on demand. A bank must have sufficient liquid assets to meet the demands of thedepositors .
T
he liquid assets must have posses certain characteristics.It must be convertible in to cash quickly and easily.
T
he conversion must be without any loss of value or risk S
LR 
:
T
he Banking regulation act of 1949 , section 24 . states that every commercial bank have to maintain liquid assets in the form of cash , gold, and gilt edged securities ± which isnot less than 25 % and not more than 40 % of ND
TL
( Net Demand and
T
ime
L
iabilities )

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