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IFS CA.

Dipayan Das, FCA


Indian Financial System- An
overview
Introduction
 Evolution of the Indian Financial system has three phase
 Up to 1951, corresponding to the Pre and Post independence scenario, on the eve of the initiation of planned economic development
 Between 1951 and mid- eighties reflecting the imperatives of planned economic growth and
 After the early nineties responding to the requirements of liberated/deregulated/globalized economic environment

 PHASE-I: PRE-1951 Organization


 Indian economy was traditional economy which means the per capital output is LOW and CONSTANT. It is a closed- circle character of
industrial entrepreneurship, a semi- organized and narrow securities market , devoid of of issuing institutions and the virtual absence of
participants,

Source-
https://www.worldeconomics.com/GrossDomesticProduct/India.gdp
PHASE-II 1951 to MID- Eighties Organizations

Scheme of planned economic development was initiated in 1951. Planning signified the
distribution of resources by the financial system to be in conformity with the priorities of Five
year plans ( 12th 5-Year plan is the last , after which three year action plan , which is part of seven
year strategy paper and a 15- year vision document) . The main elements of the financial
organization in planned economic development could be categorized into four broad groups

Public/Govt ownership of financial institutions


Fortification of the institutional structure
Protection to investors
Participation of financial institution in Corporate Management
PHASE-II 1951 to MID- Eighties Organizations

Under ownership
 Nationalization of
 RBI
 SBI
 LIC
 Banks
 GIC
 Fortification
 New Institutions
 IFCI- Industrial Finance Corporation of India
 ICICI- Industrial Credit and Investment Corporation of India
 IDBI-Industrial Development Bank of India
 Diversification of forms of financing, innovative banking, etc
 Investor Protection
 Companies Act
 Foreign Exchange Regulation Act
 Securities Contract ( Regulations) Act
 Monopolies and Restrictive Trade Practices Act
PHASE-II 1951 to MID- Eighties Organizations
Public Ownership
RBI Nationalization started as stepping stone of nationalization (1948)
1956- State Bank of India ( Earlier name was Imperial Bank of India)
1956- 245 life insurance companies were nationalized and merged into state-owned monolithic
Life Insurance Corporation of India (LIC)
1969- 14 major commercial banks were brought under direct ownership of GoI.
1972- General Insurance Corporation (GIC) set up
1980- Another 6 commercial banks were publicly owned.
UTI- An investment trust organization, brining the savings, pension and PF under the control of
GoI.
Reason for Nationalization of Banks
 Social Welfare- Sectors such as agriculture, Small Industries need of fund
 Controlling Private Monopolies-
 Expansion of banking
 Reducing Regional Imbalance-Urban and Rural branches imbalance
 Priority Sector Lending- Priority to lend to Agricultural sector
 Developing Banking Habits-
PHASE-II 1951 to MID- Eighties Organizations
Fortification
Various Development Banks- The backbone of the institutional structure of the IFS was the variegated structure of
the development banks, namely IDBI, IFCI, ICICI, SFCs, and so on. They were conceived as instruments of the state policy of
directing capital into a chosen area of industry, in conformity with the planning priorities. They were also agency through
which specific socio-economic objectives of the state policy, such as encouragement to new entrepreneurs and small
enterprises.
 IFCI- Industrial Finance Corporation of India in 1948 marked as the beginning of the era of development banking in India.
The institution failed to propel the industrial growth due to their orthodox and excessive caution policies. They laid more
emphasis on security rather on prospect.
 ICICI- Industrial Credit and Investment Corporation of India (ICICI) Ltd on 1955. It was pioneer in many respects like
underwriting of issues of capital, channelizing of foreign currency loans from the World Bank to Private Industry.
 RCI- Refinance Corporation of Industry in 1958 to provide refinance to the banks against term loans granted by them to
medium/small enterprises. This facility was later extended to State Financial Corporation. RCI subsequently merged with
IDBI in 1964.
 IDBI- One more milestone. It is created as subsidiary of RBI in 1964. It was delinked from RBI in 1976.
 LIC- (1956)The LIC emerged as the single largest reservoir of long-term savings in India.
 UTI- (1964) GoI topopulate unit trusts/mutual funds to encourage indirect holding of securities by the public. Objective of
UTI was also to enable the small investors to share in industrial prosperity, through indirect holding of equities.
PHASE-II 1951 to MID- Eighties Organizations
 Diversification in Forms of Financing- Since mid-sixties, Commercial Banks were encouraged to enter new forms of
financing
 Term- Lending- Radical change from short-term loan to term-loan.
 Underwriting of new issue of corporate securities by industrial enterprises.
 Small Scale Industries: RBI organized in 1959 a seminar on “ Financing of Small-scale Industries” to understand the
problems of Small-scale industries. In pursuance of the suggestions made at the Hyderabad to finding out their suggestion,
Govt formulated a Credit Guarantee Scheme ( CGS) in consultation with the RBI in July 1960 to guarantee the major part
of the advances given by banks to small- scale industries. In 1962, RBI introduced a policy of granting additional rights to
the banks to borrow from RBI at concessional rates in case Commercial banks increased the quantum of lending to small
industries. ( Additional Reading-Evolution of Banking System in India –III, Publication)
 Exports-To facilitate credit for exports was the setting up the EXPORT RISK INSURANCE CORPORATION in 1957 to offer
insurance to exporters against exchange control and lack of adequate information regarding the credit worthiness of
the importer. In 1964, it was renamed as “ Export Credit and Guarantee Corporation (ECGC) Ltd . It has two aspect
 Insurance covers to Exporter
 Extended to guarantee to the banks for various types of finance to exporter
 Agricultural Finance- The agricultural Refinancing Corporation Ltd was set up as a subsidiary of the RBI in 1963 for
providing medium and long-term finance to eligible financial institutions, including banks. It finance agricultural
development projects which could not be financed by the existing credit agencies either on account of the large outlay
involved , or because the terms and conditions of repayment were such that they could not be bought within the normal
rules of business under which these agencies functioned.
PHASE-II 1951 to MID- Eighties Organizations
 Innovative Banking-Period after mid-sixties to the early nineties is aptly described as the phase of innovative banking or
revolutionary phase.
 Organizational Changes- Reconstitution of the Board of Directors of Banks by introducing persons who had
specialized knowledge or practical experience of agriculture and rural economy, small scale industries, economics
and business administrations.
 National Credit Council (NCC)- It was created in February 1968. The main functions of the NCC were
 To assess the demand for bank credit from the various sectors of the economy
 To determine the priorities for the grant of loans and advances , or for investment, according to the availability
of resources and the requirement of the priority sector
 To coordinate the lending and investing policies of the commercial banks to ensure optimum utilization of
resources
Protection to Investors
 Companies Act 1956- It intended to weave an integrated pattern of relationship as between promoters, investors and
management.
 Capital Issue ( Control) Act-It aimed at fostering a rational and healthy growth of corporate sector by ensuring that the
investment did not go into channels which were wasteful and not in accordance with the objective of the plans and
company had a capital structure which was sound and conducive to the public interest. ( It is replaced by SEBI Act, 1992)
 Securities Contracts (Regulation) Act, 1956- Act provided for reforms in Stock Exchange trading methods. The main
objective was to have a healthy and strong investment market in which the public could invest their savings with full
confidence. This along with Companies Act was envisaged to create those basic conditions on which the edifice of a sound
and revitalized private sector could be built up. Content of the contract is as below ( Refer SCRA 1956, amend 2017)
 Recognized Stock Exchange
PHASE-II 1951 to MID- Eighties Organizations
 Penalties and Procedure
 Miscellaneous

 Monopolies and Restrictive Trade Practices Act- Came into effect from June 1, 1970 ,and the objectives were
 To ensure that the functioning of economic system did not result in concentration of economic power
 To control such monopolistic and restrictive trade practices that were injuries to the public welfare.
It also contributes to restoring public confidence in the corporate sector. It is replaced by Competition Act , 2002.
 Foreign Exchange Regulation Act , 1973- This regulates foreign investment with the aim of diluting the equity holding in
foreign companies. It is replaced with Foreign Exchange Management Act, 1999 (FEMA). FEMA is compatible with pro-
liberization policies and consistent with emerging framework of WTO.

 Cons effect of 1951 till Mid- Eighties ( Institutional structure lacunae)


 LIC/UTI/GIC- which are set up to convert savings to investment ( saving- surplus economic units) were lagged far
behind than Developed Finance institution like IDBI, IFCI, ICICI.
 LIC, UTI started dominating BoDs position of corporate due to their stake in company’s equity/Loan sanction. (
https://trendlyne.com/portfolio/superstar-shareholders/custom/Q1-2019/?query=lic%20of%20india)
 Development bank usually provide Term Loans to Corporate , and it is seen that Loan capital is equal to Own Capital

 Privatization of FIs
PHASE-III Post Nineties
 Privatization of FIs and Other institutions ( Assignment : IDBI turning into Schedule Bank and reducing GoI ownership)
 IFCI turns into IFCI Ltd
 IDBI and IFCI offered their equity to Private Investors. (After the public issue of IDBI in July 1995, the government
shareholding in the bank came down from 100% to 75%).
 Private Mutual Funds set up under SEBI guidelines. ( In 1987, SBI Mutual Fund, Pvt-Kothari Pioneer which was
merged with Franklin Templeton, AMFI in 1995)
 Promotion of entrepreneurship by establishing institution such as
 Technical Consultancy Organization (TCO)
 Management Development Institute (MDI)
 Credit rating agency to promote development of market. There are three agencies
 Credit Rating Information Services of India Ltd (CRISIL)
 Investment Information and Credit Rating Agency Ltd (ICRA)
 Credit Analysis and Research Ltd (CARE)
 Interest Rate Structure (PLR)- PLR has been put in place since Oct 1994 which is the minimum lending rate for non-
concessional lending.
 Capital Adequacy Ratio- Is a measurement of a bank’s available capital expressed as a % of bank’s risk-weighted credit
exposure . It is used to protect depositors and promote the stability and efficiency of financial system. Public sector
banks CAR is 12%, Commercial Bank 9%. ( CAR= Tier I +Tier II Capital)/ Risk Weighted Assets.
PHASE-III Post Nineties
 Entry of Private Sector Banks- There are 21 private banks which are set up under RBI framework of start-up capital,
BoDs compositions and prudential norms.
 Minimum paid up capital Rs. 500 Crore. ( For new Bank start-up)
 Resident individuals and professional experience having 10 years can be promoters
 Large Institutional house excluded as eligible entities but are permitted to invest in banks up to 10 percent.
 FDI cap is 74%. ( Refer FDI investment sector wise and Company Wise)
 Prudential regulation includes lending limits, minimum capital adequacy guidelines, liquidity ratio, etc).
 RBI also closely control BoDs compositions, e.g. prior approval from RBI, half of the BoDs should be independent Directors, two private banks
should not have common director, RBI has power to supersede BoDs, to appoint an administrator to undertake its management
 Branch Licensing- Greater freedom has been given to banks to open, Small-scale industries, Rural Banks) branches, off-
site ATMs. They have also given freedom to close branches to convert rural branches into satellite offices.( Satellite
branch controlled by Central Branch/Block HQ. Their working hours and days are usually less than normal branch)
 Foreign Banks- There are 45 foreign banks in India. Based on no of branches of a foreign banks, sectoral lending
( Agriculture, Priority Sector lending )target is applicable

Categories Foreign banks with 20 branches and above Foreign banks with less than 20 branches
Total Priority Sector 40 per cent of Adjusted Net Bank Credit [ANBC defined in sub paragraph (iii)] or Credit 40 per cent of Adjusted Net Bank Credit [ANBC defined in sub paragraph (iii)] or
Equivalent Amount of Off-Balance Sheet Exposure, whichever is higher. Credit Equivalent Amount of Off-Balance Sheet Exposure, whichever is higher;
to be achieved in a phased manner by 2020 as indicated in sub paragraph (ii)
below.

Agriculture 18 per cent of ANBC or Credit Equivalent Amount of Off-Balance Sheet Exposure, Not applicable
whichever is higher.
Within the 18 per cent target for agriculture, a target of 8 percent of ANBC or Credit
Equivalent Amount of Off-Balance Sheet Exposure, whichever is higher is prescribed for
Small and Marginal Farmers.##
PHASE-III Post Nineties
 Supervisory Authority- The Reserve Bank of India performs the supervisory function under the guidance of the Board for Financial
Supervision (BFS). The Board was constituted in November 1994 as a committee of the Central Board of Directors of the Reserve Bank
of India under the Reserve Bank of India (Board for Financial Supervision) Regulations, 1994. The primary objective of BFS is to
undertake consolidated supervision of the financial sector comprising Scheduled Commercial and Co-operative Banks, All India
Financial Institutions, Local Area Banks, Small Finance Banks, Payments Banks, Credit Information Companies, Non-Banking Finance
Companies and Primary Dealers. The Board is constituted by co-opting four Directors from the Central Board as Members and is
chaired by the Governor. The Board is required to meet normally once every month. It deliberates on inspection reports, periodic
reviews related to banking and non-banking sectors and policy matters arising out of or having relevance to the supervisory
functions of the Reserve Bank
 Basel Committee-The Basel Committee on Banking Supervision (BCBS) is the primary global standard setter for the prudential
regulation of banks and provides a forum for regular cooperation on banking supervisory matters. Its 45 members comprise central
banks and bank supervisors from 28 jurisdictions .
 Basel I (1988)- Minimum Capital Requirement, credit risk and risk-weighting assets. ( 0% risk for cash and bullion, home country
treasury Bill, 20% for Mortgaged backed securities, 50%for residential mortgage, 100% for corporate Bond)
 Basel II (2004)- More significant risk a bank is exposed to , the greater the amount of the capital the bank needs to hold to
safeguard its solvency.
 Basel III (2010)- Regulatory framework on bank capital adequacy, stress testing and market liquidity risk.

NBFC- They offer two types financial services.


 Fund/asset based- Equipment leasing, hire-purchase, venture capital, housing finance, factoring and forfaiting, stock broking
 Fee based/advisory – Portfolio Management, Merger and Acquisition, etc.
A regulated framework for their operations has evolved and these are
PHASE-III Post Nineties
 Chapter III-B of the RBI Act
 RBI acceptance of Deposits Regulations, 1998
 NBFC’s prudential norms (RBI)
 Auditor’s report
( Refer NBFC Regulations)
Primary Market and its Reform: Capital Market was dormant till mid-1980s. After this period, there is increase in market
participants, market intermediaries ( underwriters, registrar to issue, etc). Few major reforms are
 Disclosure and Investor Protection (DIP) guidelines
 Pricing of public issue determined by the market
 Banks, Fis, PSUs allowed to raise funds from the primary market
 Accounting standards are close to the international standard.
 Corporate Governance Guidelines are issued
 FIIs allowed to invest in primary issues within the sectoral limits
 Allotment to retail investors increased from 25% to 35%. ( Can bid shares maximum worth Rs. 2,00,000)
 Freedom to fix face value of shares below Rs. 10, etc
 Secondary Market & Depository: A platform to create a centralize demand and supply where both sides matches their needs
based on price-time priority ( first price and If price is same then time) and there is no physical interaction. BSE and NSE provide
screen-based trading system . A number of reforms in the secondary markets are
PHASE-III Post Nineties
 Mandatory registration of market intermediaries
 Guidelines issued on listing agreement between stock exchanges and corporate
 Shortening of settlement cycle to T+2 (Wednesday was the only settlement day in NSE initially)
 Regular inspection of stock exchanges and other intermediaries ( Broker) put in place
 FIIs allowed to invest in India Stock Market
 Guidelines on Corporate Governance ( Listing clause 42)
 Margin Trading, short selling are introduced
 Separate trading platform for SME sector launched ( 2012)
 Securities Appellate Tribunal ( SAT) Set up
 Introduction of Exchange traded derivative.( Jun 2000)

The Depositories Act, 1996 is introduced with two depositories namely CDSL and NSDL set up. They dematerialized the script/shares and
because of electronic form of script, there is seamless buy and sell of shares through Exchanges.
 Money Market:Till early nineties , it was narrow with few players only such as Banks, LIC and UTI. Instruments available were 91- Day
bill, commercial bill and few more. Post 1990, a development has been emergence of specialized institutions, namely Primary Dealer
(PDs), money market mutual fund( MMMFs). New instruments such as Certificate of Deposits and Commercial Paper are introduced.
( CD- minimum denomination is Rs. 1 Lakh, if bank issues CD, maturity period should be 7 days to 1 year and if Corporate issued it is 1
year-3 year. CP is issued by Corporate with minimum days of maturity 7 days with maximum of 1 year.
 SEBI ( Protection to Investor): SEBI has emerged as an autonomous and independent statutory body with a definite mandate which
requires it to
 Protect the interest of the investors in securities
 Promote the development of securities market
 Regulate the securities Market.

SEBI regulates and supervises the securities market through; Regulations, Guidelines, Schemes and Rules, & Orders.
Assignments
 Priority Sector Lending- Small Finance Banks ( Gr-2, 4,5)
 Define Priority Sector and Elaborate the same
 Target for the Priority Sector
 MSME
 Loans which are classified as Priority Sector lending
 Monitoring period
 Consequence if lending amount not achieved Target
 Common Guidance on Priority sector lending

 Evolution of Banking in India ( Gr-7,8 ,10 & 12)


 Early stage of Banking ( up to 1947)
 Write up and number of banks and their business
 World War I & II and its effect on Indian Bank
 Banking in the yearly years of independent India- 1947 to 1967
Amalgamation
 Liquidation
 Social Control over Banks- 1967 to 1991
Assignments
 Phase of Financial Sector Reforms- 1991-92 Onwards
 Narsimham Committee II
 Deregulation of Interest rate
 Savings and Lending parameter analysis
 Yes Bank ongoing issues ( Gr-1, 3,6)
 Bank Formation and its initial management, Capital Tier I and II.
 Board of Directors compositions issue
 QIB offers
 Stressed Loans write up. Loan and Advances movement in 207-18, 18-19 and Quarter ending Sept 19. ( Dewan Housing and Anil
Ambani led – Reliance Unit)
 Recent updates and Stock Price sensitivity with the News ( Positive and Negative)
 RBI’s NBFC regulation (Gr-14,15 and 16)
 Net Owned Fund
 Deposit Acceptance
 Prudential Norms
 Asset Classification and Provision
 Corporate Governance and Disclosure norms for NBFCs ( Include Director’s qualification, disqualification format
 Off-site Reporting
 India Glycols Ltd ( Informant) Vs Indian Sugar Mills Associations, IOCL, HPCL, BPCL ( Gr-9,11,13)
 Allegation of Informant
 Sections under which allegation was made, Narrate those sections from Competition Act, 2002
 Conclusion
THANK YOU

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