BANKING SYSTEM IN INDIA

Chapter two
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 Bank of Hindustan was the first bank to be established in 1770.
 The earliest institutions that undertook banking business in
India under the British Regime were agency houses that
carried on banking business in addition to their normal trading
activities.Most of these agency houses were closed down
during 1929-32. Three Presidency banks known as Bank of
Bengal, Bank of Bombay and Bank of Madras were opened in
1809,1840 and 1843 respectively. They later on merged into
the Imperial Bank of India in 1919 following a banking crises.
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 The first bank of limited liability managed by Indians
was the Oudh Commercial Bank started in 1881.
Earlier between 1865 and 1870 only one bank
Allahabad Bank Ltd was established. Subsequently
the Punjab National Bank was established in 1894
having its headquarters in Lahore.
 The Swadesi Movement that began in 1906
prompted the formation of a large number of
commercial banks.
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 A series of banking crisis between 1913-1917
witnessed the failure of 588 banks. The Banking
Companies Act was passed in February 1946 which
was later amended to be known as the Banking
Regulation Act 1949.
 The RBI Act 1934 was passed and the Reserve
Bank of India became the first Central Bank of this
country w.e.f. 01.04.1935. it took over the central
banking activities from Imperial Bank of India.
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 The RBI was nationalized in 1949. The
Imperial Bank was nationalized to form the
State Bank of India in 1955. Subsidiaries of
the State Bank of India were introduced in
1959.
 On July 19,1969 the nationalization of 14
commercial banks by Mrs Indira Gandhi took
place folllowed by nationalization of another
6 banks on 15.04.1980.
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 The Banking system in India consists of 27
banks in the public sector. The major
objective behind nationalization was to
ensure mass banking and extension of bank
credit to all sectors of the economy.
 Private sector got a fillip in 1994 with the
Government relaxing the conditions for
opening of private sector banks as a part of
the liberalization process.
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 The HDFC Bank was the first to get an in principle
approval from the RBI to set up a bank in the private
sector. As on March 31,2005 there are 30 private
sector banks operating in the country.
 Private banks have been playing a crucial role in
enhancing customer oriented products. The Reserve
Bank of India has issued guidelines on ownership
and governance in private banks.
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 The guidelines require that
 Important shareholders with shareholding of 5% and
above are fit and proper as per RBI guidelines in
respect of ownership and transfer of shares.
 The directors and CEOs are fit and proper in respect
of observance of sound corporate principles.
 The banks have minimum capital/net worth in line
with their operational requirements.
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 Policy and processes are transparent and
fair.
 Some additional requirements are
 Banks maintain a net worth of Rs.300 crores
at all times.
 Shareholding of more than 10% by one
person or group of related entities requires
RBI prior approval.
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 Banks(including foreign banks having

branches in India) are not allowed to exceed
equity holding of 5% of the equity capital of
the investee bank.
 Large industrial houses are allowed to
acquire shares not exceeding 10% of the
paid up capital of the bank subject to
approval by RBI.
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 The Reserve Bank would permit a higher
level of shareholding on a case to case basis
for restructuring of problem/weak banks or in
the interest of consolidation in the banking
sector.
 In case the net worth comes to below Rs.300
crores, a time bound program to augment the
capital should be submitted to the Reserve
Bank.
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 On the issue of foreign participation in private banks
from allsources(FDI,FII,NRI) the guidelines stipulate
that it cannot exceed 74% of the paid up capital of
the bank. The aggregate limit for FII investments is
restricted to 24% which can be increased to 49%
with the approval of the Board/Shareholders.
 The aggregate limit for NRI investments is 24% with
individual investment being a limit of 5% subject to
approval of the board/shareholders.
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 Indian Banks operations abroad
 As on October 20,2005 14 Indian banks-nine from
the public sector and five from the private sector had
overseas operations spread across 42 countries with
a network of 101 branches (including 6 offshore
units), 6 joint ventures,17 subsidiaries and 30
representative offices. The Bank of Baroda had the
highest overseas presence followed by State Bank of
India and Bank of India.
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 Local Area Banks
 The concept of local area banks was launched by
the RBI on 24/08/1996 with the purpose of
developing backward and less developed districts. In
order to facilitate its formation,the RBI prescribed a
minimum capital of Rs.500 lakhs for its formation by
individuals,trusts,societies/corporates. RBI has also
laid down guidelines for this purpose which are given
below :-
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 The promoters of LAB are required to approach the
Registrar of Companies only after the in principle
approval is given by RBI for the purpose of setting up
the LAB
 If the promoters have selected a name for the LAB,
the proposed name may be indicated.
 The composition of the Board of Directors for the
proposed LAB as well as the name and bio data of
the proposed managing director shall have to be
submitted to RBI for approval after the local area
bank is given the in principle approval.
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 The proposed LAB has to submit a detailed project report with
business plan and projections for five years as well as the
projected Profit and Loss Account for 5 future years.
 LAB has to operate only in backward and less developed
districts.
 Promoters have to bring in the entire minimum capital of Rs.5
crores from their own verifiable sources of funds. The
promoters have to submit their net worth statements duly
authenticated by a Chartered Accountant. The promoters have
to submit documentary evidence along with Auditors Certificate
in support of their having mobilized the minimum initial capital
of Rs.5 crore before issue of the licence to the LAB.
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 The entire promoters contribution inclusive of
contribution of relatives and friends shall have a lock
in period of three years from the date of issue of the
licence and at least 40% will be locked in for a
further period of two years.
 The LAB shall operate in rural and semi urban areas
of their area of operation. One urban branch (center
with population above one lakh) will be allowed.
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 Four LABs were functional at end March
2005
 Coastal Area Bank Ltd Vijayawada Andhra
Pradesh
 Capital Local Area Bank Ltd Navsari Gujarat
 Krishna Bhima Samruddhi Local Area Bank
Ltd Mehboobnagar
 Subhadra Local Area Bank Ltd Kolhapur.
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 Lead Bank Scheme
 Lead Bank Scheme was introduced in December
1969 on the recommendations of FKF Nariman
Committee.
 Under the scheme the country is divided into 338
districts and were distributed among major
scheduled banks mostly in the public sector to play a
lead role in coordinating the efforts of all credit
institutions in the district for planned growth in
branch network and credit deployment in the district.
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 The Lead Bank prepares a District Credit Plan and
subsequently an Annual Action Plan which stipulates
targets to provide credit to priority sectors, weaker
sectors etc. The performance of the branches within
the lead area is monitored by Block Level Bankers
Committee at the block level, District Consultative
Committee at the District Level and State level
Banker’s Committee at the State Level.
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 The progress of the branches in the lead area are monitored by
a well designed MIS. The returns to be submitted by the
branches to the Lead Bank are
 Lead Bank Return 1 (service area credit plan) Annual Return
submitted by branch to the BLBC before February 26 every
year giving details of the annual credit plan of the branch.
 Lead Bank Return 2 (service area operation scroll) A monthly
return submitted by all rural and semi urban branches giving
details of priority sector credit disbursement each day during
the month. It is to be submitted by the branch to the District
Lead Manager.
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 Lead Bank Return U2 It is a modified version of LBR 2 and is
required to be submitted by semi urban/urban branches once in
a quarter.
 Lead Bank Return 3 (Service area recovery and outstanding
statement) This statement consists of three parts
 Part A Deposit and Advance Position to be submitted on a
quarterly basis
 Part B Outstanding under Priority Sector Advances to be
submitted on a half yearly basis.
 Part C Statement of Priority Sector Advances to be submitted
on an annual basis.
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 Cooperative Banks
 Cooperative Banks mobilize deposits and serve
agricultural as well as rural credit with a view to uplift
the rural poor.
 The RBI regulates these banks since March 1,1966.
In view of the liquidity and insolvency problems in
2001 RBI took some stern measures related to
lending against shares, borrowings in the call market
as well as term deposits placed with urban
cooperative banks.
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 Regional Rural Banks
 This concept was introduced on the basis of the
Narasimhan Committee.
 Each RRB has a maximum authorised capital of
Rs.5 crore and an issued capital of minimum Rs.25
lakhs and maximum Rs,1 crore. The share capital of
the RRB is subscribed by the Central Government,
State Government and the sposoring bank in the
ratio 50:15:35 respectively. RRBs are specialized
rural financial institutions providing credit to the rural
sector.