Banking - (Pages 1 To 25)

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PREFACE
There are many excellent text books on Banking written by well known British and American
writers. However, none of these can claim to cover the entire course of study prescribed by
the Indian Universities. Moreover, most of these books are above the understanding of an
average Indian student of Commerce and Economics. The present book is a humble effort
in this direction.
On account of the growing importance of the banking industry, most of the Indian
Universities have introduced a special paper on Banking for their degree students. The
present volume has been made to cover the syllabi of B.Com., B.B.M., M.B.A., M.Com., M.A.,
L.L.B., etc. In addition, I hope, it will also be of benefit to candidates appearing for various
competitive examinations such as I.A.S., I.E.S., C.A., N.E.T., and I.I.B. examinations. The
present volume contains 19 chapters devoted mainly to the study of Commercial Banks,
Central Bank, Reserve Bank of India, State Bank of India, Money and Capital Markets,
Indian Banking Systems, Banker and Customer Relationship, Operation of Bank Accounts,
Collection and Payment of Cheques, Loans and Advances, Types of Securities, Modes of
Creating Charge, Guarantee, Letter of Credit, Accounts and Audit of Banks. The last chapter
contains multiple choice and short-type questions for the benefit of the candidates who want
a deeper insight into Banking.
While preparing this book, I have collected the relevant material from government
publications, published and unpublished sources, books, journals and articles by eminent
scholars. My Principal, colleagues and friends have offered me valuable suggestions in the
preparation of the manuscript. My sincere thanks are due to all of them.

I have a great pleasure in expressing my profound gratitude to my revered Research Supervisor
Dr. S. Mahendra Kumar M.A., Ph.D., Department of Economics, Manasagangothri, Mysore,
who has contributed a lot for improving the quality of this volume. He has always been a source
of constant inspiration to me as a friend, philosopher and guide. I also express my deep sense
of gratitude to Dr. Gopal Singh, Co-ordinator, DOS in Economics, Govt. Arts College, Hassan,
Dr. K. A. Rajanna, Prof. H.K. Lalithadavi, Sri. Mahalinga (Sapna Book House); Bangalore, H.S.
Ravindra, Channarayapattna, Prof. K.T. Krishnegowda, R. Radhakrishna Hassan; Sudharshan,
viii Preface
Marketing Manager and Srinath, Branch Manager, New Age, Bangalore; Prof. T.N. Prabhakar,
Principal, Government Arts College, Hassan and my friends for rendering assistance in various
forms in preparing the manuscript of this book.
I also express my grateful thanks to New Age International Publishers, New Delhi for
bringing out this book in a record time. Thanks are also due to Madusudan, DATA LINK,
Bangalore for typing the manuscript with efficiency and patience.
Last, but not the least, I acknowledge with a sense of gratitude the services of my wife,
Smt. Sujatha Somashekar and my son, N.S. Swaroop, who not only left no stone unturned
in providing me a congenial atmosphere for studies at home, but also relieved me from a
number of family responsibilities and even more, at times, directly helped me in my work.
Any suggestion for enhancing the value of the book from students and teachers, would
be most welcome and would be kept in view at the time of bringing out the second edition.
With these words, I present this book to students, who alone will judge its worth.
Ne. Thi. Somashekar

CONTENTS
Preface vii
CHAPTER -1: COMMERCIAL BANKING 1-26

INTRODUCTION 1
Meaning 1
Definition of a Bank 1
TYPES OF BANKS 2
FUNCTIONS OF COMMERCIAL BANKS 4
SOURCES OF BANK’S INCOME 9
INVESTMENT POLICY OF BANKS 10
BALANCE SHEET OF THE BANK 12
Liabilities 12
Assets 14
CREDIT CREATION 15
Basis of Credit Creation 15
Process of Credit Creation 16
Leaf and Cannon Criticism 18
Limitation on Credit Creation 18
UNIT BANKING VS BRANCH BANKING 20
A. Unit Banking 20
B. Branch Banking System 22
COMMERCIAL BANKS AND ECONOMIC DEVELOPMENT 24

Conclusion 26
CHAPTER-2: CENTRAL BANKING 27-45

INTRODUCTION 27
Meaning of Central Bank 27
Definition of Central Bank 27
Functions of the Central Bank 28
x Contents
CREDIT CONTROL 31
Objectives of Credit Control 32
Methods of Credit Control 32
Meaning 33
Theory of Bank Rate 33
Working of Bank Rate 34
The Process of Bank Rate Influence 34
Bank Rate Under the Gold Standard 34
Conditions for the Success of the Bank Rate Policy 34
Limitations 35
Meaning 36
Theory of Open Market Operations 36
Objectives of Open Market Operations 37
Conditions for the Success of Open Market Operations 37
Popularity of Open Market Operations 38
A. Variable Cash Reserve Ratio 39
Meaning 39
B. Theory of Variable Reserve Ratio 39
Working of Variable Reserve Ratio 40
Limitations 41
Selective or Qualitative Methods 41
Objectives 42
Measures of Selective Credit Control 42
Conclusion 45
CHAPTER-3: RESERVE BANK OF INDIA 47-75

INTRODUCTION 47
Capital 48
Organisation 48
Offices of the Bank 49
Departments of the Reserve Bank 50
Functions of the Reserve Bank 51
CREDIT CONTROL 58
Weapons of Credit Control 58
METHODS OF SELECTIVE CREDIT CONTROLS ADOPTED BY RESERVE BANK 61
Limitations of Selective Controls in India 63
MONETARY POLICY OF THE RESERVE BANK OF INDIA 64
Reserve Bank of India and Monetary Controls 64

Limitations of Monetary Policy 66
Chakravarthy Report on the Working of the Monetary System 67
The Narasimham Committee Report (1991) 68
Recommendations of the Committee 68
The Goiporia Committee Report (1991) 70
Recommendations of Goiporia Committee 70
The Narasimham Committee Report (1998) 71
Contents xi
ROLE OF RBI IN ECONOMIC DEVELOPMENT 71

Contribution to Economic Development 72
Conclusion 75
CHAPTER-4: STATE BANK OF INDIA 77-81

INTRODUCTION 77
Capital 77
Management 77
Functions 78
Role of the State Bank in Economic Development 79
Conclusion 80
CHAPTER-5: MONEY MARKET AND CAPITAL MARKET 83-105

INTRODUCTION 83
Money Market 83
Functions of Money Market 83
Composition of the Money Market 84
Financial Institutions of the Money Market 85
Characteristics of a Developed Money Market 86
Usefulness of a Developed Money Market 87
Structure of the Money Market 88
Characteristics of Indian Money Market 89
Defects of Indian Money Market 89
Measures for Improvement of the Money Market 91
Suggestions to Remove Defects in the Indian Money Market 93
The Repo Market 95
The Commercial Bill Market 96
The Certificate of Deposit (CD) Market 97
The Commercial Paper Market 98
Money Market Mutual Funds 98
Capital Market 99
Classification of Indian Capital Market 99
Importance of Capital Market 100
Functions of Capital Market 100
Structure of Indian Capital Market 101
Components of Indian Capital Market 101
Recent Trends in the Capital Market 102
Comparison of Money Market and Capital Market 104
Conclusion 105
CHAPTER-6: STRUCTURE OF BANKING IN INDIA 107-137

INTRODUCTION 107
1. INDIGENOUS BANKS 107
Meaning 109
Groups 109
Types 109
xii Contents
Functions of Indigenous Bankers 109

Defects of Indigenous Bankers 110
Indigenous Bankers and the Reserve Bank 111
Suggestions for Reform 111
2. MONEYLENDERS 112
Features of Moneylenders 112
Differences Between Moneylenders and Indigenous Bankers 112
Defects of Moneylenders 113
3. CO-OPERATIVE BANKS 113
Meaning 114
Structure of Co-operative Banks 114
Progress of PACS 115
Shortfalls PACS 116
Functions 116
Progress of CCBs 117
Defects of CCBs 117
Functions 118
Defects 118
Progress 118
Present Position of Co-operative Banks 118
Importance or Benefits of Co-operative Banks 119
Problems or Weaknesses of Co-operative Banks 119
Suggestions for the Improvement of the Co-operative Credit Structure 120
4. LAND DEVELOPMENT BANK 121
Sources of Funds 122
The Working of the LDBs 122
Progress 122
Defects 122
Suggestions for Improvement 123
5. REGIONAL RURAL BANKS 123
Objectives of Regional Rural Banks 123
Capital Structure 124
Features of Regional Rural Banks 124
Functions of Regional Rural Banks 124
Progress Achieved by Regional Rural Banks 124
Problems 125
Suggestions for Reorganisation and Improvement 127
6. NABARD 128
Objectives 128
NABARD’s Financial Resources 128
Management 128
Functions of NABARD 129
Achievements of NABARD 130
7. COMMERCIAL BANKS 132
Nationalisation of Banks 132
Achievements of Nationalised Banks 132
Contents xiii
8. CREDIT CARDS 136

Advantages of Credit Cards 136
Limitations or Drawbacks of Credit Cards 136
Conclusion 136
CHAPTER-7: DEVELOPMENT BANKS 139-158

INTRODUCTION 139
Meaning 139
Features 139
Important Development Banks in India 140
1. INDUSTRIAL FINANCE CORPORATION OF INDIA LTD. 140
Functions of the IFCI 141
Financial Resources of IFCI 141
Lending Operations of IFCI 142
Appraisal of IFCI’s Performance 142
2. THE INDUSTRIAL CREDIT AND INVESTMENT CORPORATION OF INDIA LTD. 143
Financial Resources of ICICI 143
Lending Operations of ICICI 143
Appraisal of ICICI’s Performance 144
3. STATE FINANCIAL CORPORATIONS 145
4. THE INDUSTRIAL DEVELOPMENT BANK OF INDIA 148
Financial Resources of IDBI 148
Cumulative Assistance by IDBI 148
Composition of Financial Assistance 149
Promotional Functions of the IDBI 150
Critical Appraisal 150
5. SMALL INDUSTRIES DEVELOPMENT BANK OF INDIA 151
Financial Resources of SIDBI 151
Financial Assistance by SIDBI 151
6. THE INDUSTRIAL RECONSTRUCTION BANK OF INDIA (IRBI) 151
7. THE STATE INDUSTRIAL DEVELOPMENT CORPORATIONS (SIDCS) AND THE STATE 151
INDUSTRIAL INVESTMENT CORPORATIONS (SIICS) 152
8. UNIT TRUST OF INDIA 153
Present Position 153
9. LIFE INSURANCE CORPORATION OF INDIA (LIC) 154
10. THE EXPORT-IMPORT BANK OF INDIA (EXIM BANK) 156

Functions of the EXIM Bank 156
Conclusion 157
CHAPTER-8: BANKER AND CUSTOMER 159-184

INTRODUCTION 159
Meaning and Definition of a Banker 159
xiv Contents
Meaning and Definition of a Customer 161

Special Types of Customers 163
Legal Provisions Regarding Guardianship of a Minor 164
The Banker-Customer Relationship 171
A. General relationship, and B. Special relationship 171
1. Primary relationship 171
2. Secondary relationship 172
Obligations of Bankers 179
1. Obligation to Honour the Customer’s Cheques 179
2. Obligation to Maintain Secrecy of Customer’s Account 181
3. Obligation to Receive Cheques and Other Instruments for Collection 182
4. Obligation to Give Reasonable Notice before Closing the Account 182
Obligations of Customers 183
Conclusion 183
CHAPTER-9: OPENING AND OPERATING BANK ACCOUNTS 185-196

INTRODUCTION 185
Types of Accounts 185
Procedure of Opening Current and Savings Accounts 189
Forms Used in Operation of Bank Account 191
Closing of a Bank Account 192
Insurance of Bank Deposit 193
Deposit Insurance and Credit Guarantee Corporation (DICGC) 193
Objectives 193
Credit Guarantee Function 193
Nomination Facility 194
Non-Resident Account 195
Recent Development 195
Conclusion 196
CHAPTER-10: PASS BOOK 197-202

INTRODUCTION 197
Meaning of Pass Book 197
Object or Purpose of Pass Book 198
Statement of Account 198
Examination of Entries 198
Legal Position of Entries in the Pass Book 199

Effect of Entries in the Pass Book 199
Precautions in Writing a Pass Book 201
Conclusion 202
CHAPTER-11: CHEQUES 203-220

INTRODUCTION 203
Meaning 203
Contents xv
Definition 204
Essentials 204
Types of Cheques 205
Uses of a Cheque 206
Advantages of Using Printed Forms 206
Parties to a Cheque 207
MATERIAL ALTERATIONS 207
Alteration 207
Material Alteration 207
Examples of Material Alterations 207
Examples of Authorised Alterations 208
Examples of Non-material Alterations 208
Effects of Material Alteration 208
CROSSING OF CHEQUES 209
Meaning of Crossing 209
Types of Crossing 209
Special Crossing 210
Other Types of Crossing 211
Significance of Crossing 212
ENDORSEMENT 213
Definition of Endorsement 213
Essentials of a Valid Endorsement 213
Kinds of Endorsement 214
Legal Effects of an Endorsement 215
Differences Between a Bill of Exchange and Cheque 215
Distinguish Between a Cheque and a Promissory Note 216
HOLDER AND HOLDER IN DUE COURSE 217
Holder 217
Holder in Due Course 217
Privileges of a Holder in Due Course 218
Distinction Between Holder and Holder in Due Course 219
Conclusion 220
CHAPTER-12: THE PAYING BANKER 221-229

INTRODUCTION 221
Meaning 221
Precautions for Payment of Cheques 222

Precautions 222
Statutory Protection 225
Protection Available Under the Negotiable Instruments Act 225
Dishonour of Cheques 227
When a Banker can Dishonour Cheques 228
Bank’s Remarks on Dishonoured Cheques 229
Conclusion 229
xvi Contents
CHAPTER-13: COLLECTING BANKER 231-238

INTRODUCTION 231
Meaning 231
Collecting Banker as Holder for Value 231
Collecting Banker as an Agent of the Customer 232
Conversion 233
Statutory Protection to Collecting Banker 233
Duties and Responsibilities of a Collecting Banker 235
Marking of Cheque 236
Who Can Get the Cheque Marked? 236
Conclusion 237
CHAPTER-14: LOANS AND ADVANCES 239-247

INTRODUCTION 239
General Rules of Sound Lending 239
Forms of Lending (Advances) 241
Merits of Granting Loans 242
Demerits 242
Merits of Cash Credit 243
Demerits 243
Distinction Between Loan and Cash Credit 244
Distinction Between Cash Credit and Overdraft 244
Types of Loans and Advances 245
Determining Creditworthiness 246
Sources of Credit Information 246
Conclusion 247
CHAPTER-15: TYPES OF SECURITIES 249-268

INTRODUCTION 249
Characteristics of Good Security 249
General Principles of Secured Advances 250
Types of Securities on which Loans or Advances can be Granted 251
Precautions 257
Merits of Advances Against Stock Exchange Securities 258
Risks in Advancing Against Securities 259
Precautions to be Taken in Advancing Against Securities 259

Precautions in Advancing Against Real Estate 262
Merits of Life Insurance Policy as a Security 264
Demerits of Policies as Securities 264
Precautions in Advancing Against LIC Policies 265
Precautions in Advancing Against Fixed Deposit Receipt 266
Precautions in Advancing Against Book Debts 267
Conclusion 268
Contents xvii
CHAPTER-16: MODES OF CREATING CHARGE 269-280

INTRODUCTION 269
Modes of Creating Charge 269
Difference Between Pledge and Lien 270
Who can Pledge the Goods? 271
Right and Obligations of Pledger 272
Rights 272
Obligations (Duties) 272
Right and Obligations of Pledgee or Pawnee 272
Obligation and Duties of Pledgee 273
Essential Features of a Mortgage 273
Types of Mortgages 274
Legal and Equitable Mortgage 276
Merits of Equitable Mortgage over the Legal Mortgage 276
Demerits of Equitable Mortgage over the Legal Mortgage 276
Rights of Mortgager 277
Rights of Mortgagee (Banker) 277
Precautions to be Taken by a Banker in Case of Lending Against Hypothecation 278
Conclusion 279
CHAPTER-17: GUARANTEES 281-291

INTRODUCTION 281
Meaning 281
Definition 281
Necessity for Bank Guarantee 282
Essentials of a Valid Guarantee 282
Kinds of Guarantees 283
Contract of Guarantee 285
Purpose of the Contract 286
Contract of Indemnity 286
Parties to Indemnity 286
Analysis of the Definition 286
Difference between Contract of Guarantee and a Contract of Indemnity 287
Rights of the Surety 287
Liability of the Surety 288

Rights of the Banker 288
Liabilities of the Banker (Obligation) 288
Merits and Demerits of Guarantee 289
Merits of Guarantee 289
Demerits of Guarantee 289
Precautions to be Taken by the Banker in a Contract of Guarantee 290
Conclusion 291
xviii Contents
CHAPTER-18: LETTER OF CREDIT 293-300

INTRODUCTION 293
Definition 293
Types of Letters of Credit 294
I. Travellers’ Letter of Credit 295
II. Commercial Letter of Credit 296
Types of Letters of Commercial Credit 296
Opening a Letter of Credit 298
ADVANTAGES OF LETTER OF CREDIT 299
Advantages to the Exporter 299
Advantages to the Importer 299
Conclusion 300
CHAPTER-19: ACCOUNTS AND AUDIT OF BANKS 301-309

INTRODUCTION 301
Salient Features of Bank’s Accounts 301
Books of Account (Section 209) 302
Books shall Give a True and Fair View 302
Preservation of Books 302
Persons Responsible to Keep the Books 302
Penalty 302
Inspection of Books of Account 303
Books to be Maintained 303
Final Accounts 306
Preparation of Balance Sheet and Profit and Loss Account (Sec. 47) 306
Form of Balance Sheet and Profit and Loss Account 306
Signing of Balance Sheet and Profit and Loss Account 306
Audit of Bank Accounts 306
Audit of Accounts (Section 30) 306
Publication and Filing of Accounts (Section 30) 307
Penalty 309
Conclusion 309
MULTIPLE CHOICE QUESTIONS WITH ANSWERS 311-358

1
COMMERCIAL BANKING
INTRODUCTION
Banking occupies one of the most important positions in the modern economic world.
It is necessary for trade and industry. Hence it is one of the great agencies of commerce.
Although banking in one form or another has been in existence from very early times,
modern banking is of recent origin. It is one of the results of the Industrial Revolution and
the child of economic necessity. Its presence is very helpful to the economic activity and
industrial progress of a country.
Meaning
A commercial bank is a profit-seeking business firm, dealing in money and credit. It is a
financial institution dealing in money in the sense that it accepts deposits of money from the
public to keep them in its custody for safety. So also, it deals in credit, i.e., it creates credit by
making advances out of the funds received as deposits to needy people. It thus, functions as a
mobiliser of saving in the economy. A bank is, therefore like a reservoir into which flow the
savings, the idle surplus money of households and from which loans are given on interest to
businessmen and others who need them for investment or productive uses.
Definition of a Bank
The term ‘Bank’ has been defined in different ways by different economists. A few definitions
are:
According to Walter Leaf “A bank is a person or corporation which holds itself out to
receive from the public, deposits payable on demand by cheque.” Horace White has defined
a bank, “as a manufacture of credit and a machine for facilitating exchange.”
According to Prof. Kinley, “A bank is an establishment which makes to individuals such
advances of money as may be required and safely made, and to which individuals entrust
money when not required by them for use.”
2 Banking
The Banking Companies Act of India defines Bank as “A Bank is a financial institution
which accepts money from the public for the purpose of lending or investment repayable on
demand or otherwise withdrawable by cheques, drafts or order or otherwise.”
Thus, we can say that a bank is a financial institution which deals in debts and credits.
It accepts deposits, lends money and also creates money. It bridges the gap between the
savers and borrowers. Banks are not merely traders in money but also in an important sense
manufacturers of money.
TYPES OF BANKS
Broadly speaking, banks can be classified into commercial banks and central bank.
Commercial banks are those which provide banking services for profit. The central bank has
the function of controlling commercial banks and various other economic activities. There
are many types of commercial banks such as deposit banks, industrial banks, savings banks,
agricultural banks, exchange banks, and miscellaneous banks.
Types of Commercial Banks
1. Deposit Banks: The most important type of deposit banks is the commercial banks.
They have connection with the commercial class of people. These banks accept
deposits from the public and lend them to needy parties. Since their deposits are
for short period only, these banks extend loans only for a short period. Ordinarily
these banks lend money for a period between 3 to 6 months. They do not like to lend
money for long periods or to invest their funds in any way in long term securities.
2. Industrial Banks: Industries require a huge capital for a long period to buy machinery
and equipment. Industrial banks help such industrialists. They provide long term loans
to industries. Besides, they buy shares and debentures of companies, and enable them
to have fixed capital. Sometimes, they even underwrite the debentures and shares of big
industrial concerns. The important functions of industrial banks are:
Commercial Banking 3
1. They accept long term deposits.

2. They meet the credit requirements of industries by extending long term loans.
3. These banks advise the industrial firms regarding the sale and purchase of shares
and debentures.
The industrial banks play a vital role in accelerating industrial development. In
India, after attainment of independence, several industrial banks were started with
large paid up capital. They are, The Industrial Finance Corporation (I.F.C.), The
State Financial Corporations (S.F.C.), Industrial Credit and Investment Corporation
of India (ICICI) and Industrial Development Bank of India (IDBI) etc.
3. Savings Banks: These banks were specially established to encourage thrift among
small savers and therefore, they were willing to accept small sums as deposits. They
encourage savings of the poor and middle class people. In India we do not have such
special institutions, but post offices perform such functions. After nationalisation
most of the nationalised banks accept the saving deposits.
4. Agricultural Banks: Agriculture has its own problems and hence there are separate
banks to finance it. These banks are organised on co-operative lines and therefore
do not work on the principle of maximum profit for the shareholders. These banks
meet the credit requirements of the farmers through term loans, viz., short, medium
and long term loans. There are two types of agricultural banks,
(a) Agricultural Co-operative Banks, and
(b) Land Mortgage Banks. Co-operative Banks are mainly for short periods. For long
periods there are Land Mortgage Banks. Both these types of banks are performing
useful functions in India.
5. Exchange Banks: These banks finance mostly for the foreign trade of a country.
Their main function is to discount, accept and collect foreign bills of exchange. They
buy and sell foreign currency and thus help businessmen in their transactions. They
also carry on the ordinary banking business.
In India, there are some commercial banks which are branches of foreign banks.
These banks facilitate for the conversion of Indian currency into foreign currency
to make payments to foreign exporters. They purchase bills from exporters and sell
their proceeds to importers. They purchase and sell “forward exchange” too and
thus minimise the difference in exchange rates between different periods, and also
protect merchants from losses arising out of exchange fluctuations by bearing the
risk. The industrial and commercial development of a country depends these days,
largely upon the efficiency of these institutions.

6. Miscellaneous Banks: There are certain kinds of banks which have arisen in due
course to meet the specialised needs of the people. In England and America, there are
investment banks whose object is to control the distribution of capital into several uses.
American Trade Unions have got labour banks, where the savings of the labourers are
pooled together. In London, there are the London Discount House whose business is “to
go about the city seeking for bills to discount.” There are numerous types of different
banks in the world, carrying on one or the other banking business.
4 Banking
FUNCTIONS OF COMMERCIAL BANKS
Commercial banks have to perform a variety of functions which are common to both
developed and developing countries. These are known as ‘General Banking’ functions of the
commercial banks. The modern banks perform a variety of functions. These can be broadly
divided into two categories: (a) Primary functions and (b) Secondary functions.
A. Primary Functions
Primary banking functions of the commercial banks include:
1. Acceptance of deposits
2. Advancing loans
3. Creation of credit
4. Clearing of cheques
5. Financing foreign trade
6. Remittance of funds
1. Acceptance of Deposits: Accepting deposits is the primary function of a commercial

bank mobilise savings of the household sector. Banks generally accept three types of
deposits viz., (a) Current Deposits (b) Savings Deposits, and (c) Fixed Deposits.
(a) Current Deposits: These deposits are also known as demand deposits. These
deposits can be withdrawn at any time. Generally, no interest is allowed on
current deposits, and in case, the customer is required to leave a minimum
balance undrawn with the bank. Cheques are used to withdraw the amount.
These deposits are kept by businessmen and industrialists who receive and make
Commercial Banking 5
large payments through banks. The bank levies certain incidental charges on the
customer for the services rendered by it.
(b) Savings Deposits: This is meant mainly for professional men and middle class
people to help them deposit their small savings. It can be opened without any
introduction. Money can be deposited at any time but the maximum cannot go
beyond a certain limit. There is a restriction on the amount that can be withdrawn
at a particular time or during a week. If the customer wishes to withdraw more
than the specified amount at any one time, he has to give prior notice. Interest is
allowed on the credit balance of this account. The rate of interest is greater than
the rate of interest on the current deposits and less than that on fixed deposit.
This system greatly encourages the habit of thrift or savings.
(c) Fixed Deposits: These deposits are also known as time deposits. These deposits
cannot be withdrawn before the expiry of the period for which they are deposited
or without giving a prior notice for withdrawal. If the depositor is in need of
money, he has to borrow on the security of this account and pay a slightly higher
rate of interest to the bank. They are attracted by the payment of interest which
is usually higher for longer period. Fixed deposits are liked by depositors both for
their safety and as well as for their interest. In India, they are accepted between
three months and ten years.
2. Advancing Loans: The second primary function of a commercial bank is to
make loans and advances to all types of persons, particularly to businessmen and
entrepreneurs. Loans are made against personal security, gold and silver, stocks of
goods and other assets. The most common way of lending is by:
(a) Overdraft Facilities: In this case, the depositor in a current account is allowed to draw
over and above his account up to a previously agreed limit. Suppose a businessman
has only Rs. 30,000/- in his current account in a bank but requires Rs. 60,000/- to
meet his expenses. He may approach his bank and borrow the additional amount
of Rs. 30,000/-. The bank allows the customer to overdraw his account through
cheques. The bank, however, charges interest only on the amount overdrawn from
the account. This type of loan is very popular with the Indian businessmen.
(b) Cash Credit: Under this account, the bank gives loans to the borrowers against
certain security. But the entire loan is not given at one particular time, instead the
amount is credited into his account in the bank; but under emergency cash will
be given. The borrower is required to pay interest only on the amount of credit
availed to him. He will be allowed to withdraw small sums of money according to
his requirements through cheques, but he cannot exceed the credit limit allowed
to him. Besides, the bank can also give specified loan to a person, for a firm
against some collateral security. The bank can recall such loans at its option.
(c) Discounting Bills of Exchange: This is another type of lending which is very
popular with the modern banks. The holder of a bill can get it discounted by the
bank, when he is in need of money. After deducting its commission, the bank
6 Banking
pays the present price of the bill to the holder. Such bills form good investment
for a bank. They provide a very liquid asset which can be quickly turned into
cash. The commercial banks can rediscount, the discounted bills with the central
banks when they are in need of money. These bills are safe and secured bills.
When the bill matures the bank can secure its payment from the party which had
accepted the bill.
(d) Money at Call: Bank also grant loans for a very short period, generally not
exceeding 7 days to the borrowers, usually dealers or brokers in stock exchange
markets against collateral securities like stock or equity shares, debentures, etc.,
offered by them. Such advances are repayable immediately at short notice hence,
they are described as money at call or call money.
(e) Term Loans: Banks give term loans to traders, industrialists and now to agriculturists
also against some collateral securities. Term loans are so-called because their maturity
period varies between 1 to 10 years. Term loans, as such provide intermediate or
working capital funds to the borrowers. Sometimes, two or more banks may jointly
provide large term loans to the borrower against a common security. Such loans are
called participation loans or consortium finance.
(f) Consumer Credit: Banks also grant credit to households in a limited amount to
buy some durable consumer goods such as television sets, refrigerators, etc., or
to meet some personal needs like payment of hospital bills etc. Such consumer
credit is made in a lump sum and is repayable in instalments in a short time. Un-
der the 20-point programme, the scope of consumer credit has been extended to
cover expenses on marriage, funeral etc., as well.
(g) Miscellaneous Advances: Among other forms of bank advances there are packing
credits given to exporters for a short duration, export bills purchased/discounted,
import finance-advances against import bills, finance to the self employed, credit
to the public sector, credit to the cooperative sector and above all, credit to the
weaker sections of the community at concessional rates.
3. Creation of Credit: A unique function of the bank is to create credit. Banks supply
money to traders and manufacturers. They also create or manufacture money. Bank
deposits are regarded as money. They are as good as cash. The reason is they can be
used for the purchase of goods and services and also in payment of debts. When a
bank grants a loan to its customer, it does not pay cash. It simply credits the account
of the borrower. He can withdraw the amount whenever he wants by a cheque. In

this case, bank has created a deposit without receiving cash. That is, banks are said
to have created credit. Sayers says “banks are not merely purveyors of money, but
also in an important sense, manufacturers of money.”
4. Promote the Use of Cheques: The commercial banks render an important service by
providing to their customers a cheap medium of exchange like cheques. It is found much
more convenient to settle debts through cheques rather than through the use of cash.
The cheque is the most developed type of credit instrument in the money market.

Banking - (Pages 1 To 25)

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Banking - (Pages 1 To 25)

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Copyright © 2000. New Age International. All rights reserved.

All rights reserved.

ISBN (13) : 978-81-224-2928-2

PUBLISHING FOR ONE WORLD

NEW AGE INTERNATIONAL (P) LIMITED, PUBLISHERS

The Lotus Feet

preparation of the manuscript. My sincere thanks are due to all of them.

Ne. Thi. Somashekar

CHAPTER -1: COMMERCIAL BANKING 1-26

COMMERCIAL BANKS AND ECONOMIC DEVELOPMENT 24

CHAPTER-2: CENTRAL BANKING 27-45

CHAPTER-3: RESERVE BANK OF INDIA 47-75

Reserve Bank of India and Monetary Controls 64

ROLE OF RBI IN ECONOMIC DEVELOPMENT 71

CHAPTER-4: STATE BANK OF INDIA 77-81

CHAPTER-5: MONEY MARKET AND CAPITAL MARKET 83-105

CHAPTER-6: STRUCTURE OF BANKING IN INDIA 107-137

Functions of Indigenous Bankers 109

8. CREDIT CARDS 136

CHAPTER-7: DEVELOPMENT BANKS 139-158

10. THE EXPORT-IMPORT BANK OF INDIA (EXIM BANK) 156

CHAPTER-8: BANKER AND CUSTOMER 159-184

Meaning and Definition of a Customer 161

CHAPTER-9: OPENING AND OPERATING BANK ACCOUNTS 185-196

CHAPTER-10: PASS BOOK 197-202

Legal Position of Entries in the Pass Book 199

CHAPTER-11: CHEQUES 203-220

CHAPTER-12: THE PAYING BANKER 221-229

Precautions for Payment of Cheques 222

CHAPTER-13: COLLECTING BANKER 231-238

CHAPTER-14: LOANS AND ADVANCES 239-247

CHAPTER-15: TYPES OF SECURITIES 249-268

Precautions to be Taken in Advancing Against Securities 259

CHAPTER-16: MODES OF CREATING CHARGE 269-280

CHAPTER-17: GUARANTEES 281-291

Liability of the Surety 288

CHAPTER-18: LETTER OF CREDIT 293-300

CHAPTER-19: ACCOUNTS AND AUDIT OF BANKS 301-309

MULTIPLE CHOICE QUESTIONS WITH ANSWERS 311-358

Types of Commercial Banks

1. They accept long term deposits.

largely upon the efﬁciency of these institutions.

FUNCTIONS OF COMMERCIAL BANKS

1. Acceptance of Deposits: Accepting deposits is the primary function of a commercial

of the borrower. He can withdraw the amount whenever he wants by a cheque. In

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