History of Banking System in India

India cannot have a healthy economy without a sound and effective banking system. The banking system should be hassle free and able to meet the new challenges posed by technology and other factors, both internal and external. In the past three decades, India's banking system has earned several outstanding achievements to its credit. The most striking is its extensive reach. It is no longer confined to metropolises or cities in India. In fact, Indian banking system has reached even to the remote corners of the country. This is one of the main aspects of India's growth story. The government's regulation policy for banks has paid rich dividends with the nationalization of 14 major private banks in 1969. Banking today has become convenient and instant, with the account holder not having to wait for hours at the bank counter for getting a draft or for withdrawing money from his account. History of Banking in India The first bank in India, though conservative, was established in 1786. From 1786 till today, the journey of Indian Banking System can be segregated into three distinct phases:

Bank of Mysore were set up. The Reserve Bank of India came in 1935. During the first phase, the growth was very slow and banks also experienced periodic failures between 1913 and 1948. There were approximately 1,100 banks, mostly small. To streamline the functioning and activities of commercial banks, the Government of India came up with the Banking Companies Act, 1949, which was later changed to the Banking Regulation Act, 1949 as per amending Act of 1965 (Act No. 23 of 1965). The Reserve Bank of India (RBI) was vested with extensive powers for the supervision of banking in India as the Central banking authority. During those days, the general public had lesser confidence in banks. As an aftermath, deposit mobilization was slow. Moreover, the savings bank facility provided by the Postal department was comparatively safer, and funds were largely given to traders. Phase 2 The government took major initiatives in banking sector reforms after Independence. In 1955, it nationalized the Imperial Bank of India and started offering extensive banking facilities, especially in rural and semi-urban areas. The government constituted the State Bank of India to act as the principal agent of the RBI and to handle banking transactions of the Union government and state governments all over the country. Seven banks owned by the Princely states were nationalized in 1959 and they became subsidiaries of the State Bank of India. In 1969, 14 commercial banks in the country were nationalized. In the second phase of banking sector reforms, seven more banks were nationalized in 1980. With this, 80 percent of the banking sector in India came under the government ownership. Phase 3 This phase has introduced many more products and facilities in the banking sector as part of the reforms process. In 1991, under the chairmanship of M Narasimham, a committee was set up, which worked for the liberalization of banking practices. Now, the country is flooded with foreign banks and their ATM stations. Efforts are being put to give a satisfactory service to customers. Phone banking and net banking are introduced. The entire system became more convenient

Early phase of Indian banks, from 1786 to 1969 Nationalization of banks and the banking sector reforms, from 1969 to 1991 New phase of Indian banking system, with the reforms after 1991

Phase 1 The first bank in India, the General Bank of India, was set up in 1786. Bank of Hindustan and Bengal Bank followed. The East India Company established Bank of Bengal (1809), Bank of Bombay (1840), and Bank of Madras (1843) as independent units and called them Presidency banks. These three banks were amalgamated in 1920 and the Imperial Bank of India, a bank of private shareholders, mostly Europeans, was established. Allahabad Bank was established, exclusively by Indians, in 1865. Punjab National Bank was set up in 1894 with headquarters in Lahore. Between 1906 and 1913, Bank of India, Central Bank of India, Bank of Baroda, Canara Bank, Indian Bank, and

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and swift. Time is given importance in all money transactions. The financial system of India has shown a great deal of resilience. It is sheltered from crises triggered by external macroeconomic shocks, which other East Asian countries often suffered. This is all due to a flexible exchange rate regime, the high foreign exchange reserve, the not-yet fully convertible capital account, and the limited foreign exchange exposure of banks and their customers. The Banking Structure in India The commercial banking structure in India consists of scheduled commercial banks and unscheduled banks. Scheduled banks constitute those banks that are included in the Second Schedule of Reserve Bank of India (RBI) Act, 1934. As on June 30, 1999, there were 300 scheduled banks in India having a total network of 64,918 branches. The scheduled commercial banks in India comprise State Bank of India and its associates (8), nationalised banks (19), foreign banks (45), private sector banks (32), cooperative banks, and regional rural banks. Before the nationalization of Indian banks, the State Bank of India (SBI) was the only nationalized bank, which was nationalized on July 1, 1955, under the SBI Act of 1955. The nationalization of seven State Bank subsidiaries took place in 1959. After the nationalization of banks in India, the branches of the public sector banks rose to approximately 800 percent in deposits and advances took a huge jump by 11,000 percent. Nationalization Process

Foreign Banks

One aspect to be noted is the increasing number of foreign banks in India. The RBI has shown certain interest to involve more foreign banks. This step has paved the way for a few more foreign banks to start business in India. Reserve Bank of India (RBI) The central bank of the country is the Reserve Bank of India (RBI). It was established in April 1935 with a share capital of Rs 5 Crore on the basis of the recommendations of the Hilton Young Commission. The share capital was divided into fully paid shares of Rs 100 each, which was entirely owned by private shareholders in the beginning. The government held shares of nominal value of Rs 220,000. The RBI commenced operation on April 1, 1935, under the Reserve Bank of India Act, 1934. The Act (II of 1934) provides the statutory basis of the functioning of the Bank. The Bank was constituted to meet the following requirements:

Regulate the issue of currency notes Maintain reserves with a view to securing monetary stability Operate the credit and currency system of the country to its advantage

Functions of the RBI The Reserve Bank of India Act of 1934 entrusts all the important functions of a central bank with the Reserve Bank of India. Bank of Issue: Under Section 22 of the Act, the Bank has the sole right to issue currency notes of all denominations. The distribution of one-rupee notes and coins and small coins all over the country is undertaken by the Reserve Bank as an agent of the government. Banker to the Government: The second important function of the RBI is to act as the governments banker, agent, and adviser. Bankers' Bank and Lender of the Last Resort: The RBI acts as the bankers' bank. Since commercial banks can always expect the RBI to come to their help in times of banking crisis, the RBI becomes not only the banker's bank but also the lender of the last resort. Controller of Credit: The RBI is the controller of credit, i.e., it has the power to influence the volume of credit created by banks in India. It can do so through changing the Bank rate or through open market operations.

1955: Nationalization of State Bank of India 1959: Nationalization of SBI subsidiaries 1969: Nationalization of 14 major banks 1980: Nationalization of seven banks with deposits over Rs 200 crore

Banks in India In India, banks are segregated in different groups. Each group has its own benefits and limitations in operations. Each has its own dedicated target market. A few of them work in the rural sector only while others in both rural as well as urban. Many banks are catering in cities only. Some banks are of Indian origin and some are foreign players. Banks in India can be classified into:

Public Sector Banks Private Sector Banks Cooperative Banks Regional Rural Banks

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Custodian of Foreign Reserves: The RBI has the responsibility to maintain the official rate of exchange. Besides maintaining the rate of exchange of the rupee, the RBI has to act as the custodian of India's reserve of international currencies. Supervisory Functions: In addition to its traditional central banking functions, the RBI has certain nonmonetary functions of the nature of supervision of banks and promotion of sound banking in India. The Reserve Bank Act, 1934, and the Banking Regulation Act, 1949, have given the RBI wide powers of supervision and control over commercial and co-operative banks, relating to licensing and establishments, branch expansion, liquidity of their assets, management and methods of working, amalgamation, reconstruction, and liquidation. Indian Banks Association (IBA) The Indian Banks Association (IBA) was formed on September 26, 1946, with 22 members. Today, IBA has more than 156 members, such as public sector banks, private sector banks, foreign banks having offices in India, urban co-operative banks, developmental financial institutions, federations, merchant banks, mutual funds, housing finance corporations, etc. The IBA has the following functions:

Investment banking, activities in the financial markets, such as "underwrite" (guarantee the sale of) stock and bond issues, trade for their own accounts, make markets, and advise corporations on capital market activities like mergers and acquisitions Merchant banking is the private equity activity of investment banks Financial services, global financial institutions that engage in multiple activities such as banking and insurance

Important Historical Events on Indian Banking System

Sl. 1 3 5 7 Event The first bank in India Bank of Hindustan established First general insurance company established Bombay Stock Exchange (BSE) started trading Oriental Life Insurance Company established Bank of Bengal, Bank of Madras and Bank of Bombay were merged into Imperial Bank Establishment of Hilton-Young Commission to suggest a central bank for the country Establishment of Reserve Bank of India as the central bank Control of Capital Issues Act imposed Establishment of Industrial Finance Corporation (IFC). Imperial Bank taken over by State Bank of India; Establishment of Industrial Credit and Investment Corporation of India (ICICI) Life Insurance Company of India (LIC) was established Insertion of a new Chapter in RBI Act, 1934 to effectively supervise, control and regulate NBFCs Establishment of Industrial Development Bank of India(IDBI) By P. K. Thakur Year 1770 1850 1875 1918

Promote sound and progressive banking principles and practices. Render assistance and to provide common services to members. Organize co-ordination and co-operation on procedural, legal, technical, administrative, and professional matters. Collect, classify, and circulate statistical and other information. Pool expertise towards common purposes such as cost reduction, increased efficiency, productivity, and improving systems, procedures, and banking practices. Project good public image of banking through publicity and public relations. Encourage sports and cultural activities among bank employees.

1921

11

1926

13 15 17

1935 1947 1948

19
Banking Activities

1955

Retail banking, dealing directly with individuals and small businesses Business banking, providing services to midmarket businesses Corporate banking, directed at large business entities Private banking, providing wealth management services to high net-worth individuals

21

1956

25

1963

27

1964

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29 31

Deposit insurance extended to cooperative banks Nationalisation of 14 largest banks commercial banks Nationalisation of general insurance companies Foreign Exchange Regulation Act (FERA) was promulgated which provided an opportunity to develop Indian equity market Establishment of Regional Rural Banks Second round of nationalisation of 6 commercial banks Establishment of National Bank for Agriculture and Rural Development (NABARD) First credit rating agency established in India Establishment of Small Industries Development Bank of India Report of the Committee on the Financial System, which provided the blueprint for first generation financial sector reforms. Introduction of prudential norms for income recognition and asset classification; SEBI became capital market regulator National Stock Exchange (NSE) was established as the first screen-based trading platform for traders.

1966 1969 53

dematerialised form. Termination of automatic monetisation of Government deficit Statutory Liquidity Ratio (SLR) reduced to 25% (legal minimum) Insurance Regulation and Development Act passed Detailed guidelines on risk management in banks announced Guidelines issued regarding interest rate swaps and forward rate agreement New guidelines for categorisation and valuation of banks investment portfolio announced Liquidity Adjustment Facility introduced Foreign Exchange Management Act Credit Information Bureau of India Ltd was established Revised guidelines announced for entry of new private banks Clearing Corporation of India Limited became operational Central Listing Authority was constituted

1997

33

1973

55

1999

35 37

1975 1980 57

2000

39

1982 59

2001

41

1990

61

2002

43

1991 63

2003

Miscellaneous Facts
1992 1993 1994 1996 First India bank Got ISO : Canara Bank First Governor of RBI : Mr. Osborne Smith First Indian governor of RBI : Mr. C D Deshmukh First Bank to Introduce ATM in India : HSBC First Bank to introduce saving Bank in India : Presidency bank in 1833 First Bank to Introduce Cheque system in India : Bengal Bank 1784 First Bank to introduce Internet Banking : ICICI BANK First Bank to introduce Mutual Fund : State Bank of India First Bank to introduce Credit Card in India : Central Bank of India First Foreign Bank in India : Comptoire dEscompte de Paris of France in 1860 First Bank Set Up in India : Bank of Hindustan in 1770 First Joint Stock Bank of British India : State Bank of India First Joint Stock Bank of India : Allahabad Bank First Bank that is oldest Public Bank in India : Allahabad Bank By P. K. Thakur

45

47

Introduction of Depositories Board for Financial Supervision, under RBI, established New guidelines for entry of new private sector banks announced Wholesale debt market operations started by NSE. Establishment of Institute for Development and Research in Banking Technology Depositories Act was passed which allowed for holding of securities in

49

51

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 First national bank that is merged with Punjab National Bank : New Bank of India in 1993 First Indian bank to open branch outside India in London in 1946 : Bank of India First Indian Bank started with Indian capital /indigenous Bank of India : Punjab National Bank First Regional Rural Bank name Prathama Grameen Bank Was started by : Syndicate Bank

Recurring Deposits Account = In this account money is fixed every months and rate of interest in the same as on fixed deposits accounts. Business Bank Accounts : Current Accounts = These accounts are used mainly by businessmen and are not generally used for the purpose of investment. These deposits are the most liquid deposits and there are no limits for number of transactions or the amount of the transactions in a day. No interest is paid by banks on these accounts. One of the prominent advantage of such account is that overdraft is allowed. Cash Credit Accounts = In this account money is lent against the commodities or stock, a set limit or a credit facility is provided as per the value of commodities. Interest is taken as per the limit availed by the customers. Banking Terminology: IFSC Code : = Indian Financial System Code. The code consist of 11 characters for identifying the bank and branch where the account in actually held. The IFSC code is used both by the RTGS and NEFT transfer systems. RTGS: = Real Time Gross settlement system is funds transfer system where transfer of money or securities takes place from bank to another on a real time. (Real time means within a fraction of seconds.) The minimum amount to be transfer through RTGS is Rs 2 Lakh. Processing charges/service charges for RTGS transactions vary from bank to bank. NEFT: National Electronic Fund transfer. This is a method used for transferring funds across bank in a secure manner. It usually takes 1-2 working days for the transfer to happen. NEFT is an electronic fund transfer system that operates on a deferred Net Settlement (DNS) basis which settles transactions in batches.(Note : RTGS is much faster than NEFT.) UTR Number: unique transactions reference number. A Unique Number which is generated for every transaction in NEFT & RTGS system. UTR is a 16-digit alphanumeric code. The first Four digit are a bank code in alphabets, the 5th on is the message code, the 6th and 7th mention the year, the 8th to 10thmention the date and the last 6 digits mention the days serial number of the message. By P. K. Thakur

BANKS IN INDIA 1. Central Bank Reserve Bank of India Commercial Bank 2. Public Sector Bank (Nationalised Bank) Total 26 = 14 were nationalized in 1969 + 6 were Nationalized in 1980 (out of these one bank new Bank of India was merged with PNB in 1983), + 1 IDBI + SBI + 5 Subsidiary/Associates banks of State Bank of India. 3. Private Banks = RBI in 1993 gave licences to 12 Private bank in 2 phases 10 private bank in 1993 and 2 private bank in 2003-2004 4. Foreign Banks = 34 Foreign Banks are there in India. Cooperative Bank: Cooperative Banks = Bank those are registered under Cooperative Societies Act 1965, Co-operative Banks are also works as Commercial Bank, these are made by self Help Group, or by the Communities or by Groups. Specialised Bank Developmental/Specialised Banks: Like IFCI, IDBI, EXIM, NABARAD, SCICI Ltd. Personal Bank Accounts Saving Bank A/C= These accounts are maintained by individuals/salaried people. Such accounts offer interest on customer deposit. The internet on these accounts is deregulated by RBI. No overdraft is allowed in such accounts. Habit of saving is developed, minimum Balance condition depends on Bank To Bank, Limit on transaction can be fixed. Fixed deposits Accounts= It is also known as term deposit, Fixed rate of interest or floating rate of Intt is offered on it. Rates are depends on money and maturities periods. All right reserve for Successmate, Laxmi Nagar, Delhi-92

MICR: Magnetic Ink Character Recognition. A 9-digit code which actually shows whether the cheque is real or fake. IMPS: Interbank Mobile Payment Service is an instant interbank electronic fund transfer service through mobile phones. Both the customers must have MIMD (Mobile Money Identifier Number).

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By P. K. Thakur