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Banking Concepts

The document provides information on several economic and taxation concepts in India: 1) It announces a one-time amnesty scheme for service tax providers who have not deposited taxes since 2007 to disclose liabilities and receive penalty waivers. 2) It introduces a new commodities transaction tax of 0.01% on non-agricultural futures trades, matching the rate on equity futures. 3) It offers companies investing over $100 million in plant and machinery from 2013-2015 a 15% tax deduction on investments, expected to benefit small and medium firms. 4) It discusses new inflation-indexed bonds that aim to protect savings from inflation erosion by offering returns exceeding inflation.

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Banking Concepts

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purinaresh85

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BANKING CONCEPTS SERVICE TAX VOLUNTARY COMPLIANCE ENCOURAGEMENT SCHEME A one-time amnesty for those who have collected

service tax but not deposited the same with the government. Those service tax providers that have not filed service tax return since October 2007 can disclose true liability and get an interest or penalty waive off. COMMODITIES TRANSACTION TAX (CTT): This is on the lines of securities transaction tax levied on sale and purchase of shares on stock exchanges. The tax will be levied on nonagricultural commodities futures at 0.01 per cent of the trade value, the same rate as that on equity futures. INVESTMENT ALLOWANCE A tax break given to companies for high value investment in plant and machineries, over and above depreciation benefits enjoyed by them. A company investing Rs 100 crore or more in plant and machinery during the April 2013 to March 2015 will be entitled to deduct an investment allowance of 15 per cent of the investment. This is expected to see enormous spill-over benefits to small and medium enterprises. INFLATION-INDEXED BONDS The government hopes this will help increase financial savings instead of buying gold. In the recent years the rate of return on debt investments has often been below inflation, which effectively means that inflation was eroding savings. Inflation indexed bonds provide will provide returns that are always in excess of inflation, ensuring that price rise does not erode the value of savings. The government recently constituted the 14th Finance Commission under the chairmanship of former RBI Governor YV Reddy. The commission will submit its report by October 31, 2014. WHAT IS THE ROLE OF FINANCE COMMISSIONS? A finance commission is set up very five years by the President under Article 280 of the Constitution. Its main function is to recommend how the Union government should share taxes levied by it with the states. These recommendations cover a period of five years. The commission also lays down rules by which the centre should provide grants-in-aid to states out of the Consolidated Fund of India. It is also required to suggest measures to augment the resources of states and ways to supplement the resources of panchayats and municipalities. WHY DOES THE CONSTITUTION PROVIDE FOR SHARING OF TAX PROCEEDS? Under the federal structure envisaged in the Constitution, most of the taxation powers are with the Centre but the bulk of spending is done by the states. Such a federal structure requires transfer of resources from the Centre, which levies and collects the big taxes such as income tax and indirect taxes like excise and customs, to the states. Canada and Australia, which also have federal governments, have a similar tax-sharing system. CAN THE COMMISSION EXAMINE OTHER FISCAL ISSUES AS WELL?

Yes. The government can ask the commission to make suggestions on specific fiscal issues that it may want addressed. For instance, the government has asked the 14th Finance Commission to deliberate on the level of subsidies and explore statutory measures to insulate pricing of public utility services like drinking water, irrigation, power and public transport from policy fluctuations. The new commission will also look at the impact of GST and suggest a mechanism to compensate states in case of revenue loss. Besides, it will deliberate on listing, disinvestment and sale of state-owned companies. WHAT IS THE FORCE OF THE COMMISSION'S RECOMMENDATIONS? The Constitution does not make the recommendations of the Finance Commission binding on the government of the day. However, there is a strong precedent that governments generally go by the suggestions as far as sharing of revenues is concerned. These recommendations relating to distribution of Union taxes and duties and grants-in-aid are usually implemented by a presidential order.

EQUITY SAVINGS SCHEME

Rajiv Gandhi Equity Savings Scheme Rajiv Gandhi Equity Savings Scheme or RGESS is a new equity tax advantage savings scheme for equity investors in India, with the stated objective of "encouraging the savings of the small investors in the domestic capital markets." It was approved by The Union Finance Minister, Shri. P. Chidambaram on September 21, 2012. Important Facts about the Scheme: 1. Who can invest under this scheme? i. Anybody who has not invested in equities before and has a gross total annual income of Rs12 lakh or less. Which means, you have not opened a demat account in the past. You have not made any transactions in equity and derivatives in the past (until November 23, 2012.) ii. However, if you do have a demat account but have not done equity or futures and options transaction in the past (until November 23, 2012), you can invest in RGESS. If you are a joint demat account holder (2nd or 3rd account holder), you can open a new demat account as the 1st holder and invest in RGESS. 2. How much you can invest? i. You can make any amount of investments, but the amount eligible for an income tax deduction is a maximum amount of Rs 50,000. 3. How to invest?

i. To invest in RGESS, you will need to open a demat account. You will also have to fill in declaration Form A to the Depositary Participant (DP). 4. What is the lock in period? There is a lock-in period of total three years. This lock-in period is further divided into two fixed and flexible. i. Fixed Lock-in: The first one year from the date of investment is a fixed lock-in. During this period, you cannot sell any securities or pledge them to get loans. ii. Flexible Lock-in: The flexible lock-in period is for next two years from the date of the end of the fixed lock-in period. During this period, you are permitted to buy and sell eligible securities, provided that for a cumulative period of 270 days each year, you are maintaining the value of your initial investment. In short, the value of the investment portfolio should be equal to or more than the amount youve claimed as investments for the purpose of deduction under Section 80 CCG. 5. Expiry of period? Once the period of holding expires, the demat account will be converted automatically into an ordinary demat account. 6. Tax benefits? i. To avail of tax deduction, an investor has to open a new RGESS designated demat account or designate for this purpose his existing demat account, where no trading has taken place before 23 November. ii. As per the Indian Income tax, a deduction is up to 50 percent of the amount invested in such equity shares to the extent such deduction does not exceed Rs 25,000. So, if you are in the lowest tax bracket of 10 percent your tax benefit will be Rs 2,500. And, if you are in the 20 percent tax bracket, your tax benefit will be Rs 5,000. 7. Listed securities in which investment can be made? The eligible securities include stocks listed on the BSE-100, CNX 100 indices, Maharatna, Navratna or Miniratna PSU companies, IPOs of PSUs with an annual turnover of more than Rs 4,000 crore and RGESS-compliant mutual fund ETFs. NOTE: i. A first-timer has been defined as the one who has not opened a demat account as a 'first holder' before the notification date of 23 November 2012, even if his name appears in a joint demat account opened before this date. ii. The investor who has opened a demat account as first holder before the notification date but has not bought any shares or traded in the futures and options segment will also be considered as a first-time investor.

Definition of 100+ (A-Z) Terms of Economics from BBC

AAA-rating
The best credit rating that can be given to a borrowers debts, indicating that the risk of a borrower defaulting is minuscule.

AGM
An annual general meeting, which companies hold each year for shareholders to vote on important issues such as dividend payments and appointments to the companys board of directors. If an emergency decision is needed for example in the case of a takeover a company may also call an exceptional general meeting of shareholders or EGM.

Assets
Things that provide income or some other value to their owner.

Fixed assets (also known as long-term assets) are things that have a useful life of more than one year, for example buildings and machinery; there are also intangible fixed assets, like the good reputation of a company or brand. Current assets are the things that can easily be turned into cash and are expected to be sold or used up in the near future.

Austerity
Economic policy aimed at reducing a governments deficit (or borrowing). Austerity can be achieved through increases in government revenues primarily via tax rises and/or a reduction in government spending or future spending commitments.

Bailout
The financial rescue of a struggling borrower. A bailout can be achieved in various ways:

providing loans to a borrower that markets will no longer lend to guaranteeing a borrowers debts guaranteeing the value of a borrowers risky assets

providing help to absorb potential losses, such as in a bank recapitalisation

Bankruptcy
A legal process in which the assets of a borrower who cannot repay its debts which can be an individual, a company or a bank are valued, and possibly sold off (liquidated), in order to repay debts. Where the borrowers assets are insufficient to repay its debts, the debts have to be written off. This means the lenders must accept that some of their loans will never be repaid, and the borrower is freed of its debts. Bankruptcy varies greatly from one country to another, some countries have laws that are very friendly to borrowers, while others are much more friendly to lenders.

Base rate
The key interest rate set by the Bank of England. It is the overnight interest rate that it charges to banks for lending to them. The base rate and expectations about how the base rate will change in the future directly affect the interest rates at which banks are willing to lend money in sterling.

Basel accords
The Basel Accords refer to a set of agreements by the Basel Committee on Bank Supervision (BCBS), which provide recommendations on banking regulations. The purpose of the accords is to ensure that financial institutions have enough capital to meet obligations and absorb unexpected losses.

Basis point
One hundred basis points make up a percentage point, so an interest rate cut of 25 basis points might take the rate, for example, from 3% to 2.75%.

BBA
The British Bankers Association is an organisation representing the major banks in the UK including foreign banks with a major presence in London. It is responsible for the daily Liborinterest rate which determines the rate at which banks lend to each other.

Bear market
In a bear market, prices are falling and investors, fearing losses, tend to sell. This can create a self-sustaining downward spiral.

Bill
A debt security- or more simply an IOU. It is very similar to a bond, but has a maturity of less than one year when first issued.

BIS
The Bank for International Settlements is an international association of central banks based in Basel, Switzerland. Crucially, it agrees international standards for the capital adequacyof banks that is, the minimum buffer banks must have to withstand any losses. In response to the financial crisis, the BIS has agreed a much stricter set of rules. As these are the third such set of regulations, they are known as Basel III.

Bond
A debt security, or more simply, an IOU. The bond states when a loan must be repaid and what interest the borrower (issuer) must pay to the holder. They can be issued by companies, banks or governments to raise money. Banks and investors buy and trade bonds.

BRIC
An acronym used to describe the fast-growing economies of Brazil, Russia, India and China.

Bull market
A bull market is one in which prices are generally rising and investor confidence is high.

Capital
For investors, it refers to their stock of wealth, which can be put to work in order to earn income. For companies, it typically refers to sources of financing such as newly issued shares. For banks, it refers to their ability to absorb losses in their accounts. Banks normally obtain capital either by issuing new shares, or by keeping hold of profits instead of paying them out as dividends. If a bank writes off a loss on one of its assets for example, if it makes a loan that is not repaid then the bank must also write off a corresponding amount of its capital. If a bank runs out of capital, then it is insolvent, meaning it does not have enough assets to repay its debts.

Capital adequacy ratio

A measure of a banks ability to absorb losses. It is defined as the value of its capital divided by the value of risk-weighted assets (ie taking into account how risky they are). A low capital adequacy ratio suggests that a bank has a limited ability to absorb losses, given the amount and the riskiness of the loans it has made.

A banking regulator typically the central bank sets a minimum capital adequacy ratio for the banks in each country, and an international minimum standard is set by the BIS. A bank that fails to meet this minimum standard must be recapitalised, for example by issuing new shares.

Capitulation
(market) . The point when a flurry of panic selling induces a final collapse and ultimately a bottoming out of prices.

Carry trade
Typically, the borrowing of currency with a low interest rate, converting it into currency with a high interest rate and then lending it. The most common carry trade currency used to be the yen, with traders seeking to benefit from Japans low interest rates. Now the dollar, euro and pound can also serve the same purpose. The element of risk is in the fluctuations in the currency market.

Chapter 11
The term for bankruptcy protection in the US. It postpones a companys obligations to its creditors, giving it time to reorganise its debts or sell parts of the business, for example.

Collateralised debt obligations (CDOs)

A financial structure that groups individual loans, bonds or other assets in a portfolio, which can then be traded. In theory, CDOs attract a stronger credit rating than individual assets due to the risk being more diversified. But as the performance of many assets fell during the financial crisis, the value of many CDOs was also reduced.

Commercial paper
Unsecured, short-term loans taken out by companies. The funds are typically used for working capital, rather than fixed assets such as a new building. The loans take the form of IOUs that can be bought and traded by banks and investors, similar to bonds.

Commodities
Commodities are products that, in their basic form, are all the same so it makes little difference from whom you buy them. That means that they can have a common market price. You would be unlikely to pay more for iron ore just because it came from a particular mine, for example.

Contracts to buy and sell commodities usually specify minimum common standards, such as the form and purity of the product, and where and when it must be delivered. The commodities markets range from soft commodities such as sugar, cotton and pork bellies to industrial metals such as iron and zinc.

Core inflation
A measure of CPI inflation that strips out more volatile items (typically food and energy prices). The core inflation rate is watched closely by central bankers, as it tends to give a clearer indication of long-term inflation trends.

Correction (market)
A short-term drop in stock market prices. The term comes from the notion that, when this happens, overpriced or underpriced stocks are returning to their correct values.

CPI
The Consumer Prices Index is a measure of the price of a bundle of goods and services from across the economy. It is the most common measure used to identify inflation in a country. CPI is used as the target measure of inflation by the Bank of England and the ECB.

Credit crunch
A situation where banks and other lenders all cut back their lending at the same time, because of widespread fears about the ability of borrowers to repay. If heavily-indebted borrowers are cut off from new lending, they may find it impossible to repay existing debts. Reduced lending also slows down economic growth, which also makes it harder for all businesses to repay their debts.

Credit default swap (CDS)

A financial contract that provides insurance-like protection against the risk of a third-party borrower defaulting on its debts. For example, a bank that has made a loan to Greece may choose to hedge the loan by buying CDS protection on Greece. The bank makes periodic payments to the CDS seller. If Greece defaultson its debts, the CDS seller must buy the loans from the bank at their full face value. CDSs are not just used for hedging they are used by investors to speculate on whether a borrower such as Greece will default.

Credit rating
The assessment given to debts and borrowers by a ratings agency according to their safety from an investment standpoint based on their creditworthiness, or the ability of the company or government that is borrowing to repay. Ratings range from AAA, the safest, down to D, a company that has already defaulted. Ratings of BBB- or higher are considered investment grade. Below that level, they are considered speculative grade or more colloquially as junk.

Currency peg
A commitment by a government to maintain its currency at a fixed value in relation to another currency. Sometimes pegs are used to keep a currency strong, in order to help reduce inflation. In this case, a central bank may have to sell its reserves of foreign currency and buy up domestic currency in order to defend the peg. If the central bank runs out of foreign currency reserves, then the peg will collapse. Pegs can also be used to help keep a currency weak in order to gain a competitive advantage in trade and boost exports. China has been accused of doing this. The Peoples Bank of China has accumulated trillions of dollars in US government bonds, because of its policy of selling yuan and buying dollars a policy that has the effect of keeping the yuan weak.

Dead cat bounce

A phrase long used on trading floors to describe the small rebound in market prices typically seen following a sharp fall.

Debt restructuring
A situation in which a borrower renegotiates the terms of its debts, usually in order to reduce short-term debt repayments and to increase the amount of time it has to repay them. If lenders do not agree to the change in repayment terms, or if the restructuring results in an obvious loss to lenders, then it is generally considered a default by the borrower. However, restructurings can also occur through a debt swap a voluntary agreement by lenders to switch existing debts for new debts with easier easier repayment terms in which case it can be very hard to determine whether the restructuring counts as a default.

Default
Strictly speaking, a default occurs when a borrower has broken the terms of a loan or other debt, for example if a borrower misses a payment. The term is also loosely used to mean any situation that makes clear that a borrower can no longer repay its debts in full, such as bankruptcy or a debt restructuring.

A default can have a number of important implications. If a borrower is in default on any one debt, then all of its lenders may be able to demand that the borrower immediately repay them. Lenders may also be required to write off their losses on the loans they have made.

Deficit
The amount by which spending exceeds income over the course of a year. In the case of trade, it refers to exports minus imports. In the case of the government budget, it equals the amount the government needs to borrow during the year to fund its spending. The governments primary deficit means the amount it needs to borrow to cover general government expenditure, excluding interest payments on debts. The primary deficit therefore indicates whether a government will run out of cash if it is no longer able to borrow and decides to stop repaying its debts.

Deflation
Negative inflation that is, when the prices of goods and services across the whole economy are falling on average.

Deleveraging
A process whereby borrowers reduce their debtloads. Primarily this occurs by repaying debts. It can also occur by bankruptcies and debt defaults, or by the borrowers increasing their incomes, meaning that their existing debtloads become more manageable. Western economies are experiencing widespread deleveraging, a process associated with weak economic growth that is expected to last years. Households are deleveraging by repaying mortgage and credit card debts. Banks are deleveraging by cutting back on lending. Governments are also beginning to deleverage via austerity programmes cutting spending and increasing taxation.

Derivative
A financial contract which provides a way of investing in a particular product without having to own it directly. For example, a stock market futures contract allows investors to make bets on the value of a stock market index such as the FTSE 100 without having to buy or sell any shares. The value of a derivative can depend on anything from the price of coffee to interest rates or what the weather is like. Credit derivatives such as credit default swaps depend on the ability of a borrower to repay its debts. Derivatives allow investors and banks to hedge their risks, or to speculate on markets. Futures, forwards, swaps and options are all types of derivatives.

Dividends
An income payment by a company to its shareholders, usually linked to its profits.

Dodd-Frank
Legislation enacted by the US in 2011 to regulate the banks and other financial services. It includes:

restrictions on banks riskier activities (the Volcker rule) a new agency responsible for protecting consumers against predatory lending and other unfair practices regulation of the enormous derivatives market a leading role for the central bank, the Federal Reserve, in overseeing regulation higher bank capital requirements new powers for regulators to seize and wind up large banks that get into trouble

Double-dip recession
A recession that experiences a limited recovery then dips back into recession. The exact definition is unclear, as the definition of what counts as a recession varies between countries. A widely-accepted definition is one where the initial recovery fails to take total economic output back up to the peak seen before the recession began.

EBA
The European Banking Authority is a pan-European regulator responsible created in 2010 to oversee all banks within the European Union. Its powers are limited, and it depends on national bank regulators such as the UKs Financial Services Authority to implement its recommendations. It has already been active in laying down new rules on bank bonuses and arranging the European bank stress tests.

Ebitda
Earnings (or profit) before interest payments, tax, depreciation and amortisation. It is a measure of the cashflow at a company available to repay its debts, and is much more important indicator for lenders than the borrowers profits.

EBRD
The European Bank for Reconstruction and Development is a similar institution to the World Bank, set up by the US and European countries after the fall of the Berlin Wall to assist in economic transition in Eastern Europe. Recently the EBRDs remit has been extended to help the Arab countries that emerged from dictatorship in 2011.

ECB
The European Central Bank is the central bank responsible for monetary policy in the eurozone. It is headquartered in Frankfurt and has a mandate to ensure price stability which is interpreted as an inflation rate of no more than 2% per year.

EIB
The European Investment Bank is the European Unions development bank. It is owned by the EUs member governments, and provides loans to support pan-European infrastructure, economic development in the EUs poorer regions and environmental objectives, among other things.

ESM
The European Stability Mechanism is a 500bn-euro rescue fund that will replace the EFSF and the EFSM from June 2013. Unlike the EFSF, the ESM is a permanent bail-out arrangement for the eurozone. Unlike the EFSM, the ESM will only be backed by members of the eurozone, and not by other European Union members such as the UK.

EFSF
The European Financial Stability Facility is currently a temporary fund worth up to 440bn euros set up by the eurozone in May 2010. Following a previous bail-out of Greece, the EFSF was originally intended to help other struggling eurozone governments, and has since provided rescue loans to the Irish Republic and Portugal. More recently, the eurozone agreed to broaden the EFSFs mandate, for example by allowing it to support banks.

EFSM
The European Financial Stability Mechanism is 60bn euros of money pledged by the member governments of the European Union, including 7.5bn euros pledged by the UK. The EFSM has been used to loan money to the Irish Republic and Portugal. It will be replaced by the ESM from 2013.

Equity
The value of a business or investment after subtracting any debts owed by it. The equity in a company is the value of all its shares. In a house, your equity is the amount your house is worth minus the amount of mortgage debt that is outstanding on it.

Eurobond
A term increasingly used for the idea of a common, jointly-guaranteed bond of the eurozone governments. It has been mooted as a solution to the eurozone debt crisis, as it would prevent markets from differentiating between the creditworthiness of different government borrowers. Confusingly and quite seperately, Eurobond also refers to a bond issued in any currency in the international markets.

Eurozone
The 17 countries that share the euro.

Federal Reserve
The US central bank.

Financial Policy Committee

A new committee at the Bank of England set up in 2010-11 in response to the financial crisis. It has overall responsibility for ensuring major risks do not build up within the UK financial system.

Financial transaction tax

See Tobin tax.

Fiscal policy
The governments borrowing, spending and taxation decisions. If a government is worried that it is borrowing too much, it can engage in austerity; raising taxes and/or cutting spending. Alternatively, if a government is afraid that the economy is going into recession it can engage in fiscal stimulus, which can include cutting taxes, raising spending and/or raising borrowing.

Freddie Mac, Fannie Mae

Nicknames for the Federal Home Loans Mortgage Corporation and the Federal National Mortgage Association respectively. They dont lend mortgages directly to homebuyers, but they are responsible for obtaining a large part of the money that gets lent out as mortgages in the US from the international financial markets. Although privately-owned, the two operate as agents of the US federal government. After almost going bust in the financial crisis, the government put them into conservatorship guaranteeing to provide them with any new capital needed to ensure they do not go bust.

FTSE 100
An index of the 100 companies listed on the London Stock Exchange with the biggest market value. The index is revised every three months.

Fundamentals
Fundamentals determine a company, currency or securitys value in the long-term. A companys fundamentals include its assets, debt, revenue, earnings and growth.

Futures
A futures contract is an agreement to buy or sell a commodity at a predetermined date and price. It could be used to hedge or to speculate on the price of the commodity. Futures contracts are a type of derivative, and are traded on an exchange.

G7
The group of seven major industrialised economies, comprising the US, UK, France, Germany, Italy, Canada and Japan.

G8
The G7 plus Russia.

G20
The G8 plus developing countries that play an important role in the global economy, such as China, India, Brazil and Saudi Arabia. It gained in significance after leaders agreed how to tackle the 2008-09 financial crisis and recession at G20 gatherings.

GDP
Gross domestic product. A measure of economic activity in a country, namely of all the services and goods produced in a year. There are three main ways of calculating GDP - through output, through income and through expenditure.

Glass-Steagall
A US law dating from the 1930s Great Depression that separated ordinary commercial banking from investment banking. Like the UKs planned ring-fence, the law was intended to protect banks which lend to consumers and businesses deemed vital to the US economy from the risky speculation of investment banks. The law was repealed in 1999, largely to enable the

creation of the banking giant Citigroup a move that many commentators say was a contributing factor to the 2008 financial crisis.

Haircut
A reduction in the value of a troubled borrowers debts, imposed on, or agreed with, its lenders as part of a debt restructuring.

Hedge fund
A private investment fund which uses a range of sophisticated strategies to maximise returns including hedging, leveraging and derivatives trading. Authorities around the world are working on ways to regulate them.

Hedging
Making an investment to reduce the risk of price fluctuations to the value of an asset. Airlines often hedge against rising oil prices by agreeing in advance to to buy their fuel at a set price. In this case, a rise in price would not harm them but nor would they benefit from any falls.

IIF
The Institute of International Finance is a global trade association of the major banks.

IMF
The International Monetary Fund is an organisation set up after World War II to provide financial assistance to governments. Since the 1980s, the IMF has been most active in providing rescue loans to the governments of developing countries that run into debt problems. Since the financial crisis, the IMF has also provided rescue loans, alongside the European Union governments and the ECB, to Greece, the Irish Republic and Portugal. The IMF is traditionally and of late controversially headed by a European.

Impairment charge
The amount written off by a company when it realises that it has valued an asset more highly than it is actually worth.

Independent Commission on Banking

A commission chaired by economist Sir John Vickers set up in 2010 by the UK government in order to make recommendations on how to reform the banking system. The commission reported back in September 2011, and called for:

a ring-fence, to separate and safeguard the activities of banks that were deemed essential to the UK economy measures to increase the transparency of bank accounts and competition among banks, including the creation of a new major High Street bank much higher capital requirements for the big banks so that they can better absorb future losses

Inflation
The upward price movement of goods and services.

Insolvency
A situation in which the value of a borrowers assets is not enough to repay all of its debts. If a borrower can be shown to be insolvent, it normally means they can be declared bankrupt by a court.

Investment bank
Investment banks provide financial services for governments, companies or extremely rich individuals. They differ from commercial banks where you have your savings or your mortgage. Traditionally investment banks provided underwriting, and financial advice on mergers and acquisitions, and how to raise money in the financial markets. The term is also commonly used to describe the more risky activities typically undertaken by such firms, including trading directly in financial markets for their own account.

Junk bond
A bondwith a credit rating of BB+ or lower. These debts are considered very risky by the ratings agencies. Typically the bonds are traded in markets at a price that offers a very high yield(return to investors) as compensation for the higher risk of default.

Keynesian economics
The economic theories of John Maynard Keynes. In modern political parlance, the belief that the state can directly stimulate demand in a stagnating economy, for instance, by borrowing money to spend on public works projects such as roads, schools and hospitals.

Lehman Brothers
A US investment bank, whose collapse in September 2008 sparked the most intense phase of the financial crisis.

Leverage
Leverage, or gearing, means using debt to supplement investment. The more you borrow on top of the funds (or equity) you already have, the more highly leveraged you are. Leverage can increase both gains and losses. Deleveraging means reducing the amount you are borrowing.

Liability
A debt or other form of payment obligation, listed in a companys accounts.

Libor
London Inter Bank Offered Rate. The rate at which banks in London lend money to each other for the short-term in a particular currency. A new Libor rate is calculated every morning by financial data firm Thomson Reuters based on interest rates provided by members of the British Bankers Association.

Limited liability
Confines an investors loss in a business to the amount of capital they invested. If a person invests 100,000 in a company and it goes under, they will lose only their investment and not more.

Liquidation
A process in which assets are sold off for cash. Liquidation is often the outcome for a company deemed irretrievably loss-making. In that case, its assets are sold off individually, and the cash proceeds are used to repay its lenders. In liquidation, a companys lenders and other claimants are given an order of priority. Usually the tax authorities are the first to be paid, while the companys shareholders are the last, typically receiving nothing.

Liquidity
How easy something is to convert into cash. Your current account, for example, is more liquid than your house. If you needed to sell your house quickly to pay bills you would have to drop the price substantially to get a sale.

Liquidity crisis
A situation in which it suddenly becomes much more difficult for banks to obtain cash due to a general loss of confidence in the financial system. Investors (and, in the case of a bank run, even ordinary depositors) may withdraw their cash from banks, while banks may stop lending to each other, if they fear that some banks could go bust. Because most of a banks money is tied up in loans, even a healthy bank can run out of cash and collapse in a liquidity crisis. Central banks

usually respond to a liquidity crisis by acting as lender of last resort and providing emergency cash loans to the banks.

Liquidity trap
A situation described by economist John Maynard Keynesin which nervousness about the economy leads everybody to cut back on their spending and to hold cash, even if the cash earns no interest. The widespread fall in spending undermines the economy, which in turn makes households, banks and companies even more nervous about spending and investing their money. The problem becomes particularly intractable when as in Japan over the last 20 years the weak spending leads to falling prices, which creates a stronger incentive for people to hold onto their cash, and also makes debts more difficult to repay. In a liquidity trap, monetary policy can become useless, and Keynes said that the onus is on governments to increase their spending.

Loans-to-deposit ratio
For financial institutions, the sum of their loans divided by the sum of their deposits. It is used as a way of measuring a banks vulnerability to the loss of confidence in a liquidity crisis. Deposits are typically guaranteed by the banks government and are therefore considered a safer source of funding for the bank. Before the 2008 financial crisis, many banks became reliant on other sources of funding meaning they had very high loan-to-deposit ratios. When these other sources of funding suddenly evaporated, the banks were left critically short of cash.

Mark-to-market (MTM)
Recording the value of an asseton a daily basis according to current market prices. So for a Greek governmentbond, the MTM is how much it could be sold for today. Banks are not required to mark to market investments that they intend to hold indefinitely (in what is called the banking book in accounting jargon). Instead, these investments are valued at the price at which they were originally purchased, minus any impairment charges which might arise following a defaultby the borrower.

Monetary policy
The policies of the central bank. A central bank has an unlimited ability to create new money. This allows it to control the short-term interest rate, as well as to engage in unorthodox policies such as quantitative easing printing money to buy up government debts and other assets. Monetary policy can be used to control inflation and to support economic growth.

Money markets
Global markets dealing in borrowing and lending on a short-term basis.

Monoline insurance
Monolines were set up in the 1970s to insure against the risk that a bondwill default. Companies and public institutions issue bonds to raise money. If they pay a fee to a monoline to insure their debt, the guarantee helps to raise the credit rating of the bond, which in turn means the borrower can raise the money more cheaply.

Mortgage-backed securities (MBS)

Banks repackage debts from a number of mortgages into MBS, which can be bought and traded by investors. By selling off their mortgages in the form of MBS, it frees the banks up to lend to more homeowners.

MPC
The Monetary Policy Committee of the Bank of England is responsible for setting short-term interest rates and other monetary policy in the UK, such as quantitative easing.

Naked short selling

A version of short selling, illegal or restricted in some jurisdictions, where the trader does not first establish that he is able to borrow the relevant asset before selling it on. The aim with short selling is to buy back the asset at a lower price than you sold it for, pocketing the difference.

Nationalisation
The act of bringing an industry or assetssuch as land and property under state control.

Negative equity
Refers to a situation in which the value of your house is less than the amount of the mortgage that still has to be paid off.

OECD
The Organisation for Economic Co-operation and Development is an association of industrialised economies, originally set up to administer the Marshall Plan after World War II. The OECD provides economic research and statistics, as well as policy recommendations, for its members.

Options
A type of derivativethat gives an investor the right to buy (or to sell) something anything from a share to a barrel of oil at an agreed price and at an agreed time in the future. Options become much more valuable when markets are volatile, as they can be an insurance against price swings.

Ponzi scheme
Similar to a pyramid scheme, an enterprise where funds from new investors instead of genuine profits are used to pay high returns to current investors. Named after the Italian fraudster Charles Ponzi, such schemes are destined to collapse as soon as new investment tails off or significant numbers of investors simultaneously wish to withdraw funds.

Preference shares
A class of shares that usually do not offer voting rights, but do offer a superior type of dividend, paid ahead of dividends to ordinary shareholders. Preference shareholders often also have somewhat better protection when a company is liquidated.

Prime rate
A term used primarily in North America to describe the standard lending rate of banks to most customers. The prime rate is usually the same across all banks, and higher rates are often described as x percentage points above prime.

Private equity fund

An investment fund that specialises in buying up troubled or undervalued companies, reorganising them, and then selling them off at a profit.

PPI
The Producer Prices Index, a measure of the wholesale prices at which factories and other producers are able to sell goods in an economy.

Profit warning
When a company issues a statement indicating that its profits will not be as high as it had expected. Also profits warning.

Quantitative easing
Central banks increase the supply of money by printing more. In practice, this may mean purchasing government bonds or other categories of assets, using the new money. Rather than physically printing more notes, the new money is typically issued in the form of a deposit at the central bank. The idea is to add more money into the system, which depresses the value of the currency, and to push up the value of the assets being bought and to lower longer-term interest rates, which encourages more borrowing and investment. Some economists fear that quantitative easing can lead to very high inflation in the long term.

Rating
The assessment given to debts and borrowers by a ratings agency according to their safety from an investment standpoint based on their creditworthiness, or the ability of the company or government that is borrowing to repay. Ratings range from AAA, the safest, down to D, a company that has already defaulted. Ratings of BBB- or higher are considered investment grade. Below that level, they are considered speculative grade or more colloquially as junk.

Rating agency
A company responsible for issuing credit ratings. The major three rating agencies are Moodys, Standard & Poors and Fitch.

Recapitalisation
To inject fresh equityinto a firm or a bank, which can be used to absorb future losses and reduce the risk of insolvency. Typically this will happen via the firm issuing new shares. The cash raised can also be used to repay debts. In the case of a government recapitalising a bank, it results in the government owning a stake in the bank. In an extreme case, such as Royal Bank of Scotland, it can lead to nationalisation, where the government owns a majority of the bank.

Recession
A period of negative economic growth. In most parts of the world a recession is technically defined as two consecutive quarters of negative growth when economic output falls. In the United States, a larger number of factors are taken into account, such as job creation and manufacturing activity. However, this means that a US recession can usually only be defined when it is already over.

Repo
A repurchase agreement a financial transaction in which someone sells something (for example a bond or a share) and at the same time agrees to buy it back again at an agreed price at a later

day. The seller is in effect receiving a loan. Repos were heavily used by investment banks such as Lehman Brothers to borrow money prior to the financial crisis. Repos are also used by speculators for short selling. The speculator can buy a share through a repo and then immediately sell it again. At a later date the speculator hopes to buy the share back from the market at a cheaper price, before selling it back again at the pre-agreed price via the repo.

Reserve currency
A currency that is widely held by foreign central banks around the world in their reserves. The US dollar is the pre-eminent reserve currency, but the euro, pound, yen and Swiss franc are also popular.

Reserves
Assets accumulated by a central bank, which typically comprise gold and foreign currency. Reserves are usually accumulated in order to help the central bank defend the value of the currency, particularly when its value is pegged to another foreign currency or to gold.

Retained earnings
Profits not paid out by a company as dividends and held back to be reinvested.

Rights issue
When a public company issues new shares to raise cash. The company might do this for a number or reasons because it is running short of cash, because it wants to make an expensive investment or because it needs to be recapitalised. By putting more shares on the market, a company dilutes the value of its existing shares. It is called a rights issue, because existing shareholders have the first right to buy the new shares, thereby avoiding dilution of their existing shares.

Ring-fence
A recommendation of the UKs Independent Commission on Banking. Services provided by the banks that are deemed essential to the UK economy such as customer accounts, payment transfers, lending to small and medium businesses should be separated out from the banks other, riskier activities. They would be placed in a separate subsidiary company in the bank, and provided with its own separate capital to absorb any losses. The ring-fenced business would also be banned from lending to or in other ways exposing itself to the risks of the rest of the bank in particular its investment banking activities.

Securities lending
When one broker or dealer lends a security (such as a bond or a share) to another for a fee. This is the process that allows short selling.

Securitisation
Turning something into a security. For example, taking the debt from a number of mortgages and combining them to make a financial product, which can then be traded (see mortgage backed securities). Investors who buy these securities receive income when the original home-buyers make their mortgage payments.

Security
A contract that can be assigned a value and traded. It could be a share, a bond or a mortgagebacked security. Separately, the term security is also used to mean something that is pledged by a borrower when taking out a loan. For example, mortgages in the UK are usually secured on the borrowers home. This means that if the borrower cannot repay, the lender can seize the security the home and sell it in order to help repay the outstanding debt.

Shadow banking
A global financial system including investment banks, securitisation, SPVs, CDOs and monoline insurers that provides a similar borrowing-and-lending function to banks, but is not regulated like banks. Prior to the financial crisis, the shadow banking system had grown to play as big a role as the banks in providing loans. However, much of shadow banking system collapsed during the credit crunch that began in 2007, and in the 2008 financial crisis.

Short selling
A technique used by investors who think the price of an asset, such as shares or oil contracts, will fall. They borrow the asset from another investor and then sell it in the relevant market. The aim is to buy back the asset at a lower price and return it to its owner, pocketing the difference. Also known as shorting.

Spread (yield)
The difference in the yield of two different bondsof approximately the same maturity, usually in the same currency. The spread is used as a measure of the markets perception of the difference in creditworthiness of two borrowers.

SPV
A Special Purpose Vehicle (also Special Purpose Entity or Company) is a company created by a bank or investment bank solely for the purpose of owning a particular set of loans or other investments, and distributing the risk to investors. Before the financial crisis, SPVs were regularly used by banks to offload loans that they owned, freeing the banks up to lend more. SPVs were a major part of the shadow banking system, and were used in securitisation and CDOs.

Stability pact
A set of rules demanded by Germany at the creation of the euro in the 1990s that were intended among other things to limit the borrowing of governments inside the euro to 3% of their GDP, with fines to be imposed on miscreants. The original stability pact was abandoned after Germany itself broke the rules with impunity in 2002-05. More recently, the German government has called for an even stricter system of rules and fines to be introduced in response to the eurozone debt crisis.

Stagflation
The dreaded combination of inflation and stagnation an economy that is not growing while prices continue to rise. Most major western economies experienced stagflation during the 1970s.

Sticky prices
A phenomenon observed by Depression-era economist John Maynard Keynes. Workers typically strongly resist falling wages, even if other prices and therefore the cost of living is falling. This can mean that, particularly during deflation, wages can become uncompetitive, leading to higher unemployment. The implication is that periods of deflation usually go hand-in-hand with very high unemployment. Many economists warn that this may be the fate of Greece and other struggling economies within the eurozone.

Stimulus
Monetary policy or fiscal policy aimed at encouraging higher growth and/or inflation. This can include interest rate cuts, quantitative easing, tax cuts and spending increases.

Sub-prime mortgages
These carry a higher risk to the lender (and therefore tend to be at higher interest rates) because they are offered to people who have had financial problems or who have low or unpredictable incomes.

Swap
A derivativethat involves an exchange of cashflows between two parties. For example, a bank may swap out of a fixed long-term interest rate into a variable short-term interest rate, or a company may swap a flow of income out of a foreign currency into their own currency.

TARP
The Troubled Asset Relief Program a $700bn rescue fund set up by the US government in response to the 2008 financial crisis. Originally the TARP was intended to buy up or guarantee toxic debts owned by the US banks hence its name. But shortly after its creation, the US Treasury took advantage of a loophole in the law to use it instead for a recapitalisation of the entire US banking system. Most of the TARP money has now been repaid by the banks that received it.

Tier 1 capital
A calculation of the strength of a bank in terms of its capital, defined by the Basel Accords, typically comprising ordinary shares, disclosed reserves, retained earnings and some preference shares.

Tobin tax
A tax on financial transactions, originally proposed by economist James Tobin as a levy on currency conversions. The tax is intended to discourage market speculators by making their activities uneconomic, and in this way, to increase stability in financial markets. The idea was originally pushed by former UK Prime Minister Gordon Brown in response to the financial crisis. More recently it has been formally proposed by the European Commission, with some suggesting the revenue could be used to tackle the financial crissi. It is now opposed by the current UK government, which argues that to be effective, the tax would need to be applied globally not just in the EU as most financial activities could quite easily be relocated to another country in order to avoid the tax.

Toxic debts
Debts that are very unlikely to be recovered from borrowers. Most lenders expect that some customers cannot repay; toxic debt describes a whole package of loans that are unlikely to be repaid. During the financial crisis, toxic debts were very hard to value or to sell, as the markets for them ceased to function. This greatly increased uncertainty about the financial health of the banks that owned much of these debts.

Troika
The term used to refer to the European Union, the European Central Bank and the International Monetary Fund the three organisations charged with monitoring Greeces progress in carrying out austerity measures as a condition of bailout loans provided to it by the IMF and by other European governments. The bailout loans are being released in a number of tranches of cash, each of which must be approved by the troikas inspectors.

Underwriters
The financial institution pledging to purchase a certain number of newly-issued securitiesif they are not all bought by investors. The underwriter is typically aninvestment bank who arranges the new issue. The need for an underwriter can arise when a company makes a rights issue or a bondissue.

Unwind
To unwind a deal is to reverse it to sell something that you have previously bought, or vice versa, or to cancel a derivative contract for an agreed payment. When administratorsare called in to a bank, they must do the unwinding before creditors can get any money back.

Vickers Report
See Independent Commission on Banking

Volcker Rule
A proposal by former US Federal Reserve chairman Paul Volcker that US commercial banks be banned or severely limited from engaging in risky activities, such as proprietary trading (taking speculative risks on the markets with their own, rather than clients money) or investing in hedge funds. The Volcker Rule follows similar logic to the Glass-Steagall Act and the UK ringfenceproposal, and a modified version of the rule was included in the Dodd-Frankfinancial regulation law passed in the wake of the financial crisis.

Warrants
A document entitling the bearer to receive shares, usually at a stated price.

Working capital
A measure of a companys ability to make payments falling due in the next 12 months. It is calculated as the difference between the companys current assets (unsold inventories plus any cash expected to be received over the coming year) minus its current liabilities (what the

company owes over the same period). A healthy company should have a positive working capital. A company with negative working capital can experience cashflow problems.

World Bank
Set up after World War II along with the IMF, the World Bank is mainly involved in financing development projects aimed at reducing world poverty. The World Bank is traditionally headed by an American, while the IMF is headed by a European. Like the IMF and OECD, the World Bank produces economic data and research, and comments on global economic policy.

Write-down
Reducing the book value of an asset, either to reflect a fall in its market value (see mark-tomarket) or due to an impairment charge.

Yield
The return to an investor from buying a bond implied by the bonds current market price. It also indicates the current cost of borrowing in the market for the bond issuer. As a bonds market price falls, its yield goes up, and vice versa. Yields can increase for a number of reasons. Yields for all bonds in a particular currency will rise if markets think that the central bank in that currency will raise short-term interest rates due to stronger growth or higher inflation. Yields for a particular borrowers bonds will rise if markets think there is a greater risk that the borrower will default.

Capital Funds: Equity contribution of owners. The basic approach of capital adequacy framework is that a bank should have sufficient capital to provide a stable resource to absorb any losses arising from the risks in its business. Capital is divided into different tiers according to the characteristics / qualities of each qualifying instrument. For supervisory purposes capital is split into two categories: Tier I and Tier II. Tier I Capital: A term used to refer to one of the components of regulatory capital. It consists mainly of share capital and disclosed reserves (minus goodwill, if any). Tier I items are deemed to be of the highest quality because they are fully available to cover losses Hence it is also termed as core capital. Tier II Capital: Refers to one of the components of regulatory capital. Also known as supplementary capital, it consists of certain reserves and certain types of subordinated debt. Tier II items qualify as regulatory capital to the extent that they can be used to absorb losses arising from a bank's activities. Tier II's capital loss absorption capacity is lower than that of Tier I capital.

Revaluation reserves: Revaluation reserves are a part of Tier-II capital. These reserves arise from revaluation of assets that are undervalued on the bank's books, typically bank premises and marketable securities. The extent to which the revaluation reserves can be relied upon as a cushion for unexpected losses depends mainly upon the level of certainty that can be placed on estimates of the market values of the relevant assets and the subsequent deterioration in values under difficult market conditions or in a forced sale. Leverage: Ratio of assets to capital. Capital reserves: That portion of a company's profits not paid out as dividends to shareholders. They are also known as undistributable reserves and are ploughed back into the business. Deferred Tax Assets: Unabsorbed depreciation and carry forward of losses which can be set-off against future taxable income which is considered as timing differences result in deferred tax assets. The deferred Tax Assets are accounted as per the Accounting Standard 22. Deferred Tax Liabilities: Deferred tax liabilities have an effect of increasing future year's income tax payments, which indicates that they are accrued income taxes and meet definition of liabilities. Subordinated debt: Refers to the status of the debt. In the event of the bankruptcy or liquidation of the debtor, subordinated debt only has a secondary claim on repayments, after other debt has been repaid. Hybrid debt capital instruments: In this category, fall a number of capital instruments, which combine certain characteristics of equity and certain characteristics of debt. Each has a particular feature, which can be considered to affect its quality as capital. Where these instruments have close similarities to equity, in particular when they are able to support losses on an ongoing basis without triggering liquidation, they may be included in Tier II capital. BASEL Committee on Banking Supervision: The BASEL Committee is a committee of bank supervisors consisting of members from each of the G10 countries. The Committee is a forum for discussion on the handling of specific supervisory problems. It coordinates the sharing of supervisory responsibilities among national authorities in respect of banks' foreign establishments with the aim of ensuring effective supervision of banks' activities worldwide. BASEL Capital accord: The BASEL Capital Accord is an Agreement concluded among country representatives in 1988 to develop standardised risk-based capital requirements for banks across countries. The Accord was replaced with a new capital adequacy framework (BASEL II), published in June 2004. BASEL II is based on three mutually reinforcing pillars hat allow banks and supervisors to evaluate properly the various risks that banks face. These three pillars are: Minimum capital requirements, which seek to refine the present measurement framework supervisory review of an institution's capital adequacy and internal assessment process; market discipline through effective disclosure to encourage safe and sound banking practices

Risk Weighted Asset: The notional amount of the asset is multiplied by the risk weight assigned to the asset to arrive at the risk weighted asset number. Risk weight for different assets vary e.g. 0% on a Government Dated Security and 20% on a AAA rated foreign bank etc. CRAR(Capital to Risk Weighted Assets Ratio): Capital to risk weighted assets ratio is arrived at by dividing the capital of the bank with aggregated risk weighted assets for credit risk, market risk and operational risk. The higher the CRAR of a bank the better capitalized it is. Credit Risk: The risk that a party to a contractual agreement or transaction will be unable to meet its obligations or will default on commitments. Credit risk can be associated with almost any financial transaction. BASEL-II provides two options for measurement of capital charge for credit risk 1.standardised approach (SA) - Under the SA, the banks use a risk-weighting schedule for measuring the credit risk of its assets by assigning risk weights based on the rating assigned by the external credit rating agencies. 2. Internal rating based approach (IRB) - The IRB approach, on the other hand, allows banks to use their own internal ratings of counterparties and exposures, which permit a finer differentiation of risk for various exposures and hence delivers capital requirements that are better aligned to the degree of risks. The IRB approaches are of two types: a) Foundation IRB (FIRB): The bank estimates the Probability of Default (PD) associated with each borrower, and the supervisor supplies other inputs such as Loss Given Default (LGD) and Exposure At Default (EAD). b) Advanced IRB (AIRB): In addition to Probability of Default (PD), the bank estimates other inputs such as EAD and LGD. The requirements for this approach are more exacting. The adoption of advanced approaches would require the banks to meet minimum requirements relating to internal ratings at the outset and on an ongoing basis such as those relating to the design of the rating system, operations, controls, corporate governance, and estimation and validation of credit risk components, viz., PD for both FIRB and AIRB and LGD and EAD for AIRB. The banks should have, at the minimum, PD data for five years and LGD and EAD data for seven years. In India, banks have been advised to compute capital requirements for credit risk adopting the SA. Market Risk: Market risk is defined as the risk of loss arising from movements in market prices or rates away from the rates or prices set out in a transaction or agreement. The capital charge for market risk was introduced by the BASEL Committee on Banking Supervision through the Market Risk Amendment of January 1996 to the capital accord of 1988 (BASEL I Framework). There are two methodologies available to estimate the capital requirement to cover market risks: 1) The Standardised Measurement Method: This method, currently implemented by the Reserve Bank, adopts a building block approach for interest-rate related and equity instruments which differentiate capital requirements for specific risk from those of general market risk. The specific risk charge is designed to protect against an adverse movement in the price of an individual security due to factors related to the individual issuer. The general market risk charge is designed to protect against the interest rate risk in the portfolio. 2) The Internal Models Approach (IMA): This method enables banks to use their proprietary inhouse method which must meet the qualitative and quantitative criteria set out by the BCBS and is subject to the explicit approval of the supervisory authority.

Operational Risk: The revised BASEL II framework offers the following three approaches for estimating capital charges for operational risk: 1) The Basic Indicator Approach (BIA): This approach sets a charge for operational risk as a fixed percentage ("alpha factor") of a single indicator, which serves as a proxy for the banks risk exposure. 2) The Standardised Approach (SA): This approach requires that the institution separate its operations into eight standard business lines, and the capital charge for each business line is calculated by multiplying gross income of that business line by a factor (denoted beta) assigned to that business line. 3) Advanced Measurement Approach (AMA): Under this approach, the regulatory capital requirement will equal the risk measure generated by the banks internal operational risk measurement system. In India, the banks have been advised to adopt the BIA to estimate the capital charge for operational risk and 15% of average gross income of last three years is taken for calculating capital charge for operational risk. Internal Capital Adequacy Assessment Process (ICAAP): In terms of the guidelines on BASEL II, the banks are required to have a board-approved policy on internal capital adequacy assessment process (ICAAP) to assess the capital requirement as per ICAAP at the solo as well as consolidated level. The ICAAP is required to form an integral part of the management and decision-making culture of a bank. ICAAP document is required to clearly demarcate the quantifiable and qualitatively assessed risks. The ICAAP is also required to include stress tests and scenario analyses, to be conducted periodically, particularly in respect of the banks material risk exposures, in order to evaluate the potential vulnerability of the bank to some unlikely but plausible events or movements in the market conditions that could have an adverse impact on the banks capital. Mortgage Back Security: A bond-type security in which the collateral is provided by a pool of mortgages. Income from the underlying mortgages is used to meet interest and principal repayments. Derivative: A derivative instrument derives its value from an underlying product. There are basically three derivatives a) Forward Contract- A forward contract is an agreement between two parties to buy or sell an agreed amount of a commodity or financial instrument at an agreed price, for delivery on an agreed future date. Future Contract- Is a standardized exchange tradable forward contract executed at an exchange. In contrast to a futures contract, a forward contract is not transferable or exchange tradable, its terms are not standardized and no margin is exchanged. The buyer of the forward contract is said to be long on the contract and the seller is said to be short on the contract. b) Options- An option is a contract which grants the buyer the right, but not the obligation, to buy (call option) or sell (put option) an asset, commodity, currency or financial instrument at an agreed rate (exercise price) on or before an agreed date (expiry or settlement date). The buyer pays the seller an amount called the premium in exchange for this right. This premium is the price of the option.

c) Swaps- Is an agreement to exchange future cash flow at pre-specified Intervals. Typically one cash flow is based on a variable price and other on affixed one. Duration: Duration (Macaulay duration) measures the price volatility of fixed income securities. It is often used in the comparison of interest rate risk between securities with different coupons and different maturities. It is defined as the weighted average time to cash flows of a bond where the weights are nothing but the present value of the cash flows themselves. It is expressed in years. The duration of a fixed income security is always shorter than its term to maturity, except in the case of zero coupon securities where they are the same. Modified Duration: Modified Duration = Macaulay Duration/ (1+y/m), where y is the yield (%), m is the number of times compounding occurs in a year. For example if interest is paid twice a year m=2. Modified Duration is a measure of the percentage change in price of a bond for a 1% change in yield. Non Performing Assets (NPA): An asset, including a leased asset, becomes non performing when it ceases to generate income for the bank. Net NPA: Gross NPA (Balance in Interest Suspense account + DICGC/ECGC claims received and held pending adjustment + Part payment received and kept in suspense account + Total provisions held). Coverage Ratio: Equity minus net NPA divided by total assets minus intangible assets. Restructuring: A restructured account is one where the bank, grants to the borrower concessions that the bank would not otherwise consider. Restructuring would normally involve modification of terms of the advances/securities, which would generally include, among others, alteration of repayment period/ repayable amount/ the amount of installments and rate of interest. It is a mechanism to nurture an otherwise viable unit, which has been adversely impacted, back to health. Substandard Assets: A substandard asset would be one, which has remained NPA for a period less than or equal to 12 months. Such an asset will have well defined credit weaknesses that jeopardize the liquidation of the debt and are characterised by the distinct possibility that the banks will sustain some loss, if deficiencies are not corrected. Doubtful Asset: An asset would be classified as doubtful if it has remained in the substandard category for a period of 12 months. A loan classified as doubtful has all the weaknesses inherent in assets that were classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, - on the basis of currently known facts, conditions and values - highly questionable and improbable. Doubtful Asset: An asset would be classified as doubtful if it has remained in the substandard category for a period of 12 months. A loan classified as doubtful has all the weaknesses inherent in assets that were classified as substandard, with the added characteristic that the weaknesses

make collection or liquidation in full, - on the basis of currently known facts, conditions and values - highly questionable and improbable. Loss Asset: A loss asset is one where loss has been identified by the bank or internal or external auditors or the RBI inspection but the amount has not been written off wholly. In other words, such an asset is considered uncollectible and of such little value that its continuance as a bankable asset is not warranted although there may be some salvage or recovery value. Off Balance Sheet Exposure: Off-Balance Sheet exposures refer to the business activities of a bank that generally do not involve booking assets (loans) and taking deposits. Off-balance sheet activities normally generate fees, but produce liabilities or assets that are deferred or contingent and thus, do not appear on the institution's balance sheet until and unless they become actual assets or liabilities. Total income: Sum of interest/discount earned, commission, exchange, brokerage and other operating income. Total operating expenses: Sum of interest expended, staff expenses and other overheads. Operating profit before provisions: Net of total income and total operating expenses. Net operating profit: Operating profit before provision minus provision for loan losses, depreciation in investments, write off and other provisions. Profit before tax (PBT): (Net operating profit +/- realized gains/losses on sale of assets) Profit after tax (PAT): Profit before tax provision for tax. Retained earnings: Profit after tax dividend paid/proposed. Average Yield: (Interest and discount earned/average interest earning assets)*100 Average cost: (Interest expended on deposits and borrowings/Average interest bearing liabilities)*100 Return on Asset (ROA)- After Tax: Return on Assets (ROA) is a profitability ratio which indicates the net profit (net income) generated on total assets. It is computed by dividing net income by average total assets. Formula- (Profit after tax/Av. Total assets)*100 Return on equity (ROE)- After Tax: Return on Equity (ROE) is a ratio relating net profit (net income) to shareholders equity. Here the equity refers to share capital reserves and surplus of the bank. Formula- Profit after tax/(Total equity + Total equity at the end of previous year)/2}*100 Net Non-Interest Income: The differential (surplus or deficit) between non-interest income and non-interest expenses as a percentage to average total assets.

Net Interest Income ( NII): The NII is the difference between the interest income and the interest expenses. Net Interest Margin: Net interest margin is the net interest income divided by average interest earning assets. Cost income ratio (Efficiency ratio): The cost income ratio reflects the extent to which noninterest expenses of a bank make a charge on the net total income (total income interest expense). The lower the ratio, the more efficient is the bank. Formula: Non interest expenditure / Net Total Income * 100. CASA Deposit: Deposit in bank in current and Savings account. Liquid Assets: Liquid assets consists of: cash, balances with RBI, balances in current accounts with banks, money at call and short notice, inter-bank placements due within 30 days and securities under held for trading and available for sale categories excluding securities that do not have ready market. ALM: Asset Liability Management (ALM) is concerned with strategic balance sheet management involving all market risks. It also deals with liquidity management, funds management, trading and capital planning. ALCO: Asset-Liability Management Committee (ALCO) is a strategic decision making body, formulating and overseeing the function of asset liability management (ALM) of a bank. Banking Book: The banking book comprises assests and liabilities, which are contracted basically on account of relationship or for steady income and statutory obligations and are generally held till maturity. Venture Capital Fund: A fund set up for the purpose of investing in startup businesses that is perceived to have excellent growth prospects but does not have access to capital markets. Held Till Maturity (HTM): The securities acquired by the banks with the intention to hold them up to maturity. Held for Trading (HFT): Securities where the intention is to trade by taking advantage of shortterm price / interest rate movements. Available for Sale (AFS): The securities available for sale are those securities where the intention of the bank is neither to trade nor to hold till maturity. These securities are valued at the fair value which is determined by reference to the best available source of current market quotations or other data relative to current value.

Yield to maturity (YTM) or Yield: The Yield to maturity (YTM) is the yield promised to the bondholder on the assumption that the bond will be held to maturity and coupon payments will be reinvested at the YTM. It is a measure of the return of the bond. Foreign Currency Convertible Bond (FCCB): A bond issued in foreign currency abroad giving the investor the option to convert the bond into equity at a fixed conversion price or as per a pre-determined pricing formula. Trading Book: Investments in trading book are held for generating profits on the short term differences in prices/yields. Held for trading (HFT) and Available for sale (AFS) category constitute trading book. CRR: Cash reserve ratio is the cash parked by the banks in their specified current account maintained with RBI. SLR: Statutory liquidity ratio is in the form of cash (book value), gold (current market value) and balances in unencumbered approved securities. LIBOR: London Inter Bank Offered Rate. The interest rate at which banks offer to lend funds in the interbank market. Basis Point: Is one hundredth of one percent. 1 basis point means 0.01%. Used for measuring change in interest rate/yield. Securitization: A process by which a single asset or a pool of assets are transferred from the balance sheet of the originator (bank) to a bankruptcy remote SPV (trust) in return for an immediate cash payment. Special Purpose Vehicle (SPV): An entity which may be a trust, company or other entity constituted or established by a Deed or Agreement for a specific purpose. Custodian: An entity, usually a bank that actually holds the receivables as agent and bailee of the trustee. Value at Risk (VAR): VAR is a single number (currency amount) which estimates the maximum expected loss of a portfolio over a given time horizon (the holding period) and at a given confidence level. VaR is defined as an estimate of potential loss in a position or asset/liability or portfolio of assets/liabilities over a given holding period at a given level of certainty. FII - Is a form of International Financial Institute investor registered outside India , investing in India . FDI - Is a direct form of Investment by an Individual or a Corporation registered outside India , investing in India. BOP - It is the difference between value of Exports and Imports of all goods and services during

a particular period of Time. BOT - The difference between value of merchandise (or visible) imports or exports of any country during any particular period of time. Current Account - A form of Bank account which is maintained by Business men and traders which allows them to carry out transactions allowing them overdraft facilities and unlimited transactions . However they doesn't enjoy interest on deposits. Capital Account Convertibility- It is the feature of a nation's financial regime that centers on the ability to conduct transactions of local financial assets into foreign financial assets freely and at market determined exchange rates. GDP - Aggregate value of all Final goods and services Produced within the domestic territory of a country during any particular period of Time. GNP - Aggregate value of all Final goods and services Produced within the domestic territory of a country during any particular period of Time less income earned by residents of India living abroa Read more: http://www.bankersadda.com/2012/04/current-affairs-update-ibps2012.html#ixzz2mzBSJhBa
2. 3. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20. GDR Global Depository Receipts ALM- Asset Liability Management ARC Asset Reconstruction Companies 4. FINO- Financial Inclusion Network Operation CTT- Commodities Transaction Tax CRM- Customer Relationship Management KYC-Know Your Customer SLR-Statutory Liquidity Ratio CRR-Cash Reserve Ratio MSF-Marginal Standing Facility REPO-Repurchase Option NBFC-Non Banking Finance Companies OSMOS- Off-Site Monitoring & Surveillance IFSC- Indian Financial System Code BSE-Bombay Stock Exchange NSE-National Stock Exchange SWIFT- Society for Worldwide Interbank Financial Telecommunication FSLRC Financial Sector Legislative Reforms Commission LAF Liquidity Adjustment Facility DRT Debt Recovery Tribunals

Tagline of Banks
1.Indias International Bank- Bank of Baroda 2. With you all the way- SBI 3. Relationship beyond banking Bank of India 4. We Understand Your World Indeed- HDFC Bank

5. 6. 7. 8.

Trusted Family Bank- Dena Bank The Name You Can Bank Upon Punjab National Bank The worlds local bank HSBC One family one bank Bank of Maharashtra 9. A friend you can bank on- Vijaya Bank 10. A Tradition of Trust- Allahabad Bank Read more: http://www.bankersadda.com/2012/05/tagline-of-banks.html#ixzz2mzB80Nyi Cheque: Cheque is a negotiable (which can be transferred to another person in exchange of money) instrument drawn on a specified banker ordering the banker to pay a certain sum of money to the drawer of cheque or another person. Cheque is always payable on demand. 2. Types of Cheque: i. Ante Dated Cheque: A cheque bearing a date prior to actual date of signing the cheque or opening of an account is called an ante dated cheque which is valid and can be paid till it become stale. For Ex. A cheque is dated 9th Jan 2013 for an account opened on January 25, 2013 can be paid. ii. Stale Cheque: If the validity of the cheque has already expired it is called stale cheque which cannot be paid. The normal maximum validity of cheque is 3 months earlier it was 6 months. If the cheque is presented after the 3 months, it will be returned. iii. Post Dated Cheque: The cheque which bears a date subsequent to the date on which it is drawn. For ex. A cheque drawn on 10th January, 2013 bears the date of 12th January, 2013. Crossing of Cheque: Crossings refers to drawing two parallel lines across the face of the cheque. A crossed cheque cannot be paid in cash across the counter, and is to be paid through a bank either by transfer, collection or clearing. A general crossing means that cheque can be paid through any bank and a special crossing means where the name of the Bank is indicated on the cheque can be paid only through the named bank. Dishonour of Cheque: Non payment of cheque by the paying banker with a return memo giving reasons for the non payment. Demand Draft: Demand draft is defined as an order to pay money drawn by one office of a bank upon another office of the same bank for a sum of money payable to order on demand. Cheque and Demand draft both are used for transfer of money. Difference b/w Cheque & DD A cheque can be bounce but D.D cannot be bounce as it is already paid. Current account: Current account with a bank can be opened generally for business purpose. There are no restrictions on withdrawals in this type of account. No interest is paid in this type of account. NEFT (National Electronic Fund Transfer): NEFT enables funds transfer from one bank to another but works a bit differently than RTGS. NEFT is slower than RTGS. The transfer is not direct and RBI acts as the service provider to transfer the money from one account to another. You can transfer any amount through NEFT, even a rupee.

4. 5.

Need of NEFT: We can use this facility if we want to transfer funds online in a day or two. NEFT can make life easier for those who need to send money to their parents or children living in another city. It cuts the trouble of issuing a cheque or draft and posting it. It can also be done through internet banking. 8. RTGS (Real time gross settlement ): RTGS system is a funds transfer systems where transfer of money or securities takes place from one bank to another on a "real time" and on "gross" basis. Settlement in "real time" means payment transaction is not subjected to any waiting period. The transactions are settled as soon as they are processed. "Gross settlement" means the transaction is settled on one to one basis without bunching or netting with any other transaction. Once processed, payments are final and irrevocable. Minimum & Maximum Limit of RTGS: 2 lakh and no upper limit. The implementation of RTGS systems by Central Banks throughout the world is driven by the goal to minimize risk in high-value electronic payment settlement systems. In an RTGS system, transactions are settled across accounts held at a Central Bank on a continuous gross basis. Settlement is immediate, final and irrevocable (which cannot be changed or reversed). 9. CBS (Core Banking Solutions): Core Banking Solutions is the process, where branches of the bank are connected to a central host and the customers of connected branches can do banking at any breach with core banking facility. Advantages for both to the customers & the banks: Customer: i. Transactions of business from any branch. ii. Lower incidence of errors. iii. Better funds management due to immediate availability of funds. Banks: i. Better customer service. ii. Availability of accurate data. iii. Increased business volume with better asset liability management and risk management. 10. BOND: Publicly traded long term debt securities issued by corporations and governments, whereby the issuer agrees to pay a fixed amount of interest over a specified period of time and to repay a fixed amount of principal maturity. Read more: http://www.bankersadda.com/2013/01/banking-terms-ii.html#ixzz2mz9KMs9l Read more: http://www.bankersadda.com/2013/02/banking-concepts-terms-usefulfor.html#ixzz2mz6oOgH6

Standing Facility !
1) What is Marginal Standing Facility (MSF)? i. MSF rate is the rate at which banks borrow funds overnight from the Reserve Bank of India (RBI) against approved government securities.

ii. This came into effect in may 2011. Under the Marginal Standing Facility (MSF), currently banks avail funds from the RBI on overnight basis against their excess statutory liquidity ratio (SLR) holdings. iii. Additionally, they can also avail funds on overnight basis below the stipulated SLR up to 2.5 per cent of their respective Net Demand and Time Liabilities (NDTL) outstanding at the end of second preceding fortnight. 2) What is the current MSF rate? In the mid-quarter review of the monetary policy , the Reserve Bank of India (RBI) reduced the Marginal Standing Facility (MSF) rate by 75 basis points to 9.50% and increased the Repo rate by 25 basis points to 7.50% with immediate effect. 3) What is its borrowing limit? i. With a view to enabling banks to meet the liquidity requirements of mutual funds under the RBIs Special Repo Window announced on July 17, 2013, it has been decided to raise the borrowing limit below the stipulated SLR requirement under the MSF from 2% of NDTL to 2.5% of NDTL. ii. The higher MSF limit of 0.5% of NDTL will be available only for the Special Repo Window. This additional limit will be available for a temporary period until further notice. 4) Why is it required? It is required because Commercial banks borrow money from RBI at MSF rate when there is an acute cash shortage or acute asset-liability mismatch. This does not carry any stigma. Read more: http://www.bankersadda.com/2013/09/banking-concept-know-aboutmarginal.html#ixzz2mz5b89q0

Final Guidelines
Final Guidelines New Banking Licence Eligibility: 1. Corporates, NBFCs and public sector entities can set up banks. Broking and real estate companies can also apply. 2. Promoters need to be financially sound with track record of 10 years. 3. Positive feedback from other regulators and investigative agencies critical. Structure: 1. Promoters must set up banks through wholly-owned non-operative financial holding companies.

2. Holding company and bank not permitted to lend or invest in any entity belonging to the promoter group. 3. Shares of holding companies cannot be transferred to entities outside the promoter group. Shareholding: 1. Holding company to hold 40% stake in bank for 5 years. 2. Holding company to reduce stake in the bank to 20% in 10 years, 15% in 12 years. 3. Foreign shareholding capped at 49% for 5 years. Capital Requirements: 1. Minimum paid-up capital of the bank must be Rs 500 crore. 2. The bank needs to maintain capital adequacy ratio at 13% for initial 3 years. 3. The bank must get listed within 3 years. Other conditions: 1. At least 25% of new branches must be in unbanked rural centres. 2. At least 50% of the directors of holding company must be independent directors. 3. The bank's board must have a majority of independent directors. Application process: 1. Applications for banking licences need to be submitted by July 1, 2013. 2. RBI to issue in-principle approval after considering recommendations from a high level advisory committee. 3. The in-principle approval will be valid for 1 year. Read more: http://www.bankersadda.com/2013/02/banking-concepts-new-bankinglicence.html#ixzz2mz6YJi4M

Investments
What are SLR investments? As part of prudential guidelines, central banks require lenders to maintain a portion of their deposits in liquid assets. These liquid assets can be cash, gold or government securities. The ratio of prescribed liquid investments to deposits is termed as statutory liquidity ratio. In India, banks invest in bonds issued by the government and notified by the Reserve Bank of India as qualifying for SLR to meet the prescribed ratio. Currently, the prescribed statutory liquidity ratio for banks is 23% of their deposits. SLR is occasionally used as monetary policy tool and the stipulation is made by authorities, keeping in mind the monetary policy objectives. What are non-SLR investments? Besides giving loans to businesses and individuals, RBI has also allowed banks to invest in various capital market instruments such as stocks and bonds issued by public and private sector companies and commercial papers. In addition, banks are also

allowed to invest in various mutual fund schemes. Unlike SLR investments, there is no compulsion on banks to invest in these instruments. Investments are entirely guided by commercial considerations and many such investments are in accordance with the prescribed guidelines. How are non-SLR investments and loans linked? RBI treats both loans extended by commercial banks and the non-SLR investments as a resource flow to the commercial sector. Hence, it includes both while making credit projections it is comfortable with to achieve the targeted economic growth at the time of the monetary policy formulation during the beginning of the fiscal year. Is there any differential treatment for the two types of investments? Since SLR investments in bonds are issued by the government or its bodies, these enjoy a sovereign protection, and hence, are perceived to be risk-free. However, in case of non-SLR investments, the central bank attaches risk weights, depending on the industry and the state of the perceived risk on that sector as a prudential measure. Read more: http://www.bankersadda.com/2013/02/banking-concepts-slr-non-slrinvestments.html#ixzz2mz72nYeL architecture of the budget: ANNUAL FINANCIAL STATEMENT: The ordinary man confuses the finance minister's budget speech for the annual budget. But as laid down in the constitution, the budget actually refers to the annual financial statement tabled in Parliament along with the 1315 other documents. Divided into three parts -- Consolidated Fund, Contingency Fund and Public Account -- it has a statement of receipts and expenditure of each. CONSOLIDATED FUND: This is the core of the govt's finances. All revenues, money borrowed and receipts from loans it has given flow into this account. All government expenditure is made from this fund. Any expenditure from this fund requires the nod of Parliament. CONTINGENCY FUND: All urgent or unforeseen expenditure is met from this ` 500crore fund, which is at the disposal of the President. Any amount withdrawn from this fund is made good from the Consolidated Fund. PUBLIC ACCOUNT: All money in this fund belongs to others, such as public provident fund. The government is merely working as a banker in respect of this fund. REVENUE RECEIPT/EXPENDITURE: All receipts like taxes and expenditure like salaries, subsidies and interest payments that do not entail sale or creation of assets fall under the revenue account. CAPITAL RECEIPT/EXPENDITURE: Capital account shows all receipts from liquidating (eg. selling shares in a public sector company) of assets and spending to create assets (lending to receive interest).

REVENUE VS CAPITAL The budget has to distinguish all receipts/expenditure on revenue account from other expenditure. So all receipts in, say, the consolidated fund, are split into Revenue Budget (revenue account) and Capital Budget (capital account), which include non-revenue receipts and expenditure. REVENUE/CAPITAL BUDGET
The govt has to prepare a Revenue Budget (detailing revenue receipts and revenue expenditure) and a Capital Budget (capital receipts & capital expenditure).

Read more: http://www.bankersadda.com/2013/02/banking-concepts-union-budgetprocess.html#ixzz2mz7Ms0dD What is Casa Ratio? Casa is basically the current and savings sccount deposits. Casa ratio is the share of current and savings account deposits to the total deposits of the bank. In India, interest rates paid on current and savings account deposits is administered by banking regulator - the Reserve Bank of India. Why are banks keen on garnering a higher share of CASA? Interest rate paid on Casa is much lower compared to other deposits like term deposits or recurring deposits. While banks do not pay any interest on current account, interest paid on savings account deposit is 4%. Banks therefore make maximum effort to increase the share of Casa on their books to reduce their overall cost of deposits. HDFC Bank has the highest share of Casa to total deposits at 52%, followed by the State Bank of India at 48% and ICICI Bank at 45%. What does Casa mean for customers? Recently, RBI increased interest paid on savings account deposits from 3.5% to 4%. Further a year ago, RBI told banks to pay interest on savings deposits on a daily basis rather than paying on the minimum balance maintained by them in six months. As a result, savings account customers earn better returns compared to what they earned a year ago. Further, interest earned on savings account deposits does not attract TDS (tax deduction at source). Interest income above 10,000 a year attracts TDS of 10% in case of term deposits. However, there is no major benefit for current account deposits, which is mainly maintained by corporates and traders. What are the disadvantages of high CASA? These deposits can move out of banks' books anytime, leading to asset-liability mismatches. While in case of term deposits, banks are almost certain that the depositor may not withdraw money before the maturity of the deposit and may also renew the deposit on maturity. Further, to finance long-term projects, banks need to have long-term liabilities on their books to avoid mismatches. Banks cannot rely on Casa deposits to fund long-term loans. Read more: http://www.bankersadda.com/2013/02/banking-conceptscasa.html#ixzz2mz7YGbTh

Fiscal Cliff
What is Fiscal Cliff? The phrase "fiscal cliff" was first used by Fed chairman Ben Bernanke to refer to the combination of tax increases and spending cuts that would come into effect. What impact will the fiscal cliff have? A number of tax cuts, including Bush-era tax cuts, and unemployment benefits will expire almost together at the year-end. The result would be a drop in government spending and lower disposable incomes. These tax benefits and higher government spending had supported the economic recovery at a time when private sector demand was low. Expiry of tax benefits and lower government spending would help reduce the federal budget deficit but could temporarily arrest economic recovery, possibly even driving the US into a recession during the first half of the next year.

What does it imply for the rest of the world? The current fiscal policy in the US has raised concerns over the country's long term fiscal stability and solvency. The increase in taxes and lower government spending are part of the solution. But if the tax increases and spending cuts are allowed, the resulting recessionary climate would then cloud the prospects of even the fastest-growing economies, China and India. So what is the alternative? The two parties could arrive at a compromise before the elections start, which could calm financial markets. But so far they haven't shown any inclination to talk; probably both are waiting to see who will have more negotiating leverage after the November elections Read more: http://www.bankersadda.com/2013/02/banking-concepts-fiscalcliff.html#ixzz2mz7mVIrY Who are qualified foreign investors? Qualified foreign investors, or QFIs, can be individuals, groups or associations based abroad who are allowed by the government to invest directly in mutual funds and stocks of Indian companies. In 2011, the government opened a new window for this class of investors to buy into Indian mutual funds directly. It has now gone one step further and allowed them to buy into stocks, too, just like registered foreign institutional investors or nonresident Indians, or NRIs. Are QFIS a separate class of foreign investors compared to FIIs?

Qualified Foreign Investors will be distinct from foreign portfolio investors and nonresident Indians. A QFI can, for instance, be a foreign individual investor in Singapore or Russia, who can buy into stocks of a Tata group company or Coal India or any other listed stock after fulfilling the Know Your Customer norms through an Indian depository participant and obtaining the approval of the RBI. QFIs can buy up to 5% of the paid-up capital of a company, with the overall limit capped at 10% in a company. And these investment limits are separate or over and above that for FIIs and NRIs. How does it help by opening up the markets to one more category of investors? Indian policy makers reckon that a diverse set of investors in the local markets will help ensure more capital inflows, reduce market volatility and deepen the markets. It would also mean facilitating the entry of a set of relatively wealthy investors who could not access the Indian markets as there were regulatory restrictions on their entry. For a long time, the government and regulators kept foreign individual investors at bay owing to concerns relating to money laundering and due diligence. With restrictions in place, foreign individual investors had to either buy into Indian stocks through Participatory Notes, or PNs, or invest in India-focused offshore funds. By allowing a new set of investors, the government and regulators are hoping that it will lead to more inflows at a time when capital inflows have virtually dried up. On January 1, the government decided to allow Qualified Foreign Investors, or QFIs, to invest directly in the Indian equities market, a move which it hopes will help boost capital inflows. Read more: http://www.bankersadda.com/2013/01/banking-concepts-qualifiedforeign.html#ixzz2mz7wgef3 What is ECB? Under the ECB window, companies in India are allowed to borrow from overseas, under certain conditions, through different instruments. The Reserve Bank of India (RBI), in its master circular on external commercial borrowing and trade credits (January 2012), defined ECB as commercial loans in the form of bank loans, buyers credit, suppliers credit, securitized instruments (e.g. floating rate notes and fixed rate bonds, non-convertible, optionally convertible or partially convertible preference shares) availed of from non-resident lenders with a minimum average maturity of three years. ECB is allowed through both direct and approval routes. Under the direct route, companies in businesses, such as hotel, hospitals and software, can access the international market for raising debt up to a limit. Special economic zones and non-government organizations engaged in micro finance activities are also allowed to access the ECB window. Companies of industries that can apply through the direct route can also take the approval route if they need to borrow more than the allowed limit under the direct route. Why do companies take the ECB route? The biggest incentive for companies raising money from overseas is the interest rate arbitrage. For example, even if a company borrows in the international market at 300 basis points (one basis point is a hundredth of a percentage point) above Libor (London

Interbank Offered Rate), it will be able to borrow at just about 4% for one year; the cost of borrowing for a similar tenor will cost close to 10% in the domestic market. The idea behind opening up this window for sectors such as infrastructure and healthcare was to promote investment in these by providing the option of low-cost capital. The downside risk It is not that ECB is always beneficial to a company and the country and does not carry any risk. The borrower can be in trouble if the position is not hedged properly and the currency depreciates sharply, which will lead to increase in the companys liability. Also, at the macro level, higher level of borrowing from overseas may push the currency to appreciate, which makes exports uncompetitive in the international market. It is also argued that access to overseas market and cheaper credit is an advantage for bigger companies that can borrow abroad, while smaller companies have to deal with higher cost of capital in the domestic market. Finally, economists are worried that the dependence of the country on short-term debt flow, including ECB, is rising to fund the current account deficit and can have negative consequences Read more: http://www.bankersadda.com/2013/01/banking-concepts-externalcommercial.html#ixzz2mz82kBOO stock market index What is a stock market index? A stock market index is a number that measures the relative value of a group of stocks. As the value of stocks in this group change when they are traded, the value of the index changes as well. If an index goes up by 1%, then it means the total value of the securities which constitute the index has increased 1%. The most common indices such as the Sensex, Nifty or Dow Jones Industrial Average, are stock indices, but there are also indices for bonds, commodities, real estate, to name a few. Usually, the index value is expressed in points. For example, if the Sensex fell by 200 points, it means the Sensex was at 17,700 and closed at 17,500. In isolation the points don't mean anything you have to compare it with a value such as the previous day's number. Why are indices important? Indices provide a historical comparison of returns on money invested in the stock market against other forms of investments such as gold or debt. Many indices are used by financial services firms to benchmark the performance of their portfolios. Indices also serve as a yardstick for measuring the performance of fund managers and their respective funds. For gauging the performance of individual sectors or sectoral mutual funds, sector-specific indices can be used. If you invest in mutual funds or individual stocks, you always want to measure the performance of your investments against a relevant index. So, if your investments are always ahead of the index then your strategy is right. However, if your investment consistently lags behind the index then it might be time to come up with a new investment strategy. What does the index mean? A stock market index in reality reflects the mood of the market. A good stock index

captures the movement of well-diversified and highly-liquid stocks. For a layman, it is the pulse rate of the economy. So, if the Nifty moves up today, it implies that the stock markets expect higher future returns from the stocks as compared to the expectations on the previous day and vice-versa. Indices are derived from individual stocks and it is quite possible that a few stocks account for a major portion of the index. Thus, fluctuation in prices of a few stocks may affect the overall index too, which will give an incomplete picture. How is an index constructed? One of the most popular methods of constructing a market index is the value-weighted method. In this method, the initial market value of these stocks is assigned a base index value. An index is calculated with reference to a base period and a base index value. Say, we take the base year as 1993 and take 50 stocks which have a total market capitalization of Rs 1,000 crore. Let us assume that the base value on the first day is 100. Suppose the market capitalization on the next day of these 50 stocks increases to Rs 1,100 crore. To calculate the index, you take that day's market capitalization divide it by the base figure and multiply by 100 to get the new index. In this case it will be, 1100/1000 multiplied by 100, and so the index on the next day is 110 points. There are various indices constructed by BSE on sectors, such as metals, banks and so on Read more: http://www.bankersadda.com/2013/01/banking-concepts-all-about-stockmarket.html#ixzz2mz899McB

Islamic Finance
What is Islamic finance? Islamic finance refers to a financial system that is consistent with the principles of Sharia, the sacred law of Islam. It is different from regular banking in that it prohibits earning of interest (or riba) through the business of lending. It also prohibits direct or indirect association with businesses involving alcohol, pork products, firearms and tobacco. It also does not allow speculation, betting and gambling. How does it work? Islamic finance takes the form of Islamic banking and Islamic insurance, also known as Takaful. Islamic banking is done in five ways: 1. Mudarabah, a profit-sharing agreement 2. Wadiah, a safe keeping arrangement 3. Musharakah, or a joint venture for a specific business 4. Murabahah, cost plus arrangement where goods are sold with a pre-determined margin of profit 5. Ijirah, a leasing arrangement Takaful is a form of mutual insurance based on partnership and collective sharing of risk by a group of individuals.

How has Islamic banking progressed in recent years? Islamic banking is most prevalent in Malaysia. It is spreading rapidly in West Asia, where the population is predominantly Muslim. New global financial centres such as Singapore, Hong Kong, Geneva, Zurich and London have made changes in regulations to accommodate the Islamic finance industry, which is nearly a trillon dollar in size now. Indian regulations do not allow Islamic banking but the government is considering allowing it. What restricts the growth of Islamic finance? Most banks conducting Islamic operations have a panel of Muslim scholars called Sharia committee or Sharia board, which determines whether a product or practice complies with Islamic provisions. Also, the accounting is done differently for which there is an official standard-setting body known as the accounting and auditing organization for Islamic financial institutions. The strict code makes Islamic banking a very niche product. Read more: http://www.bankersadda.com/2013/01/banking-concepts-islamicfinance.html#ixzz2mz8PX4hM

Cheque Truncation System (CTS)

What is Cheque Truncation? It is one of the major innovations in cheque clearing after the Magnetic Ink Character Recognition (MICR) cheques introduced in the 80s. Cheque truncation is a system between clearing and settlement of cheques based on electronic images. This form of clearing does not involve any physical exchange of instrument. Bank customers would get their cheques realised faster as local cheques are cleared almost the same day as the cheque is presented to the clearing house, while intercity clearing happens the next day. Besides speedy clearing of cheques, banks also have additional advantage of reduced reconciliation and clearing frauds. It is also possible for banks to offer innovative products and services based on CTS. Why is it needed? Though MICR technology helped improve efficiency in cheque handling, clearing is not very speedy as cheques have to be physically transported all the way from the collecting branch of a bank to the drawee bank branch. The CTS is more advanced and more secure. Many countries have sought to address this issue with cheque truncation, in which the movement of the physical instruments is curtailed at a point in the clearing cycle, beyond which the process is completed, purely based only on the electronic data and images of the cheques. What has been the international experience in this regard? Denmark and Belgium are pioneers in CTS. They adopted complete cheque truncation system more than two decades ago. Sweden is the typical example for having achieved complete truncation where all the cheques can be presented and encashed at any branch; irrespective of the bank on which they are drawn. CTS also takes care of the needs of future electronic transactions.

What has RBI and banks done? RBI has already enabled CTS to be fully functional in New Delhi. Soon even cheque clearing in Chennai will be settled through CTS. Banks have also taken steps to introduce appropriate technology to facilitate this system. What are the salient features of CTS? The physical cheque is truncated within the presenting bank itself. Settlement is generated on the basis of current MICR code line data. These images will be archived electronically and be preserved for eight years. A centralised agency per clearing location will act as an image warehouse for the banks. Read more: http://www.bankersadda.com/2013/01/banking-concepts-chequetruncation.html#ixzz2mz8fbMjY Inter-Bank Mobile Payment Service. WHAT IS IMPS? IMPS offers an instant, 24X7, interbank electronic fund transfer service through mobile phones. There are two types of IMPS services: A personto-person (P2P) service and a person-tomerchant (P2M) service. While the P2P service was launched some 18 months ago, P2M service was made available only recently. HOW TO START A P2P OR P2M SERVICE? Register your mobile number with your bank. Get a seven-digit Mobile Money Identifier, or MMID, number. This number is used to identify your bank and is linked to your account number. The combination of mobile number and MMID is unique for particular account, and the customer can link the same mobile number with multiple accounts in the same bank, and get separate MMID for each account. After this, get a Mobile Banking PIN, or M-PIN, which is a password to be used during transactions for authentication and security. Download mobile banking application or use the SMS facility provided by the bank to make a payment. HOW TO SEND OR RECEIVE FUNDS FOR P2P TRANSACTIONS? To send money, initiate an IMPS transaction using the mobile app or SMS. You need to enter the beneficiary's mobile number and MMID, amount and M-PIN for initiating a transaction. You will then receive a confirmation SMS for the transaction. To receive money, share your mobile number and MMID with the sender. The sender then initiates the above-mentioned steps. And you get an SMS confirmation for the money received. HOW DOES THE P2M SERVICE WORK? There are two ways in which P2M transactions can be performed: customerinitiated transactions (P2M PUSH) and merchantinitiated transactions (P2M PULL). P2M push transactions can be used for paying insurance premium, mobile /DTH recharge, credit card fee, utility bills, over-thecounter payments, and face-to-face payments such as pizza delivery, couriers and cabs. For P2M PUSH, a customer initiates transaction through the mobile banking app or SMS facility provided

by the bank. For P2M PULL, the transaction is initiated through the website of the merchant. Plus you need to get a one-time password (OTP) from your bank. IS THERE A CASH LIMIT? Yes. Most banks cap the daily limit via IMPS app at Rs 50,000 per day. SBI limits transfers to Rs 1,000 per day through the SMS mode. Read more: http://www.bankersadda.com/2013/01/understanding-imps.html#ixzz2mz8pLops

Understanding BASEL III

What are the Basel-III norms? These are rules written by the Bank of International Settlement's Committee on Banking Supervision (BCBS) whose mandate is to define the reform agenda for the global banking community as a whole. The new rule prescribes how to assess risks, and how much capital to set aside for banks in keeping with their risk profile. What are the changes which have been made to the way in which capital is defined? Going by the new rules, the predominant component of capital is common equity and retained earnings. The new rules restrict inclusion of items such as deferred tax assets, mortgage-servicing rights and investments in financial institutions to no more than 15% of the common equity component. These rules aim to improve the quantity and quality of the capital. What do these new rules say? While the key capital ratio has been raised to 7% of risky assets, according to the new norms, Tier-I capital that includes common equity and perpetual preferred stock will be raised from 2-4.5% starting in phases from January 2013 to be completed by January 2015. In addition, banks will have to set aside another 2.5% as a contingency for future stress. Banks that fail to meet the buffer would be unable to pay dividends, though they will not be forced to raise cash. How different is the approach now? The new norms are based on renewed focus of central bankers on macro-prudential stability. The global financial crisis following the crisis in the US sub-prime market has prompted this change in approach. The previous set of guidelines, popularly known as Basel II focused on macro-prudential regulation. In other words, global regulators are now focusing on financial stability of the system as a whole rather than micro regulation of any individual bank. How will these norms impact Indian banks? According to RBI governor D Subbarao, Indian banks are not likely to be impacted by the new capital rules. As such, RBI does not expect our banking system to be significantly stretched in meeting the proposed new capital rules, both in terms of the overall capital requirement and the quality of capital. There may be some negative

impact arising from shifting some deductions from Tier-I and Tier-II capital to common equity. Read more: http://www.bankersadda.com/2013/01/understanding-baseliii.html#ixzz2mz94KWQq

COMMERCIAL PAPER
1. What is Commercial Paper (CP)? Commercial Paper (CP) is an unsecured money market instrument issued in the form of a promissory note. 2. When Commercial Paper was introduced? Commercial Paper was introduced in India in 1990. 3. Why Commercial Paper was introduced? It was introduced in India in 1990 with a view to enabling highly rated corporate borrowers to diversify their sources of short-term borrowings and to provide an additional instrument to investors. Subsequently, primary dealers and all-India financial institutions were also permitted to issue CP to enable them to meet their short-term funding requirements for their operations. 4. Who can issue CP? Corporates, primary dealers (PDs) and the All-India Financial Institutions (FIs) are eligible to issue CP. 5. Whether all the corporates would automatically be eligible to issue CP? No. A corporate would be eligible to issue CP provided a. the tangible net worth of the company, as per the latest audited balance sheet, is not less than Rs. 4 crore b. company has been sanctioned working capital limit by bank/s or all-India financial institution/s; and c. the borrowal account of the company is classified as a Standard Asset by the financing bank/s/ institution/s. 6. Is there any rating requirement for issuance of CP? And if so, what is the rating requirement? Yes. All eligible participants shall obtain the credit rating for issuance of Commercial Paper either from Credit Rating Information Services of India Ltd. (CRISIL) or the Investment Information and Credit Rating Agency of India Ltd. (ICRA) or the Credit Analysis and Research Ltd. (CARE) or the FITCH Ratings India Pvt. Ltd. or such other credit rating agency (CRA) as may be specified by the Reserve Bank of India from time to time, for the purpose. NOTE:- The minimum credit rating shall be A-2 [As per rating symbol and definition

prescribed by Securities and Exchange Board of India (SEBI)]. The issuers shall ensure at the time of issuance of CP that the rating so obtained is current and has not fallen due for review. 7. What is the minimum and maximum period of maturity prescribed for CP? CP can be issued for maturities between a minimum of 7 days and a maximum of up to 1 year from the date of issue. However, the maturity date of the CP should not go beyond the date up to which the credit rating of the issuer is valid. 8. What is the limit up to which a CP can be issued? The aggregate amount of CP from an issuer shall be within the limit as approved by its Board of Directors or the quantum indicated by the Credit Rating Agency for the specified rating, whichever is lower. As regards FIs, they can issue CP within the overall umbrella limit prescribed in the Master Circular on Resource Raising Norms for FIs, issued by Department of Banking Operations and Development (DBOD) and updated from time-to-time. 9. In what denominations a CP that can be issued? CP can be issued in denominations of Rs.5 lakh or multiples thereof. 10. How long can the CP issue remain open? The total amount of CP proposed to be issued should be raised within a period of two weeks from the date on which the issuer opens the issue for subscription. 11. Whether CP can be issued on different dates by the same issuer? Yes. CP may be issued on a single date or in parts on different dates provided that in the latter case, each CP shall have the same maturity date. Further, every issue of CP, including renewal, shall be treated as a fresh issue. 12. Who can act as Issuing and Paying Agent (IPA)? Only a scheduled bank can act as an IPA for issuance of CP. 13. Who can invest in CP? Individuals, banking companies, other corporate bodies (registered or incorporated in India) and unincorporated bodies, Non-Resident Indians (NRIs) and Foreign Institutional Investors (FIIs) etc. can invest in CPs. However, investment by FIIs would be within the limits set for them by Securities and Exchange Board of India (SEBI) from time-to-time. 14. Whether CP can be held in Dematerilaised (Demat) form? Yes. CP can be issued either in the form of a promissory note (Schedule I given in the Master Circular-Guidelines for Issue of Commercial Paper dated July 1, 2011 and updated from time to-time) or in a dematerialised form through any of the depositories approved by and registered with SEBI. Banks, FIs and PDs can hold CP only in dematerialised form. 15. Whether CP is always issued at a discount?

Yes. CP will be issued at a discount to face value as may be determined by the issuer. 16. Whether CP can be underwritten? No issuer shall have the issue of Commercial Paper underwritten or co-accepted. 17. Whether CPs are traded in the secondary market? Yes. CPs are actively traded in the Over The Counter (OTC) market. Such transactions, however, are to be reported on the Fixed Income Money Market and Derivatives Association of India (FIMMDA) reporting platform within 15 minutes of the trade for dissemination of trade information to market participation thereby ensuring market transparency. 18. What is the mode of redemption? Initially the investor in CP is required to pay only the discounted value of the CP by means of a crossed account payee cheque to the account of the issuer through IPA. On maturity of CP, (a) when the CP is held in physical form, the holder of the CP shall present the instrument for payment to the issuer through the IPA. (b) when the CP is held in demat form, the holder of the CP will have to get it redeemed through the depository and receive payment from the IPA. 19. Whether Stand by facility is required to be provided by the bankers/FIs for CP issue? CP being a `stand alone product, it would not be obligatory in any manner on the part of banks and FIs to provide stand-by facility to the issuers of CP. However, Banks and FIs have the flexibility to provide for a CP issue, credit enhancement by way of stand-by assistance/credit backstop facility, etc., based on their commercial judgement and as per terms prescribed by them. This will be subjected to prudential norms as applicable and subject to specific approval of the Board. 20. Whether non-bank entities/corporates can provide guarantee for credit enhancement of the CP issue? Yes. Non-bank entities including corporates can provide unconditional and irrevocable guarantee for credit enhancement for CP issue provided : a. the issuer fulfils the eligibility criteria prescribed for issuance of CP; b. the guarantor has a credit rating at least one notch higher than the issuer by an approved credit rating agency and c. the offer document for CP properly discloses: the networth of the guarantor company, the names of the companies to which the guarantor has issued similar guarantees, the extent of the guarantees offered by the guarantor company, and the conditions under which the guarantee will be invoked. Read more: http://www.bankersadda.com/2012/10/banking-concept-commercialpaper.html#ixzz2mz9mQkNN

THE RTGS SYSTEM

Q1. What is RTGS System? Ans. The acronym 'RTGS' stands for Real Time Gross Settlement, which can be defined as the continuous (real-time) settlement of funds transfers individually on an order by order basis (without netting). 'Real Time' means the processing of instructions at the time they are received rather than at some later time.'Gross Settlement' means the settlement of funds transfer instructions occurs individually (on an instruction by instruction basis). Considering that the funds settlement takes place in the books of the Reserve Bank of India, the payments are final and irrevocable. Q2. How RTGS is different from National Electronics Funds Transfer System (NEFT)? Ans. NEFT is an electronic fund transfer system that operates on a Deferred Net Settlement (DNS) basis which settles transactions in batches. In DNS, the settlement takes place with all transactions received till the particular cut-off time. These transactions are netted (payable and receivables) in NEFT whereas in RTGS the transactions are settled individually. For example, currently, NEFT operates in hourly batches - there are eleven settlements from 9 am to 7 pm on week days and five settlements from 9 am to 1 pm on Saturdays. Any transaction initiated after a designated settlement time would have to wait till the next designated settlement time Contrary to this, in the RTGS transactions are processed continuously throughout the RTGS business hours. Q3. Is there any minimum / maximum amount stipulation for RTGS transactions? Ans. The RTGS system is primarily meant for large value transactions. The minimum amount to be remitted through RTGS is ` 2 lakh. There is no upper ceiling for RTGS transactions. Q4. What is the time taken for effecting funds transfer from one account to another under RTGS? Ans. Under normal circumstances the beneficiary branches are expected to receive the funds in real time as soon as funds are transferred by the remitting bank. The beneficiary bank has to credit the beneficiary's account within two hours of receiving the funds transfer message. Q5. Would the remitting customer get back the money if it is not credited to the beneficiary's account? When? Ans. Yes.It is expected that the receiving bank will credit the account of the beneficiary instantly. If the money cannot be credited for any reason, the receiving bank would have to return the money to the remitting bank within 2 hours. Once the money is received back by the remitting bank, the original debit entry in the customer's account is reversed. Q6. Till what time RTGS service window is available? Ans. The RTGS service window for customer's transactions is available from 9.00 hours to 16.30 hours on week days and from 9.00 hours to 13.30 hours on Saturdays for settlement at the RBI end. However, the timings that the banks follow may vary depending on the customer timings of the bank branches. Q7. What about Processing Charges / Service Charges for RTGS transactions? Ans. With a view to rationalize the service charges levied by banks for offering funds transfer through RTGS system, a broad framework has been mandated as under: a) Inward transactions Free, no charge to be levied.

b) Outward transactions Rs. 2 lakh to Rs. 5 lakh - not exceeding Rs. 30 per transaction. Above Rs. 5 lakh - not exceeding Rs. 55 per transaction. Q8. What is the essential information that the remitting customer would have to furnish to a bank for the remittance to be effected? Ans. The remitting customer has to furnish the following information to a bank for effecting a RTGS remittance: 1. Amount to be remitted 2. Remitting customers account number which is to be debited 3. Name of the beneficiary bank 4. Name of the beneficiary customer 5. Account number of the beneficiary customer 6. Sender to receiver information, if any 7. The IFSC Number of the receiving branch Q9. How would one know the IFSC code of the receiving branch? Ans. The beneficiary customer can obtain the IFSC code from his bank branch. The IFSC code is also available on the cheque leaf. This code number and bank branch details can be communicated by the beneficiary to the remitting customer. Q10. Do all bank branches in India provide RTGS service? Ans. No. All the bank branches in India are not RTGS enabled. As on September 29, 2011, there are more than 78,000 RTGS enabled bank branches. Read more: http://www.bankersadda.com/2012/09/banking-concepts-rtgssystem.html#ixzz2mzA9eyFs

THE NEFT SYSTEM

Q.1. What is NEFT? Ans: National Electronic Funds Transfer (NEFT) is a nation-wide payment system facilitating one-to-one funds transfer. Under this Scheme, individuals, firms and corporates can electronically transfer funds from any bank branch to any individual, firm or corporate having an account with any other bank branch in the country participating in the Scheme. Q.2. Are all bank branches in the country part of the NEFT funds transfer network? Ans: For being part of the NEFT funds transfer network, a bank branch has to be NEFTenabled. Q.3. Who can transfer funds using NEFT? Ans: Individuals, firms or corporates maintaining accounts with a bank branch can transfer funds using NEFT. Even such individuals who do not have a bank account (walk-in customers) can also deposit cash at the NEFT-enabled branches with instructions to transfer funds using NEFT. However, such cash remittances will be restricted to a maximum of Rs.50,000/- per transaction. Such customers have to furnish full details including complete address, telephone number, etc. NEFT, thus, facilitates originators or remitters to initiate funds transfer transactions even without having a bank account. Q.4. Who can receive funds through the NEFT system? Ans: Individuals, firms or corporates maintaining accounts with a bank branch can receive funds through the NEFT system. It is, therefore, necessary for the beneficiary to have an account with

the NEFT enabled destination bank branch in the country. The NEFT system also facilitates one-way cross-border transfer of funds from India to Nepal. This is known as the Indo-Nepal Remittance Facility Scheme. A remitter can transfer funds from any of the NEFT-enabled branches in to Nepal, irrespective of whether the beneficiary in Nepal maintains an account with a bank branch in Nepal or not. The beneficiary would receive funds in Nepalese Rupees. Q.5. Is there any limit on the amount that could be transferred using NEFT? Ans: No. There is no limit either minimum or maximum on the amount of funds that could be transferred using NEFT. However, maximum amount per transaction is limited to Rs.50,000/for cash-based remittances and remittances to Nepal. Q.6. Whether the system is centre specific or has any geographical restriction? Ans: No. There is no restriction of centres or of any geographical area within the country. The NEFT system takes advantage of the core banking system in banks. Accordingly, the settlement of funds between originating and receiving banks takes places centrally at Mumbai, whereas the branches participating in NEFT can be located anywhere across the length and breadth of the country. Q.7. What are the operating hours of NEFT? Ans : Presently, NEFT operates in hourly batches - there are eleven settlements from 9 am to 7 pm on week days (Monday through Friday) and five settlements from 9 am to 1 pm on Saturdays. Q.8. How does the NEFT system operate? Step-1 : An individual / firm / corporate intending to originate transfer of funds through NEFT has to fill an application form providing details of the beneficiary (like name of the beneficiary, name of the bank branch where the beneficiary has an account, IFSC of the beneficiary bank branch, account type and account number) and the amount to be remitted. The application form will be available at the originating bank branch. The remitter authorizes his/her bank branch to debit his account and remit the specified amount to the beneficiary. Customers enjoying net banking facility offered by their bankers can also initiate the funds transfer request online. Some banks offer the NEFT facility even through the ATMs. Walk-in customers will, however, have to give their contact details (complete address and telephone number, etc.) to the branch. This will help the branch to refund the money to the customer in case credit could not be afforded to the beneficiarys bank account or the transaction is rejected / returned for any reason. Step-2 : The originating bank branch prepares a message and sends the message to its pooling centre (also called the NEFT Service Centre). Step-3 : The pooling centre forwards the message to the NEFT Clearing Centre (operated by National Clearing Cell, Reserve Bank of India, Mumbai) to be included for the next available batch. Step-4 : The Clearing Centre sorts the funds transfer transactions destination bank-wise and prepares accounting entries to receive funds from the originating banks (debit) and give the funds to the destination banks(credit). Thereafter, bank-wise remittance messages are forwarded to the destination banks through their pooling centre (NEFT Service Centre). Step-5 : The destination banks receive the inward remittance messages from the Clearing Centre and pass on the credit to the beneficiary customers accounts. Q.9. What is IFSC? Ans : IFSC or Indian Financial System Code is an alpha-numeric code that uniquely identifies a bank-branch participating in the NEFT system. This is an 11 digit code with the first 4 alpha

characters representing the bank, and the last 6 characters representing the branch. The 5th character is 0 (zero). IFSC is used by the NEFT system to identify the originating / destination banks / branches and also to route the messages appropriately to the concerned banks / branches. Q.10. What are the processing or service charges for NEFT transactions? Ans: The structure of charges that can be levied on the customer for NEFT is given below: a) Inward transactions at destination bank branches (for credit to beneficiary accounts) Free, no charges to be levied from beneficiaries b) Outward transactions at originating bank branches (charges for the remitter) - For transactions up to Rs 1 lakh not exceeding Rs 5 (+ Service Tax) - For transactions above Rs 1 lakh and up to Rs 2 lakhs not exceeding Rs 15 (+ Service Tax) - For transactions above Rs 2 lakhs not exceeding Rs 25 (+ Service Tax) c) Charges applicable for transferring funds from India to Nepal using the NEFT system (under the Indo-Nepal Remittance Facility Scheme). With effect from 1st July 2011, originating banks are required to pay a nominal charge of 25 paise each per transaction to the clearing house as well as destination bank as service charge. However, these charges cannot be passed on to the customers by the banks. Q.11. Can remittances be sent abroad using NEFT? Ans: No. However, a facility is available to send outward remittances to Nepal under the IndoNepal Remittance Facility Scheme. Q.12. What are the other transactions that could be initiated using NEFT? Ans: Besides personal funds transfer, the NEFT system can also be used for a variety of transaction including payment of credit card dues to the card issuing banks. It is necessary to quote the IFSC of the beneficiary card issuing bank to initiate the bill payment transactions using NEFT. Q.13. Can a transaction be originated to draw (receive) funds from another account? Ans : No. NEFT is a credit-push system i.e., transactions can be originated only to transfer / remit funds to a beneficiary. Q.14. What are the benefits of using NEFT? Ans: NEFT offers many advantages over the other modes of funds transfer: The remitter need not send the physical cheque or Demand Draft to the beneficiary. The beneficiary need not visit his / her bank for depositing the paper instruments. The beneficiary need not be apprehensive of loss / theft of physical instruments or the likelihood of fraudulent encashment thereof. Cost effective. Credit confirmation of the remittances sent by SMS or email. Remitter can initiate the remittances from his home / place of work using the internet banking also. Near real time transfer of the funds to the beneficiary account in a secure manner. Read more: http://www.bankersadda.com/2012/09/banking-concepts-neftsystem.html#ixzz2mzAdBWZZ

Money market, Repo Rate & Call Money What is money market
In simple terms, if I borrow money from you for less than 1 year = the place where we do this deal is Money market

For long term loans = Capital market. See this diagram

Technical definition
market refers to the market for short-term funds, i.e., up to one-year maturity. money market is the place where lending and borrowing is done through instruments having an original maturity of up to one year.

Use of money market

money market provides a mechanism to balance the demand for and supply of short-term funds. the opportunity for players to invest their short-term surplus funds and to borrow short-term funds in case of deficit. Its interlinked with Foreign Exchange market (read my article on currency devaluation for more on this)

Call/ Notice/Term Money Market

It is the market for borrowing and lending for short-term periods (usually upto 14 days, but at times more than that) The deals mostly by commercial banks. It is a telephonic market, i.e., deals are struck over telephone and reported to RBI. (thats why its call market) Commercial banks often face temporary shortages of funds (e.g., to meet CRR and SLR requirements, or sudden outgo of funds) or temporary surpluses. When a bank is in shortage of funds, it telephones & borrows from another bank which is in surplus.

3 types of deals in Call Market

Call Money
If borrowing (or lending) is made for one day (overnight), it is known as Call Money. This segment is also called overnight money market. Notice Money If the maturity of borrowing (or lending) is more than 1 day but up to 14 days, then it is known as Notice Money. Term Money Term Money refers to money borrowed (or lent) for more than 14 days but less than one year. In

Indian money market, most of the transactions are of call money and notice money.

Players in Call Market

commercial banks and primary dealers can both borrow and lend, LIC, UTI, GIC, IDBI, NABARD, ICICI & Mutual Fund managers can lend money in this market (but theyre not allowed to borrow from this market) RBI, as regulator, routinely participates in the market to inject liquidity (lend) or to mop up liquidity (borrow).

Repos/Reverse Repos
repo (also known as ready forward contract) transaction, Example Suppose I write on a piece of paper anyone who gives me 100 Rs. Ill give him 120 Rs. After 1 year this piece of paper is security. Now I give that paper to you and collect 100 Rs. And tell you that Ill buy (repurchase) that paper after 6 months and give you 110 Rs. This is called repo-contract And this period (6 months) is repo period. Now remember the mirror in the mirror my left hand will show as my right hand. Same is for Reverse Repo Rate When you buy a security and sign contract that youll sell it after 6 months = this is reverse repo contract. one party borrows funds for a specific period (known as repo period) against the collateral of specific securities at pre-determined rate (known as repo rate) for buyer its reverse repo rate (RRR) and for seller its repo rate.(RR) And whether the transection is RRR or RR is classified by who initiated the deal? If the buyer initiated the deal then its RRR If the seller initiated the deal then its RR To prevent the topic getting confusing and complicated. Lets take an example First the easy exampleIm the RBI manager. When I give you security (paper) & take money from you this is Repo.

When I buy the security (paper) from you and give you money- this is reverse Repo. Now the more correct example Im the RBI manager. When I give you security (paper) & take money from you & promise you that Ill buy the same paper back from you after few months this is Repo. When I buy the security (paper) from you and give you money & you promise me that youll buy back that paper from me after few months- this is reverse Repo.

The players in Repo / Reverse Repo Rate

RBI, Scheduled banks & Primary dealers can borrow and lend Non-Bank participants (Finacial institutions) + companies listed in stock market can only lend , they cant borrow.

Lets rewind the liquidity tape

Liquidity = How much money in the market? = if money is plenty= easy to get loans @ cheaper interest rate = this is called cheap / easy money. 2. When there is less liquidity =hard to get loans and the interest rate will be higher = this is Dear money. 3. Where there is too much money= inflation 4. When there is too less money= bad to business as you cant get loans easily to run your works. 5. So RBIs work is to fine tune the liquidity (money supply.) = tuning the dear money / easy money policy based on the situation. See this diagram
1.

RBI & Repo

absorption of short-term liquidity, RBI carries out overnight (one day) repo auction at a fixed rate. Currently, fixed-rate repo and reverse repo auctions are conducted by the RBI on a daily basis (excluding Saturdays, Sundays and other public holidays) for 1 day (overnight) tenor. This means, RBI is ready to sell as much securities as is demanded by the participants at the fixed rate. This rate is fixed in the sense that it does not change on a daily basis depending upon the supply-demand condition of short-term liquidity

Changes in the fixed repo rate are usually made in the Annual Monetary and Credit Policy or in the Mid-Term Review of the Monetary and Credit Policy.

RBI & Reverse Repo

In order to inject liquidity into the system, RBI conducts fixed rate auctions of reverse repo at a rate higher than the repo rate. The reverse repo rate is linked to the repo rate in the sense that it is set at specific percentage point above the repo rate.

Definition difference from international market.

Keep in mind, the terms repo and reverse repo have been defined above, is just opposite to the international practice. That is, what is repo in Indian terminology is reverse repo in international parlance, and what is reverse repo in India is internationally known as repo. In a fast globalising environment, this may create confusion. Consequently, RBI has changed the definitions of repo and reverse repo to bring them in line with international practice with effect from 27th October 2004.

The FDI in Retail business pro-cons Single brand vs Multibrand Retail

In the fond memories of Dev Anand,

Whats the difference between Single brand vs Multibrand retail?

Single Brand retail
Nike Company opens outlets in Abad, Banglore, Delhi and Mumbai selling nothing but Nike Shoes, Nike wrist-watches and Nike t-shirts only. This is single brand retail. FDI in Single-Brand Retailing was permitted in 2006, to the extent of 51%. These were mostly outlets for sportswear, luxury goods, apparel, fashion clothing, jewellery, hand bags, life-style products. But neither the Political parties nor Local Kiranawala raised any voice against this,why? Because these are high-end luxury items for brand

conscious upper middle class and rich class people. It doesnt hurt population at large. It was not like people would stop purchasing from local garment store to get Nike or Adidas.

Multi-brand retail
Big Bazaar opens mall in above cities: selling t-shirts of multiple-brands such as Reebok, Nike, Adidas, Allen Solley, Van Huesen, Peter England etc. +and+ they also sell unbranded t-shirts (you know those buy one get three t-shirts free from unknown companies.) So this is multi-brand retail: when an outlet sells a product (tshirt, tie, shoes anything) of more than one brand.

Retail means when product is sold to the ultimate consumer (common man)

Argument against FDI Anti #1: will lead to mass-unemployment 1. Retail sector in India is the second largest employer after agriculture. Almost 33 million people involved here. 2. Now the problem part: Disguised unemployment. Father and two Sons running a farm, producing 200 kgs of wheat. You take out any two members,

the production still remains 200 kgs. Same problem goes with family owned-operated retail stores, the intermediaries and middle agents. 3. What should be done? Obviously one of the two sons ought to get himself in other sector (service, construction, manufacturing, industry, etc) But there is lack of opportunities, the manufacturing sector is not growing at the pace. So the argument=: Displaced retail-operators will not be absorbed in other sectors. This FDI will lead to unemployment. Although this unemployment argument is flawed because 1. Walmart cannot open malls in every nook and corner of India. Their electricity, staff and security costs will surpass their profit margins. 2. Customers cant goto Walmart on daily basis for attractive discounts because the petrol cost (and time wasted in traffic) will negate the discount on small purchase. So theyll be using local small-retailer for daily requirements of bread, milk, newspaper etc. 3. Did STD booth-operators become unemployed after advent of mobile phones with zero roaming charges and free incoming? Nope, they diversified and started running Xerox and cybercafs. 4. Did local Udipi owner ran out of business because of McDonald / KFC? Ofcourse not. Anti #2: Predatory pricing Walmart or any other MNC retail mall, for the first 3-4 years theyll give heavy discounts and seductive offers, even if they make loss in the deal. Result : all the customers in a particular city are hooked to walmart only. The smalltime retail players cannot run business giving such heavy discounts, they close down. Once all competition is eliminated with this predatory pricing Walmart will slowly stop giving discounts and recover their losses by increasing the MRP. Since these big MNCs have deep pockets, they can affort this sort of loss. But in the long term, they recover everything. Same way Once the small time retailers are out of business, Wal-Mart will start exploiting farmers, paying them extremely low money for their produce, because now Wal-Mart is the sole retailer in the city. counter arguments: Predatory pricing 1. Customer thinks of Traffic, time and petrol cost involved before visiting Walmart everynow and then. Not like someone would go 10 kilometers, just because the mall is giving Rs.3 discount on apple juice.

2. There is a Competition Commission of India to look into this matter. (earlier MRTP, Monopoly and restrictive trade practices act) (sidenote) Another example of Predatory pricing is our airline industry. One of the prime reasons why theyre making losses. Anti#3: India will become dumping ground for Chinese products Dumping means, suppose a ballpen is sold for Rs.10 in China but they intentionally export it to India at the price of Rs.5, in order to ruin the business of local Indian pen-producers and to capture the Indian stationary market. China is notorious for this dumping tactic, earlier we had to impose Anti-dumping duty on their rubber products and tires. Some believe that entry of Foreign retailers will facilitate the Chinese scheme of dumping our market with their cheap products. Arguments in favor of FDI in retail Pro#1: No more wastage of agro-produce India is the second largest producer of fruits and vegetables, If we are the 2nd biggest producers of fruits and vegetables, why are we not a big name / exporter in world market? And more importantly, if we are second largest producer, then why is so much inflation in food items? Because Post-harvest more than Rs. 1 trillion worth farm produce, especially of fruits, vegetables and other perishables, is wasted due of lack of storage and transport facilities. More than 50% of this can be saved, if weve proper cold-storage facilities. Government is not doing much about this (duh they are unable to save even the wheat in PDS, let alone cold-storage) and the private Indian players donot have much money to invest in this cold-storage chain or those expensive big transport-trucks of America that we see in Discovery channel. So if FDI in retail is allowed, the MNCs would invest in cold-storage chains and those big transport trucks. Means lower wasted of produce. More supply of fruits and vegetables. According to supply-demand rule the prices will go down. Right now, 100% FDI Is allowed in Cold-storage chain, but foreign players are not coming there because theyre not allowed to sell it in retail malls. There is not much profit margin in operating a cold-storage alone. Itd take years to recover the investment. Only if MNCs are allowed to sell the produce as well in their retail malls, theyll feel interested in investing in this cold-storage game.

Similarly FDI in Wholesale trading was allowed upto 100% since 1997. Pro#2: Farmer gets more money for his produce Indian Farmer doesnt have cold-storage or transport facility, if he grew 200 kilos of carrots, he has no option but to sell it as soon as possible before it get spoiled. The middle agent buy this produce for as low as 2-4 rupees per kilo, but by the time it reaches market, the price jumps to 25-30 rupees per kilo. WHY? Indian Truck Transport: Overloading and Bribes There is no organized truck- transport service, the truck operators are running in extremely competitive environment so theyve to overload their trucks. Once this overloaded truck goes through checkpoint, policeman will demand bribe for flouting the road permit provisions. Since the truck is overloaded, engine efficiency is reduced. He has to get his truck repaired frequently. The road quality and traffic Management is bad, more diesel is consumed. Trucker will add all these costs (bribe, repair, extra diesel) in his service charge. Truck reaches the city, your local vegetable-vendor pays to offload the carrots but he gotta maintain his own profit-margin as well, (+ the bribe he has to pay to local policeman, municipality inspector etc) so the carrots that were lifted for 2 rupees, ultimately get sold for 25 rupees a kilo after cutting everyones Commission. When an organized MNC retailer gets in picture, he has his own extremely efficient and streamlined transport service. So there is no overloading of trucks, there is very systematic packing of goods. His truck maintenance cost is thus very low and there is low wastage during transport. Second, He doesnt have to pay so many bribes at every level, because 1. There is no overloading of trucks, papers are in order. Less chances for policemen etc to blackmail him into paying bribe. 2. He got deep pockets, he gives big annual donations for election funds to the ruling party and Diwali gifts to the concerned district officers. Thats why small time petty officials such as police, municipality, food n sanitation inspector cant dare to bother him every now and then, as they do to small time retailers. So MNC retailers cost price is quite low compared to small-time retailers. Hence he can afford to give attractive discounts to customers as well.

Same reason why many political parties dislike MNCs in Retail, you can extract more election-funds from 1000 small time players compared to from one big player. Big player is less susceptible to arm-twisting compared to a small player. No more intermediaries / Middle men in the chain= Lesser levels of Commissions Right now Intermediaries [middle agents] dominate the value chain. They often their pricing lacks transparency. They often run secret cartels, so even in open auctions, farmers dont get good price for their produce. Wholesale regulated markets, governed by State APMC Acts, have developed a monopolistic and nontransparent character. These elected cooperative marketing societies and Mandis are more or less same BJP vs Congress fight for domination in university elections, there is hardly anything positive reform done for the students. According to some reports, Indian farmers realize only 1/3rd of the total price paid by the final consumer, as against 2/3rd by farmers in nations with a higher share of organized retail. A study commissioned by the World Bank : Why India doesnt earn much money from exporting its Fruits and vegetable (even though were second largest producer) = Same reason, Non-competitiveness. Bad supply lines. A price that the farmer receives for a typical horticulture product is only 1215 per cent of the price the consumer pays at a retail outlet. Small and Medium scale industries Example small time cushions, toys, shoes, plastic wares maker. They dont see much business because they dont have the avenues to sell their products. Big mall with big floor space, provides them opportunity to market their products and get customers attention. Assured quality, no adulteration Tune into Aaj Tak newschannel during afternoon, it is always somewhere in Uttar Pradesh, they caught adulterated Milk, Milk products or soft drinks produced using banned chemicals. More than 40% of the medicines sold in rural and semi-urban areas of India are of fake brands. For an MNC retailer you can atleast feel confident that it wont be the case. More competition = Better prices and products

Remember once upon a time, Mobile calls used to cost 7 Rupees per minute and incoming wasnt free. Why? Because there was low level of competition. Barely 2-3 players in the market. FDI can be a powerful catalyst to spur competition. Trickle down Theory To open a big mall, walmart has to purchase land and construct a big building= lot of laborers, masons, plumbers, electricians employed. Same way farmers are getting more money so all these people have more money in their hands and they use it to purchase bikes, mobiles etc. so more demand and more employment. This is trickle down theory. Marxist and Vinod Dua (NDTV) disputes this theory. Fear exaggerated Fears of large adverse effects on existing retailers are grossly exaggerated especially since modern domestic retailing has begun in any case via desi retailers such as Big Bazzar and Reliance. (10th plan document) Suggestions for safeguards 1. Entry of foreign players must be gradual with social safeguards so that the effects of labour dislocation can be analysed and policy fine tuned. 2. Foreign players should initially be allowed only in metros cities only. 3. Gradual opening of the retail sector over a period of 3-5 years to give domestic industry enough time to adjust to the changes. 4. More stringent Compulsory corporate social responsibility requirement (e.g. Ask them to open 1 school and 1 clinic in every city where theyre operating etc.) 5. Regular monitoring of mall-inventories to see that India is not used as dumping ground for Chinese products. Some reports for mythbusting ***Ok now this is copy paste job*** ICRIER STUDIES ON: (i) FOREIGN DIRECT INVESTMENT IN RETAIL SECTOR-INDIA (2005) and (ii) IMPACT OF ORGANIZED RETAILING ON THE UNORGANIZED SECTOR-2008 Based on their study

#1 : Not as much job loss as feared 1. Unorganized retailers in the vicinity of organized retailers experienced a decline in their volume of business and profit in the initial years after the entry of large organized retailers. 2. The adverse impact on sales and profit, however, weakens over time. There was no evidence of a decline in overall employment in the unorganized sector as a result of the entry of organized retailers. 3. The rate of closure of unorganized retail shops in gross terms was found to be 4.2 per cent per annum, which is much lower than the international rate of closure of small businesses. The rate of closure on account of competition from organized retail was found to still lower, at 1.7 per cent per annum. 4. There was competitive response from traditional retailers through improved business practices and technology upgradation. #2 good for consumers While customers from all income groups saved through organized retail purchases, the lower income consumers saved more. Thus, organized retail is relatively more beneficial to the less well-off consumers. #3 Intermediate players There was no evidence of an adverse impact by organized retail on intermediaries. There is, however, some adverse impact on turnover and profit of intermediaries dealing in products such as, fruit, vegetables, and apparel. Over two-thirds of the intermediaries planned to expand their businesses, in response to increased business opportunities opened by the expansion of retail. #4 More money to farmers Farmers were found to benefit significantly from the option of direct sales to organized retailers. The average price realization for cauliflower farmers selling directly to organized retail was about 25 per cent higher than their proceeds from sale to regulated government mandis. The profit realization for farmers selling directly to organized retailers was about 60 per cent higher than that received from selling in the mandis. The difference was even larger when the amount charged by the commission agent (usually 10 per cent of sale price) in the mandi is taken into account. Scenario in other third world countries

FDI is permitted in the retail sector in Brazil, Argentina, Singapore, Indonesia, China and Thailand without limits on equity participation (that is 100% FDI allowed) Thailand: Since 1997, 100% FDI. Positive result: Thailand has now become an important shopping and tourist destination.

A story of Forex, currency conversion, rupee depreciation, inflation, subsidies Investor: Faith won and lost
Enter an American Mr.James. Thanks to American recession, he decides to invest outside USA, and comes to India with a bag full of green dollars, after he was assured by RBI and Commerce Secretary that environment in India is very conductive for business. Please come, give us your dollars, we convert it into rupees. He (full of confidence) converts his dollars, at the rate of 1$=Rs.40 Now James searches for land to open office or factory somewhere near a big city in India. But price of land is so high thanks to the black money, it doesnt make any sense buying a property. He says ok, let me just rent some readymade building and Ill starting a small-scale i-phone production company. But the electricity shuts down at random, for hours and days. James: ok, Ill buy a diesel generator like every other industrialist in this area. Again price of Diesel also increasing, Profit margin shrinking. Adding insult to the injury, his workers have gone on strike. Workers are demanding pay-rise because of the ever increasing prices of milk and petrol and James unable to settle the dispute so a lengthy (and expensive) legal battle is drawn. Meanwhile the factory remains closed for weeks and months together. James: let me start a coffee house to pay lawyers fees.

But the price of raw material (milk,sugar,gas) also increasing. Add the bribe he has to pay to local goons, policemen, and municipality corporators. If he raises the selling price of each cup, there will be drastic reduction in customers. Again Hardly any profit margin left.

Moreover frequently one political outfit or another, calls for a strike/bandh for creation of separate state or to protest against inflation or corruption or lokpal or just because someone slapped their political leader. James dares to open his shop on such Bandh day and he is beaten up severely by the political goons, his coffeeshop is ransacked while police watches silently. His calls his buddy Allen in America, cautions him not to invest in India. Currency Speculations @ Forex Market At the local beer-bar in California, Allen overhears some conversation between drunkards that soon IMF and world bank will give big financial aid to the ailing Greek and Portugal, and their economies will be back on right track. If one invests money at this point, in stock market or realestate in those countries, he could get a handsome return of 40-50% a year. Allen recalls a Bollywood movie he saw on youtube with English subtitles, the handicapped oldman in that movie had given a profound and universally applicable Management advice: Lohaa garam hai maar do hathoda Allen immediately runs to Forex market, with his bag full of dollars to get them converted into Euro.

Crude Oil Bill

Curiously, Chairman of IOC (Indian oil corp.) is also waiting there @Forex market, with a suitcase full of rupees. He is in desperate need of dollar$ for King of Saudi doesnt accept payment in Rupees for the crude oil sold. IOC Chairman: dude got any dollars? Come on man. I need them, please. Allen: How much? IOC Chairman: You know the routine rate. 1$ for 40 rupees. Allen: Hell NO!!! I aint selling. My best friend told me not to. IOC Chairman: ok ok how about 45 rupees for a dollar. Allen: Nope IOC Chairman: 50 Allen:Nope IOC Chairman: 52

Allen: ok, You got a deal. The Solutions Back in India (upon knowing that at Forex market, Rupee is selling down at 1$=52Rs) RBI Chief: what in the gods name is happening? 52 rupees for a dollar? How are we supposed to import crude-oil at this expensive rate? Finance Minister (FM): hey look at the bright side, although our imports become costlier but now our exports will earn more money. It is Good for call-centres and textile exporters. And then they use that money for buying items in Indian market = it will create more demand= more jobs=boost in economy!!! Trickle down theory!!! RBI: Wait a minute! Nobody is going to buy nothing under this high-inflation. So Whatever extra-profit the call centre owner makes thanks to this rupee devaluation, hell lock it in banks fixed deposit or pension funds and hell wait and watch for the prices to go down before making any big purchase. This trickle down theory isnt that linear and straight forward as youre thinking. Back to the point, We need dollars to finance the crude oil import.. Finance Minister: No problem. Youve got more than 200 billion dollars Forex-reserve in your custody. Release them in the market. RBI Chief: Never. Im saving it for the rainy day. God forbid if situation gets even worse, wed have our pockets totally empty. What if a war breaks out with Pakistan or China, how will we purchase extra-oil for our fighter-jets and combat-tanks during that crisis, if our Forex reserve is wasted like this? Finance Minister: Damn it, if prices of petrol and diesel are increased because of this rupee depreciation, the truck-transportation cost will increase and so will the prices of milk,eggs,fruits and vegetables. Spider-mans Uncle Ben before his untimely death, had said With great power comes great responsibilities and for great Pawar comes great slappings Please man, do something, we need green dollars to finance the oil bills. Ive UP election to win. RBI Chief: how about you stop MNREGA? That will stop a lot of corruption, black money generation and the resultant inflation and price rise. FM: Youre kidding, right? How am I supposed to win UP elections without MNREGA? Centrally sponsored welfare scheme is the only Brand-USP of our party! RBI: Ok how about disinvestment? Sell a part of your shares from SAIL, Coal India and other public sector undertakings. FM: Yes we can do that but wait Madam-ji and NAC (National advisory council) said the disinvestment money is to go in National Investment fund from which itll be spent for more schemes like MNREGA.

RBI: ok lets recover the 2G and CWG corruption money from Raja and Kalmadi then use it to finance the oil-bill. FM: lolz, come on man, be serious. Hey wait. how about you print 10 suitcases of rupees in your printing press. Then I goto Forex market and get them converted into dollars. RBI: Yes that could work. Only problem is that the guy how buys these suitcases from you in exchange of dollars. He might come back, buy all the onions and potatos from our market using same printed rupees and takes them to his home-country. That would lead to even further inflation for there will be lesser produce left in our market. FM: no no UP electionno more inflation. RBI: Look I understand your constrains but I cant release dollars from my reserve. But How about you arrange for dollars ..you know something like via FDI? How about 51% FDI in retail, that ought to attract a lot foreign players with bags full of dollars, theyll get desperate to convert it into rupees.

Why king of Saudi does not accept payment in rupees?

If he accepts rupees, his hands are tied, meaning he can only use that cash to buy stuff from India. But even If he wishes to import Indian mangoes or oranges, the Indian exporters would gladly accept American dollars, so why bother with rupees? Secondly, What if he wants to buy I-phone or Ferrari from America? Hell have to get those rupees converted into Dollars. But everytime he converts one currency to another, there will be taxes and Commission charges applied @ the forex market. So why waste money in it? Just get the dollars- its universally accepted-Can buy anything from anywhere. You buy something from my medical store and pay but instead of returning change ( ), I give you plastic coin or coupon with 2-rupees written on it. It can be used to purchase items from my store only. So, will you accept that plastic coin currency or will you demand an actual Indian currency coin? Which one has more benefits?

Second Question

At the beginning only 1$=Rs.40?why not 1$=Re.1?

First, Why do we want to convert one currency to another? Because we want to buy something from that country, or to invest in that country. Lets just presume for a moment,there is no share-market or speculation or FDI/FII, just plain buy n sell of goods between nations.

In the initial years after independence, we didnot have the excellent manufacturing technology,

There were droughts so food shortage. We were dependent on the west for food supplies. There was heavy inflation because of wars with China and Pakistan. We emphasized on Swadeshi, we were using Import substitution strategy. We prevented the entry of foreign companies, hence our Swadeshi automobiles, cameras, etc were not of exportquality. If the third guy (British) wanted to buy a car, hed convert his pounds to dollars and buy a ford from America and wont come to India to buy the khataraa Ambassador. In those years, America was quickly advancing, they had color TV, missiles, tanks, weapons, sports cars for sale and export in their show-room. Compared to them, We didnot have much expensive stuff to export. As we saw a paragraph ago: why we exchange currency? so that we can buy something from their local market. So how do you motivate an American to exchange his one dollar to your rupees? 1$=1Rupee? ofcourse not. Why should he give you his one dollar for just one rupee? What is so precious in your Indian show-room that he feels tempted to exchange his dollars for your rupees? 1 gallon is approx 4 litres. He can buy 4 litres of petrol, in about 16$ on American gas-station while youll need Rs. 280 to buy 4 liters in Indian petrol pump. He can buy a computer mouse in 7 dollars in America, while here it costs no less than Rs.150 in India. ( I mean to say, if he exchanges 1 dollar for 1 Rupee and imports things from India, he is at loss.) Besides, we are have desperate need of dollars to purchase his weapons, his machinery, or to pay $$ for crude oil. So you would need to motivate him by offering more rupees for each dollar so that he can purchase more from India.

Thats why 1 Dollar did-not equal to 1 Rupee. You had to offer him more than 1 Rupee. PS issues of officially Fixed exchange rate, devaluation etc intentionally skipped to keep the explanation plain and simple. You can read more about that by clicking me

Third Question
3. why did Allen exchanged dollars with rupees?

Because India would have appeared a good investment-destination 3-4 years ago when Allen came, and America was struggling with recession. But then thanks to Jairam Rameshs Environmental activism, Niyamgiri-POSCO agitations, CairnVedanta deal obstacles, mining scams and energy crisis etc. the scenario right now, may not appear attractive to new investors.

What is a credit rating agency?

A credit rating agency is like the Box office review columns in Saturdays newspapers: 2 star out of 5, means waste of money. (Ra.One, Don 2 for example).

Similarly Credit rating agency (CRA) assigns credit ratings to issuers of bonds and securities : companies, Governments etc. From their rating, you can know issuers credit worthiness (i.e., its ability to pay back a loan) Example of CRA are :Standard & Poors (U.S.), CRISIL (India)

Standard & Poors (S&P) credit rating It has stars from AAA to D. AAA means the guy is most likely to pay back. D means the guy is most-bogus. Now consider this: But if I get lower ratings such a BB, or CCC. in that case most people wouldnt want to purchase my bonds because theyre afraid that I may default on payments. So how do I motivate them to invest money in my bonds? Obviously by offering higher returns. example Anyone who gives me 100 Rs., Ill give him 170 rupees after 6 months, instead of 120 that I promised earlier!

From your side (Lender) what do you see?= hike in interest rate. From my side (Borrower) what do I see?=increased cost of borrowing, because I have to offer higher interest rate.

S&P downgraded U.S. long-term credit rating from AAA to AA+ So, Borrowing costs will rise for U.S. government (via treasury bonds), companies etc in longterm because now theyll have to offer higher interest rates. This was the credit rating for governments, companies, but what about Credit Rating for individuals

Credit Information Bureau of India (CIBIL) is a central agency that prepares a report of all loan borrowers who have defaulted on their payment to their banks. In short, CIBIL knows if you are a good borrower or a bad one. Banks seek these reports, called as credit reports, from CIBIL before they sanction you a loan amount. If your credit history is not good, your loan request may be rejected, or you may be required to pay higher interest rate.

Non-related question,

What is Angel fund?

A wealthy individual who provides financing to a start-up compny. Start up company means a company in its earliest stage of development, usually before its IPO. what is this 51% and 100%on what basis those percentages are allowed for fdi.i mean if 51% in multibrand is allowed thn how can they maintain tht 51 %.

Situation #1

Anil Kapoor is running a mall in Mumbai (or a big retail-mall chain, having presence in all big cities) and his total investment is 49 crores. Then Tom Cruise cannot invest more than 51 crores in this mall.

Situation #2

Tom Cruise dreams to open a retail mall chain in India, he calculates itd require total investment of 100 crores. Even if he has 5000 crores, he can only put 51 crores from his side and hell have to find one or more Indian players to invest the remaining 49 crores, else his dream will become a Mission impossible (Ghost protocol)

Situation #3

Anil Kapoor has a public listed company doing the retail business (i.e. theyve shares in sharemarket) In this case Anil might issue extra shares on preferential basis to Mr.Cruise upto the limit of 51% in total investment On these shares, the dividend cannot be more than the limits given by Finance ministry.

Percentage Calculation

49-51 sharing percentage is calculated on total investment, which can be anything.

Total investment 204 crore(100%)=Anils 100 cr.(49%)+Toms 104 cr.(51%) Total 1020 (100%)=500 (49%)+520 (51%)

Cash and Carry wholesale trade

The term Cash and Carry wholesale trade has been appearing a lot in newspaper columns nowadays, because of that FDI in retail issue.

Traditional wholesale trade

An electronics store owner, Jethalal Champaklal Ghada, requests 20 LCD TVs from Sony wholesaler. Wholesaler arranges for the truck, sends the LCDs. Jethalal need not pay the entire cost-price of 20 LCDs at once. Hed keep paying it either in installments or entire sum before next-Diwali or next month or only when those LCDs are sold to a newly opening hotel. (i.e. deals made on credit)

Another example of traditional wholesale:sometimes you see a guy with a notebook, making rounds at your local kiranastore or dairy parlor. Hed note down the order from that store owner and after some time, hed come back in loading-rickshaw full of biscuit, softdrink and wafer packs. And the money is settled on monthly basis.

Cash and Carry wholesale trade

It is different from the traditional wholesale deals in following manner:

Here Jethalal himself goes to that Wholesalers warehouse (or sends his henchmen Nattu kaka or Bagheshwar). He pays entire cost of all 20 LCDs, at once. (Cash/Cheque/DD etc.) He arranges for the truck-transport by himself and takes it back to his shop. (Carry)

Cash n Carry wholesale in India

In many big cities there are Best Price Modern Wholesale stores by Walmart Bharti venture, as 100% FDI is already allowed in wholesale. They stock about 6,000 items, including a wide range of fresh, frozen and chilled foods, fruits and vegetables, dry groceries, personal and home care, hotel and restaurant supplies, clothing, office supplies and other general merchandise items. These items are available at competitive wholesale prices, allowing retailers and business owners to lower their cost of operations.

Over 90% of these goods and services are sourced locally, thereby helping keep costs to a minimum, adding to the growth of the local economy and creating job opportunities.

Index of Industrial Production Introduction

When we say economy is booming or industry is facing a slump: how do we know? Mere by perception? But Government or Banks or investors cannot make their policies and decisions on perception, they need some quantifiable data to work on. Hence they need IIP (index of Industrial production). It is a number, that gives you idea on how industries are performing. <without getting technically so correct or in minute details> Suppose industrial output of India, in the year 2004-05 was 100 crore rupees. In 2010-11 it is 105 crore rupees. So simple percentage calculation: 5% increase in the industrial output over the base year. Newspaper headline: IIP shows growth of 5%. For this industrial output value, weve to measure the output in three sectors (MEM)
1. Mining 2. Electricity 3. Manufacturing

Then we take out the weighted arithmetic mean and that is our industrial output value. Then do all the index calculation of current year and baseyear. IIP contains 682 items clubbed in 399 groups: 1 in Mining, 1 in Electricity and 397 in Manufacturing. Weightage given to each sector ~14% to mining ~75% to manufacturing ~10% to electricity

Meaning

It is a single representative figure to measure the general level of industrial activity in the economy. It measures the absolute level and percentage growth of industrial production.

Who calculates this IIP?

Central Statistical Organisation (CSO) under the Ministry of statistics and program Implementation.

When do they calculate this IIP?

Every month.

Why do they calculate it every month?

Because if they calculate every year, itll be too late for the Government or RBI to make necessary amendments in the policy ! Theyve to keep a constant eye on this number.For example
1. Automobile sector is facing very negative growth, Government may give them tax-holidays or allow them to import foreign machinery without paying import tax. [Fiscal Policy] 2. Negative IIP may mean People dont have money in their hands, so theyre not purchasing products (less demand) hence industry had to reduce the production or Businessman are having hard time borrowing because of high interest rates. = Change the repo, reverse repo CRR etc to increase money supply in peoples hands. *Monetary Policy+

What are other Indexes?

1. 2. a. b. c. d. Wholesale price index (WPI) Consumer price index (CPI): four subparts Industrial Workers (CPI-IW) for Agricultural Labourers (CPI-AL); for Rural Labourers (CPI -RL) for Urban Non-Manual Employees (CPI-UNME).

What is the impact of poor Industrial Production?

Here goes mere rephrasing of another article from Firstpost.com

As a job seeker
1. Lower demand will force businesses to invest less and scale back expansion plans. That means lower hiring. 2. So, if youre looking for a job in the manufacturing/industrial sector, expect the going to get a little bit tougher.

As a stock investor
3. Lower industrial output means lower revenues and profits (which are also getting hit by higher borrowing costs). That lowers earnings per share for investors 4. continuation of the poor IIP trend could lead to more earnings downgrades and lower stock valuations. Means FIIs start pulling their money out of India and invest it in different country = leads to weakening of rupee.(more below)

As a shopper
5. manufacturers to offers discounts and freebies, to attract shoppers to stores. (haha like the Flipkart ads shown below!) 6. Of course, shoppers will only be inclined to spend if they still have jobs or enough disposable income.

As a borrower
7. RBI may lower the rates, to increase the money supply in the market and make borrowing easier.

As a producer/exporter:
8. businesses using locally-priced inputs, there might be a silver lining in terms of costs, which could come down. 9. if the prices of those inputs are based on international prices, they might not be so lucky because a falling rupee will increase prices in local terms. 10. Now some real life examples: End of rephrasing, now writing further on my own.

IIP for October11 : Rupee weakens

had negative growth (-5 .1 percent). (This data was released in Dec11) It sent panic among investors and SENSEX fell by 343 points. FIIs started pulling out money from our stock-market, theyd sell their stock-get rupees, get them converted into dollars and invest it elsewhere in different country. You get the picture: Demand of dollar$ increase and demand of rupee decrease hence the rupee made a new lifetime low of 52.** against the dollar

IIP for December 2011

Very low +1.8 growth (In Dec10 it was 8.1%!) This data was released in Feb12.

Gold deposit scheme (1999)

1999: Government launched this scheme. Under this scheme, an individual/ religious trust can deposit gold (bar, coins, jewelry) to the bank and earn interest on it. Then, bank will convert such gold into gold bars and lend it to gems and jewelry industry (so they can use it for manufacturing). Thus Jewelers have to import less gold = less trade deficit = less Current Account Deficit. And the gold that was earlier sitting idle with public, now gets used for productive purpose. In the end of maturity, you (gold depositor) get two options o Get back your gold. But dont get your original jewelry back. Bank will give you gold bar of equivalent weight. (because theyve melted your jewelry and gave it to the jeweler) o Get cash equivalent to the ongoing gold rates.

Cons: Gold deposit scheme (1999)

Such gold deposit scheme, require you to deposit minimum 200-500gm gold for minimum 3 years period. (Although recently the minimum amount and maturity period was reduced.) Meaning, target audience for such gold schemes = religious organizations, temples, trusts that get lot of gold in terms of donation/charity. A normal household doesnt have that much gold! This scheme secretly encourages people to buy gold! (and then deposit in the bank under the given scheme to earn interest). Thus, Governments original objective (that we need to decrease gold consumption) = defeated.

Gold Exchange traded fund (2006)

Before going into Gold Exchange traded funds (Gold-ETF),

What is exchange traded funds?

Exchange traded Fund (ETF)= mixture/hybrid of Mutual fund + Shares Like shares

Like mutual fund

they contains set of shares or commodity (gold, silver.)

they can be traded (bought and sold) @stock exchange.

How does ETF work?

You already know How mutual funds work. First we (normal/small time investors) give money to the Mutual fund. Mutual fund is managed by an AMC (Asset Management company.) They invest your money in variety of securities>> make profit>> redistributes it among the investors (and earn commission in between). Thus Mutual fund = Investors <>Mutual fund manager (AMC) <>sharemarket. In case of ETF, the structure will look like this: AMC<>authorized participants <> Share-market <>Investor. First, the authorized participants will deposit gold / shares with the Asset Management company (AMC). The Asset Management company gives them Creation units. Each Creation unit is contains set of ETFs (5, 10, 50, 1000 depending on their arrangement). These ETFs are then sold to small investors and traded @stock exchange.

How does Gold ETF work?

In case of Gold ETF, the authorized participant will give GOLD instead of shares to that Asset Management company. (AMC) Then AMC will give Creation units to that Authorized participant. Each creation unit contains set of ETFs (5,10,50,1000 whatever). But 1 unit of ETF = 1 gm gold. Then such gold ETF is traded @stock exchange. 2006: SEBI allowed Gold ETF schemes. Examples of gold ETF= UTI gold ETF, SBI gold ETF, Kotak Gold ETF etc.

Gold ETF: Pros

When you invest in Gold ETF, the gold is virtually saved in your DEMAT account = no tension of theft / robbery. And you dont have to pay wealth tax on it. Gold ETF is pure in quality. No tension of cheating from jeweler. If you buy gold jewelry as investment and during emergency you want to sell it, you may not find the buyer quickly (or the jeweler may try to rip you off by giving lower price given you desperation for money.) But in case of Gold ETF, you can sell it quickly, no questions asked, as long as stock market is open. You can even do it online.

Gold ETF: Cons

To purchase Gold-ETF, you (small investor) have to pay Commission to the share broker. Although the brokerage on Gold-EFT is less than the Commission charged by conventional mutual funds (MF). You need DEMAT account to purchase Gold ETF. And to open DEMAT account, you need to pay regular fees + need PAN card. To get maximum profit in Gold-EFT, You need working knowledge of share market. In Gold ETF, you never get possession of actual / physical yellow colored gold. What you get is just virtual gold / piece of paper, that can be traded in share-market. Given these reasons, Gold ETF = doesnt attract investors from small towns and villages. (lack of awareness, fear of unknown etc.) Therefore, gold ETF hasnt been able to drastically reduce gold consumption in India.

Linking Gold ETF with Gold Deposit Scheme (2013)

So far we know that

1. in Gold ETF, the mutual fund (asset Management company / AMC) gets possession of gold. 2. in case of gold deposit scheme (1999), you deposit your gold to bank, bank sells/lends it to jeweler. You earn interest and at the end of maturity, you can claim you gold back (but in different form e.g. instead of jewelry, bank will give you gold-bar).

Under this linking scheme, the Mutual funds are allowed to deposit their gold (under Gold EFT) to the banks (under Gold deposit scheme). Thus, gold held by Mutual funds will come back in circulation, and our jewelers can use it=itll reduce the gold imports of gems / jewelry industry= less trade deficit = less current account deficit.

FDI and FII difference Reform: FDI vs FII definition

Chindu proposed in Budget speech that

We need to remove the ambiguity on what is FDI and what is FII, I propose to follow the international practice: o if an investor has a stake of 10 per cent or less in a company, it will be treated as FII and, o if more than 10%= FDI. Later Chindu formed a panel under Arvind Mayaram for giving clear definitions to FDI and FII.

Whats the difference? Which one is better?

FII players pull out their money from stock-market even for slightest good/bad rumors and invest in in different country.

Thats why its called Hot money -was responsible for 1997 Asian financial crisis {2 marker in GS Mains Paper-I, 2007} In 2007, the 2 marker appeared because that year SEBI made some regulation in FII investment via participatory notes to control the hot-money. Also, there were allegations that Pakistan might use it for financial-terrorism using FII via Participatory notes. Although there are tools such as Tobin Tax, to control the flight of hot-money. But still, For development, Governments want and prefer FDI and not FII. Because Its hard to pull out FDI once invested.

Calculating Income Tax, Tax Exemption vs Tax Deduction, Rajiv Gandhi Equity Saving Scheme
Rajiv Gandhi Equity Saving Scheme (RGESS) will give maximum benefit of Rs. 5,000 in taxsaving. What does it mean? Before we can talk about that, lets see the basics of Income Tax calculation, Exemption and Tax Deduction.

What are the Income tax slabs in Budget 2012?

You know about this already:
Income tax slab (in Rs.) Tax 0 to 2,00,000 2,00,001 to 5,00,000 5,00,001 to 10,00,000 Above 10,00,000 No tax 10% 20% 30%

(We are skipping senior citizen provisions) Time for a very simple question: if your income is Rs.15 lakhs, how much income tax do you have to pay? 15 lakhs is above Rs.10 lakhs, so you fall in 30% income tax slab. 30% of 15 lakhs equals to 4.5 lakhs income tax.

Sorry 4.5 lakhs is Incorrect Answer. Infact youre income tax will be quite less than Rs.4.5 lakhs.

Why?
Because income tax is not calculated like that.

Then how to calculate income tax?

Suitcase approach
Imagine there are four suitcases labeled one, two, three, four. You have to fill up each suitcase with your cash. But there are some conditions

you have to fill these suitcases in serial order: 1,2,3 then 4 First suitcase can contain maximum two lakh rupees only. Once it is fully packed, you move to the next suitcase. Second suitcase can hold maximum three lakh rupees Third suitcase can contain maximum five lakh rupees Fourth suitcase can contain any amount of money. No maximum limit.

Step #1: Distribute money in suitcases

Now start distributing your 15 lakh rupees into these four suitcases
suitcase number Money packed One Two Three Four Total 2,00,000 3,00,000 5,00,000 5,00,000 15 lakhs

Step #2: Make a new column and apply those four tax slabs
suitcase number Money packed Tax slab One Two Three Four Total 2,00,000 3,00,000 5,00,000 5,00,000 15 lakhs 0% 10% 20% 30%

Step #3: Calculate the income tax to be paid for each suitcase
suitcase number Money packed Tax slab Tax to be paid One Two Three Four Total 2,00,000 3,00,000 5,00,000 5,00,000 15 lakhs 0% 10% 20% 30% Zero 30,000 1,00,000 1,50,000 2,80,000

The total sum of income tax on all four suitcases =2,80,000 lakhs So, if your income is 15 lakhs, you have to pay 2.8 lakhs as income tax. But we forgot some important things: educational cess, tax exemption, tax deduction.

3% educational cess
Cess means tax on the tax. Union budget 2012, has provision of 3% educational cess. Meaning 3% of 2.8 lakhs, equal to Rs.8400

Hence the total income-tax that you to pay = 2.8 lakhs +8400= Rs.2,88,400 Now time for two most important parts in the income tax calculation.

What is the difference between Tax exemption and tax deduction? #1: Tax exemption
Income tax= the tax on your income, but you dont have to pay income tax on certain type of income. For example Policemen and Army jawans get uniform maintenance allowance: Suppose Rs.1000 to wash and iron their uniforms and to polish their boots every month. Rs.1000 every month multiplied with 12 months equals to Rs.12,000 every year, apart from the regular salary. But Budget-2012 says this Uniform Allowance income is exempted from taxation. So, If an army jawan earns Rs. 2,12,000, then his taxable income is 2 lakhs minus Rs. 12000 exempted= Rs. 2,00,000. Now calculate his income tax on Rs. 200,000 based on our suitcase approach. (ans. Zero tax, because Cash finished at first suitcase.) Crux: Tax exemption is given on INCOME.

#2: tax deduction

If you spend your income on certain activities, you wont have to pay income tax on that much amount of your income. E.g.50% deduction, if you invest in Rajiv Gandhi Equity Savings Scheme. (RGESS) Suppose you earn nine lakh rupees a year and invest Rs.20,000 in RGESS, Thus , your taxable income = nine lakh rupees minus 50% of Rs.20,000 (invested in RGESS) = 9 lakhs-10,000 = Rs. 8,90,000 Now calculate the income tax on Rs.8,90,000 using our suitcase approach. Crux: Tax Deduction is given on SPENDING

Union budget 2012: provisions of Tax Deduction and Tax Exemption

Here are a few examples. Note: Im not filling up the minute details and you dont have to mug this list.

Tax Exemption (on INCOME / Salary)

Tax Deduction (on SPENDING)

Transport / Conveyance Allowence Child education allowence Leave travel allowance (LTA) Medical Allowance Uniform / Dress allowance Gift from relatives Agricultural income House Rent income

Rajiv Gandhi Equity Saving scheme. Tax saving mutual funds (ELSS) Five year tax-saver bank Fixed deposits Public provident fund (PPF) National Savings Certificate (NSC) or National Service Scheme (NSS) Employer contribution into New Pension Scheme (NPS) Life insurance/Unit Linked Insurance Plan (ULIP) premium Employees contribution towards Employee provident fund (EPF) Home loan principal amount payment. Post office tax saving deposit or tax saving bonds Pension scheme/Retirement plans (Secion 80CCC) Tuition fees paid for children education Medical Treatment of family (upto Rs.40k)

What is Tax-Planning?
It means use of Tax-Exemption and Tax-Deduction provisions in such a way that you can save maximum amount of tax.

Who is Tax-Adviser / Tax-Consultant?

These are extremely knowledgeable and experienced Chartered Accountants, MBA and Tax Lawyers. They make customized tax-saving plans according to your requirements. Big players in Tax Consulting = Ernst & Young, KPMG, Price waterhouse Coopers (PwC). Recall that Vodafone Essar deal: Saving Capital Gains tax in Caymens Island. These Big Players help in such huge tax-saving deals.

Black Money and Agro-Income

In above table, you can see that Agriculture income is exempted from income-tax. Lot of film stars forge documents and show they own farm-lands and theyre farmers. Game is simple. They take 5 crores from film producers or 50 lakhs to dance in Dubai. But on paper they show only few lakhs as legit payment received and pay income tax on that part only. Remaining money is shown as income from that agricultural land and thus totally exempted from income-tax.

So this is also one type of Tax-Planning, just illegal. Black money = income on which tax is not paid.

Coming back to the opening sentence of this article:

How does RGESS save Rs.5000 In Tax?

You already know the main provisions of Rajiv Gandhi Equity saving scheme

Only first-time investors, with annual income less than Rs.10 lakh can invest in the scheme. One person can invest maximum Rs.50,000 only

Ya but still how is Rs.5000/- saved? Youve to compare two cases to find that out.

Case #1: dont invest in RGESS

Your income is Rs.9 lakhs, and you dont invest in RGESS and dont get any other tax deduction or tax exemptions. The total taxable income is Rs. 9 lakhs.
suitcase number Money packed Tax slab Tax to be paid One Two Three Four Total 2,00,000 3,00,000 4,00,000 0 9 lakhs 0% 10% 20% 30% Zero 30,000 80,000 0 1,10,000

Thus, in case#1: youre paying Rs. 1.1 lakh as income tax

Case #2: investment maximum in RGESS

Your income is Rs.9 lakhs, and you invest to the maximum limit (Rs.50,000/-). Thus, the taxable income is = Rs. 9 lakhs minus 50% of Rs.50,000 ;because RGESS gives 50% Deduction. =9 lakhs 25,000

=Rs. 8,75,000 Now calculate income tax for Rs.8,75,000 using same suitcase approach
suitcase number Money packed Tax slab Tax to be paid One Two Three Four Total 200000 300000 375000 0 875000 0 10 20 30 0 30000 75000 0 105000

Thus, in case#2, you pay 1,05,000 as income tax. Difference between Case #1 minus Case #2 =1,10,000 minus 1,05,000 = Rs. 5,000 Therefore all the newspapers, magazines and TV channels shout all the time that youll save Rs.5,000 by investing in RGESS. But here is a fine-print. This Rs.5000-magic works only if you fall under the 20% tax slab. If your income is rupees two lakhs and you invest Rs.50,000 in RGESS, you will not save any tax. Why? Because you fall in zero% tax slab. Your annual are not taxable in the first place! Similarly, if you are in the 10% tax slab, you will get different answers.

Homework:
(No, theyll not ask this in your exam, this is only for brain exercise) Calculate the maximum possible tax saving with RGESS, if your annual income is Rs.4 lakhs.

Shortcut tip:
You can get max deduction of 25,000 (that is 50% Deduction of Rs.50000 invested in RGESS) And your given income 4 lakhs fall under 10%. So, 10% of 25,000=Rs.2500 saved in tax. Why does this shortcut method work? Think about it. Anyways, whether you can save 5000 or 7000 that is not the important question for UPSC, IBPS (Bank PO) or MBA admission interviews.

Direct Tax Code (DTC)

Direct Tax vs Indirect Tax

Direct Tax
You pay it on your income and property. 1. Income Tax 2. Corporate Tax 3. Wealth Tax ^ Direct Tax Code (DTC) seeks to consolidate them all in one book.

Indirect Tax
You pay it on the goods and services purchased. 1. 2. 3. 4. 5. Sales Tax VAT Customs duty Excise Duty Service Tax etc

^ Goods and services Tax (GST) seeks to combine them all in one book.

Redistribution of wealth

Direct Tax follows the principle of redistribution of wealth in short it means: Tax the rich and use the money for the welfare of poors. You tax middle-class and rich-class, use that money to provide subsidized wheat for poor people = wealth is redistributed.

Why do we need Direct Tax Code?

(just covering the brief highlights without getting into details)

All In ONE code

Right now weve different Codes for different taxes for ex. Under DTC, all the direct taxes will be brought under a single Code

Simplify the language for aam-aadmi

So that even non-experts can interpretate the rules on their own, and no need to consult a tax-lawyer or Chartered Accountant every now and then.

Provide stability in direct tax rates

At present, the income tax slabs and rate are changed in every budget, thus keep keeping people on their toes. Therefore, People have to keep making rounds here and there to tax-consultants and insurance agents to save themselves from higher-tax slabs, every year. DTC will provide stable brackets and rates for a longer time, (ofcourse they can be amended from time to time.)

Increase Tax to GDP ratio.

It means the ratio of tax collection against the national gross domestic product (GDP). Right Governments tax collection is not optimum, because people get so many taxexemptions. Under DTC, Men and women are treated same. Women would cease to enjoy income-tax exemptions Only senior citizens will get extra relief with tax exemption Tax exemption on LTA (leave travel allowance) is abolished. DTC removes most of the categories of exempted income. Unit Linked Insurance Plans (ULIPs), Equity Mutual Funds (ELSS), Term deposits, NSC (National Savings certificates), House Loan principal repayment etc. Thus, Governments tax collection would increase, because there are less exemptions available. Plus, Government needs truckload of money for their inefficient schemes such as MNREGA and Food security bill, otherwise problem of fiscal deficit. In that sense too, DTC is very important for them.

Rates under DTC:

10 per cent tax on annual income between Rs. 2-5 lakh, 20 per cent on between Rs. 5-10 lakh, 30 per cent for above Rs. 10 lakh

Other provisions of DTC

[Not covering everything in detail]

Tax exemption on Education loan is continuing. Before DTC, if you own more than one property, there was provision for taxing notional rent even if the second house was not put to rent. But, under the Direct Tax Code 2010, such a concept has been abolished.

Wealthtax cutoff increased

Right now youve to pay additional tax if you own farmhouses, shopping malls, jewellery, vehicles etc wealth above Rs.30 lakh. Under DTC, youve to pay wealth tax only if you own assets worth to Rs 50 core or above.

Corporate tax rate 30% (no surcharge or cess)

[Earlier they had to pay educational cess.] means now theyve to pay less because there is no cess! Confused about what is Cess Then click me! Combine this with Stability point explained above, and Foreign players would feel attracted to invest in India.

QFIs from GCC to prevent Rupee downfall, IOSCO MMOU What Is QFI

QFI (qualified foreign investor) is an individual, group or association, residing in a foreign country. This does not include the FII/subaccounts (For explanation click me) in January 2012, the government had allowed the QFIs to invest in the Indian market but with condition that their home countries must be part of FATF*.

What is FATF?

FATF (financial action task force) is an international body, monitoring money laundering and terrorist financing.

Why QFIs of Gulf nations cannot participate in Indian Market?

The QFIs from Baherin, Oman, Kuwait, UAE, Saudi Arabia and Qatar, cannot invest in India because their countries have not signed the FATF. Therefore, now Indian government, is amending the FATF-rules to allow QFIs from these Gulf nations. As long as these countries are part of IOSCO MMOU, their QFIs can enter in Indian market.

What is IOSCO MMOU?

International organization of Security commissions (IOSCO)- multilateral memorandum of understanding (MMOU). It is a global information sharing arrangement, among the security regulators (i.e. SEBI of each country). It sets the international benchmark for cross-border cooperation for combating the violations of securities and derivatives laws.

Why India changing the rule?

So far, The response of QFIs from EU and USA, has been lukewarm due to the not so positive economic conditions in their home countries and in India. Combine it with Rupee depreciation, right now Rupee trades at about 1$ =Rs.55+ India needs foreign currency inflows, to prevent further downfall of rupee. Therefore, in order to attract the investors from Gulf nations, government of India is amending these QFI related rules.

ADR and GDR American Depositary Receipt (ADR)

ADR is method of trading non-U.S. stocks on U.S. exchanges Suppose, Indian Co. wants to raise money from America, by issuing shares in American stock exchange. But then Indian co. will have to maintain accounts according to American standards. To prevent this problem, Indian company gives its shares to American bank. American bank gives that Indian company receipts (called ADR) in return of those shares. Then Indian Co. can trade those ADR receipts in American share market, to raise money.

Global Depository Receipts (GDR)

Serve as same function like GDR, but on Global scale, it helps the countries from third world, to raise money from the stock exchanges in developed countries. Several international banks issue GDRs, such as JPMorgan, Citigroup, Deutsche Bank, Bank of New York. Normally 1 GDR = 10 Shares, but not always.

CDS : Credit Default Swaps

CDS = Credit default Swaps. In simplest form Its buying insurance against a default. For example:

Im a banker, gave car-loans to dude, but Im afraid he might not pay back the full money. So Ill goto some other Bank X who sells Credit default Swaps (CDS). Ive to pay regular premium Bank X, but if someday that dudes default on his car-payment, Bank X will pay me the money. In a CDS transaction, the protection buyer does not suffer a loss when reference entity defaults. These CDS bonds, once issues, can be sold and bought like any other bond or security. i.e. Bank X sells my CDS to Bank Y. So now Bank Y gets my premium but in case of default by that Dude, Bank Y is supposed to pay me. In Jan 2013, RBI updated the CDS guidelines. As per the revised guidelines-now, CDS will be permitted also on
1. securities with original maturity up to one year like Commercial Papers, Certificates of Deposit and non-convertible debentures 2. listed corporate bonds 3. unlisted but rated corporate bonds

Why CDS important for economy?

1. CDS, as a risk management product, offers the participants the opportunity to hive off credit risk. 2. such products would increase investors confidence in corporate bonds (because they can transfer risk) 3. thus it would be beneficial to the development of the corporate bond market.

Yield Spread What is Yield Spread?

Yield spread is a way of comparing any two financial products. Yield spread is the difference between profit you can make in two different types of investment.

Why do we need to calculate Yield spread?

Before coming to the purpose of calculating yield spread, lets go in a different direction. When you buy a Government bond, you can be certain that youll be paid in full, after the maturity and theyll not run away. So in this case risk is very low, hence they sell like hot-cakes. Thats why theyre called Gilt edged securities When risk is low, it doesnt carry much profit. But some junk company is issuing bonds, no one has ever heard of them. So their bonds carry high-risk of default, hence people wont be interested in buying it as such.So,The company will offer extra-high return (profit) on their bonds, to attract people. In short : Higher return is offered when Risk is HIGH.

Scene 1: Year 2010

For every 100 rs. Invested in Government bond, you get Rs.5 return after 1 year. For every 100 Rs. Invested in the junk bond, youre offered Rs.13 return after 1 year. So yield spread = (13% minus 5%) = 8%

Scene 2: Year 2011

Government bonds return remains the same but now that junk bond company is offering you 20% return. So Yield spread = (20% minus 5%)=15% In one year, the yield spread has widened from 8% to 15%. As we saw above, Higher the risk, higher return is offered. So, market is forecasting a greater risk of default which implies a slowing economy. A narrowing of spreads (between bonds of different risk ratings) implies that the market is factoring in less risk (due to an expanding economy).

M1,M2,M3,M4 : Money Stock Measure Meaning What is all this M1,M2,M3,M4?

It shows the money supply in the market. More money = more liquidity = easy to get loans = inflation Less money = less liquidity = hard to get loans = problem As we saw earlier, RBI controls the money supply by changing its CRR, Repo etc rates. (thus controls inflation) thats called Monetary Policy But for that, RBI needs to measure how much money is there in the market (=liquidity) ? they know it via these M1-M4. Side note Govt. controls economy via changing Tax rates- thats called Fiscal Policy

Thank you Satishtj for following information M1= Currency with public + Current deposits with banking system + demand liabilites portion of saving deposits with the banking system . Governor of RBI + ministers + MP can have account with RBI

Now see this

hart

PS: sorry for the watermark, although my current id is not mrunalpatel.co.nr but mrunal.org.

Who calculates M1-M4?

RBI since 1970-71

What are the other names of this?

1. 2. Money Stock measure Measures of monetary Aggregates

Was there any reform in it?

Yes there was YB Reddy Group 1997-98 and on their recommendations- following steps were taken. Financial Sector Survey every 3 Months 4 New measures :M0-M3 3 Types Liquidity

What is all Hot money, soft money, hard currency etc?

Thats Types of Currencies -See this chart

What is Dear Money and Cheap Money?

See this chart

Credit Crunch What is Credit Crunch?

In simple words, when you cant get loans easily, its credit crunch. Definition: reduction in the general availability of loans (or credit) or a sudden tightening of the conditions required to obtain a loan from the banks.

Examples of credit crunch

1. In America, banks were giving housing loans to any swinging dude, without checking his credit-worthiness (like can he really pay back the loan or not?). This lead to mass-defaults after few years. Now bank managers are very cautious and before processing your loan application, theyll check it 17 times! this is also a sort of credit crunch because you cant get loans that easily, like you used to get, before the recession. 2. In 3G auction spectrum, telecom companies took 70,000 cr. from Indian Banks to bid in the auction. = lot of money flew out of the system. So for a time being, banks have less money to give as loans to other customers = Credit crunch. (although that didnot happen) but suppose Mukesh Ambani had called up a bank asking for 50000 cr. loan for acquiring a foreign company next morning, Bank manager might have said Sir, sorry we dont have no money!

Implications of Credit Crunch

Credit crunch is not good for economy, because
1. A businessman wants to start new factory, but cannot get loans easily = slowdown in economy. 2. A couple wants to buy home, but cant get home-loan easily = slowdown in real-estate sector. 3. A college kids wants a new bike, but his dad cant get loan easily = slowdown in automobile sector, but also good from climate-change angle. as people will be forced to use public transport system ;-)

If such credit crunch continues for a long time, itll lead to job-losses, factories shutting down and finally recession. But sometimes credit crunch is a necessary evil, when there is too much liquidity (money) in the market. Too much liquidity = too much money = easy to get loans = people have more money in their hands compared to the items available for purchase = hyper-inflation. we can also say that an (Excessive) increase in CRR and SLR will lead to Credit crunch.

What is Insider Trading?

Insiders (employees and board members) have advance knowledge of Companys accounts, secrets, financial statements, future plans of merger & acquistions etc. They can benefit from this Inside information to trade and make profit in the share-market. if the CEO of Company A learned (prior to a public announcement) that Company A will be taken over, and bought shares in Company A knowing that the share price would likely rise. In this case he made profit, only because he knew the inside information. Insider trading is an offence punishable under the SEBI Act of 1992. The penalty Insider trading is Rs 25 crore or three times the gain whichever is higher. Reliance Petroleum (RPL) was set up to build a refinery in Jamnagar, no longer exists and has been merged with RIL. In Nov.2007, RIL sold about 4% of Reliance Petroleums equity for Rs 4,023 crore. According to SEBI findings, the sellers had same registered address and phone numbers as RIL in Mumbai and Jamnagar; had opened their accounts with the brokers on the same day; share a common email address; and had received margin financing from two other companies promoted by Ambani Navi Mumbai SEZ Pvt. Ltd and Mumbai SEZ Pvt. Ltd. Sebis alleges that the company which controlled the agents dealing on its behalf knew that it intended to sell shares in the cash segment when it transacted in the futures segment so This amounted to insider trading. RIL made 500 cr. Rupees profit from these transection. So the possible penalty (if proven) will be 500 x 3 = 1500 cr.

Currency Devaluation, Dollar to Rupee Exchange Rate Introduction

First read the Balance of Payment (BoP) article, to understand this concept better. Consider this example. 1$ = 50 Rs. Price of one diamond = 50 Rs.= you can buy only 1 diamond in 1$

Now Suppose, RBI and Govt. of India declares that from now on 1$ will be equal to 100 Rs. Then ?? 1$= 100 Rs= 50+50 = you can buy 2 diamonds in 1$! So as an American youll import lot more, if the Rupee is devalued. Devaluation means The reduction of somethings value or worth An official lowering of a nations currency; a decrease in the value of a countrys currency relative to that of foreign countries

Timeline of Rupee Devaluation

Before 1966: 1$ = 4.76 Rs. In 1966: 1$= 7.50 Rs. (Rupee was devalued for the first time) This is fixed rate system means Govt. says 1$= 7.50 Rs. = its permanent; It doesnt keep changing every now and then. This fixed rate system is also known as Bretton Woods system or pegged currency. (click me to understand it better) This system was abandoned by most countries in 1973. India also abandoned this Fixed Rate system in 1975, and moved to the floating rate system. In the Floting rate system , the market forces of supply and demand decide the value of Dollar and rupee.

Why Devaluation ?
Like I showed ago, if Rupee is devalued, Americans can buy more diamond in 1 dollar = Export increases. China uses this strategy. They intentionally keep their Yuan weak compared to Dollar. So in 1 Dollar, the Americans can import more quantity of products from China, compared to India. This way, China is major exporter of most electronic and consumer items, because its cheap! Thus, China made a huge Foreign Exchange reserve by exporting. Currently China has more than 1400 Billion Dollars in their reserve! While India has only about 270 Billion Dollars in its reserve. Then lets do Rupee Devaluation? Now if you think we should also keep our Rupee very weak (like 1$= 5000 Rs.) to boost our exports and get lot of Forex like Chinese you are forgetting something. When you declare that 1$= 5000 Rs. Then obviously, Americans will import a LOT from India. But When youre buying Crude Oil Barrels from Middle East, youve to Pay in Dollars!! Suppose if 1 Oil Barrel s price was 1 Dollar, then now youll have to pay 5000 Rs. To buy just one Barrel! (earlier you were paying only 50 Rs. To buy one barrel.) Thus diesel & petrol becomes very costly, = road transport cost increased = milk, veggies and everything transported by trucks become very costly.=inflation. So whatever money you gained in export, you lose here. Thats why youve to maintain a fine balance between your Rupees Value against Dollar vs. How much import items you need to run your Country + the well being of your citizens. In short

1. Devaluation increase exports and decreases imports 2. Devaluation gives a price advantage to the exporting contry. How does Currency Devaluation help in Solving BoP Deficit In BoP Deficit, youre importing more than what youre exporting. When your currency is devalued, your export increases (1$ buys 2 diamonds) And you decrease your import (people will stop using cars, when 1 Liter petrol is sold for 5000 Rs.) Thus Export is increased and import is decrease = Deficit solved!

Why India had to go Devaluation?

1966 Economic crisis Since 1950, India ran continued trade deficits because of the Quota-Licence-inspector raj. (Already explained in LPG article, click me to read.) Government of India had a budget deficit problem and could not borrow money from abroad or from the private corporate sector. As a result, the government issued bonds to the RBI, which increased the money supply, leading to inflation. In 1966, America stopped foreign aid to India (because Americans were friendly to Pakis) and we were fighting Indo-Pak war of 1965. During this war, Govt.s 25% expenditure was spent in fighting pakis. All this lead to problems, youve high inflation, you dont have enough money to buy crude oil. And you cant print more money to buy crude oil (click me to know why) , so what will you do? Youve to boost your exports to earn from $$. And for that youve to reduce the value of your Rs. Same thing had to be done in 1991, due to BOP crisis. Who exactly determines the Exchange Rate? 1$= 50 Rs. =this is exchange rate, but who exactly determines this? In 1991, India still had a fixed exchange rate system, where the rupee was pegged to the value of a basket of currencies of major trading partners. (= Central Govt. + RBI deciding 1$ = will be equal to how many rupees?) But then they had to liberalize and Nowadays, its the market forces of Supply and demand who will decide the Exchange rate. = its the players @ Foreign Exchange market.

What is foreign exchange market (forex, FX, or currency market)

Its a worldwide financial market for the trading of currencies. (just like youve sharemarket to sell and buy shares) The foreign exchange market allows businesses to convert one currency to another. For example, youve a factory in Noida to make bikes, you sell these bikes in India = you earn in Rupees. But the engines of those bikes are imported from America, so youve to pay in Dollars to that American supplier. So how will you get dollars? Simple, go to the Forex Market, give you rupees and buy the dollars. Here the supply and demand rules will decide the value of 1$= How many rupees.

Its almost same like vegetable market, today it can be 10 Rs. Per kg potato, tomorrow it might go 20 Rs. /kg, depending on demand and supply. Consider this talk @ Forex Market Rupeeguy: hey man! take this 50 Rs. And give me 1 dollar. $ guy: dude, weve only few dollars, and I know youve plenty of Liquidity In India, your economy is booming and you people are earning lot of money. so give me 100 Rs. Otherwise Ill not sell. (=$ supply is low) Rs.Guy: damn it, anyways I need to pay $$ do my American supplier so here take this 100 Rs. And give me 1$. (=$ demand is high) =Rs. Is devalued

Let see another deal.

Suppose American banks pay 18% interest rate on your deposit. And Indian Banks are giving only 7% interest per year on your deposit. Then? If youre a big player, you want to put your money in American banks. but theyll accept only dollars. So what will you do? You go to the Forex Market to get your Rupees converted into Dollars. But After a few days, there will be huge rush to buy Dollars. So value of Rs. Will decrease. Rs.guy = hey man take this 50 Rs. Give me 1 $ $ Guy= I know you want to put that dollar in American bank to earn high interest! Ive plenty of people offering me more than 100 Rs. To get 1 Dollar, so you better give me 100 Rs. Or get lost from here. Rs. Guy= Ok I agree. (= rupee is devalued)

3rd deal
There is economic boom in India. If you start a mobile phone factory in Noida, then you can make a mobile only for 500 Rs and sell it for 1000 Rs. = 100% profit. Now youre a Rich American, and American banks are giving you only 18% interest rate for your deposits. = youre earning only 18% profit, so You want to invest your money in setting up Mobile phone factory in India. (= Foreign direct investment/FDI) but for that youve to buy land, cement, labors and theyll accept payments in only Rupees. So youll go to Forex market, to get your Dollars converted into Rupees. $ Guy= take this 1$ and gimme 100 Rs. Rs.Guy= I know youre going to invest it in India and get 100% profit, plenty of Americans like you are offering me Dollars. So give me 2$ and Ill give you 100 Rs. Otherwise get lost from here. $ Guy= well that still better than parking my $$ in American banks and earn only 18% interest. so ok, I accept, here are 2$, give me 100 Rs. [1$=50 Rs.] (=Rs. Is revalued) However things are not this straightforward in real life deals. Many factors including rumors, Govt. policies, Tax rates, speculative purchase etc. will shift the trends in currency trading, just like your sharemarket. RBI and Central Govt. will not intervene in minor fluctuations. Theyll let the market forces of

supply and demand decide the exchange rates and play their games. But if there is major problem, then RBI & Central Govt. will intervene to stop the heavy fluctuations.

Weapons of RBI to control Exchange Rate

Monetary policy For example, IF there is plenty of liquidity in Indian market. (= lot of Rs. In circulation) thus, within India youll not get good interest rates from bank and not high profit from your investment so you want to park your Rs. Abroad. = supply is more= Value of Rs. Will go down. Hence 1$ =100 Rs. So RBI will step in and change the CRR,Repo,Reverse Repo, Bank rates etc. to suck up the extra liquidity in market. And value of Rs. Will go up. Thus 1$ becomes 50 Rs.

FERA & FEMA

If there is too much dollars in Indian Market or if there is too less Rupees in Indian market, then Exchange Rates will change. (based on supply-Demand principles). If there are fluctuations like today 1$= 49 Rs. And after 15 days, 1$=47 Rs. This is normal healthy fluctuation but if there is sudden drastic change like in 15 days, 1$=100 Rs. that means bad guys are not playing by the rules. So to prevent such things, weve certain Laws. Foreign Exchange Regulation Act of 1973 (FERA) (repealed in 2000.) Foreign Exchange Management Act (FEMA),1999 By these acts, RBI is empowered to oversee and control the forex markets within india. And the Enforcement Directorate (ED) get the power to investigate and prevent leakage of foreign exchange which generally occurs through the following malpractices : Remittances of Indians abroad otherwise than through normal banking channels, i.e. through compensatory payments. (eg Many Indian living abroad send money to their wives and relatievs via Hawala) Acquisition of foreign currency illegally by person in India. (for example, Ashwarya Rai faced inquiry from the Customs department, which has stumbled upon a mysterious postal parcel addressed to her containing 65,000 euros (Rs.3.7 million) in cash. In another case The ED found evidence of alleged 50 Lakh hawala payments by a Dubai event manager to Ash, and others. (refer CNN-IBN) Non-repatriation of the proceeds of the exported goods. Unauthorised maintenance of accounts in foreign countries. Under-invoicing of exports and over-invoicing of imports and any other type of invoice manipulation. Siphoning off of foreign exchange against fictitious and bogus imports. Illegal acquisition of foreign exchange through Hawala. Secreting of commission abroad. Third trick is current and capital account convertibility (will write about it in another article.)

RBIs own Forex Reserve

Another trick- when 1$= 100 Rs. This means, the dollar supply is low in the market compared to Rupee supply. So RBI will release the dollars from its Forex reserve, or sell its gold in foreign market and buy some dollars and release them in Indian Market. Revaluation In the period 20002007, the Rupee stopped declining and stabilized ranging between 1 $ = 4448 Rs.. In 2007, it was 1$ = 39 Rs. , on sustained foreign investment flows into the country . This posed problems for major exporters and BPO firms located in the country. The trend has reversed lately with the 2008 financial crisis. Table: Value of 1 Dollar to Rs. (just to reference, you dont have to remember every value in it.) 2007 (Oct)= 38.48 2008 (June)= 42.51 2008 (October)= 48.88 2009 (October)= 46.37 Now a sidenote- currency devaluation and building Forex Reserve.

Advantages of Huge Forex reserves

Now you might wonder what exactly is the use of building a huge Forex Reserve by keeping the currency devalued / weak, like China has done? And why do they keep the value of Yuan very low compared to Dollars? Well Huge Forex has its own uses lets see Indo-China War Suppose China and India goto war against each other. (and assuming that no one will intervene to stop the war and they will not use nuke missiles.) Now what items do you need the most during a war? 1. Missiles, guns, bullets, bombs. 2. Medical supplies 3. Diesel, Petrol 4. Fighter jet planes Diesel, Petrol is most important in war because 1. You need to transport your soldiers to the borders using aero plane , trucks, trains, 2. You need to setup base camps in remote jungles, but you need electricity to maintain communication with your Head Quarters= you need wireless sets, and to run them, youll need diesel generators. 3. If you want to use Jet-Fighters planes like MiG, to attack on enemys positions, then again you need very expensive type of petrol to run those Jet Fighter planes. 4. Battle Tanks like Arjun dont give an average like Bajajs Bike (1 Litre goes 100 km) so again you need lot diesel to run these tanks. So ultimately, youll have to import huge quantity of crude oil to run a war, and your foreign exchange reserve (whatever dollars or gold youve in RBI) = will be reduced.

And you cant print more money to buy oil from middle east. (read my BoP article to know why?) + if the United Nations intervenes, then theyll place trade and arms embargo on us (= quantitative restrictions on your oil imports) As you know weve only 270 Billion $, while China got 1400 Billion $ in their forex, so ultimately our pockets will get empty before their pockets go empty, And there will be no diesel in our tanks and fighter planes and theyll win the war. Same is the reason why well win against Pakis in a traditional war.

China-America War
Lets assume China and America go to war against each other. (again assuming nobody intervenes, and nobody uses nuke missles.) Both have got plenty of money so buying Oil is not a problem for them. But China has 1400 Billion Dollars in their Forex reseve. Suppose it sends all those dollars in American market, then? Suppose China buys plenty of cars, food, etc from American market using the same American Dollars? Too much liquidity in America= everyone has more $$ in pocket than the physical products available in the market. = heavy inflation =1 potato will sell in 1000 $ So American economy will collapse. And ultimately theyll have to declare a ceasefire. Infact China doesnt even have to go on a traditional war, all they need to do is just flood American market with Dollars without firing a bullet and let the economy of America collapse. Americans will automatically accept their defeat. Same case, for China vs. France / Russia / Britain/ Canada or any other 1st world nation. Thus, having a big Foreign Exchange reserve makes China a nation, feared and respected by the Western World compared to India. Low Forex Reserves, is one of the many reasons why India is not getting a permanent seat in UN Security council.

Role of Forex Reserve in Foreign Policy

When youve plenty of Forex, you can give loans or Donations to poor nations in Africa, and then theyll support your every resolution and policy in United Nations General Assembly! Theyll even support your permanent seat in security council (UNSC) China is buying lot agriculture land in poor African nations & in that land, theyre growing Maize and other crops to produce bio-dieasel. = again China doesnt have to worry about Crude oil like India. (=getting powerful for war) You can buy latest fighter jets, missiles, bombs, machine guns from France and America. (=again getting powerful for war) And finally, you can use that Forex reserve to import pulses, sugar, wheat etc. to control food prices with in your domestic market.

Competition Commission of India What is Competition Commission of India (CCI )?

It is a statutory body that monitors anti-competitive agreements, abuse of dominant position by enterprises and regulates combinations (acquisition, acquiring of control and M&A), which causes or likely to cause an adverse effect on competition within India. Commission comprises a Chairperson and six members. Ashok Chawla is the current Chairperson of the CCI

Case of Cement Companies

CCI investigation found that the cement companies had intentionally not utilised the available capacity so that there are reduced cement supplies in the market and they can raise prices in times of higher demand. The cement manufactures were instrumental in limiting and controlling supplies in the markets and determining prices through an anti-competitive agreements. The commission stressed that such anti-competitive agreements are detrimental not only to consumers but also to the entire economy as cement is very crucial input in construction and infrastructure industry, vital for economic development.

Guilty

ACC, Ambuja Cements, UltraTech Cement and JK Cement, Lafarge India, India Cements, Madras Cements, Century Cements, Binani Cement and Jaiprakash Associates.

Punishment

Competition Commission of India (CCI) has slapped a penalty of over Rs 6,300 crore on 10 cement companies The companies have been asked to deposit the penalty within 90 days.

Case of Oil Companies

Competition Commission of India (CCI) is looking into Public Sector Oil Companies, for controlling the petrol prices even after prices in international markets fell. PSU oil firms, which generally revise the petrol rates on 1st and 16th of every month have skipped changing rates recently. The oil companies have not reduced the petrol prices citing the excuse that imports are getting costlier due to the falling rupee. Apart from this, CCI is also watching the Tyre-manufacturing sector.

Pension Fund Regulatory and Development Authority (PFRDA) Bill Features, Issues Pension Fund Regulatory and Development Authority Bill, 2011

has been pending for several years, seeks to open the pension sector to private sector and foreign investment. If it was passed by cabinet in June 2012, it could be tabled in parliament in the Monsoon Session starting in July 2012. But Trinamool Congress, a key ally of UPA opposed it and hence the bill has been put on backburner yet again. Trinamools official reason: this PFRDA bill is against the intersest of common man. Unofficial reason (if one believes the IndianExpress frontpage 08 June 2012), is that West Bengal Government wants debt relief of Rs.25,000 crores from the Union Government and unless and until it is given, theyll continue to stall all the bills and policy issues like FDI in Multi-brand retail, Pension Reform bill etc.

History

PFRDA, set up as a regulatory body for pension sector, is yet to get statutory powers as the Bill pertaining to that effect lapsed in Parliament with the expiry of last Lok Sabha in 2009. Interim PFRDA is functioning since 2003 through an executive order. It was introduced in the Lok Sabha on March 24, 2011 was referred to the Standing Committee headed by senior BJP leader and former Finance Minister Yashwant Sinha for scrutiny. Committee wanted the government to specify the FDI cap in the legislation itself, besides providing for minimum guaranteed return to pension subscribers.

Salient Features of PFRDA Bill 2011

Establishment of a statutory authority to undertake promotional, developmental and regulatory functions in respect to pension funds. It proivdes for 26% Foreign Direct Investment (FDI) in the pension sector, just like it is in the insurance industry. Bill will provide greater flexibility to subscribers to withdraw funds from their accounts, and Assured returns to pension fund subscribers. It also alters the name of the New Pension System to National Pension System (NPS).

What is NPS?

NPS is a defined contribution scheme for all central government employees who joined after January 2004. It is implemented through a combination of retailers, pension fund managers, and a record keeper. Under the NPS, every subscriber will have an individual pension account, which will be portable across job changes. The subscribers will choose fund managers and schemes to manage their pension wealth. They will also have the option of switching schemes and fund managers. The NPS was extended to all general citizens through central government notification in 2009.

Prepaid Payment Card What is Prepaid Payment card?

Prepaid cards work on the theme very similar to prepaid mobile phone cards. All you have to do is buy a card, load it with the desired amount and the card is ready to be used. You do not require any bank account to use these cards. Theyre convenient alternatives to cash and cheques Theyre issued mainly by banks and Non-Banking Financial Companies (NBFCs) on payment of specified amount and are used for purchasing goods and services from limited outlets. These pre-paid cards which are technically known as semi-closed pre-paid instrument These instruments do not permit cash withdrawal or redemption by the holder. (i.e. you buy a card, youve to use it.) No interest is payable by the bank on such balances. The maximum value of any prepaid payment instrument shall not exceed Rs 50,000/-.

Why is it in news?

With passing of Payment and Settlement systems, Act 2007, all non-bank entities (NBFCs) currently issuing prepaid payment instruments and those proposing to issue such payment instruments would have to approach Reserve Bank for authorization. In 2009, RBI had allowed Pre-Paid card holders to purchase travel tickets, insurance and pay water, electricity and telephone bills. Now in June 2012, Reserve Bank has allowed holders of pre-paid payment cards, to deposits school and college fees and pay taxes in addition to buying rail and air tickets within the prescribed limit of Rs 10,000. (Banks and Companies are allowed to issue such pre-paid cards without fullfilling the KYC : Know your customer requirement.)

Capital Gains Tax Two type of taxes.

Indirect tax
is paid by rich and poor alike, on the purchase of goods and services. Sale tax, excise duty, custom duty, entertainment tax and examples of indirect tax.

Direct tax
Is paid by middle class and rich men on their income and property. Income tax, corporate tax, Wealth tax, capital gains tax, are examples of direct tax. Direct taxes collected by the income tax department.

What is capital gains tax?

First, What is capital?

Capital is something that generates income for you. It can be a building, it can be a rickshaw, it can be a truck, it can be printing press machinery. When you sell these capital assets, and IF you make profit (gain), then you have to pay tax. This tax is known as capital gains tax.

There are two types of capital gains tax.

Short-term capital gains tax, if you owned that asset for less than 36 months, before selling it. Long-term capital gains tax, if you owned that asset for more than 36 months before selling it.

Do Shares of a company also come under Capital Gains tax?

Yes Shares of a company also come under Capital Gains Tax. And there is different time-frame for them.

Short-term capital gains tax, if you owned those shares for less than 12 months, before selling it. Long-term capital gains tax, if you owned those shares for more than 12 months before selling it.

Who pays the Capital Gains Tax?

Who is to pay CGT? The seller or the buyer?

Suppose I own a shopping mall building worth Rs.1 crore and

I sell it to you for Rs.2 crores, and thus I made the profit (Gains) of Rs. 1 crore and I have to pay Rs.10 lakh to the government as capital gains tax. Now the convention is that I (the seller) dont actually pay Rs.10 lakh by myself Instead of that, you just give me only Rs.1 crore 90 lakhs. And keep aside 10 lakh rupees. Then, you (the buyer) will pay the 10 lakh rupee to the Government on my behalf. (Thus you purchased the mall for Rs.2 crore). This is the concept of Tax Deduction @Source (TDS)

Mutual Funds and Entry Load What is Mutual fund?

They accept money from common people and invest it in shares and bond marks. And whatever profit / interest they make, they give back to the customer after cutting their profit Margin. A mutual fund is a type of professionally-managed collective investment scheme that pools money from many investors to purchase securities (Wikipedia) A mutual fund is nothing more than a collection of stocks and/or bonds. You can think of a mutual fund as a company that brings together a group of people and invests their money in stocks, bonds, and other securities. (investopedia)

What the Entry Load?

Mutual fund company pays Commission to the distributors (those agents / brokers etc), to market and sell their schemes. Earlier Mutual funds used to charge 2.25% entry load from customers. Meaning, if you give Rs.100 to the agent, the mutual fund company will only invest Rs.97.75 in various shares, bonds etc. while the Rs.2.25 was paid to the agent who introduced you to the scheme and filled up your paperwork etc. SEBI chairman believed that it is not good, these middlemen are not adding any value to the investment. hence he banned Entry load thing from Aug09 Result: the agents started selling other products where Commissions are higher. Mutual funds started losing clients. After all this mutual fund/ pension /insurance / childplans/ ULIP etc is a game of marketing (and fooling) people. So in June 2012, the mutual fund-walla went to Finance minister and asked him to resume the Entry load mechanism. FM has asked SEBI to look into the matter. So the matter is still being looked into. SEBI chairman still says that entry loads are not good. At most we can allow MF to invest in Rajiv Gandhi equity saving scheme (RGESS).

Sidenote: RGESS

recall that RGESS was launched to cut the middle men and lure middle-class investors into the capital market, otherwise they only invest money in gold, real estate = problem of inflation, black money and current account deficit.

But after launching the RGESS, Pranab realized the mistake that most of his target audience (middle class junta) doesnt have PAN cards and DEMAT account, which are prerequisite to play in shares and bonds investment. Then Government started talking about no frills DEMAT Account.

SARFAESI Act, Asset Reconstruction Company (ARC), Security Receipts (SR), QIB, DRT, Central Registry What is NPA?

Bank gives loan to a person. Person fails to make regular payments. Bank gives him notice to correct his behavior. But he doesnt. Bank declares that loan as Non-Performing Asset (NPA) (=Bad Loan) Currently Indian banks have NPAs worth more than Rs. 1 lakh crores.

Debt Recovery tribunals?

Prior to 90s, banks had very hard time recovering bad loans. Because often, borrowers (loan takers) would file frivolous cases in civil courts, then taarikh pe taarikh, taarikh pe taarikh.. proceeding would go on for years. So 1993, Government established Debt Recovery Tribunals to deal with NPA matters. Now borrower cannot approach civil court, theyve to goto special Debt Recovery Tribunal (DRT). This led to some relief, but then DRTs clogged down by truckload of cases. (Even now, more than 60,000 cases pending with DRTs) In 2002, Government came up with new Act, named SARFAESI Act.

What is the Sarfaesi Act?

Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002,

Suppose, Mr.Paraajay has opened factory with Rs.100 crores. He financed this, via mixture of Debt + equity in following way. (make sure you understand debt vs Equity, if not click me)
Holder Rupees in Cr.

Paraajay and his family 20 Equity (IPO->Shares) Juntaa (public) 30

Debt (loans, Bonds) Business loan from SBI 40 Bonds Total 10 100

Initially the company runs well and good. But then Mr.Paraajay doesnt revise his MBA books often, so he forgets the business concepts. His company starts making losses. He fails to pay loan EMIs for many months. SBI gives him notice to correct his behavior. Still, he doesnt start paying money. SBI declares this Rs.40 crores loan NPA (Non-Performing Asset). Once a loan is declared as non-performing asset, SBI can take actions under SARFAESI act, to recover the loan money.

Bank have following powers under SARFAESI Act

1. Take possession of Mr.Paraajays assets without requiring court order. (Commericial or residential, fixed or moving assets.) 2. Auction / Sale them. 3. Change the administration/ Management of those assets. 4. If Mr.Paraajay had sold away the mortgaged asset to third party Mr.X, bank can order Mr.X to surrender that Asset. 5. If Mr.X owes money to Mr.Paraajay, he can be ordered to pay money.

*ARCs explained after a few paragraphs. SARFAESI applies only to loans above Rs.10 lakhs. By the way SARFAESI applies only to those assets mortgaged/secured to get the loan. E.g. if Mr.Paraajay had taken business-loan, SBI would have asked him to sign away his factory/machinary/vehicles/land etc. specific items as mortgage. Hence SBI can attach only ^those assets. But SBI cannot take away Paraajays personal home-furniture, expensive wrist-watch or his sons bicycle in the name of SARFAESI. Similarly, Agricultural land is exempted from SARFAESI attachment.

Appeal structure
The borrower (loan taker) has following options:

Get a stay order from Debt Recoverty tribunal (DRT) against the auction/sale of his properties. (He cannot file case in Civil courts.) Fight the case in DRT. If unhappy with DRT verdict, he can appeal to Debt Recovery Appellate Tribunal (DRAT). But before filing appeal with DRAT, hell have to deposit 50% of his pending loan money.

Bank: Power to Auction

First SBI contacts the experts, gets valuation of Mr.Paraajays assets. Expert says those assets are worth Rs.50 crores according to present market value of land/ building/ machinary whatever. Then SBI will give advertisement in newspapers we are auctioning xyz land/machinary/building. Minimum bidding amount is Rs.50 crores. Whoever wishes to bid, send us application along with Rs.50,000 as deposit, and their class 10, 12 mark-sheets and school leaving certificates, duly attested by a Gazetted officer. Problem: sometimes, bidders donot take interest in buying such properties, factories etc. To fix this problem, Amendment bill of 2011, makes a new provision: if noone else comes to bid in the auction, Bank itself can buy that property.

Here comes the new problem:

Suppose SBI attached a warehouse of Mr.Paraajay. If the land was in good urban area, SBI could open a new branch office there (or housing for its employees). But if plot/factory/house is in some remote area= useless for SBIs personal business. Under the Banking regulation Act, a bank cannot keep such immovable property beyond 7 years, (max 12 years with RBIs permission). So ultimately SBI will have to auction it to someone. What if they dont get better price? Critiques of the bill say, this is not clarified in the bill.

What is ARC?

Asset reconstruction company (ARC). They buy NPA (Bad loans) from Banks and try to extract maximum money out of it=profit.

Theyve to register with Reserve Bank of India.

Examples:
1. ARCIL (Indias first and largest asset reconstruction company (ARC)) 2. Reliance Asset Reconstruction Company Limited by Anil Ambani

In our example, SBI has NPA worth Rs.40 crores. ARC will buy the NPA file from SBI at a lower rate say 35 crores. (well, SBI is making loss, yes, but something is better than nothing.) Besides, banks have hundreads of bad loan cases, they donot have time or manpower to pursue individual case, sometimes no bidders are interested in auction. All the filework and donkey labour, In such cases, its better for bank to transfer NPA to ARC. But that doesnt mean ARC will give 35 crores to the SBI from its own pocket! Then how will the Asset reconstruction company (ARC) arrange for the money?= via Security Reciepts.

What are Security Reciepts (SR)?

In above example, ARC needs Rs.35 crores to buy a Non performing asset from SBI. So ARC will issue security reciepts (SR) worth Rs.35 crores. Only Qualified Institutional buyers (QIB) can buy these security reciepts (SR). SR are not bonds, they donot carry fixed interest rate. ARC will promise to pay money on SR, when it gets money the bad loan. Although, ARC usually promise 9% profit on security reciepts (SR). So, three possible situations:

A. Qualified institutional buyers (QIB) buy those security reciepts (SR). So Rs.35 cr cash goes from QIB -> ARC -> SBI. B. SBI itself recieves SR worth Rs.35 crores for free. (that means ARC will gradually pay the money to SBI). C. combination of both: QIBs buy SR worth 30 crores + SBI recieves free SR worth 5 crores.

What is Qualified Institutional Buyer (QIB)?

These people have the expertise and the financial muscle to evaluate and invest in the capital markets. Examples: (click on each to read previous articles on them)
1. 2. 3. 4. 5. 6. Scheduled Commericial Banks Foreign Institutional Investor Mutual Funds Venture Capital Investors Insurance Companies Pension/ Providend Funds

Foreign investment in ARC

ARC =buy bad loans from banks. ARC =arrange money from QIBs to buy bad loans from banks. Problem= Indian QIBs do not invest much in ARCs. Therefore ARCs capacity to buy NPA= very low. And bank themselves dont have enough expertize or manpower to dispose those NPAs quickly. Previously Foreign investors could invest only upto 49% in ARC=minority shareholder=cannot influence company decisions. Now, Government also increased foreign investment limit in ARCs. This would attract more investment in ARCs and help in quicker purchase and disposal of NPAs.

Foreign investment in ARC % Earlier 49%

Now (December-24-2012) 74%

Anyways, back to the topic, lets recap:

1. SBI had NPA. First solution: auction the property. Did not work out. 2. Second solution: sell it to ARC.

So, ARC purchased the NPA worth Rs.40 crores (at Rs.35 crores). ARCs aim= extract maximum money out of this investment. But how?
1. Auction the assets fully or partially. (sell the machinary now, rent the building and wait for land prices to go up for two years and then sell it.) 2. Sell the property in combination with other NPA properties of other defaulters. (similar to buy one large pizza and get 20% discount on any medium sized pizzas). 3. Restructure the EMIs of Mr.Paraajay. E.g. instead of 1 lakh per month, give us 75,000 per month. 4. Change the Management of that asset, appoint its own directors/officers. 5. Order Mr.Paraajay to outsource or lease his business to a another company.

^SARFAESI act empowers ARC to do such things. The amendment Bill adds a new power to the ARC.

ARC New Power: convert Debt into equity

Before reading further, Make sure you know the pros and cons of Debt Vs. Equity (already discussed in an old article click me) The new Amendment in SARFAESI, empowers ARC to convert debt into equity.(fully or partially).

Share holding Before:

Shares Rupees Cr. % 40% 60% 100%

Paraajay and his family 20 Juntaa Total shares worth 30 50

Share holding After

Shares Rupees Cr. Approx. % 22% 33% 44% 100%

Paraajay and his family 20 Juntaa ARC Total shares worth 30 40* 90

*that is the paper value of original debt (NPA loan of SBI to Mr.Parajaay), Otherwise ARC purchased it @Rs.35 crores. Anyways, This leads to two situations:
1. If company starts making more profit in future, ARC will receive more share from that profit. (because more profit=more dividend to shareholders.) 2. If price of companys shares go up in the sharemarket, ARC can sell those shares to third party and make decent profit.

Anti-arguments: Debt to Equity conversion

Critiques says this debt to equityprovision will be abused. This provision is made to help bad corporates. How so? Well consider following:

Banks loss

SBI gave Rs.40 crores loan to Mr.Parajaay He refuses to pay loan=bad loan/NPA. Then SBI sells this bad loan file to an ARC company @Rs.35 crores.

Hence, SBIs loss is 40-35=5 crores. (actually more than 5 crores, if we count the possible interest rate that he would have paid, if he had not defaulted. And loss figure will be different if he had paid a few installments earlier. Anyways, lets keep the loss at 5 crore for the moment.)

ARCs profit

Now ARC owns the NPA assets. (their investment Rs 35 crores) Paraajay offers Rs.37 crores and ask ARC to sell the assets to his relative, friend or proxy. Hence, ARCs profit is 37-35=Rs.2 crores. And yet Mr.Parajaay successfully saved Rs.3 crores (because originally he had to pay Rs.40 crores to SBI, but he walked away by paying just Rs.37 crores!) Few years back, CVC had held a meeting with Bank chairmans and CBI officers. They alleged ^this type of mischief going on, in many loan default cases.

Now under the new provision: if ARC converts its debt into equity (shares), then what will happen?
1. It is very unlikely that Parajaays company will start making huge profits (otherwise it wouldnt be in bad loan problem in the first place!) 2. It is very unlikely that share-price of Parajaays company will go up in sharemarket. (because it has negative publicity due to NPA).

Hence it is very unlikely that ARC will make huge profit out of this Equity. Then Mr.Parajaay can simply offer them a way out : sell those shares to me, in my friend,relative,driver or peons name @Rs.37 crores. And ARC would agree, because 37-35=Rs.2 crores profit!

Side question
How would Mr.Parajaay arrange those Rs.37 crores? Ans. If Mr.Parajaay is totally awesome then he wouldnt give 37 crores from his own pocket. Hed just open another company, get new loan from second bank, issue IPOs to get money from juntaa. Then Iski topi uske sar pe. ^This is (one of the many) reasons why Mr.Ratan Tata said following thing:

Overseas people go bankrupt or companies go bankrupt. Here they never dothey continue to be sick and still operate. Then they are operating to kill you with destructive competition (using predatory pricing etc.) (Airline business) is proliferated by many operators, some of them in financial trouble. I would hesitate to go into the (airline) sector today in the sense that the chances are that you would have a great deal of competition which would be unhealthy competition.

Bank Employee unions are also against the Debt to Equity clause of SARFAESI amendment. (When they had gone on strike to oppose Banking Amendment bill, they also cited this Debtequity reason as well.)

Central Registry

Previously, borrowers used to forged property documents and get loans from multiple banks by giving them duplicate property documents as security. So when borrower refuses to pay up loan, many banks would make claim for the same property! To fix this problem, Reserve Bank of India (RBI) setup Central Registry in 2011, under SARFAESI. This central registry has details of all properties against which loans have been taken. Any person or bank can inspect records of this registry to make sure the mortgaged property is genuine. Official name: Central Registry of Securitisation Asset Reconstruction and Security Interest of India (CERSAI)

Misc.Amendments
1. In public interest, Union Government can issue notification that xyz provision of SARFAESI act may not apply or may apply with modifications to a class or classes of banks or financial institutions. Suppose many textile exporters have taken loans from banks but due to global recession they are not receiving payments and hence unable to repay loans. In that case, Government can order notification that SARFAESI will apply to all loans except those given for textile-export business. 2. Earlier a borrower could approach Debt Recovery tribunal (DRT) to get stay order against bank/ARC. New amendment says DRT cannot grant any stay order unless both parties (Borrower vs. lender bank) are heard. This will ensure the process of law is not misused by unscrupulous borrowers to get stay orders just to delay money-recovery. 3. Bill proposes to enable banks and financial institutions to enter into settlement or compromise with the borrower. It also seeks to empower the Debts Recovery Tribunal to pass an order acknowledging any such settlement or compromise.

Summary

SARFAESI empowers banks and other financial institutions to attach secured assets of a loan defaulter and sale, auction or manage them without requiring court intervention. Parliament passed the amendment to SARFAESI Act and the debt recovery tribunal, in Winter session 2012.

Salient features of new amendment

1. Bank

can buy for the NPA property if there are no other bidders. multi-state co-operative banks can also take actions under SARFAESI.

2. Borrower

cant get stay orders from DRT easily. Can make settlement / compromise with Bank/ARC.

3. Asset reconstruction companies (ARC) 4. Government

can convert their debt into equity (fully or partially) can prohibit or modify SARFAESIs applicability in public interest.

Apart from this amendment, Government has also increased foreign investment limit in ARCs from 49 to 74%.

Mock Questions
Q1. Which of the following are Qualified Institutional buyers (QIB)?
1. 2. 3. 4. A. B. C. D. ICICI LIC EPFO FII registered with SEBI Only 2 and 3 Only 1 and 4 Only 2 and 4 All of them.

Q2. Which of the following is not correct about SARFAESI act?

1. It mandates the Rural regional banks to lend atleast 15% of their total loans to rural cottage industries. 2. It empowers banks to reduce their NPAs. 3. It empowers RBI to impose penalties on Bank responsible for NPAs. A. B. C. D. Only 1 and 2 Only 2 and 3 Only 2 Only 1 and 3

Q3 Find Correct Statement

1. Foreign investment is prohibited in asset restructing companies. 2. To enjoy the priviledges under SARFAESI act, the Asset Reconstruction Companies have to get themselves registered with SEBI.

A. B. C. D.

Only 1 Only 2 Both None

Boring details
1. Recovery of Debts Due to Banks and Financial Institutions Established Debt Recoverty tribunal
Act of 1993 (RDBF) (DRT) and

2. Securitisation and Reconstruction of Financial Assets and Helps banks recover money from bad
Enforcement of Security Interest Act of 2002 (SARFAESI) loans.

3. Enforcement of Security Interest and Recovery of Debts

Laws (Amendment) Bill, 2011

Passed in Lok Sabha in Dec 2012, to amend above two laws (RDBF + SARFAESI)

Committees
SARFAESI was based on recommendation of these two Committees 1. Committee on Banking Sector Reforms (Narasimham Committee II), 1998 2. Restructuring of weak Public Sector Banks -Verma Committee The latest amendment (Debt to Equity), is based on recommendations of Alok Nigam Panel on ARCs, made by Finance Ministry.

SEBI-Sahara OFCD case: Optionally fully-convertible debentures What is Debenture?

From the earlier Debt + Equity article, you know there are two (legit) ways to arrange money for starting or expanding a company
Type meaning Example 1. Bank loans 2. Borrowing from friends, relatives, moneylenders 3. Bonds 4. Debentures

Debt

Borrow money from someone. Offer him interest rate and guarantee to repay the principal after xyz date.

Take money from someone and offer him part Equity ownership of the company.

1. IPO-> Share. 2. Venture Capitalist 3. Angel Investor

Suppose a Telefilm company is producing a new bogus saas-bahu series. The company needs additional finance of 100 Crore rupees just for the make-up, jewelry and expensive sarees of those actresses. Company can approach the bank for a loan, but problems: 1) terms and conditions are heavy 2) the SARFAESI act (with its new amendments) So, its better just to borrow from public. Whoever gives you Rs.100, you give him a piece of paper titled blah blah blah..these are the terms and conditions, repayment dates, interest rates etc. This piece of paper is called Debenture. In this case, you need 100 crores, meaning print 1 crore papers (debentures) each worth Rs.100. Whoever holds such paper units is called Debenture holder. The cash thus collected is a loan for the company. (=debt)

Difference between Bonds and Debentures?

Overall, the principle behind Bonds and Debentures is same: They offer fixed interest rate + principal repaid at the specified date. Ok then whats the difference?

1.Bond
Issued by 1. Union Government 2. State Government 3. PSUs

2.Debenture

Issued by companies.

Second difference: the different rates of Stamp Duty applied on each of them. Third difference: The interest rate offered by Debenture is (usually) higher than Government Bonds. Because Government more likely to repay = no need to seduce customers with higher interest rate.

Types of Debentures
Based on convertibility the Debentures are of two types

1.Convertible debentures 2.Non-Convertible Debentures

They can be converted into shares of the company on the expiry of xyz date.

They cannot be converted into shares.

When debenture is converted into shares, it means debt holder becomes an equity holder. Both debt vs equity have their own advantages and disadvantages. Weve discussed it in the earlier article (click ME) But by and large, from the investors point of view, Debt is safer than Equity.

What is Optionally fully-convertible debentures (OFCD)?

These debentures can be converted into shares, when debt holder (investor) wishes (after expiry of xyz pre-decided date). But the rate, will be decided by the company e.g. 20 debentures =>1 share.

From investors view, this option to convert Debenture into Shares is good ONLY IF
1. Company is likely to make huge profit (so you, the shareholder can earn more dividend.) OR 2. Companys share-price is likely to rise in the share market (then you can sell shares to thirdparty and make profit). BUT if the Company is going bankrupt, then it is better to avoid converting the Debenture into shares. Because when a company is liquidated (i.e. its assets sold off), the Debenture holders get the money before the shareholders.

It means OFCD is a bit tricky game. Investors should have some knowledge and understanding of share prices, company performance etc. else they could lose money. (or end up not getting maximum profit out of their investment). Now lets move to the SEBI-SAHARA case.

2008-09: The game begins

Two firms of Sahara Conglomerate:
1. Sahara Housing Investment Corporation 2. Sahara India Real Estate Corporation. (aka Sahara Commodities)

These ^two companies Issued OFCD to collect money from investors. ~23 million people, mostly from villages and small towns subscribed to this scheme. They invested ~24,000 crores rupees in these OFCDs of SAHARA.

2011: SEBI Order

SEBI You (SAHARA) have violated rules. If OFCDs are issued then whole process should be completed within 10 working days, but here you continue collecting money from people for more than two years! This fund-raising was in the form of a private placement. I.e. we offered the schemes only to our select clients, this wasnt meant a Public Offer! So whats your problem?

SAHARA

SEBI

Dude if this is private placement, then maximum only 50 people can invest money in it. Here ~23 million people have parked their hard earned cash! Hell the number of investors in this case, is even more than the total number of people investing in the conventional stock-exchanges of India! Indias biggest IPO till date was of Coal India worth Rs.15000+ crores, and youve made 24,000 crores out of these OFCDs! It is my responsibility to protect the investors in Capital market. Hence, By the powers given to me under SEBI Act, I hereby order you to stop collecting money and refund all the money to those investors with 15% interest rate.

SAHARA This is not right! SEBI Well, if youre unhappy with my order you can go to the Securities Appellate Tribunal (SAT)

SAHARA Pleads before SAT. SAT SEBI is right. You refund money to those people.

SAHARA Now, Ill go to Supreme Court.

2012: Supreme Court hearing

SC What are your arguments?

SAHARA

Those two companies are unlisted. Meaning, their shares are not listed on any Stock Exchange of India. Therefore, their conduct is outside the jurisdiction of SEBI. Because SEBI is regulator for listed firms only. Our matter falls under Union Corporate Affairs Ministry and not under SEBI. Nope, this matter comes under my jurisdiction, because OFCD is a security under the Securities Act= it comes under the Sebi Act= Ive the jurisdiction= Hence I can pass a special order to regulate unlisted companies!

SEBI

Order of Supreme Court

Saare sabuto aur gawaaho ko madde nazar rakhte hue (in the light of all evidence and witnesses)

To SAHARA

To SEBI

We are unconvinced with your logic that OFCD schemes dont come under the scope of SEBI. Mostly rural people have Invested money in your schemes and theyre not aware of OFCD. At the end of day, they would come and say that they were cheated. You know Harshad Mehtas case, same modus operandi was there. Investors were not aware of the scheme. It seems you have no intention of returning the investors money. Your intentions are shady. We order you to refund the money.

If those two companies of SAHARA donot refund money, youre free to attach their properties and freeze their bank accounts. Also conduct a probe against those two Sahara companies to find out their actual subscriber base. (to make sure some funny game or money laundering isnot going on.) Check the genuineness of the investors and if the investors are not traceable, the amount will go to the government.

Governments response

As youve seen in ^this case, SAHARAs main argument is SEBI doesnt have jurisdiction over our OFCD investment scheme, because this money was meant for our unlisted companies. Government has decided to fix this ambiguity in the new Companies Act. According to Companies Bill 2012 (passed in Lok Sabha): SEBI will have undisputed jurisdiction over any investment scheme involving more than 50 investors-It doesnt matter whether youre a listed company or an unlisted company.

What is Capital market, Primary market and Secondary market?

1. Every businessman requires money to start or expand his business. There are only two legit ways to arrange money: Debt and Equity (already saw in older articles). The place where (big) businessmen arrange money for long term investment, via Debt (Bonds) or Equity (IPOs) is called Capital Market. Government also arranges for money by selling bonds here. 2. It has two subparts: Primary and secondary market. 3. The first time (fresh) sale of Bonds or IPOs are done in a place called Primary market 4. Suppose I buy that bond / IPO and then sell it to you, its called Secondary market. (used car sales). Anyways, These are only theoretical classifications so the experts can evaluate how market or economy is performing. Otherwise all the buy and sell is done via online.

Whats the problem with Capital market?

1. More than 50% of the money invested in Capital Market belongs to FIIs. They tend to take away their money as and when they find better investment opportunity in other countries. This makes the market quite volatile AND, weakens the rupee. The businessmen find it very hard to arrange for the money. 2. Most of the Indians donot invest in Capital market. They just put their money in gold, real estate pension plans, post office savings or Fixed Deposit. 3. The money is good for economy ONLY if it keeps circulating. For example, you buy gold and just store it in your locker- it is of no use to economy. But if instead of buying gold, if you give the same amount of money as loan to xyz businessman (or start your own business), that helps the economy- creates employment and gets you extra income. 4. Besides, Gold purchase increases current account deficit. (we already saw this multiple times hence not elaborating again.)

Why do Indians not invest in sharemarket?

1. Because most of them do not have Financial Education (or enough money).

What is financial Education?

It is the knowledge and understanding of key financial products you need throughout your adult life.

National Strategy for Financial Education

Because Government is contemplating about a National Strategy for Financial Education The aim Is to educate the people about these things, so they start investing in capital market. Hitting two birds with one stone

1. People gets more return on investment 2. Businessman can arrange money easily.

$1 trillion investment in Infrastructure projects

Mohan and Montek earlier wanted an investment of 1 trillion dollars in infrastructure (haha really!), Now Montek says not possible because 1. Foreigners are not investing thanks to bogus reputation of Government. 2. We had made the 1 trillion figure when 1$=44 rupees! Right now the situation is totally different! Mohan: koi baat nahi, if the outsiders are not coming then apno ko hi bottle mein utaar lete hai, by educating them about financial education! Montek: but how does it relate with each other??

Answer
Infrastructure means highways, powerhouses, irrigation, damns, nuke plants etc. To build such things, Government / private player will need truckload of money. Most of the big foreign players are not interested in this, after seeing what happened to telecom companies and POSCO. Mega Infrastructure projects are usually financed either by
1. total Government funding or 2. by PPP/ Joint Ventures between the Government and private comany or 3. via Bonds.

Now you get the connection. Why would Mohan / Montek want indian junta to be educated about financial education? And why did not they think about it 8 years ago?

Technical stuff:
National Strategy for Financial Education is being drafted by a sub-Committee of Financial Stability and Development Council (FSDC).

What is Financial Stability and Development Council (FSDC)?

A gang headed by Finance minister of India. The chiefs are RBI, SEBI, IRDA etc are the gangsters. But RBI, SEBI and IRDA now says first take a survey that how much financial education and inclusion do the Indians have, so that we can arrange for resources, booklets, advertizements, syllabus and MCQs accordingly! Financial education already explained above.

What is financial inclusion?

It roughly means getting all the poor people in the banking and insurance net. Because if they dont have a DEMAT account in the first place, how the hell are you going to make them invest in capital market? Anyways this is just another scam coming Mohan: ya according to our scheme, well give money to State Governments and theyll give money to district officials and Jholaachhap NGOs, to educate the schoolchildren, College kids (if theyve time in between Indian Idol and sending more than 200 SMS per day), and common men. For each person participating in such seminar and opening a bank / DEMAT account, well give Rs.200 to the concerned NGO, District office for the Administrative expenses.

Epilogue:
District officials, jholachhap NGOs, wife-beater Panchayat members and bootlegger Municipal corporators (all in one voice): ya, now we just have to create ghost muster-roll and eat up all the money meant for the beneficiaries, just like we do/did in IAY, PDS, TRYSEM, MNREGA, SGSY and 50 dozen other schemes named after Nehru Gandhi family! Indeed Whaat an Idea Sir-ji!

Land Acquisition bill 2011 : Salient Features, Pro Con analysis What is Land Acquisition?

Land acquisition is the process by which the government forcibly acquires private property for public purpose without the consent of the land-owner. It is thus different from a land purchase, in which the sale is made by a willing seller.

How is this process governed?

Land Acquisition is governed by the Land Acquisition Act, 1894. The government has to follow a process of declaring the land to be acquired, notify the interested persons, and acquire the land after paying due compensation. Various state legislatures have also passed Acts that detail various aspects of the acquisition process.

Land is a state subject then how can the parliament pass a law?
Though land is a state subject, acquisition and requisitioning of property is in the concurrent list. Both Parliament and state legislatures can make laws on this subject.

What is the problem with land acquisition act of 1894?

very old, ineffective, weak draconian delayed and no compensation no livelihood provisions afterwards

Why was new law required?

Heightened public concern: Singur, Yamuna Express etc. absence of proper rehabilitation law anticorruption movement public unrest at many places Law and order problems: police and farmer clashes in UP

The government had introduced a Bill to amend this Act in 2007. That Bill lapsed in 2009 at the time of the general elections. The government enacted a new bill in 2011.

What are the major changes being proposed?

In 2011, the (bogus UPA) Government made changes in 2007 Bill with regard to

the purpose for which land may be acquired; the amount of compensation to be paid; the process of acquisition; use of the land acquired; and dispute settlement mechanisms.

Land acquisition Bill, 2011 Introduction

Land Acquisition, Rehabilitation and Resettlement Bill, 2011 was introduced by the Minister of Rural Development. The Bill proposes a unified legislation for acquisition of land and adequate rehabilitation mechanisms for all affected persons replaces the Land Acquisition Act, 1894

Excluded

provisions of this Bill shall not apply to 16 existing legislations that provide for land acquisition. These include

1. 2. 3. 4. 5.

The Atomic Energy Act, 1962, The National Highways Act, 1956, SEZ Act, 2005, Land Acquisition (Mines) Act, 1885, The Railways Act, 1989.

Then where is it applicable?

provisions of the Bill shall be applicable in cases when the appropriate government acquires land,

a. for its own use and control, b. to transfer it for the use of private companies for public purpose, and c. on the request of private companies for immediate use for public purpose

Applicable even to private companies

private companies shall provide for rehabilitation and resettlement if they purchase or acquire land, through private negotiations, equal to or more than 100 acres in rural areas and 50 acres in urban areas.

Anti-argument

It is not clear whether Parliament has jurisdiction to impose rehabilitation and resettlement requirements on private purchase of agricultural land. While private companies are included, but PSUs are excluded from the responsibility of rehabilitation.

Government can acquire land for these Public Purposes

Public purpose includes other government projects which benefit the public as well as provision of public goods and services by private companies or public-private partnerships.

Consent

Land acquisition will require the consent of 80 per cent of project affected people Affected families include those whose livelihood may be affected due to the acquisition, and includes landless labourers and artisans.

Anti-argument

Projects involving land acquisition and undertaken by private companies or public private partnerships require the consent of 80 per cent of the people affected. However, no such consent is required in case of PSUs.

Limits on land acquisition

maximum of five per cent of irrigated multi-cropped land may be acquired in a district, with certain conditions. Every acquisition requires a Social Impact Assessment (SIA) by an independent body followed by a preliminary notification and a final award by the District Collector. In the case of urgency, the Bill proposes that the appropriate government shall acquire the land after 30 days from the date of the issue of the notification (without SIA). This clause may be used only for defence, national security, and conditions arising out of a national calamity.

Compensation

The value of the assets (trees, plants, buildings etc) attached to the land being acquired will be added to this amount. mandated the job for one person in each affected family or Rs. Two lakhs separate allowance for SC,ST provision for housing, if the land is acquired for housing projects

Anti-Argument
1. The market value is based on recent reported transactions. This value is doubled in rural areas to arrive at the compensation amount. This method may not lead to an accurate adjustment because people sell land to each other at underreported price to save stamp duty. 2. The government can temporarily acquire land for a maximum period of three years. There is no provision for rehabilitation and resettlement in such cases.

Dispute resolution

Bill proposes the following authorities; Administrator; Commissioner for Rehabilitation and Resettlement; Rehabilitation and Resettlement Committee (for acquisition of 100 acres or more of land); National Monitoring Committee for Rehabilitation and Resettlement; and Land Acquisition, Rehabilitation and Resettlement Authority (which shall adjudicate all disputes, with appeal to the High Court).

1. 2. 3. 4.

What if the acquired land is not used?

If an acquired land which is transferred to a person for a consideration, is left unutilised for a period of 10 years from the date it was acquired, it shall be returned to the Land Bank or the appropriate government. in cases where the ownership of an acquired land is sold to any person, without any development made, 20 per cent of the profit made shall be shared among all the persons from whom the land was acquired.

Bilateral Investment Treaty (BIT) What is BIT?

Bilateral Investment treaty It is signed between two nations. It provides for the terms and conditions for private investment by nationals and companies of one state in another state. It gives the foreign investors the right to prosecute their claims against the host countrys actions, in a BIT investment tribunal. i.e. If Vodafone (a Netherland based company), is unhappy with Indian Governments action, it can drag India to a separate tribunal under BIT to settle the dispute. Thus, BIT provides real protection to foreign investment.

Why is it in news?

When Supreme Court of India cancelled the 2G telecom licences- Sistema, a Russian corporation was also affected. It plans to sue Indian Government in under the BIT, in an investment treaty tribunal. Telenor and Vodafone are also planning to do the same.

Indian Governments response?

Some folks in the Indian government think that we should simply renegotiate with those nations and delete the investor-state dispute settlement clause from BIT so no company can sue us! But they forget that it is a two way street. Deleting the investor-state dispute settlement provisions in BITs will negatively affect many Indian companies who have invested majorly in Africa, Latin America and other countries like Nepal. Because our companies wont be able to drag their Governments in tribunals if things go wrong.

#1: Judiciary is part of the state

Some people believe that Government of India (executive) did not cancel the 2G licences, it was done by Supreme court. Hence, the matter is outside the jurisdiction of a BIT tribunal. But a decision of any organ of the state, including the judiciary, can be challenged under a BIT.

In addition to the executive, sovereign actions of the judiciary and the legislature can also violate international law contained in a BIT, for which India, as a country, will be liable in the BIT tribunal.

#2: More than just FDI treaty

Some people believe only foreign direct investment (FDI) falls under the ambit of BITs. But the definition of investment in all Indian BITs covers investment, portfolio investment, intellectual property rights, rights to money or to any performance under contract having a financial value or business concessions conferred under law or contract.

#3: BIT deals with taxation

The Inter-ministerial group formed in response to Vodafones notice to the Indian government under the India-Netherlands BIT reportedly feels that taxation matters are outside the ambit of BITs. But the fact is Taxation issues are also a part of the host states sovereign regulatory functions and hence fall within the ambit of BITs, unless explicitly excluded.

Ref

http://www.indianexpress.com/news/renegotiating-a-bit/975397/0

Steps taken by Indian Government to enhance the Capital Market?

Capital market is a place where companies and Governments borrow money from others via Debt (Bonds) or Equity (IPO, Shares) for long term projects. So why would Government want to strengthen this market or facilitate investment here? you can guess the answer!

Now whatre the reforms initiated in Capital Market of India?

First, the QFIs, are allowed to access Indian Equity Markets, corporate bonds and mutual fund debt schemes. (weve discussed this more than once). Secondly, External Commercial Borrowings (ECB) mechanism has been liberalized to finance Rupee debt of existing power projects.
3. Financial Stability and Development Council (FSDC) has been setup. (already talked about this in the Why Mohan wants Indian Juntaa to be financially educated?) 4. Financial Action Task Force (FATF) has been setup. 5. Permitting two-way fungibility in Indian Depository Receipts 6. Dedicated trading platforms for small and medium scale enterprises 7. Reducing transaction cost in Securities markets.

8. Reduction in the rate of long-term capital gains tax in the case of other non-resident investors, including Private Equity from 20% to 10% on the same lines as applicable to FIIs 9. Providing the levy of Securities Transaction Tax (STT) at the rate of 0.2 per cent on sale of unlisted securities in the course of IPO . 10. Tax exemption to Angel investors investing in in start-up companies 11. Extending the lower rate of withholding tax to funds raised through long term infrastructure bonds in addition to borrowing under a loan agreement 12. Removal of Restriction on Venture Capital Funds to invest only in nine specified sectors 13. Financial Sector Legislative Reforms Commission (FSLRC) 14. Rajiv Gandhi Equity Saving Scheme (already talked about this). 15. Mandatory offer of electronic voting facility (for shareholders) 16. Income tax exemption to the Beneficial Owners Protection Fund (BOPF) set up by the Depositories.

Statutory Liquidity Ratio (SLR) What the hell is SLR?

SLR Means Self Loading Rifle. The INSAS Rifle used by our Jawans, is one example of SLR. But for our purpose, SLR means

Statutory Liquidity Ratio. It is a tool used by RBI to control inflation and to boost growth. Anyways since last one year, RBI's primary aim is to control inflation. If RBI sets SLR to 25%, that a Bank must keep 25% of its Total deposits, into non-cash forms prescribed by RBI: that is.

1. In Gold 2. In Corporate Bonds / Shares approved by RBI 3. G-Sec (Government Securities/ Treasury Bonds)

But most bank prefer to put all the money in Government securities (G-Sec), because they're more safe and convinient than the other two.

What happens if SLR is decreased?

Earlier SLR was 24%, but on last day of July, RBI changed it to 23%. That means, if earlier SBI had total Rs.100 Deposited in all its 11,000+ branches, then SBI would have to park Rs.24 in G-sec but with new RBI rule, SBI will have to park only Rs.23. Meaning SBI can take away Rs.1 from its G-sec investment and use it for giving as loan to regular customers. So, SBI will sell G-sec worth Rs.1 from its suitcase and use that 1 Rupee for lending as House, Car, Business loans to the customers. SBI has one more rupee to lend to the customers, it'll reduce the interest rate (to seduce more customers). Thus Interest Rates go down when SLR is decreased. In real life, 1% decrease in SLR, means SBI alone will have additional Rs.10,000 crores for lending

And all the banks (SBI, ICICI, Bank of Baroda etc combined), will have more than 68,000 crores for lending. Now the reverse: If SLR is increased, then banks have less money to lend = they'll charge more interest rates on loans to keep the profit margin same.

But why would SBI sell G-sec?

Earlier I said, Banks prefer to park the SLR money into G-Sec, because it is safe and convenient. But when something is safe the rate of return (profit) is not high. In case of G-sec, the rate of return on G-sec is 7.5%, while if SBI lends the same money to customers- it can earn more than 10% (because car and home loans have more than 10% interest rate, usually.)

SBI takes initiative

Just because RBI decreased SLR, doesn't mean all banks will immediately reduce the loan interest rates (Thank god they don't behave like Oil Companies- who have formed up sort of cartel, and then rarely reduce oil prices even if crude oil price decreases in global market.) Anyways, whenever RBI decreases rates, usually SBI takes the initiative and decreases interest rates to attract new customers. [Because SBI is a big player with deep pockets, it can suffer temporary losses to get new customers- just like Wallmart etc. do by offering huge discounts]. Other banks such as ICICI, will then have to reluctantly follow the suit, to keep up with the competition of SBI. For example, on 1st august 2012, SBI reduced its Car loan interest rate from 11.25 to 10.75% and Home loan interest rate from 10.50% to 10.25%. So now if ICICI wants to keep in business, it'll have to reduce its rates. [can't just rely on Bacchan's advertisement power.]

Why is it called "Statutory" Liquidity Ratio?

It is called Statutory because it is provided by the Law/Statute(The Reserve Bank of India Act). This Act says SLR cannot be more than 40% and less than 25%. [hahaha, if SLR was 40% then who would open a bank in the first place?!] But in 2007, Government amended the act and removed the lower limit of 25%, so thus RBI went to 24 and 23% SLR.

How does SLR reduction impact Bond Yield?

You already know what is Bond yield. If not, then go through the Eurozone Article. (Click Me) The Newpapers are reporting that Bond Yields increased after RBI cut down the SLR. So why or how did that happen? Think about it!

SLR decrease unusual

Usually, RBI would try to manipulate the money supply in the market (and thus control inflation) by changing the repo rate, and SLR is kept unchanged, but this time, RBI kept the Repo rate unchanged and instead decreased SLR, why? Again, Think about it.

Urban Financial Inclusion Urban financial inclusion

Government has launched the campaign for Urban Financial Inclusion Union finance ministry >> The department of financial services. This department, has directed all banks to do following 1. open at least one bank account for every family in urban areas living below poverty line in urban areas. 2. capture biometric information for all such account holders. The responsibility of enrolling families would lie on the bank branch in every ward or circle of a municipal corporation. In case there is no bank branch in a particular ward or circle, the responsibility would be given to the neighbouring bank branch.

Rural Financial Inclusion

Earlier, the same department had directed banks to open at least one bank account for every family living in financial inclusion villages. Why? = To directly transfer MNREGA wages, Widow Pension etc. into the bank account.

Why does Government want Bank accounts for Poors?

Government wants to cut down leakage of subsidies and limit the total subsidy burden at 2 per cent of the GDP. (because if lot of crooks are eating away MNREGA / Pensions etc. in half way, then subsidy bill will be high. So to prevent the crooks, money must be directly sent to bank accounts of Poor People.) Therefore in last few months, Finance ministry has undertaken pilot studies for direct transfer of fertiliser, kerosene and LPG subsidies. In the Union Budget 2012-13, Pranab had also announced that the Aadhar platformwould be used to support the payments made under o MGNREGA, o old age, widow and disability pensions; o scholarships directly to the beneficiary accounts in selected areas.

No frills renamed to basic savings account to prevent stigma Introduction

RBI had introduced "no frills" account in 2005 to provide basic banking facilities to poor and promote financial inclusion. But now, The RBI asked the banks to drop the no frills tag from the basic savings a/c as the this no frills had become a stigma.

Anyways,

SERVICES PROVIDED UNDER BASIC SAVINGS a/c.

1. 2. 3. 4. 5. No limit on the number of deposits that can be made in a month Maximum 4 withdrawals in a month , including through ATM's No minimum balance requirement [important fact for MCQ] No charge will be levied on non operation of account [important fact for MCQ] Recipe of money through electronic payment channels or by cheques issued by government agencies 6. This would help those covered under the welfare schemes like MGNREA in receiving payments. [important fact for MCQ]

Inflation: Demand Pull TheoryInflation is as we all know, is the general rise in the price of goods and services. But why does inflation happen? There are two major causes / theories behind Inflation

1. Demand Pull / demand side 2. Cost push / Supply side

What is Demand pull inflation?

Also known as demand-side inflation, monetary theory of inflation. Crux: When people have truckload of cash in their hand. But there are not truckloads of goods in the market. Consider this scenario: Government of India initiates a (bogus) scheme called MNREGA, total 40,000 crore rupees are sent from Delhi every year and we all know that most of the money is eaten by the Ministers and government officials before it reaches to the poor people. Now this minister has truckload of blackmoney in his hands and worried about how to invest it somewhere?

What is black money?

Black money is any money on which tax is not paid. Black money is not necessarily related with Corruption only. Only politicians and bureaucrats have black Money = Wrong statement. I run a medical store very honestly, earning 10 lakhs a year but on paper show only 2 lakhs of profit, to save myself higher income tax payment. So this 10 minus 2 = 8 lakh rupees on which income tax is not paid = black money. You purchase a home for 10 lakhs from a builder, but to save the stamp-duty payment, you give 2 lakhs as cheque, rest payment in cash without any bills. That 10 minus 2= 8 lakh rupees on which stamp-duty is not paid =black money.

Back to the topic;

What should the minister do with his black money?

Deposit in his bank account? No, he cannot, because he'll get caught because income tax department keeps an eye on this. He will be booked for disproportionate assets case just like Mulayam, Mayawati and Jaya Lalitha. Should he Invest in the share market? No, he can't do this either, because he has to give his PAN card number for every purchase and sale of shares, and the income tax department keeps a close eye on this activity. So he will use the very time-tested method of hiding black money: Either purchase gold, silver, platinum, diamonds or Deposit in the Swiss bank account but he is feeling insecure about it, given the current activism by media, civil society and judiciary. or Purchase land, shopping-mall, farmhouse or other real estate: under Benami Transection

what is Benami Transection?

In crude terms, when you purchase the land, property, car with your money but it is purchased in the name of your relative, friend, daughter-in-law, driver, peon any even a person that isnt born yet or died a long time ago.

So our beloved Minister purchases quite a few buildings, with the speculation that in future the price of these buildings will increase. (After all, there is no end to greed, he already made the cash, but still he would want to make more money out of his money.) Now we know that the land, or gold or the number of buildings that can be constructed on a land are in finite amount. So when normal people like you or me go to purchase an apartment, the builder will demand more money because there is same supply of apartments in the market but more people waiting in the line to purchase a home. What happened? Supply same, but demand increased = price rise. Same way, the minister would also invest part of his black money in gold and silver, thus increasing their prices also.

Moneylenders

Minister will also invest some of his money with the moneylenders who circulate it as loan @36% interest rate to the needy people. Whore these needy people? #1: the urban middle-class men who suddenly loose lot of money in cricket betting thanks to Sachin or sharemarket speculation thanks to Anil Ambanis IPO and then have to borrow immediately to settle payments. They cant goto banks because banks take weeks and months to process personal loans. #2: the farmers in rural areas. They need money for two reasons: 1. settle payment of seeds, fertilizers, electricity, water, laborers or 2. Dowry for daughters marriage and other expenses related to social ceremonies associated with child-birth, marriage, death etc. Irrespective of their India-Bharat divide, the fate of these two categories of needy people is same: they remain in-debt forever or commit suicide, while minister continues to enjoy hefty 36% interest rate on his money from them. (Banks only pay about 7% on your savings account, consider the difference!)

Back to the topic: another factor responsible for Demand-pull inflation.

Increased inDisposable income:

What is disposable income?
Every month you get salary,

part of that salary goes in the EMI of car/bike/house loan payments, Part of that goes in the compulsory payment of electricity, telephone, Internet, newspaper, milk and vegetables. Part of the salary deposit in the savings account of your bank and then Whatever is money left in your hand for cinema, restaurant, spa, caller-tunes, branded clothes etc. non-essential, discretionary spending is called disposable income. Example. The sixth pay commission increased the salary of government employees, almost everybody suddenly got say Rs.50,000 per month, compared to 20,000 earlier.

So even after the regular payments of EMI, Telephone bill etc. they will have more disposable income in their hands compared to earlier, what will they do? They will start visiting restaurants or cinema every Sunday instead of visiting them every month. Many of them may even plan holiday trip. What is the implication? 1000 families chasing total 500 seats of restaurant / multiplexes in their city Or 100 families chasing 50 hotel rooms in Goa. We know that supply of seats or hotel room is same as earlier, but demand has increased, the hotel owners would start charging more = inflation.

Dearness Allowence paid by Government

Quoting a Line from Times of India

Giving relief to its employees and pensioners from inflation, the central government on Friday announced a seven percentage point increase in dearness allowance (DA) which will cost the exchequer an additional Rs 7,500 crore. The new DA rate of 65 per cent of basic pay against 58 per cent earlier will be applicable retrospectively from January 1, 2012.

What does it mean? Government keeps an eye on the inflation, and gives more salary to compensate the employee for the increased prices and cost of living. So, Government employee need not worry much about increased price of milk or vegetables. BUT private companies are not so generous about D.A. so people working in private companies (Atleast at the lower level) dont have that much disposable income. Again money supply increased (Rs.7500 crores)= demand by Government employees increased= inflation is felt by the people working in private companies.

RBIs monetary policy

RBI Governor: behold my infinite wisdom and limitless awesomeness. Repo rate is the interest rate at which we lend the money to banks. Im omnipotent and omniscient so I say- decrease the repo-rate from 5% to 4%! Those Aam-Aadmis (common men) are unable to purchase homes thanks to that minister. If I reduce the interest rates, itll bring some relief to the common men. SBI manager: good. Lets borrow as much money as we can, from SBI, and then we lend it to juntaa. ICICI manager: Im gonna do the same thing! SBI manager: damn it ICICI manager competition with me, but Im gonna show whos the real player here. (To his probationary officer) gang up as many annoying telemarking callers as you can, dial every number in the phone directory, sell our loans and schemes, If you dont meet the sales-target of 500 policies a month, Ill rip you apart and then make negative remarks in your performance report. ICICI manager follows the same suit. SBI Probationary Officer (To his manager): Sir it is not working. People are not interested in taking our loans or policies, ICICI is offering unlimited SMS, free caller-tunes, with each loan. Indian Juntaa loves mobile phones more than toilets. And they have rallied up Big B to do the advertisements. SBI Manager: damn it, I should have thought about it. Anyhow, Im going to talk with MD. SBI MD: Reduce our interest rates. Then we see whos the real-player here.

Juntaa shifts to SBI loans because of lower interest rate. ICICI also follows the suit and decreases their interest rate. No0b loser pathetic college kid to his restaurant owner daddy: I want a Pulsar bike to impress my friends in college. Daddy: but I already increased your pocket money last month for Axe-perfume, Shahrukh Khans Fair and lovely skin whitening cream and John Abrahams sunscreen lotion!! Bike Salesman in his makeshift outlet just outside their home: come on sir, we get you easy loan from SBI. Daddy: alright damnit. This way, people get easy loans in their hands and they go out to purchase homes, cars, bikes. Businessmen also take loans, purchase trucks, machinery, hire more people in their company: these people also get more salary (compared to their earlier state of being unemployed) and hence people have more money, they demand more products = price rise = inflation.

So what is the problem here?

RBI worsened the problem by relaxing its monetary policy. It is impossible to get zero percent inflation. RBI should only try to maintain the tolerable level.

Should RBI have tighetend the monetary policy?

What if RBI increased repo rate, thus increasing the home-loan interest rates? People would delay their decision of purchasing a home/car/ etc. They would instead deposit the money in savings account, or fixed deposit account or mutual funds. This will decrease the cash in the hands of people, thus decreasing the demand= inflation reduced. Now this is what RBI has been doing throughout last year, RBI Governor kept increasing the repo rate thinking that this will work.

But it did not work, we did not see any decrease in inflation despite RBIs monetary measures, Why this tightening of monetary policy wasnt effective? Because of two reasons,

1. The minister/bureaucrat with black money wont decrease his spending. He will not put his money in banks, he will not delay his decision of buying a new SUV car, gold-jewelry or farmhouse. RBIs repo rates dont have much direct effect on him. 2. Supply-side problems. o Onions are expensive their supply is low because of bad-weather Many middle-men involved and each getting Commission Diesel is expensive = transport expensive. o Milk is expensive because Electricity is expensive. (For running the plant, coolers, machinery.) Crude oil is expensive (Plastic pouches, printing inks, lubricants for machinery: All derived directly or indirecty from crude oil.)

What could Government do?

They could introduce a national savings certificate or kisan vikas patra etc with scheme deposit your money in this, get your money doubled in 15 years, and no income-tax will be levied on it this will make Government employees deposit their extra disposable income in savings. Thus reducing the moneysupply. Income tax Department could increase the raids on builders and businessmen. CBI could increase the investigation speed in NHRM and Mining scams involving politicians. Government could relax the Environmental go and No-go areas of coal mining= more coal= cheaper electricity Government could permit FDI in retail = middlemen removed = onions cheaper. And so many other steps that could have been taken but werent taken.

Inflation: Cost Push Theory #2: cost push inflation

Also known as supply side inflation. it means the cost of production has increased hence the price of products have increased.

What are the factors responsible? Increased wages

Maruti is producing 1000 cars per month, but the union workers of Maruti go on a strike and demand higher salary. Ultimately, Maruti agrees to the union demand, every worker will now get more salary. But of course the company never pays out of its own pocket and wants to keep the profit margin same so, the increased cost of car-production is always transferred to the customers. So the car that used to sell for two lakh rupees, will now sell for 2.17.

Increase in the tax

Finance Minister reads the newspaper headline Indians have more mobile phones than toilets. So he thinks, why not increase the excise duty on the mobile phones and use that Revenue to give more funds under total sanitation campaign (TSC). Thatll help in building more toilets on the villages. But of course, the CEOs of Nokia, Samsung or Motorola are not going to pay the money out of their pockets to finance the toilet building in Indian villages, they'll pass the increased cost to the customers. MRP of Nokia Lumia is increased. The cash in your hands is same as earlier, but the MRP has been increased by the suppliers side.

Reduced availability of raw material

Consider the case of onion

Bad weather= less production of onion or the blackmarketeers are intentionally stocking up or hoarding onions for better prices in future. Government declared attractive MSP (minimum support price) for Pulses (daal, Moong) so, farmers have shifted to producing those pulses instead of onions. UAE businessman is paying higher prices for Indian onions, because of bad weather conditions there. So our middlemen, find it lucrative to export onions to UAE rather than to local vegetable market in city.

In all four cases, because the supply of onions is reduced, the restaurant owner will

A. Increase the per plate price of pau-bhaaji or B. Keep the per plate price same as usual but reduce the quantity of onion given, so that youve to pay extra for the extra supply of onion salad.

What happened? Supply of onion reduced, so restaurant owners input cost increase and he had to push the menu prices higher.

To get Higher profit margin

The Supply of rice is same, the disposable income in your wallet is same, but the restaurant owner wants higher profit margin, so he decreases the size of every Idli , but your hunger remains the same, so youll order more idlies and end up paying higher bill.= Inflation. The restaurant owner may not be the real-culprit here. Perhaps he is that daddy from the demand pull pulsar bike case: He had to increase the pocketmoney of his kid for that axeperfume, SRKs skin whitening cream and John Abrahams sun-screen lotion. Thats why he has to increase his profit margin to pay for those unnecessary products. Or perhaps but real-estate market has gone up thanks to that Ministers in Demand pull inflation case. And so, restaurant owner has to increase his profit margin to pay for the houseloan. As you can see in ^this case, there is never a totally demand pull inflation or totally costpush inflation. The final inflation that we feel in our real life, is resulted because of both of them. (Minister increased demand pull hence Restaurant owner had to increase the cost-push.) So this brings us to the third theory

Theory 3: Mixed Demand Pull Cost Push inflation

Self-explanatory.

Misc GK Stuff
Name Creeping inflation Walking or trotting Galloping inflation Hyperinflation Stagflation Meaning Mild inflation

Intermediate range 3 to 7% per year

Higher than walking Final stage, inflation is totally out of control, when it is outside the aukaat of RBI or Government to control this inflation. Both price and unemployment rates increase

LIBOR Scam What the hell is Libor?

Suppose SBI and BoB (Bank of Baroda) are London based Banks. If Bank of Baroda borrows money from State Bank of India, say 1 crore pounds for 1 month @12% interest rate. Then 12% is the London Interbank Offered Rate (Libor).

In short, LIBOR= the interest rate at which banks borrow and lend from each other in London. (i.e. SBI is lending @12% and BoB is borrowing @12% interest rate, but either way the interest rate is 12%.) But this is a technically not so correct definition. Because there ought to be more than two banks in whole London and all of them cant be lending to each other at the same interest rate, right? Well come to that problem very soon but first of all.

Why the hell do banks lend each other?

In every country, there is one RBI (Central Bank) and there are some SBIs,BoBs etc. (Commercial banks). Usually, the SBIs take deposits from customers and some loans from RBI and lend this money as home/car/bike/business/personal loan to other customers. So why do these banks need to borrow from each other? Well, there are days when more customers have made withdrawals than deposits. (e.g. before Diwali / Christmas or IPL cricket betting) so a Bank has to borrow from its rival banks to cover the shortage of cash. It is not necessary that a bank is running into losses and hence borrowing

from the other banks. Because a bank would have loaned the money to other customers for 510-20 years period so it cant immediately recover all the cash in one day. On the other side, banks with a cash surplus can make extra profits by lending its cash to a rival bank. Thus, Banks lend to each other on a short-term basis to either to cover the shortage of cash or to make a profit.

How do banks borrow each other in London?

When you want to take car- loan, you visit various bank branches, take their brochures, if youre tech-savvy you might just visit the website of all famous banks and compare their interest rates, loan terms etc. So, there is total transparency about interest rates, But when one bank has to borrow from another bank, such transactions take place via phoneconversations between their executives, there is lot of give and take, bartering etc. for example-

if your bank promises not to setup any ATM booths around Gujarat university for next five months and ill reduce the interest rate! another case I know your 20,000 crores rupees are stuck in the loan given to that Mallya. So youre in no position to negotiate. Give me 18% interest else I wont offer any loan.

In short, there are many variables and behind the curtain deals. We can know the buying and selling price for shares of Infosys by glancing at the Nation Stock Exchange website/ screen/ CNBC or similar business news channels. However, there is no comparable screen where we can learn the LIBOR. For the last 26 years, the British Bankers Association (BBA) has computed Libor by asking dealers what they saw as prevailing market conditions, deleting the high and low values of the reports, and taking the average of rest data.

Who calculates LIBOR?

It is calculated daily by British Bankers Association. (BBA)

How does BBA calculate LIBOR?

Every day, 16 banks in London, will send SMS to the BBA Manager, giving the the interest rate that they are charged to borrow money. The BBA manager will delete the four highest rates and the four lowest rates. And then hell take average [mean] of the remaining data. Thus, The average of the eight remaining rates = Libor rate.

Why does BBA calculate LIBOR?

If a bank is weak and unlikely to repay money on time then the rival banks will demand higher interest rate while lending money to that weak bank. Means, A bank has to pay a higher interest rate to borrow funds if other lending banks have less confidence in it. So, The rate each bank has to pay is in part a reflection of their rivals perception of its financial strength, effectively how much it is trusted. This means that the Libor rate gives an indication of the health of the wider banking sector. Euribor=plays the same role for banks based in the eurozone. SIBOR =for Singapore HIBOR=for Hongkong

Whatre the Implications of LIBOR

In UK, the Banks charge interest rate on home loans according to LIBOR. If LIBOR increases then home loan interest rate also increases. Even in USA, majority of the home loans were linked to LIBOR rate (in 2008). Same case for business loans. Same case for students (education) loans. Many Futures and derivative contracts in forex, commodity and oil market are based on LIBOR rates. In short, The prices of trillions of dollars worth of financial transactions around the world are set according to Libor. Indirect implications are many (both positive and negative), for example, If a businessman in US or UK has to pay more interest rate for getting loans, He may increase the price of his products. he may reduce the number of employees or he may be outsource the work to India and Philippines to reduce the operational costs. he may scale down his operation, thus reducing the amount of raw material / input products imported from India. and so on

1. 2. 3. 4.

Why LIBOR scam?

Recall the earlier statement: A bank has to pay a higher interest rate to borrow funds if other lending banks have less confidence in it. If youre Managing Director/CEO of a Bank, you wouldnt like to report the higher interest rate of borrowing. Because that means other banks have less confidence in you. Imagine what consequences it can bring?

1. The aam-juntaa would still keep coming to your bank as long as you hire celebrities to do the advertisements. 2. But, The big corporate houses, have wise Chartered Accountants, who understand the meaning of such numbers and its long term consequences. So, CA may advice his CEO to close the companys bank accounts and deposit money in other banks.

3. Some big Companies may even stop taking loans from you. 4. The price of your shares, go down in the sharemarket, because investors lose faith in your bank.

And with all this mess, the Board of Directors may remove you from your CEO job and hire a new CEO to fix the bank.

What is Barclays?

Barclays is the name of a British Bank. It is the fourth-largest of any bank worldwide (First three banks are: BNP Paribas, Deutsche Bank and HSBC) On a side note, if we make list of Top 50 banks of the world according to the cash theyve, then there is no bank from India.

Anyways, coming back to this Barclays Bank.

Recall the sub-prime crisis, Barclays, along with many other banks had given loans to plenty of unworthy customers in US, who didnot have the aukaat to repay the loan. Barclays money was stuck in USA around 12 billion dollars worth of toxic assets. So Barclays situation was bad, the other rival banks of London, knew it and they didnot have much confidence in this bank. But even during this period, Barclay [and other 15 banks in London] had to send daily SMS to BBA Manager so that he could calculate the LIBOR. So, Barclays CEO Mr.Bob Diamond sent artificially low figures to BBA manager, in order to hide the fact that his bank was in a mess. [recall the concept : if bank X has to pay more interest for borrowing from another banks compared to bank Y, that means Bank X is weaker than Bank Y.] Its not that Bob Diamond himself sends fake SMS from his Nokia 1100, theyd have pretty sophisticted email or software system and dedicated staff for doing all this, but the Barclay staff will not dare to send wrong data to BBA, without the secret consent and approval of Main boss.

Cash Reserve Ratio (CRR) What is CRR?

CRR means Cash Reserve Ratio. Banks in India are required to hold a certain proportion of their total deposits with RBI in cash form. Right now, CRR is about 4.75% that means if people deposit total Rs.100 in SBI, then SBI would have to deposit Rs.4.75 in RBI. This is CRR or Cash Reserve Ratio. CRR rule doesnot apply to Regional Rural Banks, Non Banking Financial Companies (NBFC), Mutual funds or insurance companies.

What is Scheduled Commercial Bank?

Scheduled banks are those banks which have been included in the second schedule of the Reserve bank of India act of 1934. The banks included in this schedule list should fulfill two conditions.

1. The paid capital and collected funds of bank should not be less than Rs. 5 lakhs. 2. Any activity of the bank will not adversely affect the interests of depositors [hahaha, does it mean Non-scheduled banks are allowed to adversely affect the interests of depositors !?]

Examples of Scheduled Commercial Banks

Public Sector Majority of stake is held by the government. 1. State Bank of India (SBI) 2. Punjab National bank (PNB) Private Sector Majority stakes are held by private players. 1. ICICI, 2. HDFC, 3. AXIS Bank

Case #1: High CRR and SLR

Suppose total deposit deposited in (by you and me) State Bank of India =Rs.100
Total Deposit CRR: 15%SBI has to park this much amount of total deposit in RBI, without getting any interest. SLR: 38%SBI has to park this much amount of total deposit, in Government securities / treasury bonds. SBI earns around 7.5% interest rate on this investment.click me for more on SLR Money left with SBI Rs.100 -15

-38

100-1538=Rs.47

Case #2: Low CRR and SLR

Total Deposit CRR: 4.75%SBI has to park this much amount of total deposit in RBI, without getting any interest. Rs.100 -4.75

SLR: 23%SBI has to park this much amount of total deposit, in Government securities / -23 treasury bonds. SBI earns around 7.5% interest rate on this investment. Money left with SBI 100-4.7523=Rs.72.25

In either case, as long as youre running a bank, youll have some input costs such as
1. 2. 3. 4. Salary to Bank PO , Clerks, peons and security guards (With rusted guns) Office rent ATM machines electricity and maintenance. Newspaper advertizements.

To pay above salary and bills, SBI would need to maintain certain amount of profit margin, no matter what RBI does with CRR,SLR or Repo Rate. In Case#1, when SBI has only Rs.47 in the hands, what can it do to keep the profit margin same? Obviously SBI will have to increase the interest rates on car,home,bike,business loans given to customers. In case#2, when SBI has Rs.72, what can it do? Here the situation is not that bad. So, SBI chief would decrease the interest rates on car,home,bike,business loans to seduce more customers. We already discussed this- SBI has more money so it can cut down interest rates and suffer temporary reduction in profit, in order to seduce more customers (compared to ICICI) So once SBI has reduced the interest rates, other banks will need to reduce their interest rates, to stay in the competition.

Repo Rate
Lets continue assuming the Case#2, that SBI has only Rs.72.25 left in its locker.

SBI chief comes to know that recently Samsung Company has launched Galaxy S3 mobile so plenty of youngsters may want to buy it because of the advertisements that appear on TV channels 24/7 Thus there will be demand for more personal loans (EMI) or credit card based shopping. But SBI got only Rs.72.25. So SBI chief would borrow some more money from RBI @8% interest rate and then re-lend this money to customers as personal loan @16% (and thus making a killing profit of 16-8=8%) or he can supply money to customers for Credit Card shopping, and in that case he can earn interest rate anything between 16-37% or even more (depending on hidden terms and conditions of credit card.)

This 8% : the rate @which RBI lends short term loans to clients, is called Repo Rate.

Reverse Repo Rate

As the name suggests, Reverse repo rate is reverse of Repo rate. So, if SBI chief feels there is not enough demand for loans and most of those 72.25 Rupees are sitting idle, hell deposit some of that cash, in RBI. RBI will pay SBI chief 7% interest rate on such deposit. Thus, Reverse repo rate is the interest rate which RBI pays its clients* for their short-term deposits. Note: Reverse Repo Rate is automatically kept 1% less than Repo rate according to new RBI rules. [Since Nov.2010, Reverse Repo rate is constantly 1% less than Repo].

Side Question
Why would SBI chief put his money in RBI? Because on your normal savings account in SBI, the chief pays you around 4% interest rate, while RBI is giving him 7% Reverse repo rate, so hes making a profit of 3%.

Bank Rate

Bank rate is the interest rate which RBI charges from its clients* for their LONG-term loans. Recall that Repo Rate = RBI charge that much interest from its clients on SHORT term loans.

*Whore the clients of RBI?

1. 2. 3. 4. 5. Union Government State Government NABARD (through that money goes to Microfinance companies and Regional Rural Banks) Commercial Banks (SBI, ICICI etc) Non Banking Financial Companies (NBFC) like Muthoot Finance and Mannapuram Gold Loans.

(^list is not exhaustive.) please note:

1. Bank Rate, Repo Rate and Reverse Repo Rate applies to all Clients of RBI. 2. The CRR,SLR applies to Commercial Banks. (including Urban Cooperative banks but excluding Regional Rural Banks)

What is the need of all these CRR,SLR,Repo rates?

RBIs main job = control inflation by controlling money supply in the market.

Too much money in the market =easy to get loans= not good. Because Itll create inflation. [Demand Pull] Too less money in the market= again not good, because businessmen find it hard to get loans, thus input cost of production increases= not good for economy either and itll create inflation. [Cost push] Therefore, RBI will increase/decrease these CRR, SLR and Repo Rates according to the situation in order to adjust the money supply in market and thus control inflation. [Monetary policy] Nowadays RBI doesnt touch Bank rate much and mostly relies on Repo rate to control the money supply. CRR and SLR are also not changed as frequently as Repo rate. And Reverse repo rate is automatically kept 1% less than Repo rate, so that makes Repo rate the most frequently used tool in RBIs monetary policy, in last two years. Apart from that, CRR,SLR and Repo Rate also help those competitive magazine wallas to fill up pages with ridiculously unimportant data tables to make your life more miserable.

What is the problem with CRR?

CRR serves two purposes o Control money supply in the market o Acts like the library deposit, so if your bank goes broke / doesnt play by the rules then RBI can use its CRR deposit to temporarily fix things. Earlier, RBI had to pay interest rates on CRR deposits. But in 2007, Government amended the RBI act so now RBI doesnt have to pay any interest on the CRR deposits. Obviously the SBI, ICICI etc wouldnt like it because their money is sitting idle in the lockers of RBI without earning any interest. They want CRR provision to be deleted.

How much CRR deposit does RBI have?

In July 2012 [all approximate numbers]
Total Deposits in all Scheduled Commerical banks (SBI,ICICI etc) 65 lakh crores

CRR: 4.75%Banks have to keep this much amount of 65 lakh crores x 4.75%=around 3 Lakh crores sitting total deposits in RBI. idle in RBI lockers. Interest earned by SBI/ICICI etc on CRR deposits made in RBI 3 lakh crores x 0% = Rs.0

If SBI/ICICI etc. could lend these 3 lakh crores (CRR deposits) to customers @10%, they could easily earn Rs.30,000 crores in interest payment. Thus, CRR makes a huge difference in the profit of banks. UK, Canada, Sweden, Australia and New Zealand donot have CRR system in any form. In USA, there is graded system i.e. small banks dont need to maintain any CRR with their central bank. While big banks would need to maintain CRR Deposit according to their size. Side Question: How big? Answer: no need to do Ph.D on that question trail. By the way, USAs RBI (Central Bank) is known as Federal Reserve system and commonly known as Feds. So sometimes while randomly surfing through BBC/CNN you might come across lines like Market boomed /crashed after Feds cut down the rates theyre talking about USAs RBI changing their repo, SLR etc. rates Interestingly, USAs RBI (Feds) pays interest on the CRR deposits, while Indias RBI doesnt pay any interest on CRR deposits.

Foreign Contribution Regulation Act (FCRA) What is FCRA?

Foreign Contribution Regulation Act (FCRA) It regulates the foreign contribution (money donation) and foreign hospitality (e.g. free airplane tickets and hotel lodging during videsh-yaatra) given to various NGOs, institutes, judges, journalists, public servants etc.

What is the need of FCRA Act?

To check that foreigners are not affecting Indias electoral politics, public servants, judges, journalists, NGOs etc. for wrong purposes. If someone violates the FCRA act, he can be sent to jail for up to 5 years.

Who can accept Foreign Contribution?

Organizations working for definite cultural, social, economic, educational or religious programs. But first, theyve get permission from the Ministry of Home Affairs AND Second, they have to maintain separate account book listing the donation received from foreigners and get it audited by a Chartered Accountant and submit it to Home Ministry every year.

Who cannot accept Foreign Contribution?

1. Election candidate. 2. MP and MLAs. 3. Newspaper-walla: Correspondent, columnist, cartoonist, editor, owner, printer or publishers of a registered Newspaper.

4. Public Servents: Judge, government servant or employee of any Corporation or any other body controlled on owned by the Government.

Why is FCRN Act in news?

Earlier Mohan said that US based NGOs are financing the protests @KundanKullam Nuke Power Plant. So Home ministry got in action, bank accounts of some NGOs were frozen after it was found that they were diverting money received from their donors abroad into funding protests at the Koodankulam plant. Now, Home ministry has cancelled some more registrations including top 8 national educational institutions such as -Jawaharlal Nehru University, IIT-Kanpur and Jamia Milia Islamia saying that these institutes are not maintaining proper FCRA accounts. so, Unless their registrations are restored, these institutions cannot receive contributions from abroad.

Controversy

The Home Ministry had earlier made a notification that if xyz organizations accounts are audited by CAG then it doesnot need to maintain FCRA accounts. Jamia Milia, JNU etc. = Central Universities = hence audited by CAG = They dont need to maintain FCRA accounts in the first place.

BEE Labeling in India What is BEE?

Bureau of Energy Efficiency (BEE) statutory body under Ministry of Power It was set up under the provisions of the Energy Conservation Act, 2001.

Why was it setup?

To reduce energy intensity of the Indian economy. Research shows that to provide the final consumer 1 watt of energy, the power station has to produce 4 watts of electricity (4-1=3 watts are lost in transmission and distribution). Hence, if the final consumers (you and I) used energy efficient products then power stations would have to produce less energy = less pollution, less input costs etc.

Functions taken by BEE?

Create Energy Conservation Building Codes minimum energy performance standards and labelling design for equipment and appliances Certify Energy Managers and Energy Auditors

Create awareness and disseminate information on energy efficiency and conservation. For example BEE has launched a mobile application AC Power Saver that will help consumers calculate their expected annual bills and the potential saving with a five-star AC as against those with the lower stars. Strengthen consultancy services in the field of energy conservation Promote research and development in energy conservation.

What is BEE Labelling?

BEE labeling is mandatory for air-conditioners, frost-free refrigerators, distribution transformers and tubular fluorescent lights etc. (more products are added in the list every now and then) BEE labeling has 1 to 5 stars. If Product A has 5 stars and B has 3 stars that means, product A consumes less energy than product B yet delivers same (or better) output. Hence Product A is more energy efficient. (and consumers are more likely to buy Product A, thus indirectly helping in energy conservation)

BEE labeling for cars

Itll be mandatory for all passenger car makers to display special star labelling indicating fuel efficiency for their product cars, from April 1, 2013, This star-rating (based on a five-star scale, with five being the most efficient and one the least) will help compare the fuel efficiency of different car models within the same weight class. BEE defines cars in five-star category are those which roughly consume up to 7 litres of fuel for 100 kms

Arbitration Act: Foreign Investment disputes What is Arbitration?

For smooth functioning of business and industry, Quick decision of any commercial dispute is necessary. Internationally, it is accepted that normally commercial disputes should be solved through arbitration and not through normal judicial system An arbitrator is basically a private judge appointed with consent of both the parties. Object of arbitration is settlement of dispute in an quick, convenient, inexpensive and private manner so that they do not become the subject of future litigation between the parties.

Arbitration Act

Indian Parliament made Arbitration Act in 1996. It deals with Arbitration process. Suppose American company and Indian company made some business deal and then had some dispute. Both of them went for Arbitration in America and the American arbitrator gave an

order Indian company is guilty and it should transfer its Ahmedabads factory to that American company. This order is called Foreign Award. Now to implement or enforce this award, The American company has to send a copy of this judgement to the concerned Indian court in Ahmedabad and that Indian court will pass an order that Indian Company shall transfer the ownership of Ahmedabads factory to that America Company before xyz date. One advantage of foreign award, according to foreign parties, is that Indian courts come into picture only at the time of implementation of award. And the Indian courts can refuse to implement the award only on limited grounds.

Why in News?

10-years ago, Supreme Court had given a ruling that Indian companies can approach Indian courts against unfavorable awards by foreign arbitration panels. But in Sept.2012, Supreme Court said in a judgement that if an Indian investor chooses to go for arbitration with a foreign company abroad, Indian courts would have no jurisdiction to interfere with the arbitration award unless provided under law.

Implication of SC Judgment

Foreign companies have so far found it extremely difficult to get foreign arbitration awards against their Indian partners enforced through Indian courts because courts would stay the award saying they have the jurisdiction to do so. But now Supreme court has said that Indian courts have no business to interfere with such foreign judgments, hence Itll create a more investor-friendly atmosphere for foreign companies intending to set up shop in India.

Fiscal Consolidation, Fiscal Deficit Parts of Budget: Revenue and Expenditure

Kelkar: In every budget, there is incoming money (Revenue) and out going money (Expenditure).
Incoming money Outgoing Money

Incoming money is divided into two parts. Tax and Non Tax And outgoing money is divided into Plan and Non plan Expenditure.

Incoming

Outgoing

Tax Non Tax Plan Non Plan

Kelkar: We can further refine this classification into Revenue/capital receipts and Expenditure. But let us not complicate the matter for the time being. Mohan: Now What is this incoming money from tax and non tax sources? Kelkar: see the table yourself for the examples.
Incoming money Tax Revenue Non Tax Revenue Direct Tax Indirect Tax 1. Fees Collected (Driving license, RTI, Passport) 2. Fines and Penalties (Traffic violation etc) 3. Income from PSU (e.g. profit from Airindia (lolz) 4. Gifts. (discussed in 2nd ARC article) 5. Grants (Foreign Aid from UN, Japan etc) Plan Outgoing

Non Plan

1. income tax 2. Corporate tax; 3. Wealth tax 4. Capital gain tax (Vodafone case)

1. custom duty, 2. excise duty, 3. service tax. 4. VAT

Mohan: and what is this outgoing money? Plan and non-plan? Kelkar: Outgoing money = the area where Government spends the money (Expenditure). Plan-Expenditure means spending money on the activities related to the national five year plan. (FYP) Non-plan Expenditure, obviously means spending money on activities that are not related with national five year plan. Check the table for examples.

Incoming Tax Revenue

Outgoing

Non Tax Revenue Plan Expenditure Direct Tax Indirect Tax 1. Fees Collected (Driving license, RTI, Passport) 2. Fines and Penalties (Traffic violation etc) 3. Income from PSU (e.g. profit from Airindia (lolz) 4. Gifts. (discusse d in 2nd ARC article) 5. Grants (Foreign Aid from UN, Japan etc)

Non Plan

1. income tax 2. Corporate tax; 3. Wealth tax 4. Capital gain tax (Vodafone case)

1. custom duty, 2. excise duty, 3. service tax. 4. VAT

1. MNGREA 2. Janani Suraksha Yojana 3. JNNURM 4. Indira Awas Yojana

1. Salary of judges, bureaucrats and armymen 2. Buying new tanks and missiles 3. Subsidies: Petrol, Kerosene etc. 4. Light bills of Government offices. 5. Luxury Travel bills of Pratibha.

Mohan: ok so now what? Kelkar: Now we classify the budget according to the balance between incoming and outgoing money.

Types of Budget=Deficit,Surplus,Balanced
When It is called a

outgoing money > incoming money deficit budget. outgoing money < incoming money surplus budget. outgoing money = incoming money balanced budget.

In reality, Government always has deficit budget. Because as long as there is Pakistan and China in the neighborhood, well have to maintain a huge army, keep buying new tanks and missiles. As long as there are poor people, well have to keep running various Government schemes. Mohan: come to the point. Kelkar: The point is, When Government spends beyond its aukaat, it creates a big pothole in the highway. This pothole can be called a Revenue deficit, budget deficit, fiscal deficit or primary deficit according to the formula you use to measure the depth of this pothole. This pothole cannot be filled with cement, asphalt or dirt. It can only be filled with cash.

In the 1980s, Sukhmoy Chrokroborthy Committee came up with the fiscal deficit formula Fiscal deficit=
1. Budgetary deficit (=total Expenditure minus total income) 2. + market borrowings (=through Government securities (G-Sec)/Bond) 3. + other liabilities (e.g. pension and provident to be given in future)

Mohan: but why should we calculate this fiscal deficit? Kelkar: This fiscal deficit number tells you the depth of the hole and gives you the idea how much money do you need to borrow from the sources within India (internal borrowing from RBI, Other banks etc)

and from abroad (external borrowing- World Bank, IMF etc.) Bigger the pothole, more cash you need to fill it up. Here is some food for thought. Incoming Outgoing Breakup for USA budget 2011. Click on Image to Enlarge.

Mohan then simply borrow money and fill up the pothole! What is the problem? problem is Paisaa Ped pe toh nahi lagtaa (Money doesnt grow on trees). When you borrow Kelkar money, youve to pay interest ( ) to the party, every year.To pay this interest in the future, youve three options.first option =Increase the current taxes or create new taxes. Mohan Not a good idea sir-ji. alright, Second option =Create policies to help stimulate economic growth so that tax collection automatically increases with it, like FDI in aviation, power sector, retail, insurance and so on.

Kelkar

Mohan But thats Easier said than done :( Then Third option : Print more currency and use it to fill up the pothole. This is called debt monetization.

Kelkar

Mohan Now this third option sounds great :D Kelkar Actually thats the stupidest of all three solutions. Let me explain with the usual example.

Why Printing more money= Not good idea?

Suppose, Government orders RBI to print lots of cash to solve poverty. Then Government launches Rajiv Gandhi Suitcase yojana (RGSY) under which every BPL family is given a suitcase containing Rs.10 lakh. What will happen then? Theyll all go and buy lots of onion,milk,mobile, cars, houses everything. =Demand of product will increase, but the supply will remain almost the same as earlier. So, there will be one customer offering Rs.400 per kilo of onion, then another guy would offer Rs.500 per kilo of onion=inflation =not good. On the other hand, Suppose your boss pays you 10 lakh per year, but that means he definitely extracts work worth more than 10 lakhs from you and sells some goods/services to a third client. Thats why giving you 10 lakhs doesnt increase inflation. (because some other client is buying the services you had produced). but giving 10 lakh to a poor without making him economically productive = increases inflation. Hence printing money to solve problems= not good idea.

Here is another example: Suppose that there is only one commodity that everyone needs to buy in order to live a good life say wheat. Also, assume that our country produces 10,000 quintals of wheat every year. There are a total of 25,000 people in the country who spend Rs. 400 each per year to buy wheat. Since this Rs. 1 crore is spent to purchase ten thousand quintals of wheat, the cost of wheat is Rs. 1,000 per quintal. Now suppose that to repay some of its debt, the Government decides to print some new currency notes. Say the Government prints new notes worth Rs. 10 lacs. This means the amount of money available to spend increases from Rs. 1 crore to Rs. 1.1 crores. Since the amount of wheat produced hasnt increased, each tonne of wheat now costs Rs. 1,100, a 10% increase! (1.1 crores paid for ten thousand quintals = Rs. 1,100 per quintal). So we have just seen that the effect of debt monetization is inflation. Inflation acts like an invisible tax on all the people of a country. (recall the first option increasing tax was not a good option.)

Mohan : Does that mean fiscal deficit =bad? Kelkar: not always bad. It depends on the situation.

When fiscal deficit = NOT BAD?

If the money that the Government had borrowed was used to increase the amount of wheat production, then the inflation could have been avoided. (for example borrowing money to create new canal or irrigation project) If Such irrigation project led to an increase in wheat production from 10,000 quintals to 11,000 quintals. In that case, even with an increase of money to 1.1 crores, the cost of wheat would remain steady at Rs. 1,000 per quintal. Thus wed have economic growth and also avoid inflation Clearly then, it was a good thing that the Government borrowed money to implement this program.

Thus, fiscal deficit is not necessarily a bad thing, always.

When and why is fiscal deficit= BAD? Creates inflation

A large and persistent fiscal deficit =something is wrong in the economy. It can mean that the Government is spending money on unproductive programmes which do not increase economic productivity. (For example MNREGA, most of the money is eaten midway by the Sarpanch and Local officers.) =Bad Now these rich Sarpanch and Local officers buy more gold, land and cars= demand increased but other normal people dont have that much money = inflation. (demand pull type).

Black Money

Fiscal deficit= crudely speaking when incoming money is less and outgoing money is more. So, incoming money is less = tax collection machinery is not effective = perhaps lot of people are evading the taxes = black money =inflation (demand pull type) = Very bad. In extreme conditions, inflation can give way to hyperinflation that can completely destroy a country. =very bad.

Bond Yield increased

From Eurozone Greece Exit article, You already know what is bond yield. If not click me When Government keeps borrowing and borrowing to fill up the fiscal deficit pothole, then bond yield will increase = not good because more and more of taxpayers money (i.e. Government s incoming money) will go in repaying that bond interest rate rather than going into education or healthcare.

Crowding out investment

We already saw that, Fiscal deficit pothole can only be filled with cash. This cash has to be borrowed from RBI, other banks, FII etc. who buy the Government bonds. So, that much money (Credit/loan) is not available for other needy businessman. thus fiscal deficit Crowds outinvestment from private sector. Now that needy businessman will have to borrow money at higher interest from another party (this is how fiscal deficit increases interest rates)= input cost of product increased = he will increase the MRP of his product or service to maintain the same profit margin = inflation. (cost-push type)

Twin deficit hypothesis

This hypothesis says that as the fiscal deficit of the country goes up its trade deficit (i.e. the difference between exports and imports) also goes up. Hence, when a government of a country spends more than what it earns, the country also ends up importing more than exporting. In India, the trade deficit story is basically about oil and gold two commodities that the country does not produce much but imports a hell of a lot.

Current Account Deficit (CAD)

When India imports more than it exports = leads to Current Account Deficit. (we already discussed it earlier, click ME) CAD is another pothole but it can be filled only with foreign currency (mostly dollars!) This increases the demand of dollars in Forex Market = rupee weakens against dollar= price of petrol will increase= again inflation= bad.

Subsidy Burden = fiscal deficit increased

the government of India does not pass on a major part of the increase in the price of oil to the end consumer and thus subsidises diesel, LPG and kerosene . So oil companies sell at a loss, and the government compensates these companies for the loss (by giving them bonds). This increases government expenditure, which, in turn, increases the fiscal deficit.

Interest Payment
In this financial year alone (2012-13), the government will pay more than 4 lakh crore just as interest payment on debt taken earlier! = more imbalance between incoming and outgoing money.

The vicious circle: Trade to Fiscal deficit

Thus, in Indias case, a greater trade deficit also leads to a greater fiscal deficit. So the causality in Indias case is both ways.

A high fiscal deficit leads to higher trade deficit. And high trade deficit leads to higher fiscal deficit. And this, in turn, also leads to a weaker rupee, which, in turn, pushes up the cost of oil in rupee terms leading to a higher fiscal deficit.

Now in the opening lines, Kelkar said Fiscal deficit would be around 6%. What does that mean? There are two ways to express Fiscal Deficit.
1. Absolute Value: Rs. 521,980 crores on March 31, 2012 . 2. Percentage: 5.9% of GDP.

In newspapers and economic discussions, the Fiscal is usually expressed in second form (percentage).

You might think 5 or 6% is such a trivial amount, why Kelkar is so worried? Well, to understand the gravity of the situation, youve to compare the percentage with other percentages.

1. Around 3.8% of Indias GDP goes in Education. (2012) 2. Around 6% of Indias GDP goes in Fiscal Deficit. (2012) 3. Greeces Fiscal deficit was more than 10% of its GDP and look how much trouble it is facing. (recall Eurozone Article)

Therefore, we must not only pay attention to the fiscal deficit, we must also try and understand the different areas of Government spending. Is the Government borrowing money to spend on programmes that lead to increased economic productivity or is it spending on unproductive programs? Remember, even directly giving money (or amenities) to BPL, without making them more economically productive = dangerous because of the various reasons seen above.

Fiscal Consolidation: What is it?

ok so far I understood Mohan 1. What is fiscal deficit. 2. Why and when fiscal deficit is bad.

But what is this fiscal consolidation?

Kelkar

Fiscal consolidation means doing everything to fix the fiscal deficit problem in its root and preventing heavy fiscal deficits situation from occurring in future.

Mohan But How can we do that? Kelkar Just try to reduce the outgoing money and increase the incoming money. (Look at that plannon plan table again.)That means 1. 2. 3. 4. 5. 6. Cut down subsidies. Stop leakages in subsidies. Reform the tax structure (implement GST). Improve the performance of PSUs. Recover blackmoney stop ministers from using Business class airtickets and other wasteful Government expenditures. (= take austerity measures)

+ Policy reforms such as FDI (to create environment conductive for economy = that will automatically increase productivity and tax collection. Recall the second option.)

Recommendations of Vijay Kelkar Committee on Fiscal Consolidation Roadmap

1. Fiscal deficit =When outgoing money is more than incoming money, a pothole is created. This pothole is known as Fiscal deficit and it is not good for the economy. 2. Fiscal consolidation = steps to be taken for preventing (or reducing) fiscal deficit pothole.

Now the moving on:

Observations of Kelkar
1. High fiscal deficits tend to 1. heighten inflation. 2. reduce room for monetary policy stimulus (=steps taken by RBI to direct economy) 3. dampen private investment, growth and employment. 4. millions of young, both skilled and unskilled, enter the labour force each year, hence inflation and unemployment can be politically destabilizing for the Government.

If Government takes no step, then with a do-nothing approach, the fiscal deficit will be more than 6 per cent of GDP in the current year 2012-13, and such situation could lead the country to a 1991-like crisis. Therefore, Fiscal consolidation is necessary.

So obviously, for fiscal consolidation, well need to increase the incoming money and reduce the outgoing money. Now, let us check some of the important recommendations of this Kelkar Committee.

How to increase incoming money? Increase Tax Collection

In 2007-08, the tax to GDP ratio was almost 12% (but) in 2012-13 this ratio is estimated around 10%. It means tax collection has fallen down. Recall that fiscal deficit = Governments incoming money is less than its outgoing money. Thefore Government should take some measures to increase tax collection.

There are two types of taxes: Direct and Indirect. Kelkar has given recommendations to increase the collection of both Direct and indirect taxes, in following manner.

How to increase collection of Direct Taxes? Review DTC bill

If Direct Taxes Code Bill, 2010 is implemented in its present form then there will be considerable tax losses to the Income Tax department. Hence it (DTC bill) should be comprehensively reviewed.

Data Mining

Since 2004, the Income Tax Department has been electronically obtaining a large volume of information from third-parties through the Tax Information Network (TIN).

This is done to check tax evasion and black money. (but) there is a growing perception that the Income Tax Department is unable to harness this large volume of information, because it lacks data mining skills. (Therefore) Taxpayers have found new methods and avenues for parking their undisclosed income to escape detection by Income Tax dept. Thats why Income tax department should provide training in data-mining for all directly recruited inspectors and Assistant Commissioners, with the help of Big IT companies.

PAN/UID Card Mandatory

What is PAN, why is It used- all discussed in earlier articles. But still here is the brief recap: PAN is an all India, unique ten-digit alphanumeric number. PAN card is issued by the Income Tax Department. It does not change with changes in address or place.

This an example but dont be surprized, anyone can get PAN card. (=You dont have to be Indian Citizen)

UID (Aadhar) is also similar- a unique 12 digit number, issued by Unique Identification Authority of India (UIDAI) to all the residents of India. Please note: there is difference between resident and citizen. Some people oppose Aadhar on this ground. (That illegal Bangladesis might also get it, if theyve the proof of residence). Please check this chart uploaded on official UID site. Extremely important for MCQs.

An Example of Aadhar Card.

It also doesnot change with address or place. So if you got your PAN/UID while you were in college of Delhi but then shifted to Banglore, your PAN/UID numbers wouldnot change. This helps in tracking down tax evaders. Kelkar says amend the laws so that Irrespective of amount of money transected, PAN / UID number must be quoted in bank accounts, fixed deposits with banks, all salary payments and sale of immoveable property. This will also help detecting tax frauds and reduce black money.

Create fake Orkut profiles

Income Tax dept should create a 360 degree orkut profile of all taxpayers. This will help decreasing tax evasion and tax fraud. Online verification of PAN could be made mandatory for all high value transactions, in order to reduce black money transactions.

Thus, if Government takes above steps then direct tax collection would increase.

Charge interest rate on tax defaulters

Hasan Ali is Indias largest tax defaulter with dues allegedly over Rs 50,000 crore (Rs 500 billion)

If a company or individual doesnt pay his taxes on time, then Government should charge 2224% interest rate on his pending tax payments.

Now second part:

How to increase collection of Indirect Taxes?

Kelkar says Mohan should reform Union Excise Duties (UED) and Service Tax (ST) so that they can be smoothly intergrated into upcoming Goods and Services Tax.

Increase the coverage of service tax

At present, many activities are outside the service tax regime, for example Department of Post, renting houses, Funeral services etc.etc.etc. Negative list= It is a list prepared by Government. It contains the names of services, which are exempted from Service tax. You can download the entire list by clicking me Kelkar says, this Negative list should be pruned (=trimmed, cut-down, shortened, condensed). That means, give exemption to very few activities.

For example:

Non-profit organizations should pay Service Tax. Government had given exemption to the Railways from service tax payment for transportation of goods and passengers (of higher class) upto 30.09.2012 Kelkar says, the Railways should no longer be exempted from service tax after that date.

Implement Goods and Services Tax (GST)

Kelkar agrees that it is difficult to implement GST from from 1st April, 2013 (because many states are opposed to it) But Government should atleast try to pass the Constitutional Amendment relating to introduction of GST, in the Winter Session of the Parliament. This would send out very strong signal to trade and industry about Governments serious intent to move forward on this issue. Once the GST is implemented, it will automatically increase the industrial output, exports and (thus) the tax revenues.

6% Excise duty on Merit goods only

Excise duty = a type of indirect tax. Excise duty is collected by Union Government, on the goods manufactured or produced in India.

Whats the difference between Custom and Excise duty?

Excise duty = charged on goods produced (or manufactured) in india Customs duty= charged on goods imported into India as well as on goods exported from India. Please note: Excise on alcoholic liquors, opium and narcotics falls under the domain of State Government. Why? Because Seventh Schedule of the Constitution says so.

Anyways back to business. We were talking about Kelkars recommendations on Excise duties. Government of India charges excise duties on various goods produced in India. For example

12% small cars 6% on Iodine and LED Lamps.

Kelkar says review the list of goods under 6% excise duty. Only Merit Goods should have Union Excise Duty of 6%. And for the other items, collect 8% excise duty.

What are merit goods?

Merit goods are products, such as education, library, museum, vaccination which consumers may undervalue but which the government believes are good for consumers as they exhibit positive externalities. ok now what is Positive externalities? I think we discussed that in earlier articles, but again

What is Externality?

Externality = When two party do some business, externality is experienced by the unrelated third parties that are not involved in that business.

Negative externality

I take admission in some pharmacy college. (ME and college are buyer and seller of education). But the college is bogus and doesnt teach anything meaningful. Then third party (Pharma industry) also suffers negatively, because the drug-company that gives me job in future will run less efficiently because Im not very skilled pharmacist! (this is an example of Negative Externality)

Positive externality

IF all kids are given policy vaccine by Government, then then Indias future workforce will be healthier and fitter =third party (Industries) will also benefit.

E-Governance in CBEC

Kelkar observed that under the Kerala VAT regime, the dealer must electronically provide invoice-wise details of all sales to, and purchases from, registered dealers. Central Board of Excise and Customs (CBEC) should also develop a similar computerized system for comprehensive cross-verifications. This will help in detecting the tax-evaders.

These are (not all but) main recommendations of Kelkar on how to increase collection of direct and indirect taxes = incoming money will increase. He also suggested some more ways to increase incoming money.

Disinvest from PSUs

First of all, what is PSU? Answer Click ME Disinvestment (in crude terms) = when Government sells its shares from a PSU. The Budget 2012 wants Government to collect Rs.30,000 crores via Disinvestment. (This money would go in National Investment Fund under Ministry of Finace. And later on this money would be used to finance bogus Government schemes and to revise other PSUs, if theyre capable of making profits) Kelkar says, Government should sell minority stakes in entities such as SUUTI , Hindustan Zinc and Balco etc. This way, it can easily get the required 30k crores. But Kelkar has different views about what to do with this money! He says, The money thus collected, through the disinvestment process should be deployed in infrastructure= growth and employment. Using this money, Government could move into the sectors where private players would be hesitant to play a role. These include areas such as garbage clearing, public health, cleaning of rivers, recharging of groundwater, urban mobility and so on.

Dividend from PSUs

You already know about shares and dividend. If not, then go through the same debt vs equity article.

Ok let us review what we learned so far

1. Fiscal deficit = outgoing money > incoming money. 2. Fiscal consolidation = steps aimed at reducing fiscal deficit.

3. To reduce fiscal deficit, we need to increase incoming money and decrease outgoing money. 4. We saw how to increase the incoming money (direct+indirect tax, PSU dividend and sell land)

Now let us move to the second part:

How to Decrease the Outgoing Money?

Kelkar has plain and simple solution for this.

Reduce Subsidies

Kelkar says increase the prices of diesel, petrol, keroscene, LPG and Urea etc. (Actually he says Government should reduce the subsidies on each of them, in phased manner = price will increase automatically!) Kelkar also clarifies that he doesnt want complete elimination of subsidies. He says we shouldnt eliminate subsidies. Food subsidy is defensible. For undernourished children or lactating mothers food subsidy is not only defensible, it is ethically right and morally correct Subsidy must be continued for kerosene as long as it is affordable (for the government) But the subsidies should be reduced as and where possible. For example, LPG subsidies do not go to our people who fall in the low income bracket, therefore LPG subsidies should be removed. With a drastic cut in subsidies, a bigger part of the resultant savings should be channelized towards programmes that lead to creating new job opportunities. Kelkar agrees that Yes, reduction in (petrol, diesel, kerosene, urea) subsidies could lead to some short-term pain (=inflation ) but the government should spend more on employment generation, which would lead to higher growth and benefit everyone. If Kelkar report is implemented then Diesel price will increase by around Rs.6/lit and LPG price by Rs 87 per cylinder.

Change focus of Government schemes

Kelkar suggess that all Government schemes/Programmes for the poor should be centred around employment generation.(rather than populist schemes aimed at free electricity, TV Fridge etc.) These are the major recommendations of Kelkar Committee. This is what Kelkar said Now let us check what Government said on his report? Chindu: Im going to hold consolations with various stockholders and then decide the future course of action (about whether should we implement his report or throw it in dustbin). And In a developing country where a significant proportion of the population is poor, a certain level of subsidies is necessary.

Cheque Truncation System (CTS-2010) What is cheque clearing house?

Suppose a party from Delhi pays you via cheque of Citibank and you have account in SBI, Ahmedabad. You deposit this cheque in your areas SBI branch. Now the SBI branch manager would send his *overworked, underpaid+ Bank PO to Citibanks office in Abad. Hed show the cheque, collect the cash and return to deposit the money in your account. But SBI would be getting thosands of cheques everyday- some from ICICI, some from Citibank, some from axis and so on. SBI cannot send its staff to every other bank to get the cash, thatd be extremely time consuming. Therefore To simplify this cheque transection process, each bank will send a representative to a central place and exchange cheques drawn on each other. This centralized place is called clearing house/processing house. Reserve bank of India is act as clearing house. In cities where RBIs office doesnot exist, usually SBI or other public sector bank acts as the clearing house.

What is MICR code?

By seeing the PIN code, a postman can know the destination of an envelope. Same way by using the MICR code, RBI (clearing house) can know the name of a bank, location of its branch from where the cheque was issued= faster clearing of cheques. MICR = Magnetic ink character recognition. At the bottom of every cheque, youd see some black colored numbers with weird looking fonts. That is the MICR code. These numbers are printed with a special ink containing iron oxide, so that it can be automatically read by a special machine. Ofcourse this sounds similar to bar codes, but there is a difference: unlike barcode, you can read the MICR code and decode it, without the use of special machines.

What is Cheque Truncation System (CTS)?

Under the old paper cheque based clearing, the SBI bank will send the paper cheque to the clearing house and get the money and then transfer it to your account. This is still time consuming. because SBI (or any bank) would need to physically move the cheques to a clearing house. So RBI came up with a new idea known as Cheque Truncation System (CTS). In this Cheque Truncation System (CTS), SBI branch will not send the paper cheque to the clearing house, but instead, itd merely scan the cheque, and electronically send the image + MICR data, to the clearing house. From the clearing house, the data would goto the paying bank (Citibank in our example), they will inspect the MICR data, signature on the scanned image and release the money to SBI. This process is faster and more safer than the conventional paper-cheque clearing method.

What are the benefits of Cheque Truncation?

It Eliminates the time, money and manpower wasted during physical movement of cheques (from banks to clearing house). Thus, Cheque Truncation =faster clearing = better service to customers, Cheque Truncation system reduces the scope for clearing-related frauds There is no fear of losing cheque in transit.

CTS-2010

In the year 2010, RBI came up with the guidelines for Cheque Truncation system. (CTS 2010) The banks would need to upgrade a few things to comply with CTS 2010 standards of RBI. For example, in their branch offices, they would need to buy scanners and install special software provided by RBI, to securely transfer and receive the scanned image and data. They may need to change the color-scheme of chequebooks so that signature and handwriting is visible in the scanned image. And so on Problem: some jholachhaap banks, are yet to comply with RBIs CTS 2010 guidelines. Hence recently RBI issued a warning to all banks:

National Investment Board (NIB) Infrastructure Bottlenecks?

Infrastructure= railways, roads, ports, thermal plants etc. that are essential for other economic activities. Infrastructure projects worth over Rs 7 lakh crore are pending because environment ministry is not clearing the files. Every time a coal miner wants to increase production, he has to get fresh clearance from environment ministry. It is time-consuming. This has led to low coal-output= thermal power plants cannot produce much electricity =grid failure, as we discussed in earlier article CLICK ME Another example: If you want to open a thermal power plant, you need to get a file cleared from the Coal Ministry. But to get that file cleared, you need to get environment and forest clearance from Environment Ministry. Even if environment clearance is given, forest clearance may take longer or even ultimately be denied. Thus, some power projects are not executed for several years, even after winning an auction.

To extract bribes, the corrupt bureaucrats intentionally delay the files. But sometimes even honest officials delay the files because of media-sensationalization, NGOlobbies, CAG-activism, judicial activism, R.T.I activismthey fear if some scam comes out and if their signature is on the approval file, then theyll get victimized or made scapegoats. So they too avoid taking decisions.

Because of ^these issues,

1. There is huge infrastructure deficit (=not enough rails, roads, power stations, electricity output required to get 9% GDP growth). 2. Delay in project= input cost increases= indirectly this leads to inflation (price rise) 3. Because files are not cleared= production/construction doesnt start= Less employment opportunities, directly (in the coal mine itself) and indirectly (in some xyz factory that will use that electricity). 4. Government is unable to achieve the Five year plan targets. Check this table: Source: Department of Economic Affairs.

What is National Investment Board (NIB)?

Chindu has proposed to setup this National Investment Board.

At present, the final decision/decisions are to be taken by one or more ministries. This is the reason why a truly final decision does not emerge for many years, proposal files keep making merry go round from one ministry to another ministry. Therefore, the power to take the final decision should be vested in separate board. This would be called National Investment Board Basically its a cabinet sub-Committee, chaired by the Prime Minister + FM, Law Minister as its members. For granting/refusing FDI- approvals, there is already a Foreign Investment Promotion Board (FIPB). And it has lead to fast clearing of files and boosted investment. NIB will provide the same benefits, especially in the infrastructure sector. Prime minister has talked about a new phase of reforms unleashing animal spirits. Hunting is a prime example of the latter and its high time we created a body that went out and energetically sought investment for India amidst an exciting global jungle.

Functions of National Investment Board?

1. At first, NIB will focus on clearing investments project of Rs. 1,000 crore/more in roads, mining (especially coal), power, petroleum and natural gas, ports and railway projects. 2. A dedicated secretariat (staff) will support NIB to identify and monitor key projects and sectors. 3. In the long run, NIB will serve as an arbitrator i.e. If a company feels that its applications for infrastructure projects has been delayed or even rejected by some Ministry or Department without sound reasons, then it can approach NIB for clearance. 4. NIB will be to take over the process of granting licences, permissions and approvals whenever the respective ministries fail to act in time. 5. Once the final decision is taken by the National Investment Board (NIB), no other Ministry or Department or Authority will be able to interfere with that decision or delay its implementation.

Anti-argument/Objections

1. The main objective of NIB seems to shortcircuit or overtake Environment Ministry for granting project approvals. But NIB might end up approving projects that are not good from long-term environmental view. 2. Creation of such an entity might lead to lax environmental standards and social safeguards (i.e. problems of displaced families because of a project). 3. Government should worry about not just growth but green growth. 4. NIB has no constitutional authority and its creation will decimate (wipeout) the role of the Environment ministry 5. NIB will turn individual ministries and departments into rubber-stamps. 6. Setting up NIB suggests that existing institutions are not functioning properly. But Creating more institutions to fix existing institutions, is like firefighting. The real long-term solution = re-write the office-manuals/ standard-operating-procedures for each ministry to prevent file-delays and the tendency to evade responsibilities. 7. Many projects in the railways, coal, telecom, petroleum and power sectors are delayed due to law and order problem (=naxalites). NIB is no panacea for this. 8. Speedy project clearances and implementation would require solutions at the district administration and state Government levels, where the NIB would not be of help as it will comprise representatives only from central ministries.

Infrastructure Debt Funds (IDF), Withholding Tax, EPFO Angle What is Infrastructure?
Things that are essential for functioning of economy: roads, sea-ports, airports, railways, metro rail, electricity-generation etc.

Why is Infrastructure important?

GDP=Money value of all goods and services produced in a country within a year. If there is shortage of electricity, factory owners cannot produce lot of mobilesets, TVs, refrigerators. = Production of goods decreases. If there is shortage of electricity, hospitals cannot carryout X-ray, CAT-scan etc. = Production of services decreases. Therefore, good quality Infrastructure is essential for achieving high GDP growth (9%).

What is the problem with Infrastructure?

Government estimates that one trillion dollars will be required in next 5 years to finance all the important infrastructure projects.

But Government cannot finance all those projects by itself. Because theyre already spending lot of money on Food-Fertilizer subsidies, MNREGA, Air-India etc. Government cannot merely print more suitcases full of money to finance these infrastructure projects, else itll create inflation. click me to know why If Government borrows money from public, to finance these infrastructure projects, itll severe the problem of fiscal deficit. So, Government wants 50% of that required money to come from private sector (banks, domestic and foreign investors.)

What is problem with Banks?

Such infrastructure projects require long-term funding for 20-25 years, but banks are already exposed to too much risk (loans given to 2G players, Vijay Mallya etc.) In the present situation, banks are unable to finance infrastructure projects for more than 5-7 years time-frame. Hence, there is need to channel money from the hands of investors into infrastructure projects. (+ also need to reduce investment in Gold, because it increases current-account-deficit.) To achieve this, Government has come up with new idea = Infrastructure Debt Funds.

Mechanism of Infrastructure Debt Fund

You already know about Debt Vs Equity, Shares vs Bonds, if not click ME In technically-not-so-correct term, Infrastructure Debt Fund (IDF) essentially means that
1. 2. 3. 4. You invest money in an IDF company. IDF company lends your money in some Infrastructure project company (as Debt). That infrastructure project company pays interest rate to IDF Company. IDF company gives that interest money to you. (after cutting its commission). Thus you make profit on your investment.

Tax Policy to Attracting investors

By merely allowing creation Infra Debt Funds, Government cannot bring in the investment in infrastructure projects. Government also needed to give some benefit (carrots) to lure the investors. Finance Minister has given two carrots
1. Withholding Tax reduced from 20% to 5% (for foreign investors) 2. Money earned from IDF is exempt from income tax. (for desi investors)

What is withholding Tax?

Suppose a non-resident (foreigner), lends money to an Indian company and earns Rs.100 interest per year. Earlier he was supposed to pay Rs.20 to the Government, but from now onwards only Rs.5

It is called withholding tax, because he (foreigner) doesnt need to pay the tax himself, but the company who borrowed money, is required to withhold it and give money to Government. Example you (foreigner) loaned me (Indian company) some money. On 1st December, Im supposed to pay you Rs.100 as interest, but Ill give you only Rs.95, and put aside Rs.5 and send it to Government as withholding tax. Since Government reduced withholding tax from 20% to 5%, that mean you (foreign investor) can earn more money, so this way Government has tried to seduce the foreign investors, into investing in Infra-Debt Fund in India.

First Infra-Debt Fund of India

The first IDF-fund of India, was setup by a consortium (gang) of ICICI, BoB, Citi bank and LIC. This entity will work as a Non-Banking Finance Company (IDF-NBFC), and hence theyll come under the jurisdiction of RBI. They could have set it up as a mutual fund company, but then theyd have come under the jurisdiction of SEBI.

Anyways, shareholding pattern is

Member ICICI % 31

Bank of Baroda 30 Citi Bank LIC Total 29 10 100%

^there is no need to mugup, this is just for information. We can speculate that near future, SBI will also come up with something like this, to counter ICICI.

Why EPFO interested in Infra-Debt Funds?

Problem with EPFO

Problem: Most companies dont have AAA-rating, so EPFO is forced to park majority of its money in Government-securities (G-sec). Recall the concept of Gilt-edged securities (click me). Government/ treasury bonds are more reliable, hence, they pay less interest. (because they dont need to seduce investors by offering higher interest rate, unlike some junk bond company with C or D credit rating.) So, ultimately problem for EPFO managers= G-sec doesnt pay much interest. (Around 8% only). While New Pension Scheme (NPS) managers, invests in many other places, including risky bonds, and make around 12% profit. If things go on as usual, then in long term, people might switch from EPFO to NPS and other various pension-provident-retirement policies offered by private firms like Max Life insurance, Bajaj Alliance, Kotak Mahindra etc. to get better deals.

Solution

Therefore, EPFO wants to invest money in Infrastructure Debt Funds (IDF) to earn more profit to give better return-on-investment to its subscriber. It is looking forward to invest about 5 lakh crores in IDF funds. But newly formed Infrastructure Debt Funds (IDF) companies will not get AAA credit rating immediately. So EPFO needs approval from Central Board of trustees to modify the investment rules. And since Central Board of Trustees, is headed by labour minister so essentially EPFO needs approval of Labour Ministry.

Mock Questions
Q1. Regarding Infrastructure Debt Funds (IDF) in India
1. The first IDF fund was setup by State Bank of India (SBI) 2. IDF is exempted from Withholding tax.

Which of above is/are correct?

a. b. c. d. Only 1 Only 2 Both None

Q2. Find Incorrect Statement

1. The apex decision making authority for EPFO rests with the Finance Minister of India. 2. Withholding tax is an example of Indirect Tax a. b. c. d. Only 1 Only 2 Both None

Q3. Which of the following fund receives the proceeds from disinvestment?
1. Infrastructure Debt Fund 2. Consolidated fund of India 3. National Investment Fund a. b. c. d. Only 1 Only 2 and 3 Only 1 and 2 Only 3

Capital Goods and Capital Gains What is Capital Goods?

Capital goods are the tools and machinaries used for producing consumer products. Theyre (usually) expensive, and theyre purchased for long-term use. Raw materials are also needed for producing consumer goods (Biscuits, bread etc) but they are not capital goods. Capital goods are also known as producer goods.

Examples of Capital goods?

Heavy equipment (such as excavators, forklifts, generators, metal-forming or metal-working machines, vehicles). Chemical factory Ice-cream factory

boilers, storage tanks, evaporators Mixer, grinders, refidgerators

Dumpsters, bulldozers etc big vehicles Construction, mining industry.

In short, factory equipment are capital goods because theyre used to produce customer goods. But the equipment used in an office= not capital goods for example stapler, paper shredder, pen-holder, water-cooler table, chair etc. Similarly, specialized air-conditioners installed in drug/ ice-cream factories to maintain uniform temperature during production= capital goods. But air-conditioners installed in that factory owners cabin=not capitals goods.

Why is Capital Goods important?

If Capital goods are expensive, then companies cannot buy them=low production= low GDP. If they buy expensive capital goods, theyll keep final products MRP high to keep the profit margin same.

Hence, Government gives tax reliefs on purchase/import of Capital goods by businessmen. When you want to import Capital goods from a foreign country (e.g. USA ), youll need pay them in their own currency (dollars)? So where to arrange for the dollars? Recall the FCNR account article Click ME

What is capital gains?

Capital gains= profit made by selling your capital assets. When you make profit by selling your capital assets, youve to pay tax to the Government on that profit. That is known as Capital Gains Tax. (CGT) Examples of Capital Assets are

1. Land (but not the agricultural land) 2. Building Factory Plant and machinery. (except raw-material, or finished products) So when you sell capital goods discussed above, and make profit, then youll have to pay capital gains tax (CGT). 3. Shares, debentures, mutual funds etc. 4. jewelry, paintings, sculptures and other Archaeological collections. (from 2008 onward)

Capital gains tax are of two types: short term and long term. (depending on how long you kept the asset before selling it.) Capital gains tax is a direct tax. (because direct tax=charged on your income and property). For more on Capital Gains tax, check Vodafone Case article click me).

Mock Qs
Q1. Which of the following is correct
1. Capital Gains tax, Custom duty are examples of Direct tax 2. Agricultural land is exempted from Capital Gains tax. a. b. c. d. Only 1 Only 2 Both none

Q2. Which of the following are not Capital goods?

1. Wheat stored in a granary 2. Boiler in a chemical factory 3. Air-conditioner in a corporate executives office a. b. c. d. Only 2 Only 1 and 2 Only 1 and 3 Only 2 and 3

Banking Amendment Bill What is Banking Regulation Act?

It is governs all public sector banks (SBI, PNB etc.) and private sector banks.(ICICI, HDFC etc.) in India.

Set : Finance Ministers Office

Finance minister and RBI governor are holding a meeting.
Chindu Yaar many new players want to open banks in India. But they cant, because youre not giving new licenses, So what is your problem? Well, Im given powers to regulate public and private sector banks, under Banking Regulation Act 1949.But those powers are not enough. So, Im not going to give new bank-licenses to anybody, unless and until you get me more powers, by updating that Banking Regulation Act. Ok, Ill move a Banking laws (Amendment) bill, to amend the necessary things.But first tell me what new powers do you need?

RBI governor

Chindu

RBI Power #1: Can remove entire Board of a Bank

At present, if a Bank doesnt play by my rules, I can remove its CEO or one or two directors. But that is not enough. What if the whole board of directors is involved in some mischief. So, I want powers to remove the entire board of directors. I also want you to increase the rates of existing monetary penalties that I can impose on a bank if it disobeys my rules, directives or gives me false information. Ok agreed.Ill get you the powers to supersede boards of the banks if any irregularities.And Ill increase the penalty rates as well.Anything else? Second problem. Connected lending.

RBI

Chindu RBI

Chindu What is that?

RBI Power #2: Connected Lending Prevention

Suppose Mr.Paraajay gets license to open a new bank. He opens Pawn-Fisher bank, people deposit their hard earned cash in it.

Ideally, bank should lend this money to the home, car, education and business-loan seekers, who then pay interest and thus bank makes profit. Bank must make good profit, so It can pay 1) good interest rate to its bank account holders. 2) good dividends to its share holders. But Mr.Paraajay also owns another company, Pawn-Fisher airlines. And this airlines company is making losses. Mr.Paraajay gives loans from Pawn-Fisher bank to Pawn-Fisher airlines @very low interest rate, to fix the mess. And or, this Pawn-Fisher airlines gets the bank loan @market rates from the Pawn-Fisher Bank but it doesnt pay EMIs regularly, yet the bank doesnt take any action. Similarly, Mr.Paraajay also opens Pawn-Fisher Mutual funds, but it also makes losses, and money is transferred from bank deposits to mutual funds, to cover up those losses. These type of activities = Not good, because in long term, bank will collapse and depositors money will be stuck. So, I must be given powers to check the records and account-books of those mutual funds, insurance and other companies associated with a bank.

RBI

Agreed. Chindu youll get the power to inspect those other business arms of a bank. Anything else? RBI Yes, money from unclaimed bank accounts.

RBI Power #3: Unclaimed Accounts

If Mr.X has not used his bank account for more than 10 years, it is called unclaimed bank account. There are crores of rupees in such unclaimed bank accounts, it increases the Administrative burden on bank employees (=need to maintain files etc) Plus there is also an opportunity to commit a fraud. for example some bank employee knows that Mr.Xs bank account is never checked, then hell forge checkbooks signature or some other trick to withdraw money from Mr.Xs account. so we must take some measure to tackle this issue.

RBI

If a bank account is not operated for more than 10 years, bank will have to transfer its money in the Depositor Education and Awareness Fund And Ill appoint a Committee to use money from this fund to create awareness. Although if Mr.X returns, he can claim his money and that bank will have to pay him interest also.

Chindu Agreed. Anything else RBI Yes one tea, two samosas and four more powers

1. If any person wants to buy more than 5% shares of any bank, hell have to take permission from me. And before giving him approval, I can put conditions on him, For example give me deposit worth Rs.xyz, so if you play some mischief, Ill take away your deposit. 2. If primary cooperative societies want to continue their banking business, theyll have to get a license from me. 3. I can conduct special audits of cooperative banks because theyre more liable to collapse and frauds. 4. If a bank fails to maintain the prescribed minimum amount of Cash Reserve Ratio (CRR) on any day, I can demand penalty interest from that bank. Chindu All agreed. Anything else. RBI Chindu Thats enough for now. Ok then please leave my cabin and send the SBI chairman in. He too had an appointment with me.

Public Banks Issue#1: Need consolidation

SBI chief Good morning Mr. Finance Minister. As youre aware, SBI is the largest public sector bank in India, weve more than 11,000 branches. Yet if you make a list of top 5 biggest banks of the world, our name doesnt figure.

Chindu Why is it so? This is because too many small public banks exist in India. So, the incoming-money (from people to bank accounts) gets fragmented in so many bank branches. Finally, we dont have enough cash, to expand in a big way.

SBI

Chindu Ok so what do you want from me?

SBI

There is need for consolidation in the banking sector so India can have two to three large public banks that can compete globally. For this, I need you to simplify Banking Companies Acquisition and Transfer of Undertakings Act. And to exclude bank mergers from the scrutiny of Competition Commission of India (CCI). Bank mergers should need only approval of RBI.

Chindu Agreed.

PSU Banks Issue#2: Need more investment

SBI Right now the Public Sector banks cannot issue shares worth more than Rs.3000 crores. I want you to relax this, because We need lot of investment.

Ok agreed. You can issue more shares, including bonus shares and rights issue etc. (already Chindu explained click me)But youll have to take permission from Central Government + RBI if you want to do it. SBI Agreed.

Banks issue #3: More voting rights for investors

SBI Before moving on, I must thank you for allowing us to issue bonus shares etc. But that alone will not bring investment in public or private sector banks.

Chindu Why?

SBI

Because in shareholders meetings, voting is done on many issues (for example election of board of directors, changing name of company etc.). A shareholder should have voting rights proportional to the number of shares held by him. But in case of public banks, the shareholders have only 1% voting right irrespective of number of shares held. So they cannot heavily influence any Decision. I need you relax these voting rights. Only then foreign investors will be attracted to invest in Indian banks.

Chindu Agreed. Well revise the voting rights.

Revised voting rights

Voting rights (%) Bank Example Before After 26 10

Private sector HDFC, ICICI 10 Public sector SBI , PNB 1 Chindu Anything else. SBI No this is all for now.

Chindu Then you may leave. But please send the chairman of Citibank in, he too had taken appointment

and is waiting outside.

Foreign Banks Issue #1: Stampduty

Chindu Ok what can I do for you? Citibank When I transfer my branches from the main company to the subsidiary company, I dont want to pay stamp duty. This should help me expand my business in India.

Chindu Agreed. Anything else. Citibank Yes there is one more matter

Foreign Banks Issue #2: Want to invest in Commodity

Citibank

Right now, the Banks can trade in shares, bonds and currencies speculation but the Banking Regulation Act forbids them from trading in commodities. But we (foreign banks) see huge profit making opportunity in that sector. So we need you to amend Banking regulation Act, to allow the banks to invest in Commodities market.

Chindu Agreed.

Standing Committee problem

After a bill is introduced in parliament, it goes to the Standing Committee of Parliament for particular subject. for example Banking Regulation bill to Standing Committee on finance. They inspect the bill clause by clause, put forward their recommendations. And then voting is done. In case of Banking regulation bill, after the parliamentary Standing Committee on Finance put its report, Chindu added some new provisions in it. so opposition parties got angry this wasnt part of the original bill, if you want to add new provisions, then this bill must be sent back to the Standing Committee for re-consideration.

Set: parliament
In the parliament, Opposition members are shouting slogans. (as usual) Meera Kumar says beth jayiye, beth jayiye, kripyaa shaant ho jayiye.(as usual)

Parliament fight #1: Commodity speculation

Chindu What is the problem? Oppn. The share-market and mutual funds = regulated by SEBI.Similarly Commodity market= regulated by Forward Market Commission (FMC)

Chindu So?

Oppn.

So, if banks invest in commodity futures, it would lead to high-risk speculative trading, especially with those Foreign banks. What if some investors loose money because of this? The Forward Markets Commission (FMC) doesnt have enough powers to safeguard them. because 1) FMC doesnt have legal powers for compulsory registration of traders. 2) FMC doesnt have power to impose huge financial penalty. Parliament is yet to pass Forward Contract Regulation Act (FCRA) Amendment Bill, which aims to empower FMC. And more importantly, you added the this Commodity provision in banking bill, after it was reviewed by Standing Committee. So this bill must be sent back to standing Committee for review.

Chindu

No, no, no. if bill goes back to standing Committee, itll take lot of time.Ok I back off, I remove this provision, so there is no need to send this bill back to standing Committee.

Parliament Fight #2: Competition Monitoring: RBI vs CCI

Chindu Friends, I also propose that only RBIs permission should be necessary for Bank mergers and acquisitions. Competition Commission of India should not play any role in it. Not acceptable. Again this is new provision added after Standing Committee gave its report. So, send the bill back to Standing Committee. No, no, no. if bill goes back to standing Committee, then itll delay the implementation.Ok I back off, I remove this provision.CCI will have the power to investigate and clear mergers and acquisitions in the banking sector.

Opposition

Chindu

Lok sabha passed the bill. Rajya Sabha also passed the bill. Now this bill file will goto President. Once he signs it, this bill will become a Law.

Anti-Bill arguments
In December, employees of public banks went on strike. (although SBI employees did not join the strike.) The Bank unions give following Anti-Bill arguments:

Government claims more banks = more branches = more poor people get banking facilities = financial inclusion. But it is mere lip service. Because new corporate banks/foreign banks wont have any interest in serving poor people. If mergers are allowed then rural branches will close down and/or rural banking operations will be outsourced via contractual business route. This type of privatization will negatively affect our job security and interests of those poor people. Statistics indicate that only 50 percent of people in India have bank accounts. The Centre should focus on educating rural people and cultivating banking habit among them instead of taking steps to merge banks or diluting voting rights. Merger of banks will de-stablise public sector banks, then corporate firms will start their own banks and gobble up public savings. And that money will be misused for the benefit of few corporate honchos and not for the general public.

Although Chindu counters them saying these banking reforms= new banks will be opened= more employment. (he expects 6,000 new bank branches and recruitment of 84,000 people next year.) Critiques also argue that

It seems the whole exercise is not a comprehensive banking reform but just firefighting because 1) Foreign banks and domestic players put pressure on FM to help them get bank licenses. 2) RBI blackmails FM to get more powers. 3) FM comes with banking regulation bill. Prime objective of this bill seems to help private players get new banking licenses. Government should further relax the voting rights otherwise, Government will keep abusing its majority shareholding to further its own political goals and election agendas.

e.g. in 2008, public sector banks were asked to forgo farmers loans (Debt Waiver scheme). Although Government promised to refund the loan-money to banks on behalf of farmers but it is not a good business practice.

Summary
The Banking regulation bill, 2011 was passed in the Winter session of parliament in Dec.2012. The salient features of the Banking regulation bill are (list not exhaustive)
1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. RBI can inspect books of associate business arms of a bank. RBI can supercede entire board of directors of a bank. RBI can conduct special audits of cooperative banks. Cooperative societies cannot carryout banking activities without license from RBI. A Depositor Education and Awareness Fund to receive money from deposit accounts not operated for more than 10 years. Increased the penalties and fines for violating Banking Regulation Act. Public Banks can obtain more capital via bonus shares and rights issue. Increases the voting rights of shareholders in Public and Private sector banks. Prior approval of RBI necessary if a person wants to purchase more than 5% shares of a bank. Banking Mergers and acquisition will fall under purview of CCI. Bank will have to pay penalty interest rate, if it doesnt maintain CRR on daily basis. Foreign banks exempted from stampduty payment for certain cases.

Banking Business Correspondents Agents (BCA): Meaning, functions, Financial Inclusion, Swabhimaan, Common Service Centres (CSC) What is financial inclusion?

Give every poor man a bank account. And help him get a loan from banks.

Financial inclusion involves

1. Give formal banking services to poor people in urban & rural areas. 2. Promote habit of money-savings, insurance, pension-investment among poor-people. 3. Help them get loans at reasonable rates from normal banks. So they dont become victims in the hands of local moneylender cum thugs.

Three important initiatives taken by RBI for financial inclusion:

1969

Lead banking scheme (LBS). RBI assigns a district to a particular bank. That Bank will be responsible for promoting banking services and financial literacy, in that

district.(=financial inclusion).

2005

No frills account. Poor people can open bank accounts with very low balance e.g. Rs.5 only. Weve already discussed that in earlier articles: Click me and click ME Business Correspondents (BC) system. Discussed in this article.

2006

Why Business Correspondents system?

If Financial inclusion means open bank accounts for poor people. Then whats the big deal, just open a damn account! Not so easy. India has around 6 lakh villages. Most of them dont have bank branches. Ok so Why cant banks open branches in every village?

No profit

Because Administrative costs will be high= Building rent, telephone, electricity, staff salary, security guards. On the other hand volume of business is very low in village areas=amount of money deposited, loans taken. Means there is No profit. Actually itll lead to heavy losses.

Reluctant staff

In many villages, there is no electricity, no good schools/drinking water, naxalite problem= Bank staff doesnt want to serve there. Therefore banks dont like to open branches below district HQ or Tehsil level. Now comes the problem

Hardships faced by poors

A poor man lives in remote village. This man has deposited some Rs.2000 in a bank @his tehsil. Now, He wants to take out some money from his bank account. So Hell have to make a trip for 10-20 kms =travel =time and cost. He is illiterate so he doesnt know how to fillup bank slips, other paperwork. He needs to ask for help here and there in the bank office. And most banks/post-offices dont treat poor people with respect or priority like they do with regular customers. So, he may have to wait for many hours, move from this table to that table, before he gets his money. = he cannot return to his village and do his daily job/work. = his one days income is lost.

Same process repeats, when this man wants loan to buy a new cow, pumpset, seeds or fertilizers. One the other hand, local money lenders in his village, give money quickly, without asking many questions or requiring him to fillup two dozen application forms. (but then they extract 36% compound interest from this poor man, thus making his life a living hell.)

Ultimately
1. Banks 2. poor people
We cant open branches @every village, because its not profitable. We cant make trip to nearest town to access banking facilities, because it is inconvenient.

So, whats the solution? How about a middleman / agent between banks and the poor people?

Who/What is Business correspondent?

Business correspondents are bank representatives. They help villagers to open bank accounts. They help villagers in banking transactions. (deposit money, take money out of savings account, loans etc.) The Business Correspondent carries a mobile device. The villager gives his thumb impression or electronic signature, and get the money. Business Correspondents get commission from bank for every new account opened, every transection made via them, every loan-application processed etc.

Who can become Business correspondent for Banks?

1. 2. 3. 4. 5. 6. Non-Governmental Organisations(NGOs) Self Help Groups (SHGs), Micro Finance Institutions (MFIs) Post Offices Insurance agents Panchayats 7. Civil Society Organisations (CSOs) 8. 9. 10. 11. 12. 13. 14. farmers clubs Community based organisations Cooperatives societies Village Knowledge Centres, Agri Clinics/ Agri Business Centers, Krishi Vigyan Kendras Khadi and Village Industries units 15. corporate entities with IT outlets in rural parts.

Functions of Banking Business Correspondents?

1. Create awareness about savings. 2. Give advice to villagers, about how to save/invest money and how to arrange/manage loans.

3. Help the villagers to open bank accounts. 4. Collect loan applications, forward them to bank. 5. Preliminary processing of loan applications for example: verification of persons identity, homeaddress etc. 6. Help the Self Help Groups (SHG), to get loans. 7. Help the bank to collect EMIs and recover loan money.

Swabhimaan

Initiative by the Finance Ministry + Indian Banks Association launched in 2011 To bridge economic gap between rural and urban India.

Objectives

Make banking facilities available to every habitat with a population >2000 (by March 2012.) Banks will provide basic services like deposits, withdrawal, Kisan Credit Card (KCCs) etc via Business Correspondents (BCs) also known as Bank Saathi. Banks will also working together with the Unique Identification Authority of India (UIDAI) for opening new bank accounts. Government will send subsidies and social security benefits (pension etc.) directly to beneficiarys account. Beneficiary can withdraw the money from the Business Correspondents (BCs) in their village itself. Government has provided 500 million rupees to banks for taking these ^initiatives.(e.g. paying Commissions to Bank Saathi, their training cost, doing paperwork with UID.)

Reforms in BC model Common BC

Last year Finance ministry came up with this proposal: India be divided into 20 clusters. A common BC be appointed for all public sector banks operating in that geography. Such a move would improve the economics of the BC model. (otherwise so many BCs, fragmentation=nobody earning decent Commission=nobody improving the service delivery.) Reserve Bank of India (RBI) has permitted all business correspondents (BCs) working for one particular bank, to conduct business for other banks as well. FINO, Indias largest Business Correspondents company FINO=Financial Inclusion Network and Operations (FINO). It is promoted by various Public and Private sector banks and insurance companies like LIC. Last year, FINO become the common Business Correspondents company for all public sector banks operating in Jharkhand.

NREGA payment
Old system
1. A villager earns some cash under MNREGA. 2. Government gives cash to bank. 3. Bank gives it to B.C. 4. B.C. deposits it into MNREGA workers account.

New system
1. All accounts will be maintained by core banking system. 2. So, cash directly goes from Government > Bank >MNREGA workers bank account. 3. Villagers will have the freedom to make their withdrawals from any BC they choose.

Kiosk Banking

The D.I.Y. (Do it yourself) banking services e.g. ATM, internet kiosks = still expensive. There is also lack of education + awareness in rural areas about such things. So even if Government /bank installs such automatic ATM, internet kiosks=> most of the time they just gather dust. Therefore, technology-based self-service model (e.g ATM, internet kiosks) is not useful at this stage. And hence we need Personnel (these Business Correspondents=middlemen). Because often villagers are illiterate, so they cant even fill up the forms for opening bank accounts or loanapplication or filling the deposit slips etc. Business Correspondents are essential at this stage. But again problem: The cost per transaction remains high. (Because Bank has to pay commission to B.C.agent.) Therefore, Chindu has suggested following solution for long term: Migrate from banking correspondent model to Kiosk banking = mobile vans fitted with ATM machines+ biometric devices. Theyll provide banking services in remote areas.

BCA for Direct Cash Transfer?

In November 2012, Mohan announced Direct Cash transfer scheme. (will be covered in detail, later) Anyways, under Direct Cash transfer scheme, Government will directly deposit payments, subsidies, scholarships, pensions etc into the beneficiarys bank account. Sounds well and good? Well, here is the big problem There are about six lakh villages in India. And despite all these financial inclusion initiatives (of FINMIN+RBI), still only ~75,000 villages have a bank branch or business correspondent agents (BCA). So for the poor people in remaining ~525000 villages still face the problems we saw` in MNREGA payment withdrawl. So Direct Cash Transfer will be #EPICFAIL unless each and every village is covered under banking services.

Therefore, recently Chindu asked the banks to have at least one bank branch or business correspondent agents (BCA) for every village or group of villages with 1,000 to 1,500 households. In the villages without BCA, Department of Electronics and Information Technology will install Common Service Centre (CSC). This CSCs will serve as the BCA. Right now, CSC will used only for opening new accounts of beneficiaries under the scheme for direct cash transfer. Only after banks install the software and complete other technical requirements for cash transactions, the CSC will allow villagers to withdraw cash from their accounts.

Side note on CSC

Common Services Centers scheme= started in 2006. Aim= set up of 100,000+ (one lakh) internet enabled centers in rural areas under the National eGovernance plan (NeGP)

Mock questions
MCQs
Q1. Financial inclusion involves
1. 2. 3. 4. 5. Covering rural poors in banking net. Covering urban poors in banking net. Providing jobs to poor people. Providing vocational training to poor people. Spreading banking awareness among poor people.

Ans.choices
a. b. c. d. Only 1, 3 and 5 Only 1,2 and 5 Only 3 and 4. All of them

Q2. Find incorrect statements about Swabhimaan scheme

1. It was launched by the Ministry of Social justice in 2009. 2. It aims to provide insurance coverage to laborers in unorganized sector. 3. It aims to provide financial inclusion to people residing in remote areas of India.

Ans
a. Only 3 b. Only 1 and 2

c. Only 2 and 3 d. Only 1 and 3

Q3. Who among the following, is/are eligible to become Business correspondents for banks?
1. 2. 3. 4. Post office Panchayats NGO and Insurance Agents Self Help Groups (SHG)

Ans
a. b. c. d. Only 1 and 2 Only 2 and 4 Only 2 and 3 All of them.

Banking Ombudsman What is Banking Ombudsman (BO)?

He hears customers complaints against banks. BO was first setup in UK. In India, RBI started this scheme in 1995.

Appointment & Tenure

Earlier RBI used to appoint reputed persons from banking, finance, management, legal etc. sectors as Banking Ombudsmen (BO). But now RBI has reserved this BO post for its own Chief General Managers and General Managers. Tenure: 3 years at a time. Reappointment: yes possible.

Jurisdiction

Banking Ombudsman (BO) Scheme applies to whole of India (including Jammu and Kashmir).

Banking Ombdusmen have jurisdiction over

1. 2. 3. 4. All commercial banks (scheduled and non scheduled, public and private) Regional rural banks scheduled primary co-operative banks NBFCs (BOs Jurisdiction limited to loan part.)

BO is not a replacement of Consumer forum/courts. He merely supplements them. BO deals with matters less than or equal to Rs.10 lakhs. Here are some examples situation where BO can help you:

Regular banking
1. Demand draft, cheques, pay orders etc. not issued on time. (or not paid on time) 2. Credit card related complaints (e.g. bank putting hidden charges. Your credit card was stolen but bank did not disable it even after you called them.) 3. You asked the bank to close your account / credit card but they are not doing it. 4. Bank refuses to open your account without giving valid reasons. 5. Bank closes down your account without valid reasons. 6. Government / your company deposited salary / pension in your account but the bank is not releasing it on time. 7. Bank is taking out money from your account in pretext of some flimsy charges. 8. Branch office notice board says 10.30 to 5 but staff refuses to provide you service after 3.30PM. 9. NRIs having bank account in India and facing problems about remittances etc. (e.g. he deposited money from America, but his parents are not given money on time.)

Loans
1. Your loan application is not processed in time. 2. Your loan application is rejected without valid reasons. 3. You loan application is accepted but money is not released in time. (and still bank is charging interest on it!) 4. Bank doesnt follow RBI guidelines regarding loan-recovery agents (e.g. bank hires some criminals to bully and harass you.) 5. Bank doesnt follow RBI guidelines regarding loan interest rates.

Procedure for getting justice?

Youre unhappy with the bank for xyz reason. But you cannot directly approach BO. First youve to give written complaint to the concerned bank that Ive so and so problem. and IF the bank doesnt deal with your complaint within one month, then you can approach BO. On the other hand, you cannot approach BO if the matter is older than 1 year. You dont need lawyer to approach BO. You dont need to pay any fees/ stamp papers for approaching BO.

You cant approach BO in following situations

1. 2. 3. 4. Matter is higher than Rs.10 lakh. If the matter is pending before any other court, tribunal, forum then you cannot approach BO. If any other court, tribunal, forum has already passed an order on the same matter. You cannot approach BO for frivolous or vexatious complaints (e.g. AC or water cooler was off when I went to the branch. Someone jumped the queue but security guard did nothing.)

How does BO settle complaint?

Upon receiving your complaint, first BO will try to solve the matter via settlement /arbitration (=try to achieve a compromise, conciliation or amicable solution between bank and its customer.) This has to be done within one month after receiving complaint. But if either party (customer/bank) is not accept this (compromise/negotiation/settlement) then after 1 month, BO will have to pass order. Now, hell ask both parties to present their case/documents etc. And hell pass the order accordingly. Two things can happen

1. He rejects your complaint (=bank is not guilty). OR 2. He finds the bank guilty and orders punishment.

Punishment

BO can order the Bank to compensate the actual money loss OR Rs.10 lakh (whichever is lower). In case of Credit card related cases, BO can order the bank to pay additional fines (upto Rs.1 lakh) for the mental harassment caused to the customer.

Appellate authority for Banking Ombudsman

If either party (Bank / Customer) is unhappy with Ombudsmans order, then they can approach the Appellate authority (=Deputy Governor of RBI.)

1. If youre the customer, you can directly approach him. 2. But if youre the Bank, then you can approach him only after getting permission from your Chairman/CMD/MD or CEO. (This ensures Banks lower staff doesnt automatically go for frivolous appeals against every order).

Reforms and Issues

Banking Ombudsman scheme was originally started in 1995. But in subsequent years, RBI made many reforms in it, some of them are:

originally

After reforms

Reputed persons from law, finance, banking, Only RBIs own officers can become BO. (=outsiders not Management, administration etc. can become allowed for this post.) BO. Banks provided Money+Staff for RBI itself gives the money and staff to Ombudsman.

Ombudsmans office in their area. He only accepted paper complaints. Accepts Paper + online complaints. Regional Rural Banks put under jurisdiction of Ombudsman. Ombudsman can look into internet-banking related complaints. Banks are required to display salient features of the scheme for common knowledge of public. (e.g. posters in the branch office.)

#1: Netbanking frauds

According to RBIs scheme, Ombudsman can also look into internet banking related matters. But Ombudsmen across the country often wash away their hands and ask the victim to wait for police investigation to finish. And on the other hand, Banks donot take responsibility saying net banking frauds as most of them happen due to customers negligence and cyber-crime. So ultimately customer has to depend on the police to get justice.

#2: Need more BOs

A Committee formed by RBI has recommended that instead of having only 15 Banking ombudsman across country, have one BO appointed for every bank. The upper limit (of Rs.10 lakh) should be increased.

Location of Offices

Banking Ombudsman has total 15 offices throughout India Those whore preparing for IBPS/SBI PO should prepare this table for MCQs, others need not worry much. Gujarat + UT of Diu, Daman, Haveli Karnataka. MP+Chattisgarh Odisha

1. Abad 2. Banglore 3. Bhopal 4. Bhuvneshwar

5. Chandigarh 6. Chennai 7. Guwahati 8. Hyd. 9. Jaipur 10. Kanpur 11. Kolkata 12. Mumbai 13. Delhi 14. Patna 15. Thiruvanthapuram

HP+Punjab+part of Haryana TN+Andaman, Nico All north Eastern states minus Sikkim AP Raj UP (some areas excluded though) WB+Sikkim Mah+Goa Delhi+J&K+part of UP+Part of Haryana Bihar+Jharkhand Kerala+Lakshdweep+Puducherry

Mock questions
Q1. Which of the following falls under the jurisdiction of Banking Ombudsman
1. Regional Rural Banks 2. Scheduled commercial banks 3. Non Scheduled primary co-operative banks

Answer choice
a. b. c. d. Only 1 and 3 Only 2 and 3 Only 1 and 2 All of them.

Q2. Find correct statements

1. BO is selected and appointed by Finance ministry. 2. BOs staff and office expenditure are charged on the consolidated fund of India. a. Only 1

b. Only 2 c. Both d. None

Q3. Find incorrect statement

1. 2. 3. 4. If the promises made by a sales agent, are not kept by the bank, you cannot approach BO. If the matter involves loss of more than Rs.10 lakhs, you cannot approach BO. The appellate authority for BO is High court of the concerned State. There is one separate BO for Union Territories of India.

Answer choices
a. b. c. d. Only 2 2 and 4 1,3 and 4 All of them.

Q4. Which of the following are included in the purview of BO?

1. 2. 3. 4. Net banking Credit cards ATM cards Harassment by Loan recovery agents

Answer choices
a. b. c. d. Only 2 and 3 Only 1, 2 and 3 Only 2,3 and 4 All of them.

EPFO: Compulsory UID, Investment in AAA Corporate bonds, Air India EPFO: UID proposal =cancelled

Earlier EPFO had decided that Aadhaar numbers must be compulsory for subscribers from 1st March 2013. This could help EPFO easily cross verify subscribers.

But after EPFO officials held meeting with UIDAI officials, they came to know that
1. UIDAI agency is organizing enrollment camps in only 18 states.

2. In the remaining states, the Registrar General of India (RGI) is collecting data for the National Population Register (NPR). And then data is sent to UIDAI then UIDAI issues Aadhar card = time consuming.

Ok so whats the difference?

Aadhar card
Under UIDAI, Planning Commission. Voluntary.

National Population register (NPR)

Under Registrar general of India, Home ministry. Compulsory for all Indian residents. Every residents fingerprint and iris needs to be scanned. If there are discrepancies between UIDAI data and NPR data, NPR will prevail.

1. They setup their offices/camps at various places. 2. Any person / family can come in, show documents and give biometric data and get Aadhaar card.

1. Officials manually visit every house. (just like how CENSUS is conducted) and check documents, collect biometric data. (for NPR) 2. They send this data to UIDAI. 3. Then UIDAI generates the Aadhar number= very time consuming.

Hence EPFO has decide to delay this compulsory Aadhar number rule. (because it is very unlikely that entire India will be covered under Aadhar numbers by March 2013). By the way, why this Double labour (by UIDAI and RGI)? Because there is a turf-war going on between UIDAI and Home Ministry. Home ministry has two problems with data Collected by UIDAI:
1. it is not secure 2. Data / family is not verified by a government servant.

EPFO : AAA bonds proposal = pending

At present, EPFO can invest in only bonds issued by PSUs and seven private companies and banks viz.
1. 2. 3. 4. 5. 6. HDFC IDFC IL&FS (Infrastructure Leasing & Financial Services Limited) LIC Housing Finance HDFC Bank ICICI Bank

7. Axis Bank

Recently,
EPFO @CRISIL Yaar please give some investment advice. CRISIL I suggest you invest some money in Corporate bonds with AAA rating. EPFO Why?

CRISIL

Because AAA rating= means company is reputed. Itll not default on the payments (unlike Pawnfisher). And they offer good rate of return. For example RELIANCE Industries, Tata etc. They offer good interest rate too and quicker installments (compared to Air India). Youve total fund of Rs.3.5 lakh crores, itd be a good idea if you invest 10% of it (=Rs.35000 crores) into Corporate Bonds.

EPFO

Sounds like a good idea, but Ill have to get this proposal approved by Central Board of Trustees (CBT). (in Feb-end 2013)

CRISIL Why? EPFO Because CBT is the main Decision Making body of EPFO.

If this proposal is approved, it can mean two things

1. EPFO can earn more money on its investment= it can offer higher returns to its subscribers. 2. Those corporates companies get more investment money (from EPFO)= they can new plants/ machinery / employees and expand their production capacity =better IIP, better GDP.

EPFO: Air India=invested

December 2012
Air India LIC and EPFO Air India LIC and EPFO I need to borrow cash from market, just to repay some previous bank loans. So, In way Im totally awesome Pawnfisher airlines! Then you should be left to collapse just like Pawnfisher. Oh come on!! Im the National Airline of India. You must not let me collapse! Oh the patriotism angle. In that case, we must not apply the basic principles of free market economy hahaha!

Please tell us how much cash do you need? Rs.7400 crores.Ill issue bonds. Maturity @19 years. (meaning youll recover principle after 19 years.) In the mean time, Ill pay 9+% interest rate (but Ill pay installments bi-annually.) Ok agreed. Well buy all of your bonds.

Air India

LIC and EPFO

By the way, in case you wondered: If Air India=#EPICFAIL, then why did LIC+EPFO take risk? Ans. Because Government of India (GoI) gave unconditional guarantee, if Air India fails to make the payment on these bonds, we will pay money (to bond holders).

And due to this assurance (by GoI), Air Indias bond was given AAA rating. (Despite the fact that Air Indias financial situation is not very sound). Anyways, If Air India collapses, the bond payment will be done by Government of India (=from the pockets of Indian Tax payers.)

Mock Questions
Q1. Correct Statement
1. UIDAI comes under planning commission. 2. Registrar General of India functions under Ministry of Statistics and program implementation. a. b. c. d. Only 1 Only 2 Both None

Q2. Incorrect Statement

1. It is mandatory for every Indian resident to get himself registered in NPR. 2. It is mandatory for every Indian resident to get himself an Aadhar card. a. b. c. d. Only 1 Only 2 Both None

Q3. For the improvement of IIP:

a. LIC, PFRDA and EPFO should invest only in G-sec (Government securities). b. LIC, PFRDA and EPFO should invest AA or AAA rated Indian corporate bonds.

c. LIC, PFRDA and EPFO should invest in foreign bonds with D rating. d. None of above.

Headline vs Core Inflation Headline inflation

It is the figure we get by Wholesale Price index Wholesale price index (WPI), has three components.

1. Primary items (food, milk, eggs etc.) 2. Fuel (kerosene, coal, petrol, diesel, gas,electricity etc) 3. Manufactured items (textiles, plastic, leather, metal products etc)

Core inflation

it is Headline inflation minus food and fuel prices. The food and fuel prices keep changing based on season and external factors. Hence, headline inflation gives a very volatile number. The policymakers (RBI and Fin.Min.), cannot use this number to make future predictions or longterm policies, so they also keep a separate watch on Core-Inflation number.

How do we measure inflation in India?

Compiled by Office of Economic Adviser ->Ministry of Commerce and Industry calculates WPI. Central Statistical Organisation (CSO) under the Ministry of statistics and program implementation calculates, CPI.

The same org. also responsible for compiling Index of industrial production (IIP)

Related to this

Phillips curve
If the unemployment rate is LOW, Inflation rate will be HIGH.

Stagflation
Both unemployment and inflation rates are high and growth rate is low.

Basel III Norms: Tier 1 and Tier 2 Capital

What is BASEL?
It is a city in Switzerland.

Why Do we Need BASEL norms?

Consider these cases ICICI bank collapse hoax Back in 2003, Someone started a rumor in Ahmedabad that ICICI bank is going to collapse. Suddenly thousands of panicked account holders lined up at the nearest ICICI branch to take out their money and hence there was such a money-shortage in ICICIs Ahmedabad branches, they had to actually call up trucks loaded with cash from their Mumbai branches.

Things settled out after a while and it was confined only to a few cities of Gujarat, but if it was an entire-countrywide hoax, just imagine the fallout!

SBI: Imaginary case

SBI takes deposits from you and me, pays us 7% interest rate, and gives same money as loan to car-home seekers, businessmen etc at 12% interest rate, thus earning 5% in profit. SBI gave Rs.1500 as loan to Kingfisher. SBI gave loan of Rs.4500 crores to Telecom players for 2G auction and now the licenses are cancelled. What if those telecom players run away without paying back the loan and Kingfisher goes broke? Adding insult to the injuries, someone starts a systematic campaign on facebook and twitter to spread rumors that SBI itself is going to collapse. Lakhs of middleclass account holders will run to the nearest SBI branch to take out their deposited money (as it happened in ICICI, Ahmedabad in 2003 in real-life). Overnight entire banking sector will collapse and You already know about the sub-prime crisis etc: the aftershocks were felt everywhere in every sector.

Here comes BASEL in picture

The BASEL Norm is kinda safeguards / backup plan for Banking sector. It provides internationally accepted detailed guidelines about how much money should a bank keep aside, to deal with such financial crisis. Even if loan-takers run away without paying, Bank should have money to give back to deposit holders. More risk the bank takes, more money it has to keep aside in reserve to counter the risk.

What is Tier 1 and Tier 2 Capital?

Tier 1 and 2 capital is way too technical and detailed, to be asked in a routine Government recruitment exam for Generalist posts, so not much point in getting to that depth and numbers. But still for the sake of discussion: Capital= Wealth in form of Money, Property, Bonds etc. As we saw earlier, banks need to keep some money aside to deal with crisis. It meant the word capital. If bank keeps aside capital, in form of real-estate investment (say buying 5 farm houses) then during the crisis, it wont be easy to sell away farm-houses and get money within a day or two. So this Capital is not liquid.

Tier 1 and 2 is way of classifying the capital of a bank. Tier 1 Easily liquid. For example

currency notes and coins in the bank value Stocks held by Bank, can be easily sold off in share-market.

Tier 2

Not easily Liquid, for example the building or land owned by the bank.

For BASEL norm will be something like this [technically totally incorrect, just for the purpose of basic understanding]
1. If a Bank loans 1 crore rupee to a company with B Credit Rating, it must keep capital worth 20 lakhs aside for crisis. 2. And out of that 20 lakhs, Rs. 15 lakhs must in form of Tier 1 Capital and 5 lakhs can be in form of Tier 2. 3. If the Company has credit rating of AAA then Capital worth Rs.xyz and so on..

Governor of RBI signs on this BASEL agreement, comes back home and forces all the Indian banks to follow these norms. Same thing will be done by French, Chinese, Americans etc. and thus banks in every country will function prudently thus preventing another Global financial crisis. Latest is BASEL III accord, came in 2010. It has stringent provisions keeping in mind the subprime crisis.

Criticism of BASEL
1. One shoe doesnt fit all.

2. Just because American Banks were so imprudent in their functioning and ran into trouble, doesnt mean WE the Indian banks need be so overcautious and keep so much of money aside for safety, it could be used for giving loans to needy people. 3. Already existing complex Monetary policies of Central Banks in each country (example RBIs CRR, SLR, Repo etc.) make it difficult to uniformly implement BASEL norms.

Greenex : New BSE Stock index for Energy efficient companies

What is Greenex?

it is a stock index similar to SENSE, launched in 2012. It measures the share-trading activity of 20 top energy efficient companies of India in Bombay Stock Exchange.

What type of companies listed in Greenex?

Just like SENSEX this is a weighted index, but comprising of energy efficient companies or green companies. biggest weightage in this index :Tata Steel. Included : ICICI Bank, State Bank of India, HDFC, Sun Pharma and BHEL. Not included: Infosys, wipro, ONGC, reliance etc big companies

Timeline

Baseyear: 1st October, 2008 (incase of SENSEX it is 1979) Basevalue: 1000 Started in Feb. 2012, opened at 1488 Numbers are not important, but you must understand the meaning: If the value of all stocks traded in BSE, was Rs.1000 in 2008 then right now it is Rs.1488. In case of SENSEX: the basevalue is 100, meaning if value of all stocks traded in BSE in 1979 was Rs.100 right now it is 15000 (or whatever it is).

ok, but why create Greenex, where there is already SENSEX?

You and me purchase shares Company makes profit and gives us dividend on those shares. If company gets higher profit, we get higher dividend. (assumption) In long term, energy efficient companies will get better profits than other companies. So if there is a separate index to measure performance of Energy efficient companies in stockmarket, the investors can make a better and informed decision about where should they put their money. Thats why separate Greenex despite having a SENSEX.

CASA (Current and Savings Account) Ratio

CASA =Current and Savings Account. Lets refresh a few concepts before diving into CASA. In a bank, there is incoming money and outgoing money.

Incoming Money in the bank

Bank will pay you interest, when you deposit money in savings account, as Fixed Deposit (FD), Bank will borrow from RBI. (and will pay RBI interest)

Outgoing Money from the bank

Bank will give you loans for bike/car/home/business and charge higher interest rate on that.

So in simple terms, Banks profit = Interest charged on loans -(minus) Interest paid on deposits. Now, CASA= Current and savings account Casa ratio =is the share of current and savings account deposits to the total deposits of the bank. To keep it simple, lets just say banks incoming money comes only from two types of deposits: 1) CASA deposits and 2) FD (Fixed Deposit)

#1: CASA (Current and savings account) deposits

Here whatever money you deposit, you can withdraw it any time. banks do not pay any interest on current account,and interest paid on savings account it (pathetically) low as 4%. And then bank will circulate your money in form of house loan to others, and will charge 9.5% interest rate on it! So, that is a decent profit margin.

#2: In FD (Fixed Deposit)

Also known as Term Deposits, like double your money in 10 years or deposit 20,000 today and get 50,000 after 10 years etc.etc. Here bank will pay you interest rate of around 7-9% per year. But downside:you cannot withdraw your money before the term completes, else bank will charge penalty and you wont get the total double your amount thing. As you can see, If bank would circulate this FD money in loan, there is not a big profit margin, as in case of CASA.

Implication of High CASA Ratio

For SBI, CASA ratio is around 47%. (That is 47% of their total incoming money in form of deposits, comes from CASA). So SBI can earn lot of profit by circulating this money as loan. If Bank X has CASA ratio =barely 10%, obviously, not so good position like SBI.

Higher CASA is good only for banks?

Not only banks but loan-taker people also benifit from higher CASA ratio. Because bank with higher CASA, will keep its loan base rates low. Confused? Let me rephrase: If Bank X has barely 10% of CASA, means lot of their money comes from FD. And in FD theyve to pay higher interest rate on deposit, hence theyll keep their loaninterest rates higher to maintain the profit margin. ex. SBI= loan base rate is about 7%, but for Bank of Baroda its about 8%, because BoB has got lower CASA than SBI. In India, interest rates paid on current and savings account deposits is administered by banking regulator the Reserve Bank of India.

Danger with high Casa ratio?

From CASA account, you can withdraw your money any time. So, while bank is circulating this money as loan, then have to be careful. They do a statistical analysis, like 10000 people deposited total 1 crore rupees in CASA accounts. And on any day, not more than 10 lakh rupees are withdrawn in terms of cheques, demand draft etc. Thats 10% outgoing money from CASA? So lets keep 15% of CASA money in terms of cash in the bank and give away remaining CASA money as loans BUT, what if suddenly account holders withdraw a lot of money? Example, back in 2008 during sub-prime crisis, some one spread a rumour in Ahmedabad that ICICI has gone bankrupt! So people panicked and lined up in front of ICICI branches and ATMs to withdraw all their account money. On daily basis more than Rs. 5 crores were withdrawn Ahmedabads branches and they had to order truck load of cash from other cities and even run the branches on holidays to meet the situation.

Take a reverse case, what if thousands of people take home loans and then show inability to pay back [=bad loans / toxic assets / N.P.A. as it happened in America]? And at the same time CASA depositers come and demand to withdraw lo lot of their money? So with this kind of situation, the statistical calculations may go wrong. and if Bank has given lot of its CASA money to long term loans (house loans for example) then itll be a real panic-situation. The FD money is safer in this way. because banks know, once you make an FD, youre not going to withdraw it for next 5-10-20 years (in most cases) so they can safely circulate this money as loans.

Curious case of SBI

1. As we saw SBI has highest CASA Ratio in India = high profit 2. but then again SBI has highest N.P.A. (Non-performing assets / bad loans/toxic assets) amongst all the banks in India!

Investment banking
Suppose you want to start a new factory, dont have enough money. Banks are not giving you loans or their loan-conditions are very tough. So you want to Issue an IPO/security in the primary market to get the required funds. *security =a piece of paper. When someone buys that piece of paper from you, they give you money like 100. And youre supposed to pay them back after a period or share your profits with them (Shares). But what if nobody buys your IPO? And how to go and launch your IPO in the first place? You dont know the technical nitty gritty or paper-work involved in it, or have the competent staff to do that? Easy, just walk in to an investment bank, theyll launch the IPO on your behalf. Theyll sell you on your behalf and if no-one buys it, the investment banker will buy it and pay you the money. This is called underwriting. Investment bankss primary job =offering underwriting. For example, on following link see the big underwritings made by Kotak Investment bank and the list of their big clients Kotak Investment Banking: Leaders in the Equity Capital Markets

Other functions of an investment banker

1. If youre a big corporate co., currently under heavy-debts, theyll help you re-structure your debts. e.g. longer EMIs, selling or renting your non-core assets to squeeze some money and so on. 2. help you make deals,big investments, joint ventures, Mergers and acquisitions with other companies. They provide you with Research data like how much risk is there, whatll be your return on investment, is there any technical or legal hurdle, if yes then how to bypass it. 3. Settle your family disputes. (like big corporate dad died and now people fighting for property, they help you come at an amicable compromise, without getting involved in lengthy court process. 4. They also help you convert your money from one currency to another.

So investment banker is not just a banker but combo of many things: lawyer, financial adviser, money-lender, insurer, Real estate agent and so on.

But Investment banks dont do anything on small scale. Like you cant walk in to get bike/car/house loan or get your 100$ converted into rupees. Their customer

base= big MNCs and corporates. Their scale of operation= in millions and billions of Rs./dollars.
Monetary and Fiscal Policy Difference and dependence
Monetary Policy
Who makes it? Ans.RBI. What is their intention? Ans.To control the money supply in the banking system and thus control the inflation. What tools do they use? Repo,reverse repo, bank rate, SLR etc. What happens? Suppose there is too much inflation (price rise) in the market because people have more ca$h in hand and only few products in market. So RBI changes those numbers in a way that banks have less money to give as loans to people. Obviously the banks will charge higher interest rates on their loans, this is called tightening of the moneytary policy / Dear money policy. Reverse of it, is Cheap money policy i.e. when RBI feels that people should get loans @cheap rate so that there is boost in demand.

Fiscal Policy
Who makes it?=Government. What tools do they use? 1. Taxation 2. Public Expenditure. What is their intention? Re-distribution of income,allround Development. e.g. Government puts 30% corporate tax (taxation), then uses that money to fund NREGA [100 days wage to poors] (public Expenditure). So part of rich peoples income gets redistributed to poor -people.

To what extent is monetary policy independent of fiscal policy in India

As we saw Monetary= RBI, fiscal =Government. Many times, Government doesnt have enough money to fund its projects*. So they release bonds. RBI sells those bonds on Governments behalf to the banks. Now banks may or may not be interested in purchasing them. So, RBI has a tool called SLR* (Statutary liquidity ratio),

which means banks have to compulsory keep x amount of their money in form of Government bonds even if they like it or not. * See? Government project= fiscal policys public Expenditure tool SLR=Monetary policys tool (by RBI) Thus, SLR (part of monetary policy) is not totally independent from fiscal policy. There is conflict of interest: RBIs role as money supply controller vs RBIs role as Governments debt manager. Same way, Government wants that farmers should get loans @cheaper rate. So, RBI makes special consessions to regional rural banks in CRR/Repo etc.

IMF Vs World Bank Difference in functions International monetary Fund

IMF gives short-term loans to its members, and helps in recovering from BoP crisis (balance of payment crisis) In simplest terms, BoP crisis means you dont have enough money/ foreign currency to pay for your imports. So in that case you run to IMF. When IMF gives loans, theyll ask you to change your policies accordingly. eg. theyll ask you to
1. let the MNCs enter your market, 2. reduce the jobs or shutting down the loss making Public sector units etc. 3. stop giving subsidies to particular section (petrol/fertilizer etc.)

and so on IMF gives loans, it expects you to pay full amount back + interest rate. In IMF there is a thing called Quota i.e. Every member has to give some money to IMF, (IMF will give it to loan as other members). The rich nations with bigger Quota has more voting rights (USA). So rich nations can effectively decide how IMF should function.

World Bank
In short, They give soft loans to poor nations for Development purpose and various healtheducation,poverty removal programs. Soft loan= minimal interest rates, the EMIs have longer time brackets in between, and they dont expect your to pay back the principle. They facilitate private players to setup business in poor nations. (via insurance and loans) Their loan-terms are not as stringent as IMF.

Fiscal stimulus package

Stimulus:

A weak athlete takes some steroids and runs faster than his built-in ability, so Steroid is stimulus. Similarly when Government comes up with some plan to increase the performance of (depressed) economy, it is fiscal stimulus.

During recession, the demand is depressed (i.e. noone is buying stuff) so Government has to come up with something to increase the demand, to make the consumers buy something. In 2009, Government of India gave tax benefits on purchase of commercial vehicle to increase automobile demand. It also chopped down excise duty by 4%, asked RBI to release more money to EXIM bank to provide it as cheap-loans to exporters and so on. this is a fiscal stimulation package which costed Government about 4 billion $. Similarly 2008, President Bush released 700 billion $ bailout package to buy the toxic loans and to save American economy from the sub-prime crisis. That is also a fiscal stimulus.

How is fiscal stimulus different from fiscal policy

1. Fiscal stimulus is given in extraordinary circumstances, it is temporary in nature because When Government feels that the economy is back on track, itll remove/stop giving the stimulus. 2. Fiscal policy (taxation and spending of Government) is rather a regular-routine process.

Fiscal deficit

We also know that money doesnt fall from sky, so If Government is giving stimulus that means it is either borrowing from someone else to supply that money into the depressed economy or it is cutting down its own tax-rates (income) to stimulate the consumer-demand. So, obviously when stimulus is given, the fiscal deficit increases.

Liquidity and monetary policy

liquidity is a relative term. If the banking-system has more money to offer as loan today, compared to last month, well say liquidity has increased. If banks have less money to offer as loans today, compared to last week/last month/last year, then well say liquidity is tight. Now there are 3 factors.

#Spectrum auction
In the spectrum auction, the big telecom companies withdrew their deposited money from the banks and also took loans.The telecom companies had to pay around Rs 68,000 crore within 10 days of the auction. So as you can see, that much money went from banking system to the Government and hence was unavailable for loans. #above-normal build up in government cash balances If above money from spectrum auction, was deposited in Governments bank account, then itd be again available for loans again, immediately. But it was deposited in the consolidated fund of India.From this consolidated fund of India, Government gives salary to judges, its whole staff, finances various projects like NREGA, JNNURM, and so on. Hence, this 68k cr. is no longer available for loan. =less liquidity compared to earlier. #credit growth outpacing deposit growth if credit growth has outpaced deposit growth (more ppl r takin loans rather than depositin them) it means less money available for loans. So we say tight liquidity.

Implications of liquidity
When liquidity is tight (or low), that means less money available for loans hence interest rates on loans increases.
1. Too high liquidity =easy loans=less interest rates= people have more ca$h than products in market= inflation. 2. Too low liquidity=hard loans=high interest rates=businessman find it hard to finance new projects, demands for automobie/cars etc. decrease and so on.

National Investment Fund (NIF)

What is National Investment Fund (NIF)?

1. Government has shareholding in PSUs (Public sector undertakings: ONGC, SAIL, LIC etc). 2. Government sells part of its shares in the market, and get ca$h. (it is called Disinvestment) 3. Government puts that cash in this NIF, instead of the consolidated fund of India. 4. SBI, UTI etc will act as fund managers, use this money to invest in sharemarket etc, and generate profit. (just like Mutual funds) 5. 75% of profit, will be used for MNREGA, Indira Awas Yojana and other schemes of Union Government. 6. 25% of the profit will be invested in profitable PSUs. (lolz e.g. Air India) 7. NIF was given approval in 2005 but in reality it started working in 2007.

What is Consolidated fund of India? (CFI)

For the moment, just a brief idea: all the money earned by Union Government should go in this fund, and all the expenses of Union Government will be made from this fund. According to Constitution, The Union Government (Executive) cannot spend money out of this Consolidated fund of India without parliaments permission. Hence theyve to present budget every year: To get parliaments permission. This ensures accountability of Executive to the legislature. Ideally the disinvestment money should go in CFI, but UPA in its infinite wisdom has decided to put disinvestment money in NIF. Official reason: better Money Management, more profit, can be used to social schemes. Unofficial reason: No more parliamentary control over how Government spends the money out of this fund: for their (Bogus) pet-schemes and on the kinds of AIR-India.

Ad-Valorem Tax, Unit Tax, Dumping Duty

Introduction
Before moving into Ad-Valorem, Consider The taxes levied on per litre of Petrol : (Data may be outdated but just for concept clarity)

Union takes excise tax: Rs 14 per litre, State takes Sales tax : 20%

[ Important: 'Central Government' is a wrong word to use. The official and correct word is 'Union Government' so be very careful your choice of words, in Mains/ Essay and Interview. Some examiners (and interview panelists) get really irritated on such minute mistakes. Now back to the topic ]

Two types of Taxes on petrol

Notice the Difference between Union and State taxes. Union charges absolute value: Rs.14 per litre. Meaning whether original price of Petrol from the Oil refinery is 20 rupees or 100 rupees, Union Government will get only per Rs. 14 per litre. So Union is charging tax according to Quantity of Petrol. While state charges (percentages) % of petrol prices. So if petrol comes for Rs. 20, state gets Rs.4 in Sales Tax. if petrol comes for Rs.100, State gets Rs.20.

Meaning State is charging tax according to Value of Petrol. Latin word for according to value = Ad Velorem.

Ad Valorem Tax
is a type of tax, levied on the value of a product, service or property. Following are the examples of Ad Valorem tax

Sales Tax VAT and GST Property Tax (According to the value of building etc)

Now the second type of tax:

Unit Tax / Specific Tax

What is Dumping?

China exports its products to India at a price lower than its normal price in domestic Chinese market. Meaning theyre dumping their products in India @lower price to capture the Indian market and destroy competition from local Indian players. Indian Government can impose anti-dumping duty on such items.

Examples of Anti-dumping Duty

Copy pasting from newspaper articles

India has imposed an anti-dumping duty of Rs 1,50,000 per 1 lakh unit on import of sewing machine needles to protect domestic players from cheap Chinese shipments. India has imposed anti-dumping duty of up to $0.538 per kg on imports of a plasticfilm used by the advertisement industry to protect domestic players from cheap Chinese shipments. India imposed dumping duty of up to $99.05 per set of bus and truck radial tires (including tubeless) from China and Thailand,

Notice the words: per 1 lakh units, per kg, per set This is example of per unit tax. Indian Government is putting tax on quantity of Chinese products, not the value of those product (because theyre cheap anyways).

To sum up

Ad Valorem tax is levied on the Value of a product or property. Unit Tax/ Specific Duty is levied on per Quantity of a product. (kg-weight, meter, litres, unit etc.)

Carbon Tax

What is negative externality?

A Thermal powerplant uses coal to produce electricity, sells it to the citizens. But the residents living near this Power-plant have to breath very polluted air- get various lung disease have to bear the medical expenses. The soot from the plants chimney settles down on their homes, compounds, clothes, cars and theyve to dust and clean it every day. This is a case of negative externality.

Externality means : Two parties enter in a deal, and benefit from the deal. but a third party who is not involved in this deal also gets affected involuntary. (Without consent). Externality can be positive also. e.g I run a perfume-shop and local-residents get to enjoy the lovely fragrances for free.

What is Pigovian tax?

Suppose Government puts tax on the coal purchased by this Power-plant and uses this tax-money to provide cheap medical care to the residents of that area for respiratory diseases and gives them subsidy for buying special type of windows that filter the incoming polluted air in the house. Such tax is called the Pigovian tax, because a British economist Arthur Pigou argued about negative externalities and imposing taxes on companies involved in creating negative externalities. Now to the main topic of this article

What is Carbon tax

The polluter will have to pay this tax on per tonne of carbon dioxide emitted in the atmosphere. It is an example of ^Pigovian tax.

Implications of carbon tax?

We know that companies pay the tax, but ultimately the consumer has to bear the burden. Consider this chain: There are two companies A and B.

In the beginning, both are emitting same amount of carbon and hence have to pay same amount of carbon tax. So, They will include this Carbon tax costs in their products MRP. (Maximum retail price). But later company A invests in new production technology so that their carbon emission is reduced, now they have to pay less carbon tax and thus their MRP will decrease = good for consumers and bad for second company B, because their product will remain expensive = less selling. So either company B will run out of business (like Kingfisher), or they will also invest in clean technology to reduce the production-cost. Ultimately good for environment and good for citizens. and Government can use the money collected using carbon tax for various schemes of environment protection.

Why is it the news?

EU -Airlines

European Union imposed a carbon tax on all airlines from January 2012: about 6 Euros per ton of CO2 emitted. China, Russia, India and United States, have opposed the EU move. (Because their international flights will also help to pay this tax while flying over the skies of European union.)

Australias move

Australian government also planning to implement carbon tax: about $23 per ton of carbon dioxide emitted by a company. Indian businessmen are concerned with this news because our steel companies import lot of coal from Australia. (a tit for tat case) Indian government had proposed Mines and Minerals (Development and Regulation) bill that a mining company should share 26% of its profits with local tribals. So Austrialian businessmen are also concerned!

Export Promotion Capital Goods Scheme

First, what are capital goods?

Examples: Textile machines, big agro-harvesting vehicles, expensive lab instruments for medicines, printing press for magz/newspaper, sophisticated computer-server for your call centre etc. Means Capital goods are the things you need to manufacture your products or give your services.

What is Export Promotion Capital Goods Scheme? (EPCG)

Under EPCG scheme, you can import these instruments (capital goods) at only 5% customs duty. But condition is that, within 8 years, youve export manufactured products worth 8 times the duty you saved. This EPCG is part of Indias EXIM policy (Export-import)

Boost to agri-business
If you import some Agriculture related machinery like Big harvesting machines they show on discovery channel, this EPCG period is 12 years instead of 8 years. Again minute details like 12 years and 13 years are not important, what is important : Government is giving extra benefit to agro-machines under EPCG to make Agro-GDP grow by 4% a year for their 11th Five year plan target. Can you see how its all linked? 11 FYP> Exim Policy > EPCG tool.

QFI (Qualified Foreign Investor) vs FII, Need, Implication, Currency Depreciation, Demat Account Foreign Institutional Investor (FII)
Tom Cruise: What is FII?

Anil Kapoor: It means foreign player can invest money in Indian stock market. Tom Cruise: Cool. Tell you what, Im not getting much interest-rate in my savings account in American bank, I got $1 million in the suitcase, lets go to Bombay Stock Exchange and buy some shares! Anil Kapoor: Aint that easy! An individual foreigner cant simply walk in the Dalal street and do shopping. Go to Maxwell Assets Manager . He will explain everything to you.

Sub-Account under FII

Maxwell Manager: Im an established financial asset Management firm. Ive got a licence from SEBI to operate as an FII (foreign institutional investor) in Indian market. (After paying $5000 application fees). Mr.Cruise, you will have to register as sub-account under our FII

firm. And then you give your suitcase to us, well invest it in Indian stock market on your behalf. Tom Cruise: Are you the only FII guy ? Maxwell Manager: Well Im not the only FII, there are many others like BNP PARIBAS, MORGAN STANLEY and other 1,700 FIIs and more than 5,500 sub-accounts registered with SEBI. But we are the best, we charge the least Commission and give free caller tunes and Unlimited talk time*. So, Lets goto SEBI office and get it done. (*conditions apply) cut to SEBI Office. Peon: Our Saaheb is gone for tea-break so wait for 145 minutes. (after 145 minutes) Tom Cruise: (to the SEBI clerk) ya I wanna open a FII sub-account. SEBI Clerk: oh Really? Every desi dude here wants to be an IAS, IIM, IIT and every firangi dude wants to be an FII ever since the sub-prime crisis. But are you a wealthy foreign individual or firm with a minimum net worth of $50 million (about Rs. 260 crore)? Only then we give the license, and not to any random swinging dude that walks into our office! Tom Cruise You dont know me? Im the Tom Cruise. SEBI Clerk Whos that? Maxwell Manager He is a famous Hollywood hero, got billions of dollars. SEBI Clerk hmm never heard of you. I only watch the movies of Indias Finest Actor, Fighter, Dancer and Bollywood Superstar Mimoh Chakraborty. Anyways here is the application form for $1000. Fill it up, Attach photocopies of your id and address proof, 10th,12th, Graduation marksheets, Work-Ex and Extra curricular activity certificates: Everything in triplicate, and attested by a Gazetted Officer and your three passport sized photographs with white background, no smile, and sign on your photo with black pen only. Tom Cruise: Man this is so hopeless, it sounds like a perfect plot for Mission Impossible #5. Anil Kapoor can get the 2 minutes role of Gazetted Officer, while I fool the Indian audience for the second time spreading rumors that he is given a big role just like in MI-4! Tom gets the sub account opened. Maxwell Manager: congrats. Now we can invest your money in Indian Stock market on your behalf, so which company do you want to put your money in?

Tom Cruise: hmm, Ive been doing some market research myself, recently saw Abhishek Bacchans Idea 3G ad in Divya-Bhaskar (Gujarati Edition), I think that company and its 3G service is going to be huge hit. Buy some Idea-shares for me so I can earn huge dividends later on. Also buy a few of Vedanta cause they acquired some oilfields from Cairn India, they will also make huge profits and pay good dividends to their shareholders. Maxwell Manager Whaat an Idea sir-ji! Cut to : Supreme Court cancels 2G licenses of all Telecom companies. Tom Cruise Man this is hopeless. I think investing in Idea was a bad Idea. Company is gonna make any decent money now, my return on investment will be ridiculous. Vedanta-Cairn deal is also stuck in the Cabinet, means no quick and huge profit there either. Tom Cruise (phonecall to Maxwell Manager) hi, sell all my shares of Idea and Vedanta. Maxwell Manager Sure. But Where should I invest the money then? Tom Cruise: I have no idea sir-ji, what do you suggest? Maxwell Manager I have been looking at the IIP (index of industrial production), the numbers are going in negative range. RBI is also hellbent on tightening the monetary policy, thus increasing the loan-rates and decreasing the demand of products to contain inflation. Indian industries are facing a slump, there is electricity problem, there is problem of getting environment clearances. Even blue chip software, chemical or automobile companies are not doing good thanks to slowdown in America and Europe. No hope in Airline companies either.. I dont think it is worth it to play in Indian market any more. Besides youve one million dollars, meaning If Indian market gives you 5% return on Investment and Singapores gives you just 6%, still you should run away because 1% of one million dollar= easy $10,000, huge cash! So, I suggest we pull out your money completely from India and get it invested somewhere else, Singapore, Australia, perhaps? Tom Cruise: Just Do It. Anything is better than the stalemate and Policy paralysis in India.

Serious Note on FII (copied from Newspapers)

At present, a foreign individual seeking to invest in Indian stocks has to be registered as a subaccount of an FII, which in turn has to apply to Sebi on the behalf of the sub-account holder. India allows only wealthy foreign individuals or high networth individuals (HNIs) who have a minimum net worth of $50 million (about R260 crore) and registered as a sub-account of a foreign institutional investor (FII) to invest directly in local equities FIIs pulled out money on account of growth falling below 7% and widely-publicised difficulties in obtaining regulatory clearances. Net outflows exceeded $450 million last year

For many FIIs, economic woes in their home markets, especially due to the European debt crisis and a perceived policy paralysis in India following a string of scams, exacerbated their pull-out. Euro zone crisis has led to investors pulling money out of Indian equities. For India, the problem has been compounded by a slump in investor confidence because of policy inaction leading to a sharp fall in new projects. Reserve Bank of India (RBI) estimate says that a 10 percent fluctuation in FII investment results in a 35 percent variation in stock prices. FIIs pulled out money on account of GDP falling below 7% and widely-publicised difficulties in obtaining regulatory clearances. Net FII outflows exceeded $450 million last year.

QFI: Qualified Foreign Investor

Finance Ministers office

Secretary: Sir, the FIIs are pulling out their money like there is no tomorrow. They have lost confidence in Indias growth story (thanks to you). Since theyre pulling out money, Demand of Dollar is increased and demand of rupee is decreased. Currently $1 goes for 54 Rupees in Forex market. We have to do something before all hell breaks loose! Finance Minister: damn, let us start a new scheme Qualified Foreign Investor (QFI) as New year gift from 1st January 2012 to increase the confidence of investors in Indian Market. Secretary: What does is do? Another (bogus) scheme like your MNREGA? Finance Minister It means a foreign individual, group or foreign firm can directly invest in Indian stock-market like any normal Indian citizen, without requiring the sub-account with FII. This should bring in some more investors, whore interested in investing in India but feel turned off because of this sub-account and strict High Net-worth rules. Tell RBI manager to do verification of the applicants though, make sure these individual, group or associations are resident in a foreign country that adheres to anti-money laundering and antiterrorist financing guidelines as defined by the financial action task force (FATF). Secretary: Good idea but I suggest we name this scheme IGQFI or RGQFI Finance Minister: ?? Secretary: Indira Gandhi or Rajiv Gandhi QFI :P Finance Minister: Why not both of them simultaneously? IGRGQFI Secretary: Whaat an Idea Sir-ji!!

Brad Pitt: haha my turn now, Im gonna purchase some shares from Indian Market! HDFC Manager: hey Wait, you cant just walk in like that. First youve to open a Demat account and a Trade account with a DP (Depositary Participant) like us! Brad Pitt: wait wait wait, so many words in a sentence, Im getting confused, lets talk this one at a time:

What is this Demat account?

When you purchase shares, you dont get paper certificates, but those shares get electronically transferred to your demat account in the Depositary. Meaning your shares are not in physical paper (material) form but electronic format. De-materializied= De-mat. No fear of theft, misplacement, delay in transfer etc. Something like having a caller-tune in your mobile. You own the tune but dont actually have to have it in your phones memory card.

What is Depository?
A Depository is like a bank locker where securities (shares) are held in electronic (dematerialised) form. In India, there are only two Depositories -National Securities Depositories Limited (NSDL) and Central Depository Services Limited (CDSL).

What is Depository Participants (DP)?

DPs are like bank branches where shares in physical (paper) form need are deposited for converting them in electronic (demat) form and email it to the Depositary. Examples of Depository Participants (DP) :ICICI, SBI, HDFC etc. Youve to open a Demat Account with any one DP.

And what about this Trade account

The same DP bank also act as stock-brokers. You open a trade account with us, This enables you to trade in shares without going through the hassles of manually converting your dollars in rupees or chasing your broker for cheques or Transfer Instructions etc. Everything will be done after you login to our online portal. Brad Pitt: ok so If I get it correctly: First I purchase shares using my trade account, then transfer them in my demat account. I can do this all without needing a third party agent (FII or ShareBroker), just like how an Indian citizen can play in share-market and Government took this step to increase money inflow and reduce volatility in the market, which was created by FIIs. This is the crux of QFI. Sounds good. Im desperate to become a QFI, Open my Trading account right NOW! HDFC Manager:But for that you need a Demat account. Brad Pitt:Ok open my demat account. HDFC Manager:but you need a PAN card for that. Brad Pitt:Ok open my PAN card account. HDFC Manager:Youve to get PAN card from Income Tax department.

Brad Pitt:Man this is hopeless. No wonder why India ranks low in Doing Business Index.Now What is this PAN card?HDFC Manager:Permanent Account Number (PAN) refers to a ten-digit alphanumeric number, issued in the form of a laminated card, by the Income Tax Department in India. It is now compulsory to quote PAN in share-trading and financial transactions. Although Dividends from companies and mutual funds are not taxable in India, PAN card is required to fulfill the KYC (know your customer) norms for us a critical requirement in the age of laundering and transferring terrorist money! Brad Pitt:But Im a Foreigner! Do I need PAN card too? HDFC Manager:Yes you do mister. and youll have to get it from IT office. Cut to- Income Tax Office. Peon (To Brad Pitt) Saaheb is gone for a tea-break. Wait for 145 x 109 minutes. Brad Pitt (Facebook-twitter status update): #missionimpossible6On a serious note, QFI from Newspapers

2011: QFI were allowed to invest in pension and mutual funds only and not in the Indian Sharemarket as such. Until now Foreign Institutional Investors/sub-accounts and Non-Resident Indians are allowed to directly invest in the Indian equity (Share) market. 2012: Now QFI can also invest in sharemarket. QFI is an individual, group or association resident in a foreign country that adheres to antimoney laundering and anti-terrorist financing guidelines as defined by the financial action task force (FATF), a multi-lateral body. The QFIs do not include FII/sub-accounts. QFIs can own up to 5% of Indian companies while their cumulative investments are capped at 10%. These limits are over and above the FII and NRI investment ceilings prescribed under the portfolio investment route for foreign investment in India The QFIs shall be allowed to invest through the SEBI-registered Qualified Depository Participant (DP), with the QFI required to open only one demat account and a trading account with any of the qualified DP and make purchase and sale of equities (shares) through that DP only. .

Regional Rural Banks vs Cooperative Banks What is NABARD?

National Bank for Agriculture and Rural Development (NABARD) It is the top development bank. It was established in 82 by a special act of parliament: to provide cheap loan to villagers. Government of India holds 99% stake.

How does it give money to villagers?

It takes money from RBI, World Bank and other international funding institutes. It loans this money to Regional Rural banks and to NBFC (Non-Banking Finance Companies) working in Microfinance sector. Recall that Muthoot Finance is also an NBFC, but It cannot get money from NABARD. (although they may be giving gold-loans to villagers!)

Where is the office?

NABARDs Headquarter = in Mumbai RBI Headquarter = in same Mumbai. (and NOT in Delhi)

Now two more types of Banks: Regional Rural Banks (RRB) and Cooperative Banks.

Regional Rural Banks Where do they operate?

As the name suggests, they are located in rural / semi-urban areas.

What do they do?

They give loans, mostly to small and marginal farmers, agricultural laborers and rural artisans.

How were they born?

They were established under Government ordinance in mid-1970s.

What is ordinance?
When parliament is not in session, President can make an act on advice of the cabinet. Such law is called ordinance.

Who owns RRB?

RRBs are jointly owned by

Govt. of India, the concerned State Government and Sponsor Banks Ownership in the proportion of 50%, 15% and 35% respectively

Give some examples of RRB?

Dena Gujarat Gramin Bank Andhra Pradesh Grameena Vikas Bank Vidharbha Kshetriya Gramin Bank Paschim Banga Gramin Bank

Whats their problem?

Same as Air-India and Kingfisher: Loss making. Out of political compulsions, they hold Loan-melas to give mass-loans to farmers (during Election-years) but later cannot recover the money. Sometimes loans given to undeserving people, due to political pressure. Makes sense huh? Government owns 99% in NABARD >> NABARD Gives money to RRBs, I hope you get the picture.

K. C. Chakrabarty Committee on RRB, 2009

RRBs are not functioning properly; they need new capital infusion of Rs 2,200 crore by 2011-12. Performance of RRBs should be monitored by state level committees headed by finance secretaries of state governments with officers from the NABARD, etc. (Better his report prepare it thoroughly for General Studies Mains.)

What is Co-operative bank?

Copy pasting from Rediff.com Theyre small-sized units organized in the co-operative sector (mostly Rich-businessmen and relatives of politicians gather-up and open such banks in a city/ small town) These banks, until 1996, could only lend for non-agricultural purposes. Cooperative Banks in India are registered under the Co-operative Societies Act. These banks provide most services such as savings and current accounts, safe deposit lockers, loan or mortgages to private and business customers. Co-operative banks function on the basis of no-profit no-loss. Co-operative banks, as a principle, do not pursue the goal of profit maximization. Therefore, these banks do not focus on offering more than the basic banking services.

Loans and Co-operative Banks

Co-operative banks give cheaper auto loans compared to private banks. The criteria for getting a loan from a UCB are less stringent than for a loan from a commercial bank. For instance, when taking an education loan, it does not matter whether the course you are going for is recognized or not! End of copypasting rediff.com

How to scam using Cooperative bank?

Step 1: Gang up a few heavy weight politically connected people, and Open a cooperative bank. Step 2: take deposits from common-men, borrow some money from RBI, but give loans only to your friends and relatives and dont ask them to pay EMI. Step 3: Keep doing this, until the bank collapses. Step 4: Now pay bribe to police and run away to any foreign country. Some big scams: Madhupura Bank-Ketan Parekh, Aadarsh Bank, etc.

Different Types of Companies: Pvt.Ltd, Public Ltd., Public Corporation, Departmental Undertaking, PSUs Paid up Capital

This word is going to keep reappearing in next few articles, so better understand it in advance. You already saw that there are two ways to finance a company: Debt + Equity. Paid up Capital means the amount of money contributed via Equity (shareholders)

Private company

It has a minimum paid-up capital of Rs.1 lakh It needs minimum two members and maximum 50 members (i.e. The persons who hold its equity) This company is to use the word Private Limited at the end of its name. It cannot have more than 50 members It cannot borrow for general public. For example Balaji Telefilms private ltd= Ektaa Kapoors company, involved in making those boring Saas Bahu serials. Another example: Neela telefilms private ltd. = Asit Modis company, they produce the comedy serial Tarak Mehta Kaa oolta Chashmaa. Flipkart.com : the online shopping website is also a private company, started by Sachin and Binni Bansal.

Public company

It has minimum paid-up capital of Rs.5 lakh. Requires minimum seven members to start a public company. It has to hold annual general meeting of shareholders. It can borrow from general public via IPOs and Bonds. For example, Infosys started as a private ltd company in 1981, but in 1992, it re-registered itself as a Public Ltd company and launched the IPO in 1993.

Holding company and subsidiary company

If company A holds more than 50% Shares of company B then, Company A is a holding company Company B is a subsidiary company Example: Coal India is a holding company. Bharat Coking ltd, Mahanadi CoalFields ltd are its subsidiary companies. Similarly, Konkan Railway is a subsidiary company of Indian Railways. Although Indian Railways is not a Holding Company, it is a Departmental undertaking.

Departmental undertakings

They are involved in some commercial activity such as engineering, manufacturing etc. But Theyre directly controlled by the government, just like any other department For example: Indian Railways, postal Department. They are not registered as companies under the companies act They are wholly financed by the government (and not through Debt+Equity like a normal company) They cannot use their profit to meet their expenditure, or to expand their business activities without the permission of Government (by extension parliament. I.e. Railway budget for Railways and General Union budget in case of postal Department) Their employees are government servants. Directly audited by CAG. RTI applies to Departmental undertakings.

Government Company

It is a company in which government holds not less than 51% of paid-up share capital. For example, ONGC, SAIL Here, The Government means the union government or the State government(s) on both. For example, in Company A, 30% shares are held by union government, 10% by Gujarat government, 11% by Madhya Pradesh government, still Company A is a Government company (30+10+11=51%) The government company is managed by the board of directors. Board of Directors are appointed by the shareholders. But since government owns majority of the shares, majority of directors are chosen by the government. They can borrow extra money from public via IPOs and bonds. This company does not need Parliaments approval on how to use the profit, But it will need

approval of Board of directors on how to spend the profit. Theyre not directly audited by CAG, but CAG appoints the private firms (Chartered accountants) as auditors. RTI applies to Government companies.

Public corporation

They are established by a special act of Parliament or state legislature (Vidhan Sabha) The act defines how this organization will run. For example: LIC, Air India, IDBI, UTI They are wholly financed by the government, but still they can also borrow from general public via Bonds and shares. Government appoints board of directors. They can use their profit as per their requirements without Parliaments approval Employees of public corporation are not government servants. Directly audited by CAG, although in some cases CAG outsources the work to private firms. RTI applies to Public Corporations.

PSU (Public Sector undertakings)

When we use the word PSU: it means Public corporations + Government companies. Departmental undertakings (Railway/Postal) are not PSUs. CAG has two wings: 1. The Civil wing looks after the auditing of Ministries + Departmental undertakings. 2. The Commercial wing looks after the auditing of Government companies +Public Corporations.

Shares vs Stocks, Rights Issue of Shares, Bonus Shares, RSU Share versus stock

Suppose the company has issued 1000 shares, worth Rs.10 each You purchased 50 shares of this company. So you have to pay 50 shares x 10 Rs. Each = Rs.500 That means you own 50 Shares of this company and You own stock of Rs.500 in this company. In short, when we talk about shares we refer to the number of papers held by you. When we talk about stocks, we refer to the money value of those papers held by you. But ultimately, both shares and stocks suggest the same thing: Equity. You already know what equity means, if not click me

Different types of shares

Normal shares It comes with voting rights. This is what you get from routine IPO>>Share thing Preferential shares Already discussed in the SBI capital infusion article

Still There are some topics related to shares

Rights issue of shares

You launch IPO, get funds from the public, and start a company. (Equity) After some years you want some more money to expand the company, so you want to issue additional shares. But under the companies act, you can issue additional shares to the existing shareholders only. This is called rights issue of shares Here, you give notice to the existing shareholders, offer them to buy your new-shares, you cannot offer any other outsider to purchase the shares. If you do not want rights issue of shares, you have to hold a general meeting of shareholders and pass a resolution that company does not need to offer new shares to the existing shareholders, and these new shares are available for anybody to purchase

So, whats the point in doing rights issue?

Well the direct utility of rights issue= obviously to gather more money to expand your company. But it is also used for other purpose

To reduce the debt: equity ratio

From the Debt VS Equity article: There are credit rating agencies S&P, CRISIL etc. they give rating to your companys bonds. AAA,BBB etc. Lower the rating = higher the interest rate youve to offer, to seduce the people into buying your bonds. (Recall the Junk Bonds.) But before giving rating to your bonds, the credit rating agency will look into your companys performance, assets, liability everything. And one of the thing theyre interested in, is Debt to Equity Ratio The company with high debt to equity ratio = it has more debt = compulsory interest payment = trouble = lower rating. If such company issues more bonds to gather money, itll have trouble; its new bonds will receive even lower credit rating. So, what can they do? Another case: Youre kingfisher. Youre not doing good, nobody is helping you. So you want some foreign investor to come and help you. But hell also look into debt:equity ratio before finalizing the terms of deal. What can you do to appear good in front of him? Obviously: reduce the Debt to Equity ratio. But how?

Simple: offer new equity (shares) to existing shareholders @ a discounted rate. (=Rights issues of shares). Youve offer it at a discounted rate, else no one would buy it. Youre doing this whole exercise, because youre in trouble in the first place.

For example: Here is my offer of Rights issue:

1:1, Face value Rs.100, @ Discount of Rs.50 Meaning, if you already have 10 shares of my company, you can buy 10 more shares from me (1:1), Each of these shares will have Worth Rs.100 printed on it but Ill give it to you for Rs.50 only. What good does it do to me? Well in the legal record, for the calculation of Debt Vs Equity =theyll calculate using Rs.100 face value. Thus my Debt:Equity ratio will go down, and Ill look good when credit rating agency / FDI investor starts evaluating me.

Bonus shares

In the debt versus equity article, you saw that a company can collect money from people by issuing shares (IPO/Equity/Stock whatever you want to call it), but every year, company reports the profit to the board of directors. The board of directors will decide how much profit is to be re-invested in the company and how much profit is to be shared with the shareholders. The profit, thus shared with the shareholders is called dividend. Generally dividend is sent to the shareholders via cheques. But sometimes,company also gives you extra shares. It means company paid the money to purchase shares on your behalf and gives it to you. So you got free shares and next year when company distributes the dividends (cash), you will get more dividend, because now you are holding more shares. Alternatively, you can sell away these bonus shares to someone else and take out the money. These are called bonus shares What is the difference between Bonus shares and rights issues Well, as a shareholder, you get shares for free under bonus shares. But youll have to pay money for buying new shares under rights issue

Employee stock option scheme

Here the company issues shares its employee at a discount price. This is done to make the employees committed to the success of company because if the company makes more profit, they can walk away with higher dividends. Such shares have minimum lock in period: for example if your boss gives it today, you cannot sell it for one or two years.

Restricted stock unit (RSU)

This is also a form of Employee Stock Option but here the company promises to deliver shares to its employee in future date. For example, Apples new CEO Tim Cook: hell get $900,000 of cash salary and a $377 million in RSU. Apple will deliver him 500,000 shares of Apple stock in 2016, and 500,000 more shares in 2021 as long as he stays employed at the company.

FCNR Rate Hike to Prevent Rupee Downfall What is FCNR?

Foreign Currency Non-Resident (FCNR) scheme was launched by RBI in the early 1990s. It allows NRIs to make fixed Deposits (FD) in Indian Banks, in Pound Sterling, US Dollar, Japanese Yen, Euro etc. They dont need to convert their foreign currency into rupees, just directly deposit foreign currency in Indian Banks. They dont need to pay income tax on the interest earned in such account. RBI decides the upper ceiling on interest rate to be paid on such deposits. Minimum maturity at 1 year, max is 5 years. Example SBI FCNR. You can read its terms, conditions and features by clicking Me

What does SBI do with foreign currency deposits?

NRI deposits his hard earned dollars$ into SBI account. SBI gives these dollars as loans to Indian Importers, who have to make payments in dollars for the importing raw material, machinery and goods from foreign countries. SBI also gives these dollars as loan as pre-shipment credit to Indian Exporters. Because theyve too may need to import some raw material from third country, also for paying the transport cost to ships etc. In short, SBI (or any Indian Bank), takes dollars from NRIs in FCNR account and gives it as loans to Indian businessmen for import/export. Same thing for Yen, Pound, Euro etc. (Because NRI can deposit those currencies as well and those Indian businessmen may also need Euro/Yen for making special purchases from particular country.)

Why is FCNR in News?

As usual, Rupee is weakening against dollar. On 4th May 2012, the exchange rate was $1=53.** Rupees. RBI had to do something immediately to stop the further downfall of Rupee against Dollar, so RBI chief increased the upper ceiling of FCNR interest rate. Now Indian banks can offer even higher interest rate on FCNR deposits.

Implication of FCNR interest Rate hike

Currently Citibank USA offers only 0.05% interest rate on savings account! (does it sound ridiculously low? Well, these rates are given on the official page of Citibank USA! Compared to that, Bank of Barodas FCNR interest rate on dollar deposits is around 3 to 4%. Now theyll increase the interest rate even higher, after RBI increased the ceiling. So, the NRIs will find it even more attractive to park their dollar-savings in Indian banks rather than in American banks. This Means, Supply of dollar increased for those Indian banks. They can loan these dollars at to Indian importers. (more money supply =more liquidity = loaninterest rates go down). Thus Demand of Dollars decrease @Forex market, because now you can borrow dollars from SBI @ a lower cost compared to what SBI used to charge earlier. So no need to run to Forex agents.

Imaginary example:
Year 2001
interest given to NRI on savings deposit: 3% loan interest charged from businessmen: 6%

Year 2002
interest given to NRI on savings deposit: 4% loan interest charged from businessmen: 5.5% It seems the profit margin declined in second case, isnt it? But the volume of incoming money has increase and so will the volume of business. Besides, it takes only one troubled bank to reduced its loan interest rate, and the other banks will be forced to reduce their loan-interest rate as well, to stay competitive. Then why didnot the said troubled bank reduce its loan interest rate earlier? because earlier its incoming NRI-deposits were low due to FCNR limit so they didnot have enough raw-material to reduce the sales price and yet run operation smooth.
Demand of dollar decreases from open Forex market= rupee strengthens.

So instead of going down to $1=54 Rs, now rupee will trade @$1=52Rs or lower Although its not that linear and immediate, takes some time for the laws of supply and demand to show effects and then rupee will start strengthening again.

Current Account Deficit: How to Calculate it? Balance of Payment

Is made up of two components 1. Current account and 2. Capital Account. This article, deals with Current Account only.

Current account
It is made up of three parts.

1. Balance of Trade 2. Earning from Investment 3.Cash Transfers

Part #1: Balance of trade

Since we are talking about Indias Current account, whatever money is incoming we take it as positive (+) and whatever money is outgoing, we take it as Negative (-). For 2010-11
Goods and Services Export Import Total Worth (Million Dollars) +299284 -381061 -81777

We got a negative number, therefore India has a trade DEFICIT of 81777 million US$ for year 2010-11. Call this figure (1) If we had got a positive number, we could say India had trade SURPLUS Unfortunately, we can never have Surplus because every-year weve to import crude oil and gold worth billions of dollar and that disturbs the whole balance. Rajiv Gandhi Equity saving scheme was an initiative of Pranab, to make Indians reduce goldpurchase and use that money to invest in capital market. But so far it seems to be heading for #EPICFAIL. Reason: Target audience doesnt have PAN cards and Demat accounts. Note: For the sake of simplicity, Ive added + and in front of incoming and outgoing money and did the total. But technically it is called net difference between exports and imports.

Part #2: Earning on Investment

Foreigners invest their money in India (both FDI and FII), similarly Indians invest their money abroad. On their investment, they earn income: interest rates / dividends etc. The amount of money actually invested, is put under Capital Account But the amount of income or interest earned on ^above investment, is put under Current account For example, An FII invests $100 on 8% Bond, therefore earns $8 in interest after one year. The $100 are classified in Capital account and $8 are classified in Current Account. Take the difference of incoming and outgoing Earning on Investment for 2010-11 it was -17309 Million US$..call this figure (2) Question: why was it negative? Because more Foreigners invest in India compared to Indians investing abroad. (we do invest abroad but in Swiss bank accounts only :P). Besides even if an Indian had invested in American or European market, hed not have recieved much income from the investment because of the global financial crisis during that period.

Part #3: Cash Transfer

The money transferred without exchanging any goods or services. For example an Indian worker sending money from Dubai to his family in Kerala(Remittances) Some American nuclear powerplant company using a charity foundation to send donations to Jholachhap NGOs of India, to help them finance the protests, dharnaa pradarshan against Russian nuclear powerplants in India = that is also one type of service offered by Indian NGOs but still Donations fall under Cash transfers and not under the Goods and services Again take difference of incoming and outgoing money: thankfully this number was positive for 2010-11: it was +53140 Million US$.call this figure (3) Why was it positive? Because so many Indian people work abroad and send money to their families, that remittance is soooo high, that it skews to balance in positive direction Besides there are very few foreigners working in Indian and remitting money back home. One of them was that Italian tourist-agent in Orrisa but he was kidnapped by naxalites and went back to Italy so that is one less foreigner remitting money from India to abroad = next year the cashtransfer of India will look even more positive!

Current Account Deficit

Simply do the addition of figure (1), (2) and (3)

2010-11 Balance of Trade Earning on Investment Cash Transfer Total Worth US Million $ -81777 -17309 53140 -45946

Since we got a negative number, we call this Current Account Deficit (CAD): worth 45946 million US dollars. 1 billion = 100 million 10 lakh = 1 million 1 billion = 100 crores = 100 x 100 lakhs = 1000 x 10 lakh = 1000 million 1 billion = 1000 million Hence, 1 Million = 1/1000 Billion

45946 million = 45946 x (1/1000) billion =45.9 billion $ Note: youll get different number on different website and sources based on their data-sources. But 2010-11s CAD was somewhere between 45-55 billion $. Although absolute number by itself is not important for exams. Economy is not about absolute numbers but context of those numbers.

The Invisibles
Theoretically, the CAD is calculated using above three figures: BoT + EI + CT But in real life, many countries, including India uses a slightly modified method of CAD calculation. Under the Current Account subheads, they classify money according to visibility of products. Visible = import and exports of Goods (gems, petroleum, textiles etc) Invisible involves

Import and export of services (softwares, call centre, tourism, softwares, insurance etc.) Earning on investment (dividends, profits, interest etc.) Cash transfer (remittances, donations etc.)

^These three are classified under invisible because you dont see any physical goods/products moving around during the transaction. So, take the balance (net difference) of visible and take the balance (net difference) of invisibles. Add them up and you get CAD.

Implications of Current Account Deficit

As long as India continues to import to crude oil and gold, we cannot have Current account Surplus That means we are doomed to have current account deficit for the years to come. So Think about following questions: How does increase or decrease in CAD help us or harm us? Is CAD always bad? How can we reduce the Current Account Deficit? Ofcourse one solution is: ask the Naxalites to kidnap more and more foreign workers to decrease the outbound remittances! Thatd also reduce the foreign investment coming into those naxal-affected regions = less outgoing money in Earning from Investment = Current Account Deficit reduced! But is it good for the overall Indian economy? Think about it!

FCCB: Foreign Currency Convertible Bonds and FCCB Refinancing

Foreign Currency Convertible Bond (FCCB) From the previous Debt + Equity article, you know there are two ways to finance a company
1. Debt ( Bonds) 2. Equity (Shares / IPOs )

What is a Foreign Currency Bond?

Example of a Bond: Rs.1000, 8%, 2023. It means, You give me Rs.1000, I give you that Bond-paper Until 2023, each year I shall pay you Rs.80 as interest and on maturity (2023), Ill pay you the principal (Rs.1000). This is a bond in Indian currency, with both principal and interest is paid in Rupees. But what if any Indian company wants to sell bonds to Americans? $100, 8%, 2023. Here both principal and interest will be paid in American currency. This is an example of Foreign Currency Bond. It is a bond issued by an Indian company expressed in foreign currency, the principal and interest of which is payable in foreign currency.

What is Convertible Bond?

Again two ways to finance a company : Debt + Equity. Consider this bond Rs.1000, 8%, 2023. Convertible to 100 shares after 5 years. It means, for the first five years, you continue to receive interest payment of Rs.80, each year. But on the fifth year or after that, you can give this bond back to the company and receive 100 shares (equity) in lieu of your bond. Think of the pros and cons From Investors point of view:

If the shares are selling @higher price. I can exchange my bond for those shares and sell them in market. In that situation, I should get my bond converted into shares.

From Companys point of view

If the bond is converted into share, I dont have to make regular interest rate payment, nor Ive to give back the Principal Rs.1000. Less bonds = less debt. This is good for reducing Debt : Equity Ratio. (more explained in previous Rights issue of Shares article)

Foreign Currency + Convertible Bond

Combine above two features in one bond.

Issue the bond in foreign currency; promise to pay the interest and principal in foreign currency. Promise the investor to convert the bond into equity after a fixed date.

When you issue a bond having both of above features, it is called FCCB (Foreign currency convertible Bond). FCCB started in 1993.

FCCB Refinancing
In crude terms, it means you take a new loan, to repay previous loan! During the IT-boom period, Many Indian companies took funds from Foreigners using FCCB bonds. At that time the picture was rosy good and the Indian businessmen had thought, theyll be able to repay the interest and in most cases, the foreign investor will get the bond converted into equity so we wont have to pay back the principal! Problem: Foreign investors did not convert their bonds into equity, may be because of the dismal economy-scenario both in India and abroad. For example: Ive following FCCB of Company xyz $1000, 8%, 2025, 100 shares after 5 years. Let us do some aptitude In 5 years, I earn 8% x 1000 x 5 years =$400 in interest payment. Now this Indian company offers to convert the bonds into equity of 100 shares. But the shares of this company are trading @ Rs.150 per share. That is roughly $3. Means I get $3 per sharex 100 shares = $300 worth of shares. Even if I sell it in market, I can recover only $300.

How much I make ? $400 already earned in interest + $300 via shares = $700. But my initial investment is $1000. Besides, this stupid company pays very low dividends and my financial advisors tell me that in future also, its share price of dividend is not going to increase much. In this scenario, Im not in a mood to convert my FCCB bond into that Indian companys shares. Because as long as Ive the FCCB in bond form, I continue to receive interest and claim the principal. Think it this way, from investors point of view If the time is uncertain, where will you invest money: in Debt or in Equity? Ofcourse in debt because you get assured return on investment.

Why in News?
The current RBI-norms mandate if a company wants to pre-pay FCCBs via fresh foreign loans or bonds, the new paper must be of longer maturity and carry a lower interest rate than the existing. For example, Youve to repay FCCB of 1000,8%,2025, but you dont have enough money so you want to issue another bond to get money and payback this loan. But You can issue new bond of lower interest rate and longer maturity only, for example Rs.1000,7%,2030 only. But unless a higher interest rate is offered, the new investors may not be willing to put in money. (Recall the junk bond example.) Therefore Indian corporates are asking RBI to reduce limits on pricing and maturity. Consider following crisis of Suzlon.

FCCB Problem of Suzlon

Suzlon is a famous wind turbine maker company promoted by Mr.Tulsi Tanti. Few years back, Suzlon had raised $600 million or Rs 3,000 crore through Foreign Currency Convertible Bonds (FCCB). The Maturity date is in July 2012. i.e. Suzlon has to repay the principal of Rs.3000 to those FCCB bond holders. But according to market sources, The company is not in a good financial position, thanks to the global financial crisis. Reason1. Wind-turbine orders from Europe and American clients have declined and 2. one of the biggest clinet Edison Mission, is not paying the dues in previous orders.)

So, currently, it is outside Suzlons aukaat to pay back more than Rs.2250 crores. Therefore 3000-2250=Rs.750 crore have to be arranged. Weakening of Rupee currency only adds insult to the injury. Because in FCCB, both principal and interest have to be paid in foreign currency. So if 1$=50 Rs., that was well and good but right now 1$= around 54 Rs. Means company has to get even more Rupees to repay these FCCB bonds. So, Suzlon is in talks with bondholders e.g.
1. (offering to Bondholder) : Bhaiyaa instead of 100 shares, I offer you 200 shares. But please convert your FCCB into equity.

If the bondholder agrees, it is well and good but problem: Tulsi Tantis shareholding will decline from 53% to 50%. As you can understand, shareholding less than 50%= Not a good idea Sir-ji. Just like running a coalition Government with Mamatha Benerjee.
2. Suzlon is also thinking of selling a subsidiary company called SE Forge

Again problem: SE forge will not sell for more than 300 Crores, While Suzlon needs Rs.750 crores.
3. Issue a new FCCB bond, to repay the previous FCCB Bond.

Exchange Earners Foreign Currency (EEFC) Account What is EEFC?

Indian People who earn in foreign currency (Exporters, big companies etc), can open the Exchange Earner's Foreign Currency (EEFC) Account in a Bank and deposit their foreign currency in it.

Where can I open EEFC?

ICICI, Bank of Baroda and other banks.

Difference between FCNR vs EEFC

Recall the FCNR = NRIs can deposit foreign currency in Indian bank. EEFC= Indian Exporters can deposit foreign currency in Indian bank.

Why is EEFC called current Account?

EEFC = Current Bank account in Foreign Currency. Just like a normal Current Account, Banks donot give interest on EEFC deposits.

EEFC= No interest paid by Bank!

Yep, The million dollar question is: If Bank doesnt give any interest on your EEFC deposit, then whats the purpose of opening such account? You import steel from china, assemble bicycle in India and export it to France. From France you receive Euro and to China, youve to pay in Yuan. Suppse youve only a normal bank account, you can only deposit money in Rupees. So first youve to convert those Euros into Rupees, (Forex agent will charge Commission), deposit Rupee money in your savings account. But just after 10 days, youve to pay to Chinese exporters in Yuan. So again take out Rupee money, convert it in Yuan (Forex agent again charges Commission.) + so much paper-work. The only guy benefitting here is the Forex dealer because youre not earning enough interest and paying more to him in Commission. The EEFC account comes handy. You can deposit whatever amount of Euros you received from France (100% amount) into this EEFC account. And later as and when you need, you take out the Euros and convert them into desired currency. Q. In EEFC Account, can somebody hold multiple currency like Dollar, Pound, sterling, Yuan or he is allowed only for a single foreign currency. (by Pradeep) Ans: One is required to have multiple EEFC accts for multiple currencies. So, if some exporter has transaction in EUROs and Yuans, he has to have two EEFC accts i.e EEFC (EURO) and EEFC (Yuan) (By Nitesh Macwan)

Why EEFC in News? RBIs new guidelines

Same reason why FCNR was in news! =The declining value of Rupee. This week, 1$= 53.82 Rs. RBI wanted to stop the downfall of rupee any further so, Governor issued notification. It made two new rules. Rule #1: use your own forex damnit! Exporters are permitted to buy foreign exchange only when they have completely utilized the foreign currency in their EEFC accounts.

But why? Ans. To reduce currency speculation. For example, my finance expert tells me that I should hold on to my dollars in my EEFC for a month, because afterwards, dollar is likely to strengthen. (example 1$=50 to 1$=55) Therefore, at the moment Im not interested in using any dollars from my EEFC account, I just kept the stash aside. And I buy new dollars from forex market using rupee currency, to make payments for my business (instead of utilizing my own dollars already stored in my own EEFC.) This unnecessarily decreases the supply of dollars. (because people dont use their dollars, they just keep buying new from others) = demand of dollars even increase = rupee weakens even more. Therefore New RBI rule: Exporters are permitted to buy foreign exchange only when they have completely utilized the foreign currency in their EEFC accounts.

Rule 2: Sell 50% Forex from your account.

Another rule made by RBI: whatever foreign currency Ive in my EEFC account, 50% of it, will be automatically sold and converted into rupee and saved back in my EEFC account. Ive to compulsorily surrender 50 per cent my foreign currency from my EEFC, for conversion to rupee balances. Result: Since Im forced to sell my foreign currency from my EEFC account= the supply of dollar / pound and other foreign currencies will increase in the market. Their price go down (example from 1$=55 Rs. To 1$=50 rs.) = Rupee strengthens.

Gold deposit scheme (2013)

Given the cons / limitations of the existing gold deposit scheme (1999) and Gold EFT (2006), Chindu came up with this new idea, in Feb 2013. This new gold deposit scheme (2013) will be operated by Post office (in rural areas) and public sector banks. The concept is similar to fixed deposit scheme. You deposit money to the bank / post office, and they will give you a gold deposit receipt. After end of fixed time (maturity), you give the receipt to bank and youll be given options

1. either get possession of gold 2. Take away cash (prevailing gold rates at that time). 3. Convert the gold deposit into fixed deposit (cash) and get interest rates (like in usual fixed deposit schemes).

Plus benefits in tax (capital gains, income tax).

Apart from these measures, Government also raised the import duty on gold and platinum from 4 per cent to 6 per cent (in January 2013), to decrease the gold consumption. A related topic:

Gold =Inelastic? Elasticity of demand

The demand for a product moves in opposite direction of its price. E.g. if price of product increases then its demand should decrease. In other words, demand for good is negatively related to the price of a good. However, the impact of price change is not always the same on demand. For example, in some cases, even if price increases, the demand will not fall down drastically, in other cases itll do.

Formula?

Elasticity is measured by following formula ED=(%change in demand of a good / %change in price of that good) ED is a pure number. (Because it is a ratio, were just dividing two percentages). It doesnt depend on the units in which price and quantity are measured. ED is a negative number. For example, if the price increases by 5% and quantity demanded decreases by 5%, then the elasticity at the initial price and quantity = 5%/5% = 1 But for determining the elasticity, we use the absolute value |ED| When? Implies Example?

Demand of a goods/service/product

Inelastic

Price of product increases by x%, still demand of product |ED|<1 doesnt decrease by x%. (It decreases by less than x%) If price of product increases by x%, then demand for product |ED|>1 decreases by more than x%.

Insulin injection and other lifesaving drugs.

Elastic

Spa, Tourist resorts, cars and other luxury stuff.

Common sense suggest that if price of gold increases then its consumption or demand should decrease, right? But if we look at the import data, that is not happening. Gold consumption hasnt decreased much despite the price rise. It implies that investment in gold is becoming price inelastic.

Some other concepts regarding elasticity

Food is as such inelastic in demand. (After all, whether you like it or not, youll have to eat!) But specific food item may be elastic, IF close substitutes are available. For example, if ghee becomes too expensive, people might start using vegetable / Dalda ghee. Similarly, butter to margarine. Meaning, if close substitutes are available easily, then demand for a good is likely to be elastic. And, if close substitutes are not available easily, then demand for a good is likely to be inelastic. (for example, again insulin injections and other lifesaving drugs). Food for thought: How do you connect food adulteration and piracy with the elasticity of demand?

Giffen goods

So far, We know that when the price of an item increases, its demand should decrease. But there can be a situation when even after price rise, the demand increases! Such goods are called Giffen goods. They violate the general law of supply and demand. This concept was first identified by a statistician, Robert Giffen.

Normal, inferior goods

Relation between income and demand?

Example?

Normal goods

When your income increases, you buy (demand) more quantity of these goods. When your income decreases, you buy (demand) less quantity of these goods For normal goods, as income increases, demand curve shifts rightwards When your income increases, you buy (demand) less quantity of these goods. When your income decreases, you buy (demand) more quantity of these goods For inferior goods, as income increases, the demand curve shifts leftwards

Pure ghee, Ice-cream, Pizza Bournvita, Horlicks basmati rice

Inferior goods

Dalda (Vegetable) ghee. Coarse rice (instead of Basmati). Used car, mobiles (instead of brand new)

Gold: import-export destinations

As per Mines ministry of India, our domestic gold production is barely 2.8 tonnes= not even 1% of our gold consumption can be met by this desi gold. Therefore weve to import so much Videshi (foreign) gold.

Main gold suppliers to India Indian Jewellry mainly exported to 1. Switzerland 2. UAE 3. S.Africa 1. UAE 2. Hong Kong 3. USA.

^this data is from Economic Survey, Ch.7.

Mock Questions
1. Gold Exchange traded Funds a. are regulated by SEBI b. requires DEMAT account c. Can be traded at stock exchange d. All of above 2. Gold Exchange traded Funds involves a. Asset Management company (AMC) b. authorized participants c. both d. none 3. In 2013, Government allowed linking between Gold EFT and Gold deposit scheme. This will _________ the current account deficit. a. Increase b. Decrease c. Not affect d. Worsen 4. Gold Exchange traded funds contain mixed characteristics of a. Mutual fund and shares b. Shares and bonds c. Mutual funds and ADR d. None of above 5. Excessive gold import by a country like India, a. Increases its trade deficit b. Increases its current account deficit c. Both d. None 6. If A=percentage change in price of a good and B=percentage change in the demand of that good, Then Elasticity of Demand will be a. A/B

10.

11.

12.

13.

14.

15.

b. B/A c. A x B d. None of Above Demand of a product is inelastic IF, a. demand doesnt increase despite increase in supply b. demand increases more than the supply c. Percentage change in demand of a good is less than the percentage change in price of that good. d. None of above. Demand of a product is elastic IF, a. Percentage change in demand of a good is less than the percentage change in price of that good. b. Percentage change in demand of a good is more than the percentage change in price of that good. c. demand increases despite increase in supply d. None of above. In economics, the definition of normal and inferior goods revolves around a. supply and demand of good b. quality and quantity of good c. consumer income and demand of good d. none of above the definition of elasticity and inelasticity in the demand of goods revolves around a. change supply and demand of good b. change in demand and price of good c. change in income of consumer and demand of good d. none of above In economics, inferior goods mean a. Those imported from China b. adulterated, fake or spurious products c. Those goods, whose demand decreases with the rise in consumers income. d. None of above. When quantity demanded rises as incomes rise, the said good is a. Normal b. inferior c. elastic d. none of above Griffen goods means a. Those goods whose consumption increases with increase in their price b. Those goods that observe the law of supply and demand c. Goods that are both elastic and inelastic in demand in different countries at the same time. d. None of above If 2% increase in gold price, brings 3% decrease in its demand, then demand of gold is said to be a. Elastic b. Inelastic c. Griffen d. None of above The major source countries for import of gold include

a. b. c. d.

UAE S.Africa Switzerland All of above

Banking Amendment Bill: Issues, Features, Problems, Reforms What is Banking Regulation Act?

It is governs all public sector banks (SBI, PNB etc.) and private sector banks.(ICICI, HDFC etc.) in India.

Set : Finance Ministers Office

RBI governor

Chindu

RBI Power #1: Can remove entire Board of a Bank

RBI

Chindu RBI

Chindu What is that?

RBI Power #2: Connected Lending Prevention

Suppose Mr.Paraajay gets license to open a new bank. He opens Pawn-Fisher bank, people deposit their hard earned cash in it. Ideally, bank should lend this money to the home, car, education and business-loan seekers, who then pay interest and thus bank makes profit. Bank must make good profit, so It can pay 1) good interest rate to its bank account holders. 2) good dividends to its share holders. But Mr.Paraajay also owns another company, Pawn-Fisher airlines. And this airlines company is making losses. Mr.Paraajay gives loans from Pawn-Fisher bank to Pawn-Fisher airlines @very low interest rate, to fix the mess. And or, this Pawn-Fisher airlines gets the bank loan @market rates from the Pawn-Fisher Bank but it doesnt pay EMIs regularly, yet the bank doesnt take any action. Similarly, Mr.Paraajay also opens Pawn-Fisher Mutual funds, but it also makes losses, and money is transferred from bank deposits to mutual funds, to cover up those losses. These type of activities = Not good, because in long term, bank will collapse and depositors money will be stuck. So, I must be given powers to check the records and account-books of those mutual funds, insurance and other companies associated with a bank.

RBI

Agreed. Chindu youll get the power to inspect those other business arms of a bank. Anything else? RBI Yes, money from unclaimed bank accounts.

RBI Power #3: Unclaimed Accounts

RBI

interest also. Chindu Agreed. Anything else Yes one tea, two samosas and four more powers 1. If any person wants to buy more than 5% shares of any bank, hell have to take permission from me. And before giving him approval, I can put conditions on him, For example give me deposit worth Rs.xyz, so if you play some mischief, Ill take away your deposit. 2. If primary cooperative societies want to continue their banking business, theyll have to get a license from me. 3. I can conduct special audits of cooperative banks because theyre more liable to collapse and frauds. 4. If a bank fails to maintain the prescribed minimum amount of Cash Reserve Ratio (CRR) on any day, I can demand penalty interest from that bank.

RBI

Chindu All agreed. Anything else. RBI Chindu Thats enough for now. Ok then please leave my cabin and send the SBI chairman in. He too had an appointment with me.

Public Banks Issue#1: Need consolidation

SBI

Chindu Ok so what do you want from me?

SBI

Bank mergers should need only approval of RBI.

Chindu Agreed.

PSU Banks Issue#2: Need more investment

SBI Right now the Public Sector banks cannot issue shares worth more than Rs.3000 crores. I want you to relax this, because We need lot of investment.

Banks issue #3: More voting rights for investors

SBI Before moving on, I must thank you for allowing us to issue bonus shares etc. But that alone will not bring investment in public or private sector banks.

Chindu Why?

SBI

Chindu Agreed. Well revise the voting rights.

Revised voting rights

Voting rights (%) Bank Example Before After 26 10

Private sector HDFC, ICICI 10 Public sector SBI , PNB 1

Chindu Anything else. SBI Chindu No this is all for now. Then you may leave. But please send the chairman of Citibank in, he too had taken appointment and is waiting outside.

Foreign Banks Issue #1: Stampduty

Chindu Ok what can I do for you? Citibank When I transfer my branches from the main company to the subsidiary company, I dont want to pay stamp duty. This should help me expand my business in India.

Chindu Agreed. Anything else. Citibank Yes there is one more matter

Foreign Banks Issue #2: Want to invest in Commodity

Citibank

Chindu Agreed.

Standing Committee problem

Set: parliament
In the parliament, Opposition members are shouting slogans. (as usual)

Meera Kumar says beth jayiye, beth jayiye, kripyaa shaant ho jayiye.(as usual)

Parliament fight #1: Commodity speculation

Chindu What is the problem? Oppn. The share-market and mutual funds = regulated by SEBI.Similarly Commodity market= regulated by Forward Market Commission (FMC)

Chindu So?

Oppn.

Chindu

No, no, no. if bill goes back to standing Committee, itll take lot of time.Ok I back off, I remove this provision, so there is no need to send this bill back to standing Committee.

Parliament Fight #2: Competition Monitoring: RBI vs CCI

Opposition

Chindu

Lok sabha passed the bill. Rajya Sabha also passed the bill. Now this bill file will goto President. Once he signs it, this bill will become a Law.

Anti-Bill arguments
In December, employees of public banks went on strike. (although SBI employees did not join the strike.) The Bank unions give following Anti-Bill arguments:

Merger of banks will de-stablise public sector banks, then corporate firms will start their own banks and gobble up public savings. And that money will be misused for the benefit of few corporate honchos and not for the general public.

RBI prints more money when and its implication on gold and forex reserves
RBI prints new notes to replace the old torn-out notes and to meet the money demands of a rising economy. As you know, if people have x amount of money but there are not sufficient items in market to purchase, then there will be inflation (price-rise). So RBIs job is to maintain the money supply (liquidity) in the market, to prevent inflation. If there is shortage of money in the market, RBI generally alters its SLR,CRR,Repo,Reverserepo to increase the money supply. Lets imagine, We need to buy new F16 fighter-plane from America, they ask for 1 billion dollar$. So Prime minister Manmohan Singh asks the RBI to print new notes of 50 billion rupees and pack them in a big suitcase. Then he takes it to Forex market, gets the Rupee converted into dollars and buys the fighter-jet. But the same broker at Forex market, will use those 50 billion rupees to buy all the tea,Basmati rice, onion, potato and everything in India and then export it to other countries!! So shortage of items for Indian consumers = price rise=inflation. So RBI cannot print notes indiscriminately. However an expanding economy like us, requires more money so people can take loans and start business etc. Even after altering SLR,CRR,Repo,Reverse repo, there will be still demand for money So RBI must be printing more money after looking at the indicators like IIP, GDP etc. Besides printing money also costs money. So I think there will be some complex formula, but Im not aware about it. 2.)Sufficient gold or forex reserves is necessary to print notes by the rbi but please explain me what happens to the forex or gold reserve as soon as the indian notes are printed. i.e., if the rbi has 4000 u.s. dollars as forex reserve and a situation occur to print 100000 rupee notes (2000 us dollars=100000)(so after printing the notes, will the forex reserve of india become as 2000 us dollars or will it remain at 4000 us dollars itself. Please explain.. Nothing happens to forex or gold reserve. It remains as it is. Prior to World war-II era, nations used to print only as much currency as the gold-reserve they had. Nowadays currencies are not linked with gold. However, RBI uses special printing-machines, papers and inks imported from Switzerland etc. to print the new currency notes. so obviously RBI has to pay in dollar$$ while buying the raw material. So in that sense some of its forex re$erve will deplete.

RBI can never link the money-printing to gold or forex reserve because thatll sevearly limit its capacity to meet the money-demands of a rising economy. Sidenote: you can get brand-new fresh notes and coins from RBI branch, but before you have to wait in long queue while the RBI staff sells it to the agents from the backdoor (Rs.10 Commission on Coins worth Rs.500). And those agents sell it to merchents, but merchants never use it and insist on you to buy toffees worth Rs.1,2,3 instead of returning the change. (as seen on sting-operation by E-TV) So, in that sense, artificially created shortage of change also boosts economy!

Securities, Derivatives, Financial Market Issues & Securities,

1. If I write on a piece of paper saying anyone who gives me 100 Rs., Ill give him 120 rupees after 6 months = this is public issue 2. If you give me 100 Rs. And take that paper- then that paper becomes the security Keep in mind that The 100 Rs you give to me or the 120 Rs. Ill give to you after 6 months- that is NOT Security. That Piece of paper is the security.

Technical definition
Security means a formal declaration that documents a fact of relevance to finance and investment gives the holder a right to receive interest or dividends. Security means A guarantee that an obligation will be met

Shares, debentures.
Theyre also securities of one type. You must be knowing about them already so just in brief 1. If for your 100 rs, I give you a limited ownership in my company and promise to give you the share from my profit = this is share 2. But if I say that, Ill give you 15 Rs. Every year no matter I get any profit / not = this is debenture.

Derivatives / Stock Market Derivatives

you gave me 100 Rs and I gave you a paper saying Ill payback 120 Rs. (=Mrunals security paper)

there is another guy named Mitul who, same way borrowed 100 Rs. And gave you another paper saying hell pay you 120 Rs after 6 months. (Mituls security paper.) Now you need money before 6 months, so you write on a new paper, anyone who gives me 220 Rs, Ill give him 240 Rs. Worth Security papers of Mrunal and Mitul. that new paper you crated is again a security but it doesnt have directmoney attached with it instead, it derives its value from the security papers for Mrunal and Mitul. So your new paper is called Derivatives
lets now deviate from our articles topic for a while to learn a few things related to recess ion from above talk.

Mortgage, Asset bubble & derivatives

You give me 100 Rs. And I give you paper saying if I dont pay back, you can take away my house this is mortgage. But again this is also one kind of security paper Now youre a big bank, so youve plenty of such mortgage papers because you give loans to lot of people. (even to those who cant afford to pay back the loan) Then you repack those mortgage papers (security ) and make a new security paper anyone who gives me 500 Rs. Ill give him mortgage papers of 5 houses = this is derivative product. Suppose 3 guy bought such derivative papers and after few months, he repacks them- makes another derivative product and sell it to 4 guy. Such papers are one sort of asset (because you can get money from someone using it.) but as you can see, you did not create any new asset youre just keep reselling same stuff over and over to different people. So youre blowing a bubble After few months, I refuse to pay money, and tell the 4 guy to take away my home. But the prices in reality sector are low so even if you sell my home you cant recover your 100 Rs. = this is toxic asset / NPA = non-performing asset and your asset bubble is burst
rd th th

Financial Market
You gave me money I gave you a piece of paper (security) The place where we did this business is called financial market. If I had promised to pay back money in less than 1 year (=short term loan) , this will be called Money Market If I had promised to pay back money after long time like 10-20 years (=long term loan) , this will be called a CAPITAL MARKET.

Players in Capital Market (diagram)

Subparts of capital market.

As said above, when I take long term loan = its capital market. When initially I took money from you and give you piece of paper = this is
PRIMARY market. *

But after sometime, you need the money while Im going to pay back after 10 years. So you borrow 100 Rs from another guy and give that piece of paper (=security) to that guy. And tell him to recover the money from Mrunal = you traded my security. This is SECONDARY MARKET (Sharemarket / BSE/NSE etc) (*this primary market will be discussed in another article) our current article deals only with capital market.) Its the job of SEBI to control both Primary & Secondary Capital market in India. (detailed article about SEBI,BSE,&NSE is coming soon.) As you saw on above diagram that Govt. is also a player in capital market. So,

Why does Government issue securities?

Suppose Im the Govt. My expenses are more than my income = Im in deficit (gap) Ive following options to cover that deficit

1. Increase tax rates (income tax, VAT, import duties) But this will make people unhappy and theyll not vote for me in next election

2. Print more money But this will create inflation= again unhappy people= less votes. 3. Borrow from international institution (world bank / IMF) But if I borrow too much, Ill have to play by their tunes regarding Kashmir, Copenhagen, WTO-Doha. 4. Borrow from people within India This sounds safer! So Ill issue securities. (When you issue for the first time = youre in primary market.) keep in mind that Govt. does this for short term deficits. (its like I need money in October 2010 but youre going to pay income tax in March 2011 so Ill use this trick to cover my money needs.) Govt. generally plays only in the primary market. When you give me your money and receive that piece of paper (security) = you can be certain that Im going to pay back and wont run away like Ashok Jadeja. After all Im the Government. And I pay good profits. thats why Govt. securities are called Gilt-Edged securities

How does this thing work?

As I decided to issue security in primary market, but that doesnt mean Ill send my peon/clerk/Secretary to the primary market with bag full of papers (security) and sell it like vegetables. I give my piece of papers (security / treasury bills) to RBI- theyll give me the money and then RBIs men will sell it in the primary market. = RBI is Govt.s debt manager.* *Security Paper= Im going to pay money after some time. = Im in your debt. And RBI managers my security papers so theyre my debt manager.

Separate debt Management office.

Ok so now you know that RBI is Govt.s debt manager. But consider this RBIs main job = maintain liquidity (=money supply) in market via monetary policy (=CRR,Repo etc crap) But, When RBI sells Govt. securities in primary market, and give the money to Govt. = money supply flow is interrupted = liquidity is drying = harder to get loans

= conflict of interest. Thats why many people are calling for separate Public debt Management office and relieve RBI from this duty. Ok now ,final part in this article-As we saw, there are 2 types of capital market : Primary and secondary. but
Why do we need Secondary market?

Gives Exit Route Im going to return money to you after 10 years. So your hands are tied you cant recover it from me until next 10 years, so what if you needed money in emergency? Youve secondary market so youll sell my security to someone else and recover the money. Otherwise, In the absence of a secondary market, many of the investors would probably not agree to supply capital (money) in the primary market because they would not have an exit route for their investment. Gives Price information By active trading by millions of investor, you get price information regarding the securities. This price information is used to judge 1. the corporate performance (share prices) 2. performance of the Government 3. economy (through interest rates on Government debt). 4. facilitating value-enhancing control activities (mergers & acquisitions) and 5. enabling implementation of incentive-based management contracts (employee stock options).

SEBI & Stock Exchange

Securities and Exchange Board of India = SEBI It regulates both the primary and secondary markets. (explained in my previous article) It protects the interests of the investors in securities It promotes the development of the securities market. SEBI was established in 1988 but was given statutory powers in 1992, and started working effectively since 1993.

Why did the government create SEBI?

As you know that in India, the Government wont do any major reform or action unless the things get messed up really bad. The same was the case why SEBI was given the power to control both primary and secondary market because they were in complete mess. So lets first see, what was the problems in primary and secondary markets before SEBI came in picture.

The problems in Primary market before SEBI came

primary market was extremely restrictive regulations on the issuers enforced by the Controller of Capital Issues (CCI) Now lets assume Im the big businessman. Primary market is where i issue my security for the first time. I cant fix the prices of my shares, as I like, because ive to follow the rules made by CCI. but that dude always underprice my issues. When I put my equity shares for the first time in Primary market = this is IPO (initial public offering) but now as you know that I cant fix high prices for my IPO due to CCI dude. so my IPO is very cheap. so lots of people will send application to buy it because its cheap (= over subscription) so ill have to give the IPO shares via lottery only to a few people. but those who get my cheap IPO via lottery will immediately go to secondary market and sell it at higher price. = I lost money (that I could have made if CCI dude allowed me to sell my IPO @ higer price.) and those lucky dudes who won the lottery made money without really doing anything. As you can see, all this is not good for industrial Development.

The problems in secondary market before SEBI came

Secondary market = where you trade the securities that you purchased from primary market.

For general understanding- the stock markets = secondary market = where you sell/buy shares. So lets see the

problems of Stock markets before SEBI came

first organized stock exchange was established in 1875 in Bombay (now Mumbai) there were almost 20 regional stock exchanges in 1992, but trading was concentrated in Bombay Stock Exchange and it enjoyed a monopoly Users from outside Bombay found it extremely difficult to trade in BSE due to poor technology and high cost of telecommunications. (they didnt have internet or cellphones with free incoming calls in 1992!) BSE imposed a high entry barrier, so that competition among brokers was absent. Thats why services provided by the brokers were, thus, extremely inefficient and costly. (its same like Indian railways stinking toilets- you cant complain because railway dont have much competition.)

Specific problems in Share market before 1992 open outcry system

means trading used to take place in trading ring where non-brokers were not allowed in. These traders will shout the prices like weve in vegetable markets. There wasnt any mechanism to verify the prices at which trading actually took place. So, brokers used to charge prices to the investors (buyers and sellers of securities) that were usually different from the actual prices =brokers used to report higher than actual prices for buy orders and lower than actual prices for sell orders). If investors (buyers or sellers) demanded a more accurate price, orders often got cancelled (for example, the broker could simply claim that such a favourable price was not obtained in the market).

The settlement system

payment of money and delivery of securities after trade by the brokers to both parties (buyer and seller of shares) it favored the brokers and was to the disadvantage of the investors. the settlement was futures-style and was on a fortnightly basis. means that trading done during a fortnight would be settled at the end of the fortnight. system of badla =enabled the brokers to carry forward their liability (of money or securities) to next settlement. so, brokers could postpone settlement almost indefinitely, if the prices were not favorable to them. This led to a high degree of risks. Large-scale problems arising out of failure to make payment or deliver shares, would lead to closure of BSE for days together, this used to recur at the rate of almost once every other year.

bad delivery of Shares

Even after you buy the shares and get the paper in your hands- you had to send the shares to the registrar of the company to register the ownership of that share in your name. At this stage, the problem of bad delivery arose due to a number of problems if the signature of the seller did not match with the one maintained with the registrar, the shares were sent back.

Reasons for inaccurate signature

The seller of the shares, who probably purchased the shares years back, might unwillingly sign in a different manner. But in many cases, manipulations by unscrupulous operators were responsible. counterfeit shares (wherein any signature were put by the counterfeiter), Engineering bad deliveries by selling partys brokers or by the companies themselves to delay settlement in order to support price manipulation. The time lag between buying shares and getting it registered in the name of the buyer used to take anything between 1-3 months if everything was alright.

The time lag normally went up to six months on an average in case of bad delivery. Anyways so above were the problems with primary + secondary market so Govt. made a law to give powers to SEBI to control them both. And so CCI was abolished. NSE (National stock exchange) was established to end the monopoly of Bombay Stock Exchange.

NSE (National stock exchange)

NSE was a new exchange promoted and owned by public sector financial institutions (like IDBI, UTI, LIC, GIC, IFCI, etc.) and banks. NSE is professionally-managed (as opposed to the other exchanges that are managed by brokers or members still today) You saw the problems of BSE ago, and to curb them,

NSE came with 4 innovations

Computerized trading
First, physical, floor-based, brokers-dominated trading outside the eyes of the investors was replaced by anonymous, computerized order matching system where trading is done in front of the investors. The order-matching system is characterized by strict price-time priority, wherein an order is executed according to the price parameters set by the investors. The OTCEI, which was set up in 1992, was the first computerised exchange in India. NSE started operations in 1994 with electronic trading, while all other exchanges introduced electronic trading subsequently. By March 31, 1999, all the 23 stock exchanges in the country had computerised on-line screen based trading.

Satellite communication

to spread the reach of the exchange to all over the country was attempted successfully, for the first time, by NSE. This was in stark contrast to the other exchanges which till then had the reach limited to their cities of operation for over a century.

Professional managers
the traditional exchanges were and still are managed by the member brokers. This gave rise to many malpractices, a conflict of interest being the most important one. Since the brokers themselves were in charge of enforcement of rules and regulations, they never took a decision in favour of the investors that went against their interest. This gave rise to a conflict of interest between the members as brokers and members as responsible for enforcement of rules and regulations. NSE avoided this problem right from beginning because it was set up as a limited liability company with brokers as franchisees. This led to a situation where brokers were not held responsible for enforcement of rules and regulations, and those who were entrusted with enforcement (professional managers) were not brokers. As a result, NSEs staff is free of pressures from brokers and is better able to perform regulatory and enforcement functions.

Weekly settlement
If you buy shares from me, youve to give me the money in 1 week and Ive to give you the shares in the same 1 week. the traditional practice of fortnightly settlement cycle + system of badla that allowed extension of even this fortnightly cycle was replaced by a strict weekly settlement cycle without badla.

Result-BSE Is busted
Equity trading at NSE commenced in November 1994. Within one year of operation, NSE surpassed the BSE in terms of turnover.

BSE was working since 1875, with monopoly now it had to face competition with N.S.E So in March 1995, BSE also adopted similar innovation to keep up in the race.

All this, lead to 5 good things Stock markets

Improved Transparency:
Investors can see with their own eyes the prices that are currently being quoted in the market, and choose to trade or not.

Anonymity= no cartels
for The electronic trading platform makes trading completely anonymous. Traditionally, lack of anonymity in trading in the floor-based system gave rise to cartels (of brokers) and made price manipulation easy. NSE was a break from this tradition as well and removed much of the scope price manipulation.

More brokers = competition =good for clients

NSE throws open the business of stock broking to all and everyone (subject to fulfillment of certain criteria). In contrast, BSE restricted new entry into the brokerage business until NSE came into picture. Now More than a thousand brokers entered the market with the NSE leading to steep increase in competition and the consequent fall in the brokerages* by a very substantial amount. This led to a drastic fall in transaction costs. (*the brokers Commission)

No more bad delivery

Automation of the trading system eliminated all the problems associated with manual trading (e.g., bad delivery/ signature etc.)

Investors outside Mumbai can earn money

Investors from all over the country have got access to an exchange on same terms and conditions as investors within Mumbai for the first time. Earlier, Bombay stock exchange was the pre-dominant one in the country, but investors outside the city found it extremely difficult and costly to do business in the exchange. (no cellphones with free incoming!) Thus, true to its name, NSE turned out to be the first national stock exchange. This benefited the investors from outside Mumbai more than perhaps the investors within the city.

National Securities Clearing Corporation Limited (NSCCL)

Its a subsidiary of N.S.E, to prevent the counter party risk. (established in August 1995) counter-party risk means the risk that one of the two parties in a transaction may fail to honour their commitment to pay cash [buyer] or stock [seller] on the scheduled settlement date For every trade (buy or sell) done on the NSE, NSCCL becomes the counter-party. means, the seller sells the securities to the NSCCL, and the buyer buys from the NSCCL. Even if a brokerage firm fails to make payment (or deliver securities), NSCCL makes the payment (or deliver securities). This has almost eliminated counter-party risk and contained the recurrence of payment crises that characterised Indian stock markets for almost a century.

Demat account
You read above, how the bad delivery of shares was engineering by the brokers.+ the menace of counterfeit shares. And the fear of theft of shares. To curb this problem, SEBI came up with the novel idea that is Dematerialization of share holding This means, youve to get a Demat account in the bank and

when you buy shares, you dont get a piece of paper. That share gets automatically credited to your demat account. In November 1996, the National Securities Depository Ltd. (NSDL), the first depository in India, was established For this purpose. SEBI played an active role in gradual shifting from physical certificates to dematerialised holding by introducing a mandatory element in the process. Currently almost cent percent trading and settlement are done in a dematerialised environment. But things are not that safe and sweet, thanks to IPO scam-Demat Queen Roopal Panchal

Balance of Payments, Forex Reserves, Currency Exchange, NEER, REER What is Balance of Payment?

If you want to see a companys incoming and outgoing cash, youve to check its account book. Similarly Balance of Payment (BoP) is the summary / account sheet that shows the cash flow between India and rest of the world. BoP is made up of two parts: Current account and capital account. (As per IMF definition, three parts: Current Account + Capital account+ financial account). Without getting into technical details, just a brief over view:

Balance of Payment

Current Account
1. Import, Export (always negative, because we export less and import more oil n gold, hence weve trade deficit.) 2. Income from abroad (interest, dividends paid on Indian investors FDI, FII in USA etc.) 3. Transfer (gift, remittances from NRI to their families etc. always positive for India because of large Diaspora abroad.)

Capital (and financial) Account

1. Foreign investment in India (FDI, FII, ADR, direct purchase of land, assets). 2. External commercial borrowing, external assistance etc.

Note: current account can be calculated using Visible and invisibles, that was explained in old article on current account deficit click me. Since we want to track the flow of cash, so, whenever American invest in India (via FDI, FII, ADR etc) we add it as (+), and when Indians invest in USA (via FDI, FII, IDR etc.) we add it as (-) and then get the final figure for Foreign investment.

Same goes for everything in balance of payment (remittances, External commercial borrowing whatever.) In short, BoP= we are tracking the incoming and outgoing money. For India, current account has been in deficit (negative number) and capital account has been in surplus (positive number). The BoP accounting system is similar to double entry book-keeping. Therefore theoretically, balance in current account and balance in capital account should be same (ignoring the +/- signs). In other words, if there is deficit in current account, there has to be equal surplus in capital account. Why?

Why BoP = 0 in theory?

Assume there are only two countries India (rupees) and USA (dollars). And there are no forex agents or middlemen, taxation, regulation, cricketers, politicians, saah-bahu serials nothing Now Indian importer buys Apple6 phones worth 10 billion US$ from American exporter. Since there is no forex agent, the Indian importer will pay 500 billion Indian rupees to that American exporter. (assuming 1$=50 Rs.) Means that much Rupee currency is gone from Indian system via current account. But that American exporter has no use of Indian rupees! He lives in USA, he cannot even buy a burger from local McDonalds shop using Indian rupees. So what can he do? 1. He can import something else from India (e.g. raw material, steel and plastic for further production of Apple6) = our rupee currency comes back to India via current account. 2. He can invest that Indian currency to setup some factory or joint venture in India (=our rupee currency comes back to India via capital account) 3. He can buy some shares or bonds in India. Again our rupee currency comes back. 4. He can find a 2nd American who wants to import something from India / wants to invest in India. Apple6 guy can sell his rupee currency to that third American fellow @Rs.50=1$ or Rs.49=1$ or Rs.99=1$ (depending on the desperation of that 2nd American fellow). In short, if rupee goes out, it has to come back. (same for dollar, from American point of view). Therefore, current account + capital account = ZERO (balance of Payment), atleast in theory. But in reality, RBI or tax authorities never have complete details of all financial transactions and currency exchange rates keep fluctuating. Hence there will be statistical discrepancies, errors and omissions and. So, BoP is expressed as:

Current Account + Capital account + Net errors and omissions = 0 (Balance of Payment). In IMF definition, we can express this as Current Account + Capital account + Financial account + balancing item = 0

Ok then does it mean a country can never have surplus (or deficit) in Balance of payment? Well, a country can have TEMPORARY surplus or deficit in BoP. Because, BoP is calculated on quarterly and yearly basis. There is a good chance, that American Apple6 exporter may not invest back all those 500 billion Indian rupees in India within that time-frame. Secondly, Indian Government may put some FDI/FII restrictions so Apple6 exporter (or that third American guy) cannot re-invest in India even if he wants to.

But in the long run, system will balance itself. for example o Apple exporter will find some fourth American importer and convince him to pay Indian exporter in rupee currency and thus apple guy will get rid of his 500 billion Rupees by exchanging it with that American importers dollar o Or the apple exporter will find some NRI living in USA. This NRI wants to send money (dollar earned by working in USA) to his family back in India, (preferably in Indian currency ) so this NRI will be willing to exchange his dollar savings with that Apple exporters rupees. o There are many other possibilities and combinations but the point is, in BoP, whatever currency goes out of the country, will come back to the country.

Convertibility

Suppose you want to import a dell computer from USA. And American exporter accepts only payments dollars. If you can easily convert your rupee into dollars, that means Rupee is fully convertible. And rupee is fully convertible as far as Current account transactions are concerned (e.g. import, export, interest, dividends). But rupee is partially convertible for capital account transection. (In crude terms it means, if an Indian wants to buy assets abroad or invest via FDI/FII OR borrow via External commericial borrowing (ECB) he cannot do it beyond the limits prescribed by RBI. (And vice versa e.g. American wants to convert his dollars to rupees to invest in India, then also RBIs limits have to be followed). RBI gets power to do ^this, via FERA and FEMA Acts. 1973: Foreign Exchange Regulations Act, 1973 (FERA). 1997: Tarapore Committee (of RBI), had recommended that India should have full capital account convertibility. (Meaning anyone should be allowed to freely move from local currency into foreign currency and back, without any restrictions by Government or RBI.) 2002: Government replaced FERA with Foreign Exchange Management Act (FEMA). Although full capital account convertibility is yet not given. Full capital account convertibility has both pros and cons. But thatd require another article. Lets get back to the topic, we are seeing the 6th chapter of Economic Survey: Balance of Payment, exchange rates etc.

Rupee-Dollar Exchange rate

How does Fixed Exchange Rate system work? and how does market based exchange rate system work? = explained in the Bretton woods article. Click me Anyways, lets construct a bogus technically incorrect model to understand the market based exchange rate system, once again: Assume following things o There are only two countries in the world India and America. o India has rupee currency. Indian farmers dont grow Onions. o America doesnt have any currency, they trade using onions. The rate being 1kg onion=Rs.50

First situation: American investor thinks that Indian economy is rising. If we invest in India (FDI/FII), well make good profit. So theyre more eager to convert their onions to Indian rupee currency. So theyd even agree to sell 1kg onions =Rs.45. (and then buy Indian shares/bonds worth Rs.45) Result =Rupee strengthened against onion (dollar). During this time, RBI governor also buys 300 billion kilo onions from the forex and stores these onions in his refrigerator. (Why? Because onions are selling cheap! And why onions are selling cheap? Because there is surge in capital investment in India by American investors.) Ok everything is going nice and smooth. Now add third country to our bogus model: UAE. Second situation: UAE has increased crude oil prices, and they dont accept rupee currency. They also want payment in onions. 1 barrel of crude oil costs 132kg of Onions. India is eager/desperate for oil, because if we dont have crude oil, we cant get petrol, diesel= whole economy will collapse. So India would agree to buy 1kg onion even for Rs.55 (from American or forex agent or whoever is willing to sell his onions). Then India can give that onions to some Sheikh of UAE and import crude oil. Third situation: The Sheikh of UAE gets even greedier, he demands 200kg onions for 1 barrel of crude oil. Now 1kg onion sells for Rs.59, Because those with onion surplus (vendors) know that India likes it or not, itll have to buy onions to pay for the crude oil! Thus, Rupee has weakened against onion (Dollar.) If such situation continues, then there will be huge inflation in India (because crude oil expensive=petrol/diesel expensive = transport expensive= milk/vegetables and everything else transported using petrol/diesel becomes expensive.) Now RBI governor decides to become the hero and save the fall of rupee against onion. So, He loads a few tonnes of onions in his truck and drive it to the forex market. Result: onion supply has increased, price should go down. Now onions get little cheaper: 1kg onion =53 Rs. Thus RBIs intervention in the forex market has led to recovery of rupee.

Ok so what do we get from this story?

1. RBIs intervention to buy Foreign exchange during surge in capital investment= leads to build-up of (foreign exchange) reserves, which provides self-insurance against external vulnerability of rupee. 2. When RBI sells its foreign exchange reserves, it stems (halts) the fall of rupee. 3. Higher foreign exchange reserve levels restore investor confidence and may lead to an increase in foreign direct and indirect investment flows= boost in growth and helps bridge the current account deficit.

Building up Foreign Exchange Reserves

Prior to 1991, India followed License-quota-inspector (and suitcase) raj and import substitution strategy. (Beautifully explained class 11 NCERT textbook.) During that era, foreign companies couldnt invest in India.

Imported products such as radio / camera/ wristwatches attracted heavy custom duty. (And that led to rise of smugglers and mafias, and the Bollywood movies that romanticized their criminal lives.) On the other hand, thanks to the license-quota-inspector (and suitcase) raj, the private Indian companies werent big or efficient enough to compete in international market so export was also low. Result: during that time incoming money (via export, investment) was very low. Hence RBI couldnt build up huge forex reserve. (when onion supply is low, its prices will be high) Ultimately in 1991, the Forex reverses of India were about to exhaust. Finally India had to pledge its gold to IMF and get loans. Then India had to open up its economy for private and foreign sector investment. Remove the license-quota-inspector raj etc. to boost the incoming flow of dollars and other foreign currencies..all those LPG reforms. (Although suitcase raj still continues, because the Mohans in the system are blinded by totally awesome people like A.Raja.) fast-forward: now weve a trillion dollar economy, our software and automobile companies are globally recognized blah blah blah. But the lesson learnt: RBI should have good foreign exchange reserve. Hence post LPG reforms, RBI has been buying dollars, pound yen etc. from the currency market, whenever FII/FDI inflow is high. Because during such situation, the foreign investors are more eager to get their dollars converted to rupee currency hence rupee is trading at higher rate e.g. 1$=Rs.49 But after global financial crisis, RBI has stopped building forex reserves actively. Nowadays RBI intervenes in the forex market, only to stop the excess volatility (fluctuation) in rupee exchange rate. However, there was a sharp decline in rupee in 2011-12. Then RBI had to sell foreign exchange worth 20 billion dollars. (so demand of foreign currency would decrease and rupee would stop). Similarly in 2012 also RBI had to sell its foreign exchange reserve worth 3 billion dollars to prevent the fall of rupee. (in June 2012, Rupee had became very weak: 1$=around 57 Rupees. Thanks to RBI and Governments interventions, it came back to the normal 53-54 level at the end of 2012.)

FOREIGN EXCHANGE RESERVES

Indias foreign exchange reserves is made up of
1. Foreign currency assets (FCA) (US dollar, euro, pound sterling, Canadian dollar, Australian dollar and Japanese yen etc.) 2. gold, 3. special drawing rights (SDRs) of IMF 4. Reserve tranche position (RTP) in the International Monetary Fund (IMF)

The level of forex reserve is expressed in US dollars. Hence Indias forex reserve declines when US dollar appreciates against major international currencies and vice versa. RBI gains Foreign exchange reserves by

buying foreign currency (via intervention in the foreign exchange market

Funding from the International Bank for Reconstruction and Development (IBRD), Asian Development Bank (ADB), International Development Association (IDA) etc. aid receipts, interest receipts

FOREX Reserve: India vs other

Country wide- China has the largest forex reserve (3300+ billion USD). India is 8th position (close to 300 Billion USD).

Countries with largest Forex reserves

1. 2. 3. 4. 5. 6. 7. 8. China Japan Russia Switzerland Brazil South Korea Hong Kong India

Why volatility in rupee?

Volatility = Variation in something over the given time. if today SENSEX is 12000 points, tomorrow it goes up by 200 points and day after it goes down by 300 points etc..they we say market is volatile. If morning shifts SSC paper is too easy but evening shifts SSC paper is too damn difficult then we can say SSC paper is volatile. Similarly, if there is too much fluctuation in Dollar to rupee exchange rate, we say rupee is volatile. In 2012, the rupee has experienced unusually high volatility. Why?

#1: import-export

Demand for Indian goods and services has declined due to Euro-zone crisis + America hasnt fully recovered. On the other hand, cost of import= very high due to oil and heavy gold import (due to high inflation). Similarly high inflation = raw material / services become costly for the export. If he raises the prices, then his export product becomes less competitive than Cheap China made stuff.

#2: FII

In the total foreign investment in India, majority comes from FII (and not from FDI).

FII money is hot, it leaves quickly whenever FII investors feels that Indias market is not giving good returns and or some other xyz countrys market is giving better returns. There are week-to-week variation in such FII inflows and outflows. Hence it leads to changes in rupee-dollar exchange rate.

#3: Dollar is strengthened

US treasury bonds are consider the safest investment. During the peak of Eurozone, Greece crisis, the big investors started pulling out money from Europe and investing it in US treasury bonds. = demand of dollar increased. So other currencies would automatically weaken against dollar.

#4: policy paralysis

For past few years, Indian Government was lazy regarding environmental project clearances, land acquisition, FDI in retail, pension, insurance etc. that has led to foreign investors losing faith in Indian economy= slowdown in FII inflows. (besides Government did not allow more FDI in pension / insurance / retail etc. so FDI inflow did not increase either).

#5: Risk On / Risk off

From the earlier article on debt vs equity, Government bonds = safer than equities (shares). But when an investment is safe= it doesnt offer good returns. When foreign investors feel confident, they display risk on behavior =they invest more in equities, particularly in developing countries. (which are risky but offer more profit). But when foreign investors are not feeling confident, they display risk off behavior, = they usually fall back to investing in US treasury bonds or gold. In India, majority of foreign investment comes from FII (and not FDI) and FII investors are more prone to displaying this risk-on/risk-off behavior. They plug in their money quickly, they pull out their money quickly. Thus, Indian rupees exchange rate becomes volatile against Dollar. Therefore, Indian Government needs to inspire and sustain the confidence of foreign investors, to prevent the fall of rupee. RBI intervention in forex market, cannot help beyond a level.

How did rupee recover?

Rupee is weakening against dollar, it means demand of rupee is less than the demand for dollars. So how did RBI and Government fix it?

RBI

Govt.
During 2012, RBI sold around 3 billion dollars from its forex reserves. Oct-12, Rupee recovers, 1$=around 51 rupees. RBI allowed Indian banks to give more interest on

Govt. allowed FIIs to invest more money in govt.and corporate bonds. Govt. eased the FDI policy for

Foreign Currency Non-Resident (FCNR) bank accounts. (thus attracting more NRIs to save their dollars in Indian banks).

pension, insurance, aviation, multi-brand retail etc. Govt. offered subsidies and tax benefits to exporters.

Exchange Rate of Other Emerging Economies

In 2012, Rupee wasnot the only currency that weakened against dollar. The currencies of other emerging economies, such as Brazilian real, Argentina peso, Russian rouble, and South Africas rand also depreciated against the US dollar. It means dollars demand has increased. In the wake of sovereign debt crisis in the euro zone and due to uncertain global economic environment, more and more investors are preferring to buy US treasury bonds and other securities in USA.

NEER and REER

We keep reading bad headlines that rupee weakened against dollarrupee all time low against dollarand so on. Does it mean, Indian rupee is a really bogus weak and fragile currency? Nope. Because we dont trade only with USA. We dont trade only in terms of Rupee to Dollar exchange. We also trade with many other countries in many other forms of currency. Therefore, if we want to objectively measure Rupees volatility, weve to compare its price fluctuations with multiple currencies (Euro, Yen, Pound etc.) and not just against single Dollar currency. Secondly: 1$=Rs.50 or 1$=Rs.40 that alone doesnt decide the demand of goods and services between India and America. This demand also depends on the inflation (both in India and in USA.) NEER and REER index (calculated by RBI), help us here get a clear picture here. First youve to calculate NEER. Then using NEERs, you calculate REER. REER Real Effective Exchange Rate (REER)

NEER Nominal Effective Exchange Rate

The weighted average of bilateral nominal exchange rates of the home currency in terms of foreign currencies.

weighted average of nominal exchange rates, adjusted for inflation.

Why is REER important?

REER captures inflation differentials between India and its major trading partners. REER reflects the degree of external competitiveness of Indian products

REER captures movements in cross-currency exchange rates.

RBI calculates two REER indices:

REER-6 Here Indian rupee is measured against 6 big currencies viz. 1. 2. 3. 4. 5. Dollar Hong Kong dollar Euro Pound sterling Japanese Yen 6. Chinese Renminbi REER-36

As the name suggest, 36 currencies.

Now Indian rupees vs. other currencies (Dec. 2012 data) Just for reference:
1 unit of foreign currency Worth Rs. Indonesian Rupiah S.Korean Won Pakistan Rupee Yen Thailand Baht Mexican Peso Chinese Renminbi Brazilian Real Turkish LIRA US Dollar Canadian Dollar Euro 0.006 0.05 0.56 0.65 1.78 4.25 8 26 30 54 55 71

SDR of IMF Pound

84 88

External Debt

World Bank has released International Debt Statistics, 2013 It contains the debt numbers for the year 2011. According to those statistics, in 2011 India was in fourth position in terms of absolute external debt stock after China, the Russian Federation and Brazil. At the end of March 2012, Indias external debt stock = 345 billion (near to 17 lakh crore rupees.)

Indias external debt is high because of

Higher NRI deposits (since NRIs are not getting much return on their dollar savings in American banks, they prefer to invest it in India). External Commercial borrowings (by Indian corporates) Corporate borrowers in India and other emerging economies are keen to borrow in foreign currency (dollar and Euro). Because in US/EU right now the market is down, not many loan domestic taker businessmen, hence their banks/ investors dont mind giving loans to foreigners (that is Indian / other Asian businessmen) at very low interest rate and longer EMIs. But such borrowings however, are not always helpful, especially in times of high currency volatility. For example, if Indian businessman had borrowed loans from USA when 1$=49 rupees but after some years, if 1$=57 rupee, then hell have to repay more. This will badly affect not just him but to Indias BoP as well.

FDI Restrictiveness Index (FRI)

Prepared by OECD. A score of 1 indicates a closed economy and 0 indicates openness. China is ranked #1 (=it is the most restrictive country) India is ranked fourth Foreign Direct Investment (FDI) is preferred to the foreign portfolio investments primarily because FDI is expected to bring modern technology, managerial practices and is long term in nature investment. The Government has liberalized FDI norms overtime. As a result, only a handful of sensitive sectors now fall in the prohibited zone and FDI is allowed fully or partially in the rest of the sectors.

FDI: defense offset

At present, 26% FDI is allowed in Indian defense sector. It also requires o FIPB approval

licensing under Industries (Development & Regulation) Act, 1951 has to follow guidelines on FDI in production of arms & ammunition. India needs to open up the defense production sector to get access and ensure transfer of technology. The existing FDI policy for defence sector provides for offsets policy. (meaning the foreign company has to buy or outsource some of its work to local /domestic players. E.g. FDI in multibrand retail, mandates that foreign company must buy 30 percent of the from small-scale industries.) Such offset policy soften the balance of payments impact and/or develop local technical capability. Recently Government revised the offsets policy for defense sector. But still, it has shown no visible direct or indirect benefits h on the domestic Indian defence industry.

o o

CHALLENGES AND OUTLOOK

while capital inflows in India, were sufficient to finance the CAD safely. But majority of the capital flows are via FII (hence volatile)= this has led to financial fragility and is reflected in rupee exchange rate volatility. We cannot significantly increase our exports in the short run because they are dependent upon the recovery and growth of partner countries (US, EU). And this may take time. Therefore our main focus has to be on curbing imports, mainly by making oil prices more market determined (=expensive), and curbing imports of gold. We should put greater emphasis on FDI including opening up sectors further. Finally, external commercial borrowing needs to be monitored carefully.

Misc. facts

Three top countries from where FDI comes to India: Mauritius, Singapore and UK Global Economic Prospects= this report is published by world bank.

Mock Question
1. Which of the following, is not a part of Capital account a. FDI b. FII c. Remittances d. External commercial borrowing 2. Which of the following is not a part of Current account? a. Import b. Export c. External commercial borrowing d. Interest, dividends paid on FII 3. India has deficit in a. Current account b. Capital account

10.

11.

12.

c. Both d. None India has surplus in a. Current account b. Capital account c. Both d. None Indias official forex reserve doesnt include a. Foreign currency assets (FCA) (US dollar, euro, pound sterling, Canadian dollar, Australian dollar and Japanese yen etc.) b. Gold c. Silver d. Special drawing rights (SDRs) How can RBI build its foreign exchange reserve? a. By Buying foreign currency b. via funding from World Bank, ADB etc. c. Both d. None Which of the following country has second largest forex reserves in the world? a. India b. France c. Japan d. USA Among the countries with largest forex reserves, India ranks a. second b. third c. fifth d. eighth Rupee will strengthen against dollar when a. Government eases FDI policy b. Government raises the ceiling on FII investment c. Both d. None Correct statement a. NEER is calculated by RBI b. REER is calculated by Finance ministry c. both d. none REER captures a. difference in inflation between India and its trading partners b. external competitiveness of Indian products c. Both d. none Which of the following currency is not part of REER-6 calculation? a. Hong Kong Dollar b. Japanese Yen c. Pound Sterling d. Canadian Dollar

13. Incorrect Match a. S.Korea: won b. Mexico: Peso c. Argentina: Peso d. S.Africa: Baht 14. Which of the following is not released by World Bank? a. International Debt Statistics, 2013 b. FDI Restrictiveness Index c. Global Economic Prospects d. All of Above 15. FDI Restrictiveness Index is released by a. IMF b. ADB c. OECD d. World Bank 16. Majority of FDI to India, comes from a. Mauritius b. Germany c. USA d. None of above

Financial Intermediaries: Insurance Sector: issues, reforms, Bancassurance, FDI Introduction

Fifth chapter of Economic Survey is about Financial intermediaries. You already know that financial intermediaries = banks, NBFC, pension-insurance-mutual funds etc. they acts middlemen between lenders (people) and borrowers (govt. and businessmen). for details given in earlier article, click me The fifth chapter, discusses various issues, reforms related to financial intermediaries in four sectors: 1) Banking, 2) Capital market, 3) Pension and 4) Insurance. Already discussed in NPS article click me Discussed in the present article. (part 1 of 3)

Pension sector Insurance sector

Capital market: QFI, FII, SEBI reforms, ECB etc. Will be published soon. (in part 2 of 3) Banking sector: NPA, NBFC, RRB Will be published soon (in part 3 of 3)

lets start with Economic Survey >> Chapter 5> Financial intermediaries> insurance sector. The chapter itself, barely contains 4-5 paragraphs on Insurance, but this article also covers budgetspeech and various insurance schemes given in India Yearbook.

Insurance: intro

Insurance funds = important financial intermediaries for India. They help move peoples savings into Government and corporate securities. Insurance industry in India, can be classified into following Example LIC, ICICI prudential, ICICI Lombard, Oriental, New India, United India. Among them, three are standalone Health insurance companies

Insurer Life

Non-life/General insurance (e.g. health, travel, business, marine, fire)

1. Star health 2. Apollo Munich 3. Max BUPA GIC 1. Export credit guarantee corp. 2. Agriculture insurance Company of India ltd. (AICIL)

Re-insurer Specialized

The basics of IRDA, Insurance ombudsman functions, various types of policies etc. already explained in earlier article click me

Insurance Penetration

It is the ratio of premium underwritten in a given year vs. gross domestic product (GDP). It helps measuring growth in the insurance sector in a country.

Insurance density

ratio of premium underwritten in a given year to total population (measured in US dollars for convenience of comparison).

Issue?

In past, (before LPG reforms of 90s), Indias Insurance penetration and density were very low because insurance sector was monopolized by public sector companies. But Post liberalization, and with the entry of private sector companies, both insurance penetration and density have increased. However, Indias insurance penetration and density are still low as compared to other developing countries of the world.

FDI in insurance

Before 1999, Insurance sector in India was monopolized by public sector companies: LIC + GIC (and GICs subsidiaries). 1999 was the reform year insurance sector o Insurance Regulatory and Development Authority (IRDA) Bill passed o Private sector companies can enter insurance business (they started doing so from 2000) o 26% FDI allowed in Insurance sector. 2012: o As of 2012, there are 52 insurers in India. o Chindu gave 12 point revival package for insurance sector o Cabinet approved 49% FDI in insurance sector. o But insurance amendment bill is not yet passed in the parliament yet. FDI in insurance = will increase competition, = more efficiency, innovation, cheaper premiums for policy holders; Thus FDI ultimately benefit the customers, and help improving Indias insurance penetration and density. But some political parties oppose it saying, FDI in insurance = bad idea. Those unscrupulous private insurance companies will invest policy holders money into bad corporates and it will lead to something bad like sub-prime crisis. What they dont see is: Even China allows 50% FDI in Insurance, Malaysia 70%, and Mexico has 100% FDI in insurance sector. And all these countries are doing fine. Hence, the fears regarding foreign investment in insurance= misplaced.

Insurance amendment bill 2008

Salient features are (list is definitely not exhaustive)

Increases FDI from 26% to 49% health insurance policies would cover sickness benefits on account of domestic as well as international travel. Reduced capital requirement for new company wanting to enter health insurance. Policy can be repudiated on any ground, including misstatement of facts etc.within first three years of purchase. Public Sector General Insurance Companies and GIC will be permitted to raise capital from the market, as long as Governments shareholding doesnt fall down below 51%. Appointment of agents is to be done by insurance companies subject to the agents meeting the qualifications, passing of examinations etc. as per IRDAs guidelines. IRDA is empowered to take action against agents to protect the insurance customers.

What is Bancassurance?

Bancassurance = Arrangement through which banks sells insurance products. (and earns Commission) Bancassurance system appeared in France in the 80s. According to Insurance law: one bank can work as Bankassurance agent for only one insurance company. (one for life insurance and one for non-life insurance) Meaning one bank cannot sell policies of multiple insurance companies (unlike a stationary shop owner- who can sell pens from multiple brands such as Raynolds, Parker, Luxor, Cello etc.) But this one bank one insurance co. system was changed after Chindus revival package.

Example of Bankcassurance
Type of insurance Insurance co Life +bank ICICI prudential ICICI Bank SBI-life Non-life SBI

ICICI Lombard ICICI bank TATA-AIG HSBC, IDBI etc.

Bancassurance: pros and cons

Pros

Cons/Anti arguments LIC has a big network of agents and offices but private Insurance companies dont. Hence Bancassurance system helps the private insurance companies to utilize the big network and manpower of a bank without much investment. It helps the reach of insurance products to the masses. Bancassurance increases Insurance density and insurance penetration. Increases the competition between public and private sector insurance companies = better prices, products and services for customers. Account holder doesnt need to visit multiple offices one for banking and one for insurance. Now bank is a big mall where he can do shopping for both.

Banks have huge database of customer telephone numbers. They annoy customers with stupid telemarketing calls for selling insurance policies. Bank employees donot have in-depth knowledge of insurance products. They only care about meeting the salestargets. They sometimes misinform the customers about future benefits / returns to sell a particular insurance policy. (^although same criticism applies for insurance agents also, they push for products that give more Commission.) so ultimately youve to do bit of a research and comparison of various insurance policies before investing into one.

Chindus revival package for insurance sector

He released this in late 2012. Total 12 points, important ones are

New products

An insurance company has to seek approval from IRDA, before launching a new product. According to this plan, IRDA must give that clearance within 30 days. Life insurance companies can introduce a product even without getting formal approval from the IRDA. (in some specific conditions).

Bank brokers

Banks can work as brokers of Insurance products. (earlier they could work only as agents: meaning as an agent, one bank could tie up with only one insurance co.) But now as a broker One Bank can sell insurance products of multiple insurance companies. Banking Correspondence agents can sell micro-insurance products.

KYC

IRDA will accept Know Your Customer (KYC) check done by banks.

Taxation

Service tax to be cut on single premium policies and 1st year premium Government is thinking about offering some more income tax exemption, for investing in insurance products.

Investment

Investment norms for Insurance companies=relaxed. Life insurers can invest in infrastructure SPV (special purpose vehicles) of any firm (earlier they could only invest in public sector undertakings SPV only).

Chindus Budget speech: Insurance

Reforms

We need to increase insurance penetration in India. Ive a number of proposals that have been finalized in consultation with the regulator, IRDA.

New branches

Insurance companies will be empowered to open branches in Tier II cities and below without prior approval of IRDA. All towns of India with a population of 10,000 or more will have an office of LIC and an office of at least one public sector general insurance company. I propose to achieve this goal by 31.3.2014.

Banks as insurance brokers

KYC of banks will be sufficient to acquire insurance policies. Banks will be permitted to act as insurance brokers so that the entire network of bank branches will be utilized to increase penetration. Banking correspondents will be allowed to sell micro-insurance products. Group insurance products will now be offered to homogenous groups such as SHGs, domestic workers associations, anganwadi workers, teachers in schools, nurses in hospitals etc.

Claims

There are about 10,00,000 motor third party claims that are pending before Tribunals/Courts. Public sector general insurance companies will organise adalats to settle the claims and give relief to the affected persons/families.

RSBY extended

The Rashtriya Swasthiya Bima Yojana already covers BPL families. Now, Itll cover rickshaw, auto-rickshaw and taxi drivers, sanitation workers, rag pickers and mine workers as well.

Integrated social security package

We need a comprehensive and integrated social security package for the unorganised sector The package should include life-cum-disability cover, health cover, maternity assistance and pension benefits. At present schemes like AABY, JSBY, RSBY, JSY and IGMSY are run by different ministries and departments. I propose a convergence among these schemes so we can evolve a comprehensive social security package. Itll benefit the poorest and most vulnerable sections of society.

Government Schemes: Insurance

From, INDIA Yearboook

Aam Admi Bima Yojana(AABY)

Rural landless households For the death / disability of Head of family / one earning member of the family. +scholarship for kids implemented via LIC Started in 2000 and merged with Aam Admi Bima Yojana in 2012, for better convergence. Provided Life insurance protection to the rural and urban poor persons below poverty line and marginally above the poverty line. Insurance cover 30k (natural death) Rs.75k (accidental death/disability) implemented via LIC Started in 2003 Healthcare for BPL Medical expenses upto Rs.25k Maternity benefit given Pre-existing diseases also covered. Started in 2007 Smart card based cashless health insurance. BPL family (upto 5 members) in unorganized sector. In Budget 2013, Chindu extended this scheme to rickshaw, autorickshaw and taxi drivers, sanitation workers, rag pickers and mine workers. For medical expenses upto Rs.30k per year. Premium sharing: centre vs State=75:25, incase of North east, 90:10 For emigrant workers Minimum Rs.10 lakh insurance cover Applicable during employment contract period abroad. For sickness, accidental death, disability while being abroad. Also cover expenses for transporting dead Also for legal expenses related to employment contract dispute abroad. body/sick/disabled person back home. Two schemes: 1) NAIS (National agriculture insurance scheme): available to all farmers, irrespective of their farm size. Protects them against crop losses due to natural calamity. 2) Weather based crop insurance scheme Both are run by Agricultural insurance company (AIC)

Janshree Bima Yojana (JBY)

Universal Health Insurance Scheme (UHIS)

Rashtriya Swasthya Bima Yojana (RSBY)

Pravasi Bharatiya Bima Yojana

Agro Insurance

Rajiv Gandhi Shilpi Swasthya

Provides health insurance to handicraft artisans family. (man, wife and two children only).

Mock Questions
1. For the given year, Insurance penetration is measured as: a. Ratio of Premium underwritten to No. of People in the 18-60 age group b. Ratio of Premium underwritten to GDP c. Ratio of Premium underwritten to Total population d. None of above 2. For the given year, Insurance Density is measured as a. Ratio of Premium underwritten to No. of People in the 18-60 age group b. Ratio of Premium underwritten to GDP c. Ratio of Premium underwritten to Total population d. None of above 3. Bancassurance means a. Arrangement in which Insurance company provides banking services b. A bank giving security for Indian corporate to raise capital from abroad. c. A Non banking Finance company providing assured returns on its deposits. d. Arrangement in which Bank sells insurance products. 4. Bancassurance leads to a. Increase in Banks NPA b. Decrease in Banks NPA c. Increase in insurance penetration d. Decrease in insurance penetration 5. Bancassurance involves ________ and ________. a. Bank, NBFC b. Bank, MNC c. Bank, insurance company d. None of above 6. The Insurance amendment bill aims to increase FDI limit in Insurance sector to a. 26% b. 49% c. 51% d. None of above 7. Correct Chronology (older to newer) a. IRDA, SEBI, PFRDA b. PFRDA, IRDA, SEBI c. SEBI, IRDA, PFRDA d. None of Above 8. An urban BPL family is not eligible for a. Janshree Bima Yojana b. Rashtriya Swasthya Bima Yojana c. Aam Admi Bima Yojana d. None of Above

9. Incorrect Statement about Rashtriya Swasthya Bima Yojana a. It is a smart card based cashless health insurance scheme for rural households. b. Premium sharing between Centre :State is 50:50. c. Both A and B d. Neither A or B 10. Incorrect match a. Aam Admi Bima Yojana: urban and rural BPL b. Janshree Bima Yojana: Rural landless c. Both A and B d. Neither A or B 11. What are the similarities between Aam Admi Bima Yojana and Janashree Bima Yojana? a. Both provide life insurance b. Both are implemented via LIC c. Both A and B d. Neither A or B 12. Who among the following, is/are eligible for Rashtriya Swasthya Bima Yojana (RSBY)? a. Rickshaw and taxi drivers b. Rag pickers c. Mine workers d. All of Above

Financial Intermediaries: Capital Market: External Commercial Borrowing (ECB), AIF, QFI, FII, FDI, FSDC (part 2 of 3)
How does an Indian company arrange for money to start new business / expand existing business? Ans. Via debt or equity. From Where can Indian company arrange for money? Ans.
Within India 1. Short term funds= Money market 2. Long term funds= Capital market Outside India

ADR, GDR, External commercial borrowing (ECB), foreign currency convertible bonds (FCCB) etc.

For the moment, lets concentrate within India.

Financial market

Two subtypes

Money market

Capital market

For arranging Short term funds Long term fund

Apart from that, financial market also includes: forex market, commodity market, derivative market, insurance market. But lets pay attention to only capital market for the moment. Within, Capital market: again two subtypes.

Capital market (long term) Primary Market

New securities are issued here.

Secondary Market
In common parlance this is known as Share-market.

The securities issued in primary market, are sold and repurchased here.

This is like a showroom for brand new This is like a Mela (fair) for used cars. cars.

Both are controlled by SEBI.

Primary market: importance?

Primary market helps businessmen (and Government) arrange money for their projects. It also helps investors earn profit on it via interest / dividend. Financial intermediaries come into picture here: they act as middlemen and help investor lend money to borrower (and earn Commission in between). If lot of money in invested in primary market (especially for corporate sector), that means economy is booming. But as per the Economic Survey, Compared to 2011, companies raised less money from primary market via debt and equity in 2012. It means companies are not doing as many new projects / business expansion like they did in 2011. Why? 1) policy paralyses, 2) inflation =less demand of products within India 3) Slowdown in US, EU = less demand of products abroad

Now lets take a look at the reforms taken.

From abroad Within India

External commercial borrowing (ECB)

IDR fungibility FII, FDI, QFI Financial literacy, REGSS Misc.

Reform: ECB What is ECB?

External commercial borrowing As the name suggest: ECB= when Indian company borrows money from external (non-Indian / foreign) sources. Money is borrowed from non-resident lenders. Via bank loans, fixed rate bonds, non-convertible shares, optionally convertible or partially convertible preference shares etc. For minimum average 3 years.

Who can borrow?

Hotel, infra, IT, hospital sector. (But company must have registered itself under Companies Act 1956, in India). Micro Finance Institutions (MFI) can borrow via ECB NGOs, NBFCs, Companies can borrow via ECB, if theyre involved in Microfinance activity. SEZ units

ECB money cannot be used for?

share market or real-estate speculation. Acquiring another company

ECB: Pros and Cons

Pro

Anti Today, American and European economy is not performing well, their banks and lenders are not finding local borrowers even at dirt cheap interest rate. So in this scenario, If an Indian company can borrow money from abroad, at a lower interest rate than in India, then whats the harm? Let them do it.

In ECB, the borrower has to repay in foreign currency (usually dollar). So If Rupee sharply weakens dollar (e.g. from 1$=Rs.50 to 1$=Rs.60), then Indian borrower will have to more amount of rupees to repay the same amount of loan he previously took. (because first hell need to convert his Indian rupee income/profit into dollar then repay the loan).

Reforms in ECB?

Government has liberalization in External Commercial Borrowings Policy during 2012-13 Main Beneficiaries of this liberalization = infra companies, SIDBI and NHB.

Infrastructure companies

Infrastructure companies can borrow in Chinese currency (Renminbi/RMB) Infrastructure companies can use 25% of the money borrowed via ECB for repaying their previous rupee debts IF they invest 75% of the ECB borrowed money to start new infrastructure projects. Banks as such, are not allowed to borrow via ECB route. But Small Industries Development Bank (SIDBI) can borrow via ECB route and lend that money to micro, small, and medium enterprises (MSME) sector subject to certain conditions. National Housing Bank (NHB)/ Housing Finance Companies can also borrow via ECB and use that money on low cost / affordable housing units.

SIDBI

National housing bank

This list of ECB reform is not exhaustive but for exam oriented preparation- youve to draw a line somewhere hahaha.

Reform: IDR fungibility

Before going into that, lets look at:

What is ADR?

American Depository receipt. Already explained, just copy pasting from my old article Suppose, Indian Co. wants to raise money from America, by issuing shares in American stock exchange. But then Indian co. will have to maintain accounts according to American standards. To prevent this problem, Indian company gives its shares to American bank. American bank gives that Indian company receipts (called ADR) in return of those shares. Then Indian Co. can trade those ADR receipts in American share market, to raise money. Sound good? Yes, but then Indian company will have to pay dividends to those investors in Dollar currency. Similarly GDR= Global depository receipt

What is IDR?

ADR= American depository receipt = from Americas point of view, it allows a foreign company (e.g. Indian) to raise money from American financial market. Similarly, IDR= Indian depository receipt= from Indias point of view, it allows a foreign company (e.g. American, British) to raise money from Indian financial market.

IDR: Two way fungibility?

First what is fungibility?= ability for mutual substitution. For example, if you borrow Rs.1000 rupee note from someone, you can repay it using two Rs.500 notes or 10 notes of Rs.100. because currency notes are fungible. Similarly, One gold bar weighing 100 gms. Vs. 10 gold bars weighing 10 gms. = easily fungible IF all of them are 24-carat gold, because weight and price wise both sides are same. But gold bars of 22 carat vs 24 carat = not easily fungible because theyll have different price. ADR is two way fungible. Meaning, (from American investors point of view) if youve ADR, you can convert it into the underlying shares of that (foreign/Indian) company. As part of financial reforms, Now IDR (Indian depository receipts) are also made Two way fungible.

Reform: FDI vs FII definition

Chindu proposed in Budget speech that

FII inflow increased

FIIs invest in Indian securities markets based on their perception how much money will I mae? Their perception is influenced by o prevailing macroeconomic environment of India o The growth potential of the Indian economy o Performance of corporate sector in competing countries (such as Brazil, South Africa.) In 2012, FII inflows were around 30 billion dollar. Much of these FII inflows went into equity segment. The increase in FII inflow indicates their confidence in the performance of the Indian economy and Indian market. Compared to previous years, the turnover in share market has increased and volatility has decreased. The economic and political developments in the Euro zone area and United States had their impact on markets around the world including India. fiscal cliff in the US had been resolved, and had a positive impact on the market worldwide including in India. Further, the reform measures recently initiated by the government have been well received by the markets.

FII reform?
In 2012, FII limit for investment in G-Secs (government securities) and corporate bonds =was increased.
FII limit (US Billion dollars) G-Sec 25

Corporate bonds 51

FDI reform?

Cabinet has approved increase in FDI for Multibrand retail, pension, insurance, aviation, power and broadcasting.

QFI
To put this in crude terms:

QFI is a guy who Doesnt live in India Is not an FII Doesnt have a sub-account under FII Is not a Foreign Venture Capital Investor.

Year Reforms taken

2011

Initially this QFI guy was allowed to invest in Indian mutual funds, IF he met the Know your customers norm (KYC). QFI was allowed to directly invest in Indian equity market. (provided theyre from member countries of Financial Action Task Force (FATF).) QFIs from Gulf Cooperation Council (GCC) and European Commission were also allowed to Invest. QFIs have been permitted to invest in debt market, with a total overall ceiling of US$ 1 billion.

2012

PAN card is mandatory for QFIs.

What is Alternative Investment fund (AIF)?

An entity that collects money from people, and invests it. But unlike the regular mutual funds, they donot usually involve in the conventional debt-equity share market type investment. And Theyre not covered under SEBIs regulations for mutual funds and collective investment schemes. Such funds / entities are called Alternative Investment fund.

3 types of AIF
SEBI has notified new regulations covering alternate investment funds (AIFs) under three broad categories
Category Note

These funds have positive spillover effects on the economy. E.g. venture capital funds, small and medium enterprises (SME) funds, social venture funds, and infrastructure funds SEBI and Government might give them incentives or concessions. Funds that dont fall under category 1 or 3. They can invest anywhere in any combination but are prohibited from raising debt, except for meeting their day-to-day SEBI/Government will not give any specific incentive or concession to them. Funds that have negative externality. They only work to get short-term benefits/speculation. E.g Hedge funds.

All the alternative investment funds have to register with SEBI.

Why Fin literacy and RGESS?

Government wants to make people buy less gold. Because when Indians buy a lot of gold, it increases our current account deficit> our rupee weakens against dollar >weve to pay more for importing crude oil =petro-diesel price increase= inflation (+bad election publicity for Government). Therefore, Government wants to increase financial literacy among (particularly) middle class and lower middle class folks, make them invest in share market, mutual funds etc. and move away from gold-purchase. So Government needs to generate awareness that investment in capital market is safe and gives you good returns. => Financial literacy / awareness needed. For this, CBSE already included financial literacy related courses in the syllabus.

Financial Stability and Development Council (FSDC) also working on forming national policy for financial literacy. But just by making people aware, wont make them invest in capital market. Government needs to offer some carrot to lure them. Thats why Government introduced Rajiv Gandhi Equity Savings scheme- it provides tax benefits and assured returns to FIRST TIME INVESTORS in the equities.

Rajiv Gandhi Equity Savings Scheme (RGESS)

It is a new tax saving scheme. This was announced in Budget 2012. Main purpose of this scheme: attract more (middle class and lower middle class) people to invest in securities market. (and divert them from investing money in gold, which increases current account deficit and creates more problems for Indian economy).

Conditions

Your annual income must be below 12 lakh. (original figure was Rs.10 lakh, but Chindu raised it in budget 2013). This must be your first investment in securities market. E.g. if youve been already investing purchased some IPOs, shares or invested in mutual funds, then you dont get tax benefit in this scheme. Lock in period of three years. (meaning you cannot take out your money before that). You must purchase approved shares/mutual funds only. For investment upto Rs.50000, you get 50% deduction in income tax. You can invest money in installments. No need to invest Rs.50000 in on go. You dont have to pay tax on dividends paid by the company.

Benefit?

issue/problem in RGESS? To invest in any type of securities (debt or equity), you first need two things 1) PAN card and 2) DEMAT account. Most of the Indians dont have either PAN card or DEMAT account.

FSDC

Government has set up Financial Stability and Development Council (FSDC) in 2010.

Org of FSCD

FM = chairman Heads of financial-sector regulatory authorities (RBI, SEBI etc), Finance Secretary and a few other departments Chief Economic Adviser

What does FSCD Do?

Promote financial literacy (their sub Committee has made draft National Strategy on Financial Education). Promote financial inclusion (get people in banking, pension, insurance net) Increase financial stability Increase inter-regulatory coordination (between RBI, SEBI, IRDA etc) Promoting financial-sector development

Misc. Reforms MCX-SX

SEBI permitted MCX-SX to operate as a full-fledged stock exchange (just like BSE/NSE). Now MCX-SX will directly compete with BSE and NSE, and itll lead to better services, lesser costs for the investors.

CDS Credit default swap (more explained earlier click me) Credit Default Swaps Meaning Explained
CDS = Credit default Swaps. In simplest form Its buying insurance against a default. For example: Im a banker, gave car-loans to dude, but Im afraid he might not pay back the full money. So Ill goto some other Bank X who sells Credit default Swaps (CDS). Ive to pay regular premium Bank X, but if someday that dudes default on his car-payment, Bank X will pay me the money. In a CDS transaction, the protection buyer does not suffer a loss when reference entity defaults. These CDS bonds, once issues, can be sold and bought like any other bond or security. i.e. Bank X sells my CDS to Bank Y. So now Bank Y gets my premium but in case of default by that Dude, Bank Y is supposed to pay me. In Jan 2013, RBI updated the CDS guidelines. As per the revised guidelines-now, CDS will be permitted also on
1. securities with original maturity up to one year like Commercial Papers, Certificates of Deposit and non-convertible debentures 2. listed corporate bonds 3. unlisted but rated corporate bonds

Why CDS important for economy?

Mutual funds and Insurance companies can now participate in CDS as users. This will increase liquidity in the corporate bond markets.

IRDA-repo

Insurance Regulatory and Development Authority (IRDA) has permitted insurance companies to participate in the repo market.

Electronic voting

A public limited company has shareholders. And the company needs to take votes of the shareholders before merger-acquisition, election of new board of directors etc. Earlier this was done through postal ballot. But in 2012, SEBI made rule: voting must be done through electronic means. (this reduces any mischief or foul play and brings more transparency). At the moment, SEBI has made electronic voting is made Compulsory for the top 500 listed companies and more companies will be included soon.

SCOREs

SEBI complaints redress system It is a web portal, where you can file online-complaints to SEBI.

Mock Questions
1. Capital market is madeup of a. Primary and Money market b. Primary and secondary market c. Money, primary and secondary market d. None of above. 2. New securities are first issued in a. Primary market b. secondary market c. Either A or B depending on SEBIs approval. d. None of above 3. Correct Statements about ECB? a. Infrastructure companies can borrow money only in dollar currency.

10.

11.

12.

b. SIDBI and NHB are allowed to borrow money via ECB route. c. Both A and B d. Neither A or B What is the purpose of ADR? a. Help an American company raise money from within USA b. Help an American company raise money from outside of USA c. Help foreign company raise money from American financial market. d. None of Above What is the function of IDR? a. Help an Indian company raise money from within Indian financial market b. Help a Foreign company raise money from within Indian financial market c. Help an Indian company raise money from abroad. d. None of Above Which of the following Depository receipt has two-way fungibility a. ADR b. IDR c. Neither A or B d. Both A and B Arvind Mayaram panel is associated with a. Current Account Deficit b. Double taxation avoidance c. FDI, FII definitions d. PPP project finance Correct statement about QFI a. It is a sub-account under FII b. Theyre not required to have PAN c. An Investors from Gulf cooperation council cannot register themselves as QFI d. None of above Correct statement about Alternative Investment Fund (AIF) a. It is regulated under SEBIs mutual fund regulations. b. SEBI classifies AIF into four categories. c. Every AIF is required to get itself registered with RBI d. None of Above Correct Statement about Rajiv Gandhi Equity savings scheme? a. It offers tax deduction to any investor whose income is below Rs.12 lakh b. Dividend income under RGESS is taxable. c. For investment upto Rs.50,000, it provides 100% income tax deduction. d. None of Above Which of the following is a function of Financial Stability and Development Council (FSDC)? a. Controls FDI approvals. b. An organization that aims to increase inter-regulatory coordination and financial literacy. c. Controls external commercial borrowing and current account deficit. d. None of above. SCORES an online portal to register complaints with a. IRDA b. PFRDA c. SEBI

d. None of Above

Financial Intermediaries: Banks, RRBs, NBFCs (Part 3 of 3) Interest rate

There are mainly three type of bank account: Current Account Savings account Term deposits/Fixed Deposit

Interest paid by bank 0%

4-6*%

Depends on how long you keep the money. 6-8*%

These rates change from bank to bank, ^these are just approximate numbers for illustration. For banks Current account and savings account (CASA) are most important. Why? Because on these deposits, bank has to pay very low interest. So if bank gets lot money from CASA source, and lends it as car/bike/home/business/personal loans @12-18% =there is big profit margin.

Interest rate change

Deposit rates (bank pays to accounts holders)

Lending rate (bank charging to loan takers)

RBI controls the interest rates on foreign currency non-resident account (FCNR). In 2011, RBI deregulated the interest rates on savings deposits. Still no public sector bank has increased its savings deposit rate. (they just offer 4%). Although private sector banks offer higher.

2012: RBI deregulated the interest rate on loans given to exporters (in foreign currency). This was done to improve the exports. In 2012-13 period, RBI started reducing the repo rate and consequently banks too lowered their loan interest rates a bit.

Rural Banking: Background

During the British raj and the initial years after independence, the banks (and insurance companies) only operated in the urban areas. Why?
1. Staff/Manpower: easy availability of educated youth in cities. 2. Urban areas had better availability of electricity, telephone, telegram, railways, office supplies etc. 3. Customers: Main Target audience of banks and insurance companies= educated middle class, rich people and businessmen. They live in cities. 4. At that time, Banks and insurance companies were controlled by private players: they had only one motive=Profit. And city folks have more surplus income compared to villagers.

Result:

Villagers did not get facility of banking / insurance, and they had to rely on the (evil) money lender who charged whatever interest rate he wanted to. Sometimes they paid more money in interest, than the actual principle they had borrowed. And thus villagers remained in debt and poverty forever.

Governments action
Over the years, Government certain things to achieve following objectives:
1. To help the villagers get easy loans for buying cows, buffalos, diesel pump sets, seeds, fertilizers, digging wells and bores in their farms etc. 2. increase the penetration of banking services in rural areas 3. To achieve financial inclusion in rural areas

Timeline: Banking in rural areas

50s 55 60s 75 80s Cooperative banks / societies Birth of SBI and ICICI (although not related with rural banking directly) Bank nationalization (first round) Regional rural banks were setup NABAD was setup.+ Bank nationalization (second round)

Early 90s Self Help groups (SHG) and bank linking Late 90s Kisan Credit Card 1. No-frills account 2. Banking Business correspondence Agents (BCA) 3. Interest subvention scheme on crop loans Swabhiman scheme

Mid-2000s

2011

Now lets fill in the details

After independence
The structure looked like this (for rural banking)

1. RBI 2. State cooperative banks 3. Central cooperative banks (@District level.) || Urban cooperative banks (in cities and small towns) 4. Primary Agriculture Credit societies (PCAS) (@village level)

Then came RRB and NABARD.

Why RRB?

1975: Government appointed MM Narsimhan Committee to look into rural banking. Narsimhan observed that Commercial banks (such as SBI, BoB) have high cost structure (building, staff etc.) so they prefer to open branches in cities rather than villages- Because city branches make more profit. The staff of commercial banks= expert in banking and financial matters but not aware of the problems of rural people. On the other hand, the Primary agriculture Cooperative societies have members from the villagers themselves, so they are more aware of the needs and problems of the villagers. Therefore, we need to create a hybrid institution that has positive characters of both

1. Financial strength and expertise of commercial banks) + 2. Grassroot problem awareness of cooperative society).

Thus, Regional rural banks were born.

RRB provides loan and savings facilities to villagers. These villagers include
1. 2. 3. 4. 5. 6.

farmers (small and marginal) agri laborers rural artisans rural entrepreneurs cooperative societies primary agriculture credit societies RRBs are sponsored by Commercial banks. The Sponsor bank provides training to the staff of Regional rural bank. The sponsor bank also provides initial capital to setup the regional rural bank. According to the RRB Act, the paid up capital is Central Government : State Government : Sponsor bank = 50 : 15 : 35

How is RRB different from commercial banks?

Commercial Bank Area of

RRB

Huge.

Small.

operation

Whole India (although mainly concentrated in urban areas and small towns) Savings accounts, fixed deposit etc. Borrowing from RBI and other sources

One or a few districts. (rural)

Source of finance

Borrowing from NABARD, SIDBI. They also have savings account of villagers, but it is not sufficient to cover the loan demands.

Apart from RRBs, villagers also get services from cooperative credit societies, Microfinance institutions; Even commercial banks such as SBI also serve the villagers via BCA (Banking correspondence agents). And the urban-rural geographical breakup has changed a lot since the birth of RRBs. (Many places that were villages in 70s have now become small towns). In this context, it was necessary to consolidate/merge various RRBs- to reduce their overhead expenses and make them more competitive Therefore in 2005: Government of India started amalgamation of RRB. So now the number of RRBs have decreased. Till 1 January 2013, 22 RRBs had already been amalgamated into 9 RRBs.

Rural Infrastructure Development Fund (RIFD)

Started in mid 90s. NABARD operates the Rural Infrastructure Development Fund (RIDF). This fund provides cheap loans to states and state-owned corporations So they can quickly complete projects related to medium and minor irrigation, soil conservation, watershed management Flood Protection; Forest Development; Cold storage Community Irrigation wells for the village as a whole; Village Knowledge Centres; Desalination plants in coastal areas; Building schools, Anganwadi Centres etc. Building toilet blocks in existing schools, specially for girls Rural Roads, Bridges and other forms of rural infrastructure.

1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13.

Banks who do not meet their Priority sector lending requirements, provide money to this rural infrastructure development fund.

Financial Inclusion

Financial inclusion = getting all poor people in the banking, insurance, pension net. So they dont become victims of evil money lenders who charge 36% compound interest rates (or even more).

Swabhimaan scheme

Weve already discussed this scheme and Banking business correspondents (BCs) in earlier article. Click me Budget 2012, Chindu Pranab had announced that Swabhimaan would be extended to habitations with population more than 1,000 in the north-eastern and hilly states and population more than 1,600 in the plains areas as per Census 2001.

Ultra Small Branches

Ultra small branches (USBs) are being set up in all villages covered through Banking Correspondence Agents. (Weve already discussed Banking business correspondents in earlier article. Click me) These Ultra small branches (USBs) will have a small area of 100-200 sq. feet. A bank officer will be available here with a laptop on pre-determined days. The Banking Correspondence agents will offer cash service to villagers (e.g. depositing or taking out money), This bank officer (in Ultra small branch) will offer other services, undertake field verification (for loan applications), and follow up banking transactions. A total of over 40,000 Ultra small branches (USBs) have so far been set up in the country.

SHG Bank linkage program

Self-Help Group (SHG)-Bank Linkage Programme started in early 90s. Under this programs, self-help group open savings account in the bank. They get loans for their projects, deposit money from members (and NGOs earn commission in between). It is being implemented by
1. commercial banks, 2. regional rural banks (RRBs) 3. Cooperative banks.

Development Banks/AIFI
They can be further classified based on their target audience

Agro

Housing

Industry 1. 2. 3. 4. SIDBI IDBI ICICI IFCI 5. IIBI

Import-export

NABARD National Housing Bank

EXIM bank

Out of ^them, names highlighted in bold (NABARD, NHB, SIDBI, EXIM) = All Indian financial institutions (AIFI). Rest are development banks.

Industrial Development Bank?

First question: How is industrial development bank different from regular (commercial) banks such as SBI, PNB etc.?
Industrial development bank Commercial Bank

Public Sector
1. 2. 3. 4. ICICI* IDBI SIDBI (AIFI) IFCI 5. IIBI 1. SBI 2. PNB 3. BoB

Examples

Pvt.Sector
1. ICICI* 2. HDFC

Accept deposit from public? Job?

Yes

Provide medium/long term finance to ONLY industries.

Provide short/medium/long term finance to both common men (car/bike/home/education/personal loans) + to industries.

*The ICICI started in 1955 to provide finance to industries. In 1994 they also started ICICI Bank. And in 2002, the original parent (ICICI) was merged with ICICI Bank Ltd.

how do Industrial development banks provide finance to industries?

1. By directly giving loans to a company. 2. By buying shares and bonds of a company. 3. By underwriting new IPOs.

In the beginning, these organizations started as All India financial institutions, their job was to provide medium / long term finance to companies.

But after the LPG reforms in the 90s, capital market become popular. Now businessmen had more options to arrange for finance (via IPOs, bonds). So these All India financial institutions (AIFI) lost their original glamour and government converted them into Development banks (as per Narsimhan Committees recommendation). Now only four AIFI left: NABARD, SIDBI, EXIM and NHB. They are regulated by RBI. In the (part 2 of 3), we had seen that now SIDBI and NHB are allowed to borrow via external commercial borrowing (ECB) route.

1.ICICI

Full name: Industrial Credit and Investment Corporation of India. Private sector development bank Setup in 55. (same year SBI was also born). 2002: Merged it with ICICI Bank ltd. Small industries development bank of India Started in 1990. SIDBI helps the micro, small and medium enterprises (MSME). It provides finance to State Industrial Development Corporation (SIDC), State finance corporations, Commercial banks, cooperative banks and regional rural banks. And then those organizations deliver loans/finance to the ultimate target group (MSME industries). Industrial development bank of India UTI is a subsidiary of IDBI It borrows money by issuing bonds (and then lends that money to industries at a higher interest rate.) Industrial finance corp. of India Setup in 1948: that makes it the first industrial financial institution in India. Industrial investment Bank of India. NABARD = National bank for Agriculture and rural development It was setup in early 80s. (Regional rural banks (RRB) were started in 75, that means first RRB came and then NABARD came). It acts as the regulatory authority for cooperative banks and regional rural banks NABARD lends it downwards to State cooperative banks (SCB), Regional Rural banks (RRBs), Microfinance institutions, cooperative credit societies etc. Thats how farmers, villagers, cottage/handicraft, self help group (SHG) get loans at reasonable interest rate. NABARD operates the Rural Infrastructure Development Fund (RIFD) National Housing Bank (NHB) Started in late 80s As the subsidiary of RBI It is the apex institution for housing finance in India (just like how NABARD is for rural / agri).

2.SIDBI

3.IDBI 4.IFCI 5.IIBI

6.NABARD

7.NHB

Reverse Mortgage product

Launched by National Housing bank. For senior citizen

The senior citizen can mortgage his house and hell be given monthly income. He doesnt need to repay loan or pay any EMIs, but when he dies, bank will take over his house and auction it to recover the loan money. (and if house fetches more than loan dues, then bank will give that extra money to heirs of the dead person.) Punjab National bank also has a scheme like that, called PNB Baghban.

FINANCIAL PERFORMANCE OF BANKS

NPA = Non performing asset, in crude term, bank gave loan to someone but he is not repaying it back on time. Reasons for rising NPAs

1. 2. 3. 4.

current macroeconomic situation in the country; increased interest rates in the recent past; lower economic growth; aggressive lending by banks in earlier good economic times (i.e. prior to 2007). And now some of those businessmen / salaried individuals are not earning enough due to slow down, hence unable to repay the loans. 5. Our banks had also loaned to some State electricity boards and airline companies (but they are not paying back on time) so the banks NPA increased. 6. switchover to system-based identification of NPAs by Public Sector Banks

Capital Adequacy Ratio

A measure of a banks ability to absorb losses. Formula: value of its capital divided by the value of risk-weighted assets. To put this crudely : CAR= banks capital / banks risky assets. A low capital adequacy ratio (CAR) = bank has a limited ability to absorb losses (meaning bank is more likely to collapse if people start defaulting on their loans.) High CAR= bank has good ability to absorb losses. In public sector banks, government of India (GoI) has regularly infused capital to keep the CAR high. But over the years, GoI too is running low on cash (thanks to fiscal deficit), so government had formed a committee, and committee recommended that Government should create a new financial holding company. This company will raise money from domestic and international sources and then infuse it as equity in public sector banks.

NPA: steps taken to reduce it

1. SARFAESI act and asset reconstruction companies (ARCs) (already discussed, click me) 2. nodal officers in banks for each Debts Recovery Tribunal (DRT); 3. close watch on NPAs

RBI has also announced the following remedial measures:

1. sanction of fresh loans/ad-hoc loans from 1st Jan 2013 will be made on the basis of sharing of information among banks; 2. banks will conduct sector- /activity-wise analysis of NPAs; 3. banks will put in place a robust mechanism for early detection of sign of distress, amendments in recovery laws, and strengthening of loan appraisal and post credit monitoring.

Chindus Budget speech

Interest subvention scheme

It was started in 2006 Govt. will continue this scheme for 2013-14 also. Given for short term crop loans For loan Upto Rs.3 lakh Time period: 1 year. Under this scheme, farmer can get loan @7% interest rate. But if he repays the loan on time, then he will get additional 4% interest subvention. (meaning loan would cost him 7-4=3% interest rate only.) So far, the scheme has been applied to loans taken from public sector banks, RRBs and cooperative banks. Chindu proposed to extend this scheme to crop loans borrowed from private sector scheduled commercial banks as well.

In case you wonder WHY? Why is govt. giving 3% interest subversion to farmer who repay the loans on time? Earlier the interest subvention was 1% (2009), It was increased to 2% (2010) and 3%(2011).

Because, in 2009, govt. had launched debt waiver scheme. (Meaning farmers didnt have to repay the loans they had taken earlier.) Govt. say they are doing it to prevent farmers suicides, but experts believe it was more of an election gimmick. It hurt the economy in two ways

1. It increased fiscal deficit of the government. 2. The farmers who had been regularly repaying loan, felt cheated. Now they also dont repay the loans on time, thinking sooner or later govt. would announce another debt-waiver.

Thus, banks, particularly regional rural banks (RRBs) are facing really hard time recovering the loan money. Thats why Chindu is doing two things
1. On one hand, he offers additional interest subersion to farmers who repay loans on time. 2. On the other hand, he is also working for amalgation of RRBs.

More cash to NABARD

Govt. will provide Rs. 5000 crore to NABARD

NABARD will give it as loan for construction of warehouses, godowns, silos and cold storage units both in the public and the private sectors. Panchayats can also use this money for construction of godowns to help farmers to store their produce.

Multilateral Development banks: Roads in NE

These banks operate at international level. They are formed by group of countries. Examples of MDB= Word Bank, Asian Development Bank (ADB), African development bank. Chindu wants to get loan from both World Bank and the Asian Development Bank to build roads connecting North East India with Myanmar. This will help in our look east policy and improve the economic prosperity of north eastern States of India.

Bank for Women?

At present, there is no bank that exclusively serves women. Chindu porposed that we should have have a bank that lends mostly to women and women-run businesses, supports women SHGs and womens livelihood, employs predominantly women, addresses gender related aspects of empowerment and financial inclusion

1. 2. 3. 4.

for this,

MBN Rao committee = theyll prepare the blueprint for the countrys first womens bank. Govt. shall provide Rs 1,000 crore as initial capital to start this bank. Chindu hopes RBI will give banking license to this by October, 2013.

Urban housing fund

There is already Rural Housing Fund set up through the National Housing Bank. In this system, govt. gives cash to NHB. And NHB lends it to other banks operating in rural areas >> finally those bank lend it to villagers to construct houses. Chindu has proposed to start similar fund for Urban housing under National housing bank.

Banking
1. Govt. will provide capital infusion to public sector banks and make sure they meet BASEL III norms. 2. All scheduled commercial banks and all RRBs are on core banking solution (CBS) and on the electronic payment systems (NEFT and RTGS). 3. Public sector banks have assured Chindu that well set up ATM in all our branches by the end of March 2014

4. We are working with RBI and NABARD to bring all other banks, including some cooperative banks, on CBS and e-payment systems by the end of December 2013.

What is Core Banking Solution (CBS)?

Core banking solution= Bank integrates all of its branches in a single IT network. Whenever you take out money or deposit money from your account, the database is updated in the central server directly. Any branch of the bank, can access this date from the central server. Thus Core banking solution helps customers to operate their accounts, and avail banking services from any branch of the Bank on CBS network, regardless of which branch he had opened the account. The customer is no more the customer of a Branch. He becomes the Banks Customer. Thus CBS = Anywhere and Anytime Banking. You can deposit money in any branch-office, you can give cheque, you can take out money, you can get your account statement, etc...as long as that branch is part of the core banking solution. CBS branch is like a Sales & Service Delivery Center. Internet banking, mobile banking, ATM are all interconnected in Core banking solution.

Why is CBS in news?

Because of two reasons

#1: Chindus budget speech

All scheduled commercial banks and all RRBs are on core banking solution (CBS) and on the electronic payment systems (NEFT and RTGS). We are working with RBI and NABARD to bring all other banks, including some cooperative banks, on CBS and e-payment systems by the end of December 2013.

#2: RBIs notice to UCB

in March 2013, RBI issued a notice that Many Urban Co-operative Banks (UCBs) havent implemented the core banking solutions (CBS) yet. Were giving them deadline: Dec 2013. If they do not implement core-banking solutions by that time, then we (RBI) could deny them various approvals (e.g. permission to open new branch etc.)

Why UCBs havent implemented CBS?

All the state-owned commercial banks have implemented CBS system already. But other Urban cooperative banks at district level are unable do it due Lack of funds (takes lot of money to setup server, buy licensed softwares, intenet bill etc).

Although RBI maintains that in long term, use of Information technology and CBS will reduce the cost of operation so its a win-win situation if UCBs implemented the CBS.

Finally, conclusion, summary, what do we get from fifth chapter?

Conclusion

Indian Government started reforming the financial markets under LPG reforms in 90s. The results of these reforms have been encouraging. Today, India has one of the most vibrant and transparent capital markets in the world. But still there are certain challenges before Indian capital market becomes an important avenue for investors both foreign and domestic. 1) Our corporate sector requires long term funds (@low cost), and 2) we need lot of money for infrastructure project.

To help ^these two, we need three things

1. Well developed Banking systemalready present 2. Well developed equity market.already present. 3. Well developed corporate bond marketyet to develop.

So, Government needs to take policy initiatives for developing a robust corporate bond market. These policy initiatives include:
1. Need to strengthen the legal, regulatory framework for corporate debt market. 2. Legal regulatory framework for financial products which is new or still in nascent stage e.g. municipal bonds, credit default swaps. 3. At present our public sector organizations related to pension-insurance sector (LIC, EPFO) cannot invest lot money in corporate debts. Government needs to relax their investment guidelines.

Infrastructure development funds (IDF)

What is Infrastructure?
Things that are essential for functioning of economy: roads, sea-ports, airports, railways, metro rail, electricity-generation etc.

Why is Infrastructure important?

Therefore, good quality Infrastructure is essential for achieving high GDP growth (9%).

What is the problem with Infrastructure?

Government estimates that one trillion dollars will be required in next 5 years to finance all the important infrastructure projects. But Government cannot finance all those projects by itself. Because theyre already spending lot of money on Food-Fertilizer subsidies, MNREGA, Air-India etc. Government cannot merely print more suitcases full of money to finance these infrastructure projects, else itll create inflation. click me to know why If Government borrows money from public, to finance these infrastructure projects, itll severe the problem of fiscal deficit. So, Government wants 50% of that required money to come from private sector (banks, domestic and foreign investors.)

What is problem with Banks?

Such infrastructure projects require long-term funding for 20-25 years, but banks are already exposed to too much risk (loans given to 2G players, Vijay Mallya etc.) In the present situation, banks are unable to finance infrastructure projects for more than 5-7 years timeframe. Hence, there is need to channel money from the hands of investors into infrastructure projects. (+ also need to reduce investment in Gold, because it increases current-accountdeficit.) To achieve this, Government has come up with new idea = Infrastructure Debt Funds.

Bonds vs Shares, Debt vs Equity, IPO, Underwriter, Venture Capital, Angel Investor, Junk Bonds, Bearer Bonds, Gilt Edged securities:
I want to start an Ice cream company, what will I need?
Land Labor Capital Entrepreneurship To build a factory. Workers to run the machines. Money to buy Freezers, mixers and packing machines to make ice-cream. To take the risk and do above three things.

These are called the four factors of production. I already have the entrepreneurship in my heart and mind. But it requires truckload of cash to arrange for the other three items: Land, Labour and Capital.

How To get the cash to start my company?

I can rob a bank Or I can just start my own IIT Bombay, sell its application forms for 5,000 rupees and then declare cut off 99.99% and thus earning truckload of cash without actually wasting a single rupee in arranging the admission interviews. Or I can join politics.

Problems in above options

Cant rob a rob a bank because this too requires Labour (gangsters) and guns, masks, vehicles and Entrepreneurship (to take the risk of going to jail). Cant start my own IIT Bombay would again require those four factors of production (Land, Labour, Capital, Entrepreneurship)+Permissions from UGC/AICTE. Cant join politics because Only ministers can make huge money, MPs/MLAs dont. And Unfortunately Im not a son or daughter of some big politician so I cant become minister @ young age (Agatha Sangma, Sachin Pilot, Naveen Jindal et al) So even If I join politics right now, Ill have to do bootlicking of Party high command until I get 60 years old, only then I can become minister and break the records set by A.Raja and Madhu Koda.

Now, There are two ways to (legally) arrange money for starting a company or to expand a company. First is Debt and Second Equity. See this chart

Financing my company: Debt OR Equity

#1: Debt- bond

The word debt is self-explanatory. You borrow money from someone: It can be a bank, it can be a friend, it can be a stranger. I write on a piece of paper: To whoever pays me Rs.1000, Ill pay annual 10% interest rate (Rs.100). And after 5 years, Ill also repay the principle amount Rs.1000. No ifs and buts. This is one type of security paper. We call it BOND. IF you hold my bonds, Im liable to pay you money no matter what happens. Whether my icecream company actually makes profit or goes Kingfisher. I have to keep paying fixed money to you, every year.

Junk Bonds vs Gilt Edged Security

In above case I offered you 10% interest rate. But in real life, there are credit rating companies like CRISIL, S&P, Moodys etc. Theyll give credit ratings to a bond. (i.e. Am I capable enough to actually pay you?). Based on that, they give ratings example AA,A, BBB, BB,C,D etc. I had talked about them in my previous article. Go through the Archive on www.mrunal.org/economy

Junk Bonds

If my Bond gets C or D rating, it means Im not creditworthy, I may default on this loan, I may run away. So my bond is as junk as Ra.One movie. A wise man will not invest in it. So, how can I seduce you into purchasing my bonds? How can I convenience you to take the higher risk, in buying my junk bond? How about Free caller Tunes or a scratch-card that offers you a chance to dine with Sachin or Katrina? Or How about Higher Interest rates: If you give me Rs.1000, Ill give you 25% interest rate per year! This is also known as High Yield Bond, because youre getting higher profit.

Gilt Edged Securities

Like an ice cream company, Government also needs finance- at times when tax collection is low and they need some temporary funds. They issues treasury bonds. RBI sells these treasury bonds on Governments behalf. But Governments generally have the aukaat to repay the principle and interest rates. Hence Government bonds have higher credit ratings (AA). So, they dont need to seduce you, theyll offer very low rate, say 4%. Similarly, well known companies with high credit ratings (AA) also issue bonds but pay low rates. If you dont like to take risks, youll invest in such bonds. These are called gilt-edged securities.

Bearer Bonds (and Bad Guys)

In Bollywood movies, Kidnapper demands ransom of Rs.10 lakhs but he wants the money in the denomination of Rs.5/10/50 Rupee notes. Why? Because it is easy to circulate these notes and harder for police or banks to keep track of this money. Same way, in Hollywood Spy-thriller movies, the Villain will ask you to pay 10 million dollars in Bearer bonds. Bearer bonds are same as regular bonds, but they dont have Holders Name on them. These bearer bonds have coupons attached with them. So, if you dont want to withdraw the whole money, you can cut a few coupons and sell them to a broker to withdraw partial amount. E.g. Rs.100 interest is to be paid on 1st April 2012, But even on December-2011 you can sell the coupon to a Broker. Although hell not give you Rs.100 but something like Rs.95 or 90. (Why so? Think about it!)

Anyways, the point is, Noone can keep a track of who withdrew the money, whos buying, whos selling Because there are no names, addresses or records. Bad guys like it, because this ensures anonymity. See the following example photograph of a Bearer bond of Government of Palestine. Notice that it doesnt have space for Owners names and there are three coupons attached at the bottom.

Question: Why would Government issue bearer bonds? Because when theyre in dire need of money, there is emergency, there is war going on, they cannot waste time in checking the lengthy registration forms. So, Better just sell the bonds to any swinging dude that comes, without asking his name, address, mobile number or email id. Although, in real life, it is hard to find Bearer bonds. Because most of the bonds now, exist in Electronic (DEMAT) format and youve to give your pan card number (or other similar personal information in foreign countries) to buy or sell bonds/shares or any similar security papers. So, now bad guys want payment in gold, diamond or other precious metals instead of bearer bonds.

#2: Equity: IPOs and Shares

So far, we saw that first option is to borrow money and pay regular interest rate. (Debt >Bonds). Now continuing this not so technically correct article, Second option is, I take money from you and in return I offer you partnership. This is called Equity. Assuming that I need 1 crore rupees to start my company and Ive 30 lakhs in my savings. So, I write on a piece of paper: Ill give 0.0001% ownership of my company to whoever gives me Rs.1000. This is again a type of security-paper. But since Im sharing a part of ownership with you, in crude terms, well call it Share. Then I print 10,000 such papers. Whats the value of these papers? 10,000 Papers multiplied with Rs.1000 each =1 crore. Voila thats total money I need. And since I already have Rs.30 lakhs, I can purchase 3000 shares. (because 3000 papers x Rs. 1000 each = 30 lakhs) So out of the Total 10,000 shares that I printed, I will own 3,000 shares, so percentage wise I own 30% of this companys equity.

Related to this: How do they Calculated SENSEX? Click Me to Read it

Shareholders and Board of Directors

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Since Im issuing the shares (Equities), under the Company law, Ive to Constitute a board of directors and hold annual general meeting of the shareholders. For important policy decision, Ill have to take votes of the shareholders, the Board of Directors will supervise over my activities. In short I cannot run the company as I please, Ive to give answers to those people. On the first year, I make profit of Rs.25 lakhs. The board of directors will meet and decide

distribute Rs. 10 lakhs as Dividend among the shareholders. Now about the remaining 15 lakhs, invest them back in the company to expand our production-capacity , buy bigger machines and install new factories in Pakistan and Somalia.

Here is the cool part, I can become CEO of my own company and say Ill take salary of Rs.1 only! And still, I will earn Rs.3 lakhs. How? Because I own 30% of shares in this company, so when that Rs.10 lakh Dividend is shared among the shareholders, I get 30% of it = 3 lakhs, apart from my Rs.1 salary as an employee of this company. Here is a demo photograph, of Creek Mining Companys shares.

The owner Mr. George own 200 shares of this company. And in the small fonts, it is mentioned that total 30,00,000 shares of $1 each. Meaning Mr. George owns (200/30 lakh) x100 =0.0067 % stocks of this Creek Mining Company. But in real life, nowadays, when you purchase shares , you dont get such cool looking colorful paper certificates. You get the shares in electronic dematerialized format. They get transferred in your demat account. (already discussed in QFI vs FII article.)

What is IPO?

Mithun Chokrobarthys Son Mimoh Chakrabarthy was launched in the first film Jimmy. That year he got Best Newcomer award. Movie was flop, then Mimoh decided that changing his name, would bring him some luck. So he became Mahaakshay Chkarbarty and yet gave a few more flop films. Now people dont call him Newcomer, they call him flop hero. Moral of the story: When you act in your first film, youre called a newcomer. Then in your subsequent movies, youre called a flop actor, although youre the same human being from your daddys eyes.

Same way, When I sell my share papers for the first time, to the public, it is called IPO (initial public offer) Then you (the buyers of these IPOs), sell these papers to each other, the same paper is called Share or Equities. From Daddys point of view (Mine), its the same. If someone has one paper, he gets 0.0001% from the dividends.

Primary vs Secondary Market

Primary market = this is the Place where IPOs are sold, Secondary Market= this is the place where IPOs are re-sold as shares. Physically both things are done in the same place e.g. BSE (Bombay Stock Exchange) but this virtual classification helps in keeping track of things, making statistical analysis etc.

Venture Capitalist and Angel Investors

Now Two more sub-types of Equity financers

What is Venture Capital?

Venture Capital is a company that gives you money, to start your company or to expand your company but in return they demand part of ownership. They deal with only big things, big projects, big investments. They wont help me to open an ice-cream parlour in Gujarat University despite the fact that its monthly revenue will be higher than SBI General Managers salary. Copy pasting example of Ojasventure, India We invest in technology based businesses in sectors such as Mobile technology, Telecom, Software. We make an initial investment of US $ 250,000 to US $ 1.5 million.

How do they get money?

Ofcourse money doesnt fall from sky, these Venture Capitalist companies themselves borrow money from other companies like mutual funds, pension funds or they may be issuing their own bonds to get money.

How do they operate?

Theyve their own team of Management experts, corporate lawyers, chartered accountant, and business consultants. They study your business plan, approve the money. Theyll demand seats in your companys board of directors to Influence the Decision Making in your company, according to their requirement and so on

Who is Angel Investor?

These are rich gentlemen. They finance startup companies for getting partial ownership and or assured returns on investment, after few years.They can give debt (i.e. just like moneylenders and banks) or Equity (i.e. partial ownership). But mostly they play in the equity field.

What is the need of Angel Investors?

You can get money from Banks / Bonds (Debt) or IPO/Venture Capitalist (Equity), if your business project is likely to bear success based on previous experiance. For example: Pharmaceuticals, Dairy, Engineering instruments, Mining, Telecom, Textiles, Oil Refinery etc. But they may not get interested in you, if you talk about untried and untested business plans / product or fields. Imagine Steve Jobs requesting SBI Bank Manager to give him business loan in 1970s to start Apple Computers, or Same Steve Jobs launching IPO of Apple in NewYork Stock exchange during that time! But there was an angel investor Mike Markkula, who actually believed in his plan and gave him some money and got 1/3rd ownership in the company in 1977. Angel investor doesnt mind taking huge risk by helping even small timers with totally unique and untested idea, if he think that itll grow up huge success in future. Similarly, Amazon online shopping website and Starbucks coffee chain also started with Angel Investors.

Capital Gain Tax Revisited

Recall the argument given by Mr.Vodafone in Capital Gains tax? An individual who owns 45 per cent share capital does not own 45 of that companys assets. There is a difference between the sale of shares in a company and the sale of assets of that company.

Why is it so? Because most of the company dont directly start with IPO / Shares. First the entrepreneur starts a small company using money from his own savings, borrowing from friends, relatives and banks or from an Angel Investor. Once the business starts booming, hell launch an IPO to get extra funds from public, to expand his business. So, He already has some building, machinery, vehicles etc assets in his small company before launching his IPO.

Take a really crude example

I have Rs.30 in savings, I borrow Rs.20 (Debt) and thus start a company for Rs.50 After few years, I need another Rs.50 to expand business, so I launch an IPO: Total 50 share papers worth Rs. 1 each (Equity) You buy 10 shares for 10 rupees. Means you own 10/50th =20% of my shares/stocks/equity/ IPO whatever you want to call it. But the total assets of my company are= From Rs. 50 I had already + Rs. 50 from IPO = Total Rs.100 So, You dont own 20% assets of my company, because youve given me only Rs.10! and my total assets are financed from both Debt + Equity. Same way, if you purchase 10% shares of Jet Airways, doesnt mean you own 10% of their airplanes and buildings.

Who is Underwriter?

So far weve seen that To arrange money I can either borrow (debt, Bond) or I can give shares (equity, IPOs/shares). Here is the problem: I cannot print those security papers on my own Home PCs cheap-printer. First, A lengthy legal and accounting paper-work has to be done, itll require chartered accountants, Corporate Lawyers experts in these matters. So, I goto an underwriter, he charges Commission but he promises to cover all the technically things, paperwork, SEBI regulations, selling, accepting money for IPO/Bonds sale etc.etc.etc. Same underwriter also offers a kinda insurance, that hell buy the IPO/Bonds if others dont buy it. Kotak Mahindra, ICICI offer such underwriting services.

Debt vs Equity : good and Bad things

In real life, companies dont rely on single source to finance their adventure. Theyll arrange part of the cash from Debt (Borrowing) and part of the cash by issuing IPOs (Equity). Each has its own advantage and disadvantage. Lets check

Good things: bonds vs shares

Debt (Bond)

Equity (IPO/Shares)

I have complete ownership and control over the company. Im accountable to nobody just like UPA-II. I dont have to share my profit with anyone. I get to eat the whole cake. I can claim income tax deduction for paying

If the company makes loss, I dont have to share any money with the shareholder, just like Kingfisher. So there is no regular interest payment, as we do in the loan. Meaning Ive less

the loan. It require less paperwork and time to borrow from bank / friend than via sharemarket (SEBI permission, board of directors etc)

tension compared to bank loan/ bonds.

Bad things: bonds vs shares

Debt (Bond)

Equity (IPO/Shares)

Even if I dont make profit, Ive to pay interest rate, because basically this is a loan just like home loan or car loan. Whether you earn or not, youve to pay the EMI. I may have to mortgage something (machinery, building) to get the loan. So in case I default on the loan, the bank/financer can take it away from me.

I dont get complete ownership and control over the company. Ive to constitute a board of directors, hold general meetings of shareholders, Im accountable to them. The board of directors can throw me out of CEO job, if I donot deliver results, unlike Mohan. It requires heavy paperwork and time to initiate IPO, sharemarket thing (SEBI permission, underwriting etc)

Mechanism of Infrastructure Debt Fund

Tax Policy to Attracting investors

1. Withholding Tax reduced from 20% to 5% (for foreign investors) 2. Money earned from IDF is exempt from income tax. (for desi investors)

What is withholding Tax?

Suppose a non-resident (foreigner), lends money to an Indian company and earns Rs.100 interest per year. Earlier he was supposed to pay Rs.20 to the Government, but from now onwards only Rs.5 It is called withholding tax, because he (foreigner) doesnt need to pay the tax himself, but the company who borrowed money, is required to withhold it and give money to Government. Example you (foreigner) loaned me (Indian company) some money. On 1st December, Im supposed to pay you Rs.100 as interest, but Ill give you only Rs.95, and put aside Rs.5 and send it to Government as withholding tax. Since Government reduced withholding tax from 20% to 5%, that mean you (foreign investor) can earn more money, so this way Government has tried to seduce the foreign investors, into investing in Infra-Debt Fund in India.

First Infra-Debt Fund of India

Anyways, shareholding pattern is

Member ICICI % 31

Bank of Baroda 30 Citi Bank LIC Total 29 10 100%

^there is no need to mugup, this is just for information. We can speculate that near future, SBI will also come up with something like this, to counter ICICI.

Why EPFO interested in Infra-Debt Funds?

Problem with EPFO

Employees Provident Fund Organization (EPFO) takes money from people, invests it shares and bonds, earns money and pays it to the EPFO subscribers. (After cutting its commission). Central Board of Trustees= the decision making body of EPFO. It is headed by Labour minister. Theyve made rule : EPFO must invest in Government-securities (G-sec) and companies AAA credit rating only. Problem: Most companies dont have AAA-rating, so EPFO is forced to park majority of its money in Government-securities (G-sec). Recall the concept of Gilt-edged securities (click me). Government/ treasury bonds are more reliable, hence, they pay less interest. (because they dont need to seduce investors by offering higher interest rate, unlike some junk bond company with C or D credit rating.) So, ultimately problem for EPFO managers= G-sec doesnt pay much interest. (Around 8% only). While New Pension Scheme (NPS) managers, invests in many other places, including risky bonds, and make around 12% profit. If things go on as usual, then in long term, people might switch from EPFO to NPS and other various pension-provident-retirement policies offered by private firms like Max Life insurance, Bajaj Alliance, Kotak Mahindra etc. to get better deals.

Solution

Mock Questions
Q1. Regarding Infrastructure Debt Funds (IDF) in India
1. The first IDF fund was setup by State Bank of India (SBI) 2. IDF is exempted from Withholding tax.

Which of above is/are correct?

a. b. c. d. Only 1 Only 2 Both None

Q2. Find Incorrect Statement

1. The apex decision making authority for EPFO rests with the Finance Minister of India. 2. Withholding tax is an example of Indirect Tax a. b. c. d. Only 1 Only 2 Both None

Q3. Which of the following fund receives the proceeds from disinvestment?
1. Infrastructure Debt Fund 2. Consolidated fund of India 3. National Investment Fund a. b. c. d.

Only 1 Only 2 and 3 Only 1 and 2 Only 3

Infrastructure Development funds will financing the long term infrastructure projects @cheaper cost. However, for the IDF to become effective, Government needs to take policy initiatives. (allowing public sector insurance and pension funds to invest in them).

Financial literacy

Investment will not come just by relaxing the legal/regulatory framework. You need to encourage people to invest in capital market. (and to prevent them from investing all their money in gold- because gold purchase increases current account deficit and creates more problems for Indian economy). Govt also tried to give the carrot of RGESS. But challenge : much of the target audience doesnt have PAN card and DEMAT account.

Banks

Banking Laws (Amendment) Act 2012 already discussed click me o This will give more regulatory and supervisory to RBI and o help banks in raising funds from the capital market for expanding their banking business. SARFAESI act amendment help banks reduce their NPAs. .

Pension
Pension reforms in India
1. Will facilitate the flow of long-term savings for development 2. Will help establish a credible and sustainable social security system in the country

But challenge: NPS is not popular due to low commission, bill pending in parliament. More explained earlier, click me

New Pension Scheme, Swavalamban, NPS-lite, PFRDA: meaning, What is PFRDA?

Pension Fund Regulatory and Development Authority (PFRDA) Union Government created this body via an executive order. (2003) To regulate and develop the pension sector in India. PFRDA is not a statutory body yet. (Because bill related to PFRDA is yet to be passed).

Timeline:
2003 PFRDA established 2004 (compulsory) New Pension System (NPS), for the new recruits in Government of India (except the armed forces). New Pension System (NPS) is opened up for any citizens in India who wanted to subscribe, even if they are not in Government service.

2009

Just like weve NPS in India, In USA, theyve a pension scheme for all citizens called 401 (K).

Two accounts
In New Pension scheme, there are two types of account
Tier-I Compulsory for every subscriber Tier II Optional.You can open Tier II, only if youve opened a Tier I account first.

You cannot Premature withdraw money before Can retirement age.

NPS: Eligibility
Who can join? Any citizen of India (age 18-60) NRI can also join, if he has account in Indian bank. Who cannot join? Below 18 and above 60 1. A person declared insolvent. 2. Person of unsound mind.

What is PRAN?

When you subscribe to New pension scheme, youre given a unique account number. Known as Permanent Retirement Account Number (PRAN) Recall that UID/Aadhar also gives you a unique number. But there are differences:

Aadhar vs PRAN: Difference

UID/Aadhar
Any resident of India Any age Free

PRAN
Only Indian citizen Only 18-60 Youve to make regular payments.

This number doesnt give any benefits by itself. It is upto an individual ministry / Department to use this PRAN number gives you pension. number while giving some scholarship, subsidy, cash benefit etc. Cant. Compulsory for new recruits in Government service (minus armed forces).

Mentally-unsound and insolvent can get.

Voluntary

Aadhar vs PRAN: Similarity

1. For a private citizen, both are voluntary. 2. NRI can apply for both.

Players in the NPS game

Subscriber Person who joins for New pension scheme.. PFRDA Pension Fund Regulatory & Development Authority. Main boss for NPA.

CRA

Central record keeping agency. National Securities Depository Limited (NSDL) works as the CRA for NPA. It maintains record of every subscriber, based on his PRAN number. (recall this NSDL also works as a Depository and holds your securities (bonds,shares etc) in electronic (dematerialized) form.

ICICI, UTI, SBI, Kotak etc are the fund managers for NPS.You can decide which fund manager you want to pick up. Fund manager

When you contribute money to NPS, it goes to these fund managers. They invest your money in following*
1. Equities 2. Debts (Corporate bonds+Government securities)

*You can decide how much you want to invest in each of them. (with some caveats). NPS doesnt provide uniform or guaranteed return on your investment. Why?
1. It varies according to how much of your money is invested in Debt or Equity. 2. You can only tell the fund manager how much % to invest in debt / equity but it is upto the fund manager whether he invests in company X or Company Y. Each fund manager has different preference for companies.

Thus different NPS account holders will end up earning different % on their investment. On the other hand, the EPFO (Employees provident Fund) offers uniform 8.5% interest rate to all account holders.

NPS-lite

So far you know that NPS was originally meant for Government employees. Later it was extend to all residents citizens of India. Lets call that NPS main. Government of India + PFRDA, also initiated another scheme called NPS-lite. NPS-lite is meant for weaker and economically disadvantaged sections of society. How is it different from the main NPS?

(main) NPS
Target audience= (mostly) middle class and upwards. Youve to give minimum Rs.500 per contribution. You need to visit your agent/bank/fund manager/website and pay the money. you get to decide the proportion of money you want to invest debt vs equities (with some conditions).

NPS-lite
Poor and lower middle class. Only Rs.100 An aggregator (e.g. NGO or Microfinance agent) will come to you and collect money. by default 85% of your money is invested in debt and 15% in equities.

Swavalamban Scheme
Started in Target audience Condition?

In 2010. This scheme will run till 2016-17.

People working in unorganized sector.

They must contribute minimum Rs.1000 to maximum Rs.12000 per year into their NPS or NPS-lite account. Government will contribute 1000 rupees in their NPS account each year. They can exit early. (@age of 50 years or after being in the scheme for 20 years). while a normal NPS subscriber cannot exit before age of 60.

What is the benefit?

Ok, everything sounds well and good with NPS but then

Why NPS is not popular?

Main reason = Commi$$ion.

Because NPS offers very low Commission to Fund managers (ICICI, SBI, UTI etc.) So those players (ICICI, SBI) rather prefer to market their own pension, insurance, retirement plans rather than promoting NPS among their (regular) bank customers. Same goes for financial advisor, insurance agents etc. They get more Commission by promoting pension/insurance/retirement plans of private companies to their clients compared to NPS.

Other reasons

In NPS, there are multiple actors: PFRDA, CRA and fund managers. NPS doesnt offer uniform rate of return. Common people find this setup difficult and unsecure, unlike tried and trusted LIC or PPF. Income Tax benefits under NPS are not significantly higher than the existing investment options. NPS is not spending lot of money on ads with film stars / cricketers.

Why Swavalamban/NPS-lite is not popular?

Chindu @PFRDA chairman, I want you to subscribe more and more poor people in the Swabhiman pension scheme because elections are incoming. Forgive me Sir but youre confusing Swabhiman with Swavalamban. PFRDA chairman 1. Swabhiman = provide banking facilities in remote rural areas 2. Swavalamban= provide subsidy on NPS accounts for unorganized sector. Ya ya Swabhiman, Swavalamban whatever man.Im not giving UPSC exam so I dont need to worry about such things. Our job is to harass those aspirants with these catchy terms- not ourselves, Got it? Coming back to the main topic: I want you to get more and more poor people in whatever pension scheme we are running, because general elections are coming.

Chindu

PFRDA I already tried everything I could, but its just not working! chairman Then hold meetings Jholachhap NGOs and bogus microfinance companies and tell them to use their network of grassroot workers to form more self help groups (SHG) and get more and more subscribers. It is Easier said than done because 1. I dont have sufficient staff to organize meetings / coordinate with those people. 2. I dont have any coercive powers like RBI or SEBI to make others dance on my tunes. Hell Im not even a statutory organization yet! 3. I cannot offer heavy commission to middlemen unlike those private sector pension and insurance firms. 4. We could ask the state Governments to use their district and taluk level staff to increase penetration of Swavalamban, but the Non-congressi state Governments are simply not interested in promoting a pension scheme of Central Government despite the fact that we have not named this scheme it after Indira/Rajiv Gandhi! Or perhaps because Swavalamban doesnt offer much corruption opportunities to state politicians and officials, unlike in MNREGA or Indira Awas Yojana, hence theyre not interested. 5. Poor and lower middle class people dont have lot of surplus income, especially in the times of inflation. 6. Youre already opening bank accounts for rural poors, to give MNREGA payments, Direct cash transfer etc. so whatever surplus income theyve, theyll save it in bank

Chindu

PFRDA chairman

accounts. Then theyll have hardly any cash to invest in NPS! Chindu Man Are you suggesting that I should stop MNREGA and Direct cash transfer so people can put more money in NPS????????

PFRDA Youre putting words in my mouth. But yes, sounds like a good idea. Chairman Chindu Well it is definitely not a good idea sir-ji. Because MNREGA, Direct benefit transfer and food security act are the three main selling points of our partys election campaign.

Jokes apart, when it comes to MCQs, DONOT make silly mistakes the schemes starting with S

Swavalamban Swabhiman Sabla

Government gives subsidy on NPS account of unorganized sector. Increase banking penetration in remote rural areas. (Rajiv Gandhi) Scheme for Empowerment of Adolescent GirlsGives them food, skilltraining and health education. This provides food, shelter, support, counseling to women in difficult circumstances e.g. 1. 2. 3. 4. destitute widows, women prisoners released from jail and without family support, women survivors of natural disasters; rescued from brothels 5. rape victims Improving drinking water availability in the rural areas Support to Training and Employment Programme.

Swadhar

Swajaldhara STEP

NPS Corporate Sector Model

Started in 2011. Helps firms in organized sector, to move their employees to the New pension scheme.

Mock Questions
1. Correct Statement about NPS? a. Initially it was meant for employees in central service and armed forces. b. PFRDA, a statutory body, is responsible for implementation of NPS. c. Only nationalized banks can work as fund managers of NPS. d. None of above 2. PRAN is the account number of _______ subscriber. a. EPFO b. ESIC c. NPS d. LIC 3. Correct Chronology (older to newer) a. Swabhiman, NPS, Swavalamban b. NPS, Swavalamban, Swabhiman c. Swabhiman, Swavalamaban, NPS d. None of above 4. An NRI is eligible for a. Aadhar card b. New pension scheme c. Voting from his respective constituency in India d. All of above e. None of above 5. What is the purpose of Swavalamban scheme? a. Provide scholarships to poor girls pursing higher education b. Provide financial assistance to self help groups in rural areas. c. Increase subscription of NPS d. Improve banking penetration in rural areas 6. What is the purpose of Swabhiman scheme? a. Provide scholarships to poor girls pursing higher education b. Provide financial assistance to self help groups in rural areas. c. Increase subscription of NPS d. Improve banking penetration in rural areas

Q7. Who among following, will definitely lose his job/position if he is declared insolvent?
1. Central Vigilance Commissioner 2. Chairman/ member of NHRC 3. Judge of supreme court

Choices
a. b. c. d. Only 1 and 2 Only 2 and 3 Only 1 and 3 None of above

Q8. Correct statement

1. Every NPS account holder is eligible for Aadhar. 2. Every Aadhar card holder is eligible for NPS.

Choices:
a. b. c. d. Only 1 Only 2 Both None

Q9. Incorrect Match

1. 2. 3. 4. Sabla: Widows Swabhiman: Physically Challenged Swavalamban: Unorganized Sector Swadhar: Women In Difficult Circumstances

Choices
a. b. c. d. Only 2 and 3 Only 1 and 2 Only 3 and 4 All of them

Insurance

Chindu gave revival package. Challenge: Less insurance penetration, FDI Bill pending in parliament

Correct Chronological order (older to newer) o NABARD, RRB, SHG-Bank linking program o SHG-Bank linking program, RRB, NABARD o RRB, NABARD, SHG-Bank linking program o None of Above RRBs are sponsored by o NABARD o RBI o Commercial banks o None of Above Correct statement about Priority sector lending (PSL) o RBI has mandated that banks should lend maximum 40% of their advances to PSL.

As per RBI rules, the Priority sector lending target for foreign banks is higher than Indian banks. o Both A and B o None Who benefits from Priority Sector Lending? o Small scale industrialist o exporter o education loan seeker o All of above Priority sector lending targets _____ o Are Uniform for all foreign banks in India o Depend on number of branches a foreign bank has. o Donot apply to any foreign banks. o None of above. Priority sector lending (PSL) target for foreign banks, is decided by o Department of Economic affairs o NABARD o RBI o None of above Ultra Small (bank) branches are meant for o Army cantonments o Near SEZ units o Village covered through Banking Correspondence Agents o Major and Minor sea Ports The main purpose of Ultra Small (Bank) branches is o Provide easy loans to exporters o Provide easy loans to importers o Achieve financial inclusion o None of above Swabhiman scheme is associated with _____ sector. o Healthcare o Pension o Education o Banking Swavalamban scheme is associated with _____ sector. o Healthcare o Pension o Education o Banking Rural Infrastructure Development Fund is operated by o Ministry of Rural affairs o Planning commission o NABARD o None of above Who among the following implements SHG-Bank linkage program? o Commercial banks

Regional rural banks (RRBs) Cooperative banks. All of above RBI regulates the interest rates on o Interest rates on loans given to exporters o FCNR o Savings deposits o None of above Arrange these bank accounts in the ascending order of interest offered to customer (smaller to bigger) o Current, Savings, Term deposit o Term deposit, savings, current o current, term deposit, savings o none of above. What is the similarity between industrial development bank and a commercial bank? o Both accept deposits from public o both provide short term finance to industries. o Both A and B o None Which of the following is All India Financial institution o SIDBI o NABARD o NHB o All of above first industrial financial institution in India was o IFCI o ICICI o SIDBI o UTI National housing bank has launched Reverse mortgage product for benefits o Senior citizens o students o industrialists setting up new colonies o None of above Which of the following has not fully implemented core banking solution yet? o Scheduled commercial banks o Regional rural banks o Urban cooperative banks o None of above Core banking solution means o Bank doesnt sell mutual funds, insurance policies but concentrates on its core banking operation. o Information related to a customers account is stored in a centralized server. o Indian bank offering outsourcing services to foreign banks. o None of above. For a bank customer, Core banking solution

o o o

Prevents him from getting services from branches other than his local branch. helps him avail banking services from any branch of his bank. Helps him buy mutual fund and insurance policies via local branch. None of above. Which of the following is an example of NBFC? o Infrastructure Finance Companies, o Infrastructure Debt Fund o Both A and B o None correct statement about NBFC-factoring companies o Theyre infrastructure companies that help entrepreneur in setting up new factory. o Theyve to register themselves with RBI. o Both A and B o None A gold loan company o is an example of NBFC o Has to follow the Loan to Value ratio stipulated by SEBI o Both A and B o None for a bank, low Capital adequacy ratio (CAR) means o It has low capacity to absorb losses. o It has high capacity to absorb losses. o Bank will be exempted from SLR requirement o None of above If you have to deposit your savings, which of the following bank is most reliable? o Bank with low CAR and low NPA o Bank with low CAR and high NPA o Bank with high CAR and high NPA o Bank with high CAR and low NPA If you have to deposit your savings, which of the following bank is least reliable? o Bank with low CAR and low NPA o Bank with low CAR and high NPA o Bank with high CAR and high NPA o Bank with high CAR and low NPA Correct statement o A Bank customer doesnt earn interest on current account o A Bank doesnt earn interest on CRR o Both A and B o None Who among the following, will help a bank reduce its NPA? o Asset reconstruction company o NBFC-factor company o Both A and B o None Interest subvention scheme o was started in 2006 and stopped in 2012

o o o o

is applicable to long term agriculture loans both None Example of Multilateral development bank? o SIDBI o IDBI o ADB o None of above Who among the following, is outside the regulatory control of RBI? o Urban cooperative banks o SIDBI, NHB and EXIM bank o Multilateral development banks o None of above MBN Rao is to prepare the blueprint for _____ o GAAR o Food security o Indias first womens bank o Indias first multilateral bank

o o o

Banking Business Correspondents Agents (BCA): Meaning, functions, Financial Inclusion, Swabhimaan, Common Service Centres (CSC)

What is financial inclusion?

Give every poor man a bank account. And help him get a loan from banks.

Financial inclusion involves

Three important initiatives taken by RBI for financial inclusion:

1969

Lead banking scheme (LBS). RBI assigns a district to a particular bank. That Bank will be responsible for promoting banking services and financial literacy, in that district.(=financial inclusion).

2005

2006

Why Business Correspondents system?

No profit

Reluctant staff

Hardships faced by poors

One the other hand, local money lenders in his village, give money quickly, without asking many questions or requiring him to fillup two dozen application forms. (but then they extract 36% compound interest from this poor man, thus making his life a living hell.)

Ultimately
1. Banks 2. poor people
We cant open branches @every village, because its not profitable. We cant make trip to nearest town to access banking facilities, because it is inconvenient.

So, whats the solution? How about a middleman / agent between banks and the poor people?

Who/What is Business correspondent?

Who can become Business correspondent for Banks?

Functions of Banking Business Correspondents?

1. 2. 3. 4. Create awareness about savings. Give advice to villagers, about how to save/invest money and how to arrange/manage loans. Help the villagers to open bank accounts. Collect loan applications, forward them to bank.

5. Preliminary processing of loan applications for example: verification of persons identity, homeaddress etc. 6. Help the Self Help Groups (SHG), to get loans. 7. Help the bank to collect EMIs and recover loan money.

Swabhimaan

Initiative by the Finance Ministry + Indian Banks Association launched in 2011 To bridge economic gap between rural and urban India.

Objectives

Reforms in BC model Common BC

NREGA payment
Old system
1. A villager earns some cash under MNREGA. 2. Government gives cash to bank. 3. Bank gives it to B.C. 4. B.C. deposits it into MNREGA workers account.

Kiosk Banking

BCA for Direct Cash Transfer?

Side note on CSC

Common Services Centers scheme= started in 2006. Aim= set up of 100,000+ (one lakh) internet enabled centers in rural areas under the National eGovernance plan (NeGP)

Ans.choices
a. b. c. d. Only 1, 3 and 5 Only 1,2 and 5 Only 3 and 4. All of them

Q2. Find incorrect statements about Swabhimaan scheme

Ans
a. Only 3 b. Only 1 and 2

c. Only 2 and 3 d. Only 1 and 3

Q3. Who among the following, is/are eligible to become Business correspondents for banks?
1. 2. 3. 4. Post office Panchayats NGO and Insurance Agents Self Help Groups (SHG)

Ans
a. b. c. d. Only 1 and 2 Only 2 and 4 Only 2 and 3 All of them.

No frills renamed to basic savings account Introduction

Anyways,

SERVICES PROVIDED UNDER BASIC SAVINGS a/c.

SARFAESI Act, Asset Reconstruction Company (ARC), Security Receipts (SR), QIB, DRT, Central Registry What is NPA?

Debt Recovery tribunals?

What is the Sarfaesi Act?

Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002,

Paraajay and his family 20 Equity (IPO->Shares) Juntaa (public) 30

Debt (loans, Bonds) Business loan from SBI 40 Bonds 10

Total

100

Bank have following powers under SARFAESI Act

Appeal structure
The borrower (loan taker) has following options:

Bank: Power to Auction

Here comes the new problem:

What is ARC?

Asset reconstruction company (ARC). They buy NPA (Bad loans) from Banks and try to extract maximum money out of it=profit. Theyve to register with Reserve Bank of India.

Examples:
1. ARCIL (Indias first and largest asset reconstruction company (ARC)) 2. Reliance Asset Reconstruction Company Limited by Anil Ambani

In our example, SBI has NPA worth Rs.40 crores. ARC will buy the NPA file from SBI at a lower rate say 35 crores. (well, SBI is making loss, yes, but something is better than nothing.)

Besides, banks have hundreads of bad loan cases, they donot have time or manpower to pursue individual case, sometimes no bidders are interested in auction. All the filework and donkey labour, In such cases, its better for bank to transfer NPA to ARC. But that doesnt mean ARC will give 35 crores to the SBI from its own pocket! Then how will the Asset reconstruction company (ARC) arrange for the money?= via Security Reciepts.

What are Security Reciepts (SR)?

What is Qualified Institutional Buyer (QIB)?

Foreign investment in ARC

Previously Foreign investors could invest only upto 49% in ARC=minority shareholder=cannot influence company decisions. Now, Government also increased foreign investment limit in ARCs. This would attract more investment in ARCs and help in quicker purchase and disposal of NPAs.

Foreign investment in ARC % Earlier 49%

Now (December-24-2012) 74%

Anyways, back to the topic, lets recap:

1. SBI had NPA. First solution: auction the property. Did not work out. 2. Second solution: sell it to ARC.

^SARFAESI act empowers ARC to do such things. The amendment Bill adds a new power to the ARC.

ARC New Power: convert Debt into equity

Share holding Before:

Shares Rupees Cr. % 40%

Paraajay and his family 20

Juntaa Total shares worth

30 50

60% 100%

Share holding After

Shares Rupees Cr. Approx. % 22% 33% 44% 100%

Paraajay and his family 20 Juntaa ARC Total shares worth 30 40* 90

Anti-arguments: Debt to Equity conversion

Critiques says this debt to equityprovision will be abused. This provision is made to help bad corporates. How so? Well consider following:

Banks loss

SBI gave Rs.40 crores loan to Mr.Parajaay He refuses to pay loan=bad loan/NPA. Then SBI sells this bad loan file to an ARC company @Rs.35 crores. Hence, SBIs loss is 40-35=5 crores. (actually more than 5 crores, if we count the possible interest rate that he would have paid, if he had not defaulted. And loss figure will be different if he had paid a few installments earlier. Anyways, lets keep the loss at 5 crore for the moment.)

ARCs profit

Now ARC owns the NPA assets. (their investment Rs 35 crores)

Paraajay offers Rs.37 crores and ask ARC to sell the assets to his relative, friend or proxy. Hence, ARCs profit is 37-35=Rs.2 crores. And yet Mr.Parajaay successfully saved Rs.3 crores (because originally he had to pay Rs.40 crores to SBI, but he walked away by paying just Rs.37 crores!) Few years back, CVC had held a meeting with Bank chairmans and CBI officers. They alleged ^this type of mischief going on, in many loan default cases.

Bank Employee unions are also against the Debt to Equity clause of SARFAESI amendment. (When they had gone on strike to oppose Banking Amendment bill, they also cited this Debtequity reason as well.)

Central Registry

Summary

Salient features of new amendment

1. Bank

can buy for the NPA property if there are no other bidders. multi-state co-operative banks can also take actions under SARFAESI. cant get stay orders from DRT easily. Can make settlement / compromise with Bank/ARC.

2. Borrower

3. Asset reconstruction companies (ARC) 4. Government

can convert their debt into equity (fully or partially) can prohibit or modify SARFAESIs applicability in public interest.

Apart from this amendment, Government has also increased foreign investment limit in ARCs from 49 to 74%.

Mock Questions
Q1. Which of the following are Qualified Institutional buyers (QIB)?
1. 2. 3. 4. A. B. C. D. ICICI LIC EPFO FII registered with SEBI Only 2 and 3 Only 1 and 4 Only 2 and 4 All of them.

Q2. Which of the following is not correct about SARFAESI act?

Q3 Find Correct Statement

1. Foreign investment is prohibited in asset restructing companies. 2. To enjoy the priviledges under SARFAESI act, the Asset Reconstruction Companies have to get themselves registered with SEBI.

A. Only 1 B. Only 2 C. Both

D. None

Boring details
1. Recovery of Debts Due to Banks and Financial Institutions Established Debt Recoverty tribunal
Act of 1993 (RDBF) (DRT) and

2. Securitisation and Reconstruction of Financial Assets and Helps banks recover money from bad
Enforcement of Security Interest Act of 2002 (SARFAESI) loans.

3. Enforcement of Security Interest and Recovery of Debts

Laws (Amendment) Bill, 2011

Passed in Lok Sabha in Dec 2012, to amend above two laws (RDBF + SARFAESI)

Financial intermediaries: meaning, functions, examples, advantages, hat are financial intermediaries?

On one side weve common men (households), these folks spend money and save money. So these are the people who have surplus money. On the opposite side, weve businessmen (industries) who provide goods n services. They need money to start new business, to expand existing business, sometimes Government also needs money. So These are the people that want money. Financial intermediaries are the middlemen between these two types of people. Banks, insurance companies, pension funds, mutual funds etc. are the examples of financial intermediaries. They take money from the savers (or lenders) and loan it directly or indirectly to the borrowers (Government / businessmen) Borrower (Government / Businessman) pays the interest rate on this loan. The intermediary (bank/insurance co./pension or mutual fund ), will get Commission And the Common men will earn some profit / interest / dividend/ return on his investment.

Thus in financial intermediation, everyone goes home happy. (except the person who is writing this article for some stupid exam and the person who is reading his article for some stupid exam.)

Definition
1. The institutions that channel funds from savers to users are called financial intermediaries. 2. Institutions that channel funds between surplus and deficit agents are called financial intermediaries. 3. Financial intermediaries serve as a middleman between saver and borrower.

Examples of Financial intermediaries

1. 2. 3. 4. 5. 6. 7. 8. Commercial banks Regional rural banks (RRB) Cooperative banks/ societies Development banks and All India finance institutions (IDBI, NABARD, SIDBI, NHB etc.) Pension/provident funds (NPS, EPFO etc.) Mutual funds (UTI and private sector mutual funds) Insurance companies (LIC, GIC etc.) Non banking financial companies (NBFC, eg. Mannapuram gold loans, Muthoot finance etc. Jab ghar mein pada hai sona to fir kaahe ko rona?)

Why financial intermediaries = NOT bad?

If we look at the middlemen from common mans point of view, theyre usually considered undesirable/ bad. For example real-estate agents, they take commission and hence increase the price of building or land. And Youd have heard this argument hundred times : the middlemen buy carrots from farmers for just Rs.2 rupees a kilo and charges Rs.20 per kilo to the final consumer in the city without doing any value addition. The FDI in multibrand retail will cut down these middlemen and hence reduce the prices of fruits and vegetables. So based on that logic, can we say financial intermediaries are also bad because theyre also middlemen? Answer is no. Because of following reasons:

Economies of scale

Financial intermediaries are big in size, spend lot of money in advertisements, have branches in many places, so for them finding prospective loan taker=very easy. When loans are given, lot of paperwork, background check has to be done. Financial intermediaries have thousand of employees to do it. They buy stationary, printer inks etc. on wholesale so their operation costs are low. On the other hand, if you (aam aadmi) directly try to find someone who needs loan/finance then amount of rickshaw fare for searching clients, making telephone calls, seeking help of CAs and

accountants, no. of hours spent in paperwork- all that will reduce your profit margin to a very low level. So itd be better if you let the financial intermediaries do all that work.

Your Investment is safe

Take an example of a mutual fund manager, Hell invest part of your money in risky securities that offer higher profit. Hell invest part of your money in Government securities, or high rated corporate bonds, where profit is less but theyre more secure. In addition, He has lot of clients and many new clients keep incoming, so even if he makes losses in first place, he can make do by making profit in second place. Often you hear newstories where someone committed suicide after losing money in sharemarket. But You never see a news story where a mutual fund manager committed suicide after losing money in share market.

Banks

Same goes for bank. You deposit your money in savings account then youre certainly going to earn interest (profit). It is banks headache to find a loan taker, collect EMIs and recover loans. Besides banks have to maintain CRR, SLR, it also ensures safety of your investment. Often we see in newspaper that SBI has non-performing assets (NPAs) worth thousands of crores. It means SBI gave loans to some people but unable to recover the money. Yet you never hear a newstory where SBI branch manager told a customer , sorry, you cant take out money from your savings account or fixed deposit because weve unable to recover loans from third party. Why? Because SBI has lot of new incoming customers, and if it makes losses in one place, it makes profit in several other places besides SBI is doing business for years, so it has deep pockets full of cash. It can afford to bleed, it can afford to make temporary losses and yet maintain a smile on its face. But If a common man directly gives loan to someone, and the loan-taker doesnt repay on time = troublesome situation. Because then common man will have to either hire goons or goto police/court: first solution is quick but very risky, second solution is expensive and time consuming.

Insurance / Pension funds

Lot of people takes insurance and pay premium. But not everyone dies at the same time. Similarly, lot of people invest money in pension / provident funds, but not everyone retires at the same time. Hence there is lot of idle money that insurance /pension /provident company can invest in Government securities, corporate shares, bonds etc. And They also take help of experts and invest some money in risky areas, some money in safe areas.

Thats the second advantage of financial intermediaries: they ensure safety of your investment. To put this in refined words: financial intermediaries invest in diversified portfolios and hence suffer less risk compared to an individual investor.

Besides, financial intermediaries are supervised by regulators (RBI, SEBI, IRDA etc.) so they cant fleece small investor and run away. And financial intermediaries offer you a reasonable return on investment, their profit margin is also reasonable. It is not like they give your 2% return on your investment and loan it to businessman for 48%.

Body of Experts and asymmetry of information

Again the example of Mutual funds. A mutual fund manager is an expert in financial matters, he has lot of experience on share market fluctuations, how individual companies are performing, which companies shares are likely to go up in near future etc.etc.etc. So he can make better investment decision compared to a new player in the sharemarket. Similarly bank has battery of full time officers for processing loans application and recovering the loans. They look at the credit history / record of a Borrower before granting loans. Insurance company also has experts to look into fraudulent insurance claims, and make prudent investment decisions. Thus, there exists an asymmetry of information. (Those intermediaries have experts so they can make better decisions compared to an individual investor).

Large Pool of money

For the moment lets assume you love challenges and despite all the odds presented to you so far, you still decide to play this game on your own. But at most youll have a few lakh rupees to invest but on the other side there is a big businessmen who needs loan worth cores of rupees for a long term project (e.g. 25 years). You may not have the time / mood to wait for 25 years to recover your entire investment. (even if he took partial loan from you). But on the other hand a financial intermediary receives lot of money (e.g. SBI has lakhs of savings accounts and fixed deposits ), so they can offer large amount of loans and wait for years to recover the entire investment. And if you had saved money in SBI, you would still be earning regular interest and can take out your money any time you want.

^These are the advantages from investor / lenders side. Now lets look at the advantages from borrowers side.

From Borrowers side

If youre a businessman, how does a financial intermediary help you?
1. Easy availability: because you can easily find their office, take the application form.

2. Reasonable cost of borrowing: a. Debt: if you borrow from a money lender, hell charge very high interest rate, compared to a bank. b. Equity: if mutual fund has invested in your shares, all you have to do is pay reasonable amount of dividend on the shares (if your company makes profit). 3. You Can take long term loans worth crores of rupees.

So far we know how financial intermediaries help the lenders/investors/households/Aam-Aadmi and the borrowers/loan-takers/businessmen. Now lets see how financial intermediaries help the entire economy of a country.

+ve impact on the Whole economy

1. Financial intermediaries help circulating money in the system. If money is staying idle (e.g. under your bed pillow or as gold in your locker) then it is not good for the economy. Money must keep changing hands. If you look at this from a different angle: if nobody buys skin whitening creams then who will feed the families of those chemists who work there And the businessman who supplies raw material to that factory? 2. They promote the habit of savings. a. Individual can use that saved money in bad times / emergency and earn profit in between. b. A needy businessman will easily get loans. 3. When businessmen can get loans easily at a reasonable cost, theyll start new business, expand existing business, hire more employees, increase production of goods / services = Indias GDP increases, IIP increases. When people are making more money, they spend more money. A family goes to restaurant, poor waiter makes money. Family hires maid, gardener, driver. Family buys new car, mobile or bike- it breaks down, the repairman makes money. Thats how money trickles down from rich people to poor people.

Big picture is: if India wants a better GDP growth rate then
1. Financial intermediaries should be able to do their business easily. e.g. banks should have better facilities to recover bad loans.there comes SARFAESI Act amendment. 2. Regulators (RBI, SEBI) should have more powers to supervise the Financial intermediaries.there comes the amendments in their respective acts/ rules. 3. Businessman should be able to raise money not from Indian financial intermediaries but also from abroad, wherever they can get finance at a cheaper rate.there comes ADR, GDR. 4. People (particularly in rural areas) should be made aware of the benefits of these financial intermediaries.there comes the topic of financial literacy. 5. People should be able to get help from financial intermediaries easily.There comes the topics of financial inclusion, banking correspondence agents, ultra small branches, New pension schemes etc.

^These are some of the topics discussed in fifth chapter of Economic survey. (well see them in a separate article later.)

Mock Questions
Q1. What do you understand by the term financial intermediaries?
i. ii. iii. iv. Arbitrators who settle commercial disputes outside court. Persons who take finacial decisions for a firm using the power of attorney. Software / accountings firm hired by a bank to do back office functions. Institutions that act as middleman between those who want to lend and those who want to borrow.

Choice
a. b. c. d. only ii and iii only I and iv only I, iii and iv only iv

Q2. Which of the following is an example of financial intermediary?

i. ii. iii. iv. Competition Commission of India CAG Banking ombudsman LIC

Choices
a. b. c. d. Only I and iii Only ii Only iii and iv Only iv

Q3. Financial intermediaries are

a. b. c. d. Non-essential for a country. Essential for a country. Essential for a communist country but non-essential for a capitalist country. None of above.

Q4. A financial intermediary is in a stronger position than an individual investor due to

a. b. c. d. economies of scale asymmetry of information investments in diversified portfolios All of above.

Liquidity Adjustment facility (LAF), Marginal Standing facility (MSF), Repo, reverse repo, SLR, CRR, NEFT, RTGS, NDTL Liquidity?

Liquidity is a relative term. For assets: Rs.1 crore worth gold is more liquid than Rs.1 crore worth farmhouse. Because you can quickly sell the gold in a few days, but for selling farmhouse youll have to deal with so many prospective customers, real-estate agents, paper work, stamp duty etc., this would take more than 15 days= not so liquid. For banking: if yesterday SBI had Rs.100 to give as loan today SBI has Rs.200 to give as loan, then we say liquidity has increased. (And vice versa). In winter, supply of green vegetables increases (compared to summer) so selling price of green vegetables decreases in winter (compared to summer). Similarly when liquidity (money supply) increases, the cost of borrowing (=interest rates) goes down. Very high liquidity can create demand pull inflation=bad. for more, click me Very less liquidity=cost of borrowing is extremely high for businessman = bad because he cannot easily start or expand his business=less people get employment. So one of the job of RBI= control this liquidity in banking system. RBI mainly uses following tools to control this liquidity / money supply in the banking system. Cash reserve Ratio (CRR) Statutory Liquidity Ratio (SLR) Liquidity Adjustment Facilities (LAF) (Repo and reverse repo) Open market operations (OMO)

1. 2. 3. 4.

What is Cash reserve ratio (CRR)?

For the sake of simplicity, lets assume there are only four people in India: 1) common men and 2) businessmen 3) Commercial banks (like SBI) 4) Central Bank (RBI.) Now the Question: How do commercial banks make money? Common men save their money in bank. Bank gives them say 7% interest rate on savings. Then Bank gives that money as loan to businessmen and charges 12% interest rate. So 12-7=5% is the profit of Bank. Although thats technically incorrect, because weve not counted banks input cost=staff salary, telephone-internet-electricity bill, office rent, xerox machine etc. So actual profit will be less than 5%. But anyways, first lets construct a technically incorrect model.

1. SBI has only one branch in a small town. It was opened on Monday. 2. On the very same day, Total 100 common men deposited 1 lakh each in their savings accounts here (=total deposit is 1 crore) 3. and SBI offered them 7% interest rate per year on their savings

WHY CRR: Cash reserve ratio?

On Tuesday, SBI Branch manager gives away entire 1 crore to a businessman as loan for 12% interest rate for 5 years. From SBIs point of view, sounds very good right? 12-7=5% profit! But weve not considered the fact that on Wednesday, some of those common men (account holders) will need to take out some money from their banks savings account- to pay for gas, electricity, mobile bills, college fees, writing cheques and demand drafts etc. But SBIs office doesnt have a single paisa left! = problem, protest, rioting, suicides. So condition #1: Banks must not give away all of the deposit money to businessmen for loans. Banks must keep some money with aside. Ok but wholl decide how much minimum cash should a bank keep aside? Ans. RBI via CRR.(Cash reserve ratio). But banks donot like high CRR. We already saw that in the CRR controversy article: click me

WHY SLR: Statutory liquidity ratio?

Continuing the same example. SBI got 1 crore on Monday. But suppose, RBI gave him order, you must keep Rs.10 lakhs aside. (CRR) Thus, SBI is left with only 1 crore 10 lakhs = 90 lakh rupees. So SBI manager decides to get maximum profit out of remaining money. Suppose ongoing rate for business loans is 12%. But there is one businessman Mr.Parajay. No bank is offering him loan, because his past track record is not good: his earlier business adventures were epic fail. This Mr.Parajay comes to SBI

I desperately need loan for my business. but no other bank is giving me loan. Tell you what, give me all of those 90 lakh rupees as loans, Im ready to pay 36% interest rate on Mr.Parajay, the it! And trust me, Im going to make lot of money in my new business project. And Im businessman ready to mortgage all of my factories, cars, farmhouses. So if I cant repay loan, you can auction them and recover your money. SBI manager Good! Ill give you all of my 90 lakhs as loan!

After six months, Mr. Parajays new business project = also #EPICFAIL. He cannot pay back the EMIs. Although SBI can attach his assets and auction them to recover the money. But itll take lot of time. In the mean time, common-men also read this story in local newspapers and they panic that SBI will collapse and bank manager will shut down the office and run away. So all the common men line up in front of bank and demand back their money. Recall that SBI still has 10 lakh left in CRR. But people want total 1 crore back! Again money of account holders (common men) is stuck =problem, protest, rioting, suicides.

So, Condition #2: Bank must not give away all its loans to risky loan takers. Banks must invest part of its money in safe and liquid investment. So during emergency, bank can sell those liquid investments and take out the money. For example, Government securities, gold, corporate bonds of reputed companies like Infosys, reliance, TCS. These are safe investments. These are also liquid, because you can sell them quickly whenever you want. (recall that SBI could also auction Mr.Parajays properties, but itll take lot of time in paperwork, legal issues etc.) Ok so, bank should invest part of common-mens money in safe investments like Government securities, gold and corporate bonds of highly reputed companies. BUT who will decide how much money should be invested in this sector? Ans. RBI via SLR (Statutory liquidity ratio). In earlier article, weve already seen SLR in detail. click me Lets assume RBI ordered SBI to keep Rs.25 lakhs under SLR. Thus, out of original Rs.1 crore that SBI had, 10 lakhs (CRR) + 25 lakhs (SLR) are gone.

Bank Runs: SLR+CRR

Suppose a rival bank of SBI, hires some people to spread rumors against SBI. The rumor is something like this= SBI invested lot of money in sharemarket but sharemarket is crashed so now SBI doesnt have any money left. Theyre going to shut down the office and run away. ^this is totally ridiculous rumor because according to RBI rules, banks cannot invest depositors money in the sharemarket in the first place! Anyways, out of the 100 SBI account holders (common men), 30 common men believe in this rumor and run to the SBI office. They demand SBI to return their entire savings deposit. Such panic movement of bank customers is known as bank run. Thankfully, SBI has total 10 lakh (CRR), so they can directly give it back. SBI also has set aside Rs.25 lakhs under (SLR), so SBI can sell away those Government securities, gold worth 25 lakhs and give that money back to account holders. Thus, SLR+CRR protects a bank against Bank runs. However in case of a totally awesome bankrun, nothing can protect a bank. (i.e. when all of the account holders simultaneously demand all of their money on the same day!) anyways back to the topic:

WHY Priority Sector lending?

So far, You know what is CRR and SLR. Now SBI manager start making calculation, how much money is left with him?
Money received from common men 1 crore=100 lakh Money set aside in CRR MINUS 10 lakh

Money invested in SLR Money left

MINUS 25 lakh 100-10-25=Rs.65 lakh.

Out of that 65 lakhs, lets assume SBI manager has to keep aside 15 lakh for Administrative costs, salaries of employees, electricity bill, internet bill, Xerox machine etc. So he has only 50 lakh left for providing loan to needy people. Now loan-takers line up in front of SBI office Give us loans of 1 lakhs each for buying seeds and fertilizers. However, given the vagaries of monsoon and low profit margin in agriculture, we cannot pay more than 5% interest rate. Give us loans of 2 lakhs each to setup small retail shops / car mechanic / hair saloon etc. We offer 11% interest rate. we cannot offer a penny more because our profit margin isnot good. Sir please give us loan of Rs.25 lakhs each, for paying self-financed medical college. We can pay atmost 9% interest rate. Give me those 50 lakhs. In a few months, Diwali is coming and I want to setup a new firecracker factory. I offer you 15% interest rate.

50 farmers

25 Small businessman

2 Students 1 Big businessman

if SBI is run from purely profit point of view, then farmers, small businessmen, students and weaker sections of the society will never get any loan. Because SBI manager would want to give loan to a person that offers him highest interest rate. Then who is going to protect those weak people? Who is going to help them get loans at reasonable rates? Ans. RBI. Suppose RBI tells the SBI manager, 40% of the money you lend, must go to priorities sectors viz. agriculture, small scale business, housing and education. (=40% of 50 lakh=20lakh). ^This is the basic funda of priority sector lending. More details are given on page 15.12 of Ramesh Singh.

What is NDTL?

So far, We know that Banks have to comply with the CRR, SLR and priority sector lending rules of RBI. CRR, SLR is counted on amount of money a bank receives. But bank receives lot of money, from depositors, from loan takers whore re-paying EMI, (fraudulent) hidden charges imposed on credit cards Commission charged on giving demand draft Commission charged on online money transfer

1. 2. 3. 4. 5.

6. Commission charged on foreign currency conversion etc.etc.etc.

So how does bank exactly count CRR, SLR requirements? = Net Demand and Time Liabilities (NDTL) Main example (list not exhaustive) 1. Money deposited in Fixed deposits (FD) 2. Cash certificates 3. gold deposits. 4. Staff security deposit. E.g. in some banks when you join as Probationary officer, youve to sign bond worth RS.1-2 lakh rupees. 1. Money deposited in savings account 2. Money deposited in current account 3. Demand drafts 4. unclaimed deposits;

Time liabilities

Demand liabilities

Im not going into minute nitty-gritty involved in computing NDTL because thats irrelevant from exam point of view. So long story cut short, CRR and SLR are calculated on this NDTL number with some caveats. And banks have to send reports to RBI on fortnight basis that our NDTL is xyz and we are maintaining xyz SLR and CRR on it as per your direction. Now here comes the problem: In our example, SBI followed SLR, CRR and 50 lakh rupees left for loaning. However in the given period, priority sector loan takers (farmers, students etc.) and regular loan taker (businessmen, car/bike loans).all of them together take total loans worth only Rs.30 lakhs. so SBI is left with 50-30=surplus of 20 lakh rupees. These 20 lakhs are just gathering dust in the office. Nobody is coming to take new loans! What should SBI do? because SBI has to give 7% interest even on these 20 lakh rupees, so SBI cannot afford to let this money gather dust! Now comes the Liquidity adjustment facilities, Repo Rate and reverse repo rate. Lets start with reverse repo rate.

Reverse repo rate?

The book definition of Reverse repo rate = it is interest rate paid by RBI to its clients for short term loans. Ok but who are the clients of RBI? Central Government State Government Banks (commercial, regional rural banks, cooperative banks) Non-banking financial institutions etc.etc.etc.

1. 2. 3. 4.

anyways, Reverse repo rate in crude words= when SBI parks its surplus money in RBI for short term, SBI makes ^this much profit. But actually reverse repo rate works in a bit complicated manner= via selling and repurchase of Government securities. Youre aware of Government securities: when Government wants to borrow money from market, Government security / Government bond is issued. Basically its a piece of paper. It has agreement something like: whoever gives me Rs.100 will get 8% interest rate for 10 years and then principle will be repaid. For the purpose of understanding Reverse repo, lets construct a simplified technically incorrect model:

1. RBI has Government securities worth Rs.100 lakhs. 2. SBI has surplus Rs.100 lakhs and nobody is taking them as loans. But SBI is sure more people will come to take loans before Diwali. So SBI just wants to park this surplus 100 lakhs somewhere for the short-term. 3. SBI enters into Reverse Repo agreement with RBI. 4. The agreement reads I (SBI) will give buy Government securities worth Rs.100 lakhs from the RBI, and RBI promises to buy back those securities from me after 6 months @Rs.106 lakhs.

Read it carefully:

Time: after 6 months, SBIs investment: Rs.100 lakhs After 6 months, SBI gets: Rs.106 lakhs. So profit of SBI (or interest earned by SBI or interest paid by RBI)=(106-100)/100 = 6%. This is reverse repo rate.

Tied to repo rate

In 2011, under RBI made following rule:
1. reverse repo rate would not be announced separately but will be linked to repo rate. 2. The reverse repo rate will be 100 basis points below repo rate.(=minus 1%)

So if RBI declares Repo rate=8% then reverse repo-rate is automatically 8-1=7%.But now comes the question:

What is repo rate?

Common sense says, it has to be reverse of reverse repo rate right? Yes that is right. Textbook definition says

Repo rate is the rate RBI charges on its clients for short term loans. To put this crudely, when SBI wants to borrow money from RBI for short term, SBI will have to pay ^this much interest rate.

(again) For the purpose of understanding repo rate, lets construct a simplified technically incorrect model: RBI has cash of Rs.100 lakhs. SBI has Government securities worth Rs.100 lakhs. SBI enters into Repo agreement with RBI. The agreement reads I (SBI) am selling my Government securities worth Rs.100 lakh to RBI and I (SBI) promise to buy back(repurchase) those securities from RBI after 6 months @Rs.107 lakhs.

1. 2. 3. 4.

Read it carefully:
1. 2. 3. 4. Time: after 6 months. RBIs investment: Rs.100 lakhs After 6 months, RBI gets: Rs.107 lakhs from SBI. So profit of RBI (or interest earned by RBI or interest paid by SBI)=(107-100)/100 = 7%. This is Repo rate.

Question:

Why all this gadhaa majoori (donkey labour), involving Government security? Why cant RBI and SBI give money to eachother without involving Government securities just like the normal people borrow and lend to each other? Answer= Because Government security acts as collateral. So if first party doesnt honor the agreement (of repurchase), then second party can sell away the Government security to a third party and recover its money. Just like pawning your jewelry in Muthoot finance or Mannapuram gold loans.

Repo rate vs Bank rate?

Repo rate Bank rate
RBI lends money to banks for short term loans @this interest rate. RBI lends money to its clients for long term loans @this interest rate.

What is LAF?

liquidity adjustment facilities (LAF). Recall that one of the main task of RBI is to control money supply in the economy. RBI controls money supply via monetary policy. For this RBI uses various tools e.g. SLR and CRR. Liquidity adjustment facilities (LAF) is also a tool used by RBI to control short-term money supply.

LAF timeline
1998 Narsminam Committee on banking rector reforms, recommends LAF 1999 RBI introduces interim LAF 2000 RBI introduces full-fledged LAF.

In the old Bollywood movies, international smugglers often come to main villains hideout with suitcases loaded with cash. Then main villain will auction some ancient Indian statues to them. Something similar happens under LAF. LAF helps banks to quickly borrow money incase of any emergency or for adjusting in their SLR/CRR requirements. Under LAF, RBI auctions Government securities, starting at the repo and reverse repo rate. Minimum bidding amount is Rs.5 crore. So LAF is a tool used by RBI to control short-term liquidity / money supply in the market. In LAF, money transaction is done via RTGS. (RTGS is an online money transfer method). So in this auction, players dont need to bring suitcases loaded with cash.

What is RGTS?

RTGS, NEFT=These are online facilities for transferring money within the country. National Electronic Fund Transfer (NEFT) Slow (done on hourly basis) Can be used for any amount. There is no minimum or maximum limit.

Real Time Gross Settlement (RTGS) Fast (immediate money transfer) Can be used only if money transfer amount is minimum 2 lakh rupees or more.

What is Marginal Standing facility (MSF)?

RBI started this thing in 2011. Under MSF, Scheduled Commercial Banks can borrow money from RBI @1% higher than the ongoing Repo rate under liquidity adjustment facility (LAF.) Although, the system of lending remains same just like under repo. = SBI sells Government security to RBI, and promises to buy it back after sometime, at a higher rate. Difference in selling and purchase = interest rate earned by RBI. we can memorize it like

1. Repo rate = reverse repo + 1% 2. MSF rate= repo rate + 1%

Difference between LAF and MSF

LAF
Liquidity adjustment facility Minimum bidding amount is 5 cr. All clients of RBI are eligible to bid.

MSF
Marginal standing facility 1 cr. Only scheduled commercial banks can bid.

Bank cannot sell Government security to RBI that is part bank can sell the Government security from its of banks SLR quota. SLR quota to RBI. Bank can borrow any amount of money as long as it has Bank can maximum borrow upto 2% of its the securities to sell. NDTL. Suppose repo rate is r% MSF lending rate is always (r+1)%

Food for thought

Lets take some approx. numbers based on past few months. Repo rate has been around 8%. That means reverse repo is around 7% and MSF is 9%. SBI offers 0% interest on current account, 4% on savigns account, around 7% interest rate on term deposits. SBI charges around 10% on home loans, 12% on car loans and 18% on bike loans. Now consider what If SBI parks its money in RBI (via reverse repo rate). Well RBIs reverse repo is also around 7%! may be a few 0.25-0.75% higher than SBIs term deposit interest rate. Point being, SBI is better off finding more loan takers than parking money in Reverse repo rate because it can earn more profit that way.

Open market operations?

Open market operation= when RBI buys/sells securities in open market. How is it different from LAF or MSF? Well in LAF or MSF, one party buys Government security from second party. But second party has agreed to buy back (repurchase) the same security from first party after some time. So Government security is not permanently sold, it is only used as a collateral= thats like pawning your jewelry in Muthoot finance company. But in case of OMO, first party permanently sells the Government security to second party. Second party is free to do whatever it wants with that security. When RBI purchases Government securities =liquidity increased (because RBI is paying that party some money to buy that security, right? so RBI is pouring additional money into the system.)

On reverse, when RBI sells Government securities= liquidity is decreased. (because those players are giving their cash to RBI to purchase the securities= money is sucked out of the system by RBI).

Summary
From SBI managers point of view
CRR I must keep this much money aside. I cannot give it as loan to anyone. I will not earn any interest rate on it. Ive to invest this much money in gold, Government securities (G-sec) and RBI approved corporate bonds. If I borrow money from RBI for short term, Ill have to pay them this much interest rate. If I park my money in RBI, theyll pay me this much interest rate. If I borrow money from RBI for long term, Ill have to pay this much interest rate.

SLR Repo rate Reverse repo rate Bank rate

Mock Questions
Q1. If RBI purchases Government securities via open market operations, then liquidity _______.
a. b. c. d. increases decreases Stays the same. None of above.

Q2. Correct statement?

a. b. c. d. Repo rate is always 100 basis points higher than MSF lending rate. Reverse repo rate is always 100 lower than MSF lending rate. Repo rate is always 100 basis point higher than reverse repo rate. None of above.

Q3. Incorrect statement?

1. RTGS and NEFT are two online money transfer methods within India. 2. NEFT is faster than RTGS. 3. NEFT can be used only for transections above Rs.2 lakh.

Choice

a. b. c. d.

Only 1 Only 1 and 2 Only 2 and 3 All of them

Q4. In which of the following, Bank will not be making any money?
1. Meeting CRR requirement. 2. Meeting SLR requirement. 3. Parking money in RBI under Reverse repo.

Choice
a. b. c. d. Only 1 and 3 Only 2 and 3 Only 1 All of them

Q5. If RBI wants to inject more liquidity in the system, it should

a. b. c. d. Increase the CRR rate Increase the SLR rate Decrease the Reverse repo rate. Decrease the repo rate.

Q6. If RBI wants to reduce liquidity from the system, it should

a. b. c. d. decrease the reverse repo rate decrease the repo rate increase the CRR rate decrease the SLR rate

Q7. Time liabilities of a bank includes

a. b. c. d. demand drafts cheques fixed deposits credit cards

Q8. Demand liabilities of a bank includes

a. b. c. d. fixed deposits cash certificates current account Staff security deposits.

GDP DEFLATOR, REAL AND NOMINAL GDP

GDP mean money value of everything* produced inside India. (*Everything means goods and services.) 100 kg. of onion produced in 2009, market price = 20 Rs/kg. 100 kg of onion produced in 2010, market price =70 Rs/kg (courtesy: Sharad Pawar) So, Indias GDP has increased at the rate of 250% in a year! But the World bank and leading economists say we can hardly reach 9% GDP increase rate per year. So what is this 250%?? Its nothing but inflation. Just because onion prices rose thanks to Governments faulty food policy or black marketers, doesnt mean that real-GDP has increased and that our contry has prospered. So how do we find real GDP for 2010, when prices of everything have increased due to inflation? We need to compare 2010s production to some base year. Lets pick 2003-04 as base year. So whatever price Onion had in that year, will be our base price. IN 2003-04, average price of 1 kg onion was 30 Rs. A kilo. 2010s GDP= 1 kg onion price of base year (2003-04) *multiply* total onions produced in 2010 =30 x 100 =Rs. 3,000 is our real-GDP for 2010. So Formula: Real GDP= Price of xyz item in base year x Quantity produced in current year.

GDP Deflator

Image: Formula

In our onion case Nominal GDP in 2010= 70 Rs/kg x 100 kg=Rs. 7000 Real GDP as we calculated=3000. So, GDP deflator= [7000/3000]x100= 233 What does it mean? Here, GDP deflator is >greater than 100. That means there is inflation. (very very heavy inflation) IF it was near to 100, thatd mean, there is no difference in real and nominal GDP hence there is no inflation in India. Weve WPI and CPI to measure inflation, but they dont include each and every product and service available in India, while with GDP deflator, we can get an inflation-picture of them too. btw, DONOT CONFUSE ABSOLUTE GDP NUMBER WITH PERCENTAGE RISE.

Newspaper: Montek Singh said weve got 8% GDP in 2010 That doesnt mean Indias GDP is 8%. It only means whatever was our GDP in 2009, weve increased it by 8%. IF India produced goods and services worth 100 billion $ in 2009, then in 2010 weve produced goods n services worth 108 billion $. Thats why GDP rose by 8%. Now back in our onion example, 2009s real GDP=3000 2010s real GDP=3000

Base year and Current year price? How to calculate WPI and CPI?
Tell me what is inflation? Its the increase in the price of a product. How can you say there is inflation? Because, earlier in the year 2001, we could buy a litre of petrol for Rs.50, but now its Rs.70/per litre. So there is price-rise and hence there is inflation. Means you need to compare the current price, with some old price to say that the price has increased (or decreased), right ? Hence, to calculate the inflation (CPI,WPI) well need to compare the price of some item for two different years. Suppose Price of a lifebouy soap was Rs.10 in 2001. And now it has increased to Rs.12 per bar. So what is the % increase? [(12-10)/10]*100=20% incrase in the price of a soap.

What did we do, in above formula?

We took 2001 is the base year and 2011 is the current year. Then we divided the change in price, with the price of base year and multiplied it with 100 to get the percentage. If price of a soap was Rs.1 in 1950s (dont get excited because in those days, monthly income of most middle-class people was around 100-300 Rs, so one rupee was a big amount.) So with 1950 as base year, whatll be the % price increase? [(12-1)/1]*100=1100% increase in the price of a soap! But does it make any sense to calculate inflation with such an old base year? Ofcourse not, because lot things have changed after 1950, including the salaries of the middle class people. So you wont get the real picture.

Inflation is a hurt-meter. You cannot fathom how much it hurts now, if you didnot feel less pain earlier. Those who lived in 1950s are all either dead or retired. And the current-working population never actually bought a soap for 1 rupee. So how much is the soap price hurting the current-population, to know that answer, you need to set the hurt-meter to compare the prices of recent memory: oh yeah back in 2004 it was only 10 rupees and now its 12 so yes I can feel it hurting me. Morale of the story: We need to have the base-year at some near-past level like 2004-05 to get the real picture of inflation. (Earlier this base year was about 1993-94) Now lets get a lil technically correct, above post was written to clear the basic concept of base year and current year only, the CPI and WPI are not calculated so straight-forward.

How to calculate the WPI or CPI?

Price of a bike was 30,000 in 2004 and now its close to 55,000/-. Price of one litre milk was 25 Rs. in 2004 and now it is almost 60/- (After Sharad Pawar advised all the dairies to buy an alarm, which rings at paheli taarikh every month to remind them to increase the price without fail) So, What hurts to you more, or what hurts the people at large: bike price or milk price? ofcourse the milk price inflation because you need to buy it every day. So when calculating the inflation, you need to weight the products according to their usage.

The weightage given in WPI

It is something like this 1. Primary Articles (food,fruits etc):22% 2. Fuel, Power, Light & Lubricants :14% 3. Manufactured Products (biscuit,toothpaste):63% Now survey the prices of all items in the base year and in the current year. Then you plug them in the Lesperes Formula for weighted arithmetic mean. (Formula is not important, but what is important for you to know is, that it is not a simple average but a weighted average) And you get a number, we call it the WPI index number for the given year or given week or given month. Suppose after calculation you get a number 110 on 1st August 2011. For base year we assume that WPI is 100. So there is 10% inflation. i.e. [110-100/100]*100 Now on 1st September 2011, you calculate again with new price data and the number is 112. What does that mean? The inflation has increased by 12% compared to compared to base year AND inflation has increased by 1.8% compared to last month. i.e. (112-110)/110*100

Inflation, WPI, CPI, monetary policy, RESIDEX How to measure inflation?

There are three ways
1. WPI 2. CPI 3. GDP deflator

WPI

Wholesale price index Compiled by Office of Economic Adviser ->Ministry of Commerce and Industry. Base year 2004 Doesnt cover services. its calculated using Laspeyres formula. Items are classified into three categories

1. Primary articles 2. Fuel, power, light, lubricants 3. Manufactured products.

Earlier Government used to give weekly primary and food inflation data based on the Wholesale Price Index. But this practice has been discontinued since 2012.

CPI

Consumer price index In 2011, the CPI system was reformed Before 2011 There were four subtypes of CPI After Now only three subtypes of CPI 1. Entire urban population 2. Entire rural population 3. Urban + Rural (consolidate from above two)

Subtypes

1. Agricultural Labourer (AL) 2. Rural Labourer (RL) 3. Industrial Workers (IW) 4. Urban Non-Manual Employees (UNME)

Prepared by

First three subtypes of CPI were prepared All prepared by Central Statistical by Labour Bureau -> Ministry of Labour and Organisation (CSO) -> Ministry of Employment Statistics and Programme Last subtype was prepared by Central

Statistical Organisation (CSO) -> Ministry of Implementation Statistics and Programme Implementation. Different years for different subtypes. Baseyear 1. Agri labour=1986 2. rural labour=1986 3. Industrial workers=2001 4. Urban non-manual=1984 Common base year ( 2010) for all three subtypes.

WPI vs CPI difference?

WPI Compiled by Ministry Includes services? Baseyear Items included Known as Headline inflation? Importance Economic advisor Commerce ministry No 2004 676 Yes When RBI and Government make policies, they mainly pay attention to this number. CPI (reformed in 2012) CSO Statistics ministry Yes 2010 200 no

Not much

GDP deflator

How and why GDP deflator is calculated? Already explained in earlier article, click me So not going into details in the current article. GDP deflator is calculated by Central Statistical Organisation (CSO)-> Ministry of Statistics and program implementation. GDP deflator =GDP @current price divided by GDP @constant price GDP deflator is the most comprehensive number to measure inflation, but RBI /Government doesnt use it much for policy making because GDP deflator data comes quarterly (and not weekly/monthly basis).

Measures to contain inflation

By How? Government Taxation, Expenditure, export bans etc. RBI Repo, SLR, CRR

Steps taken by Government to curb inflation

Via import
1. Govt reduced import duties for wheat, onions, pulses, and crude palmolein were reduced to zero 2. Govt. allowed duty-free import of white/raw sugar. 3. Govt. imported pulses and edible oils and distributed them at subsidized rate.

Via bans / coercive measures

4. Govt. put ban on onion export for short periods of time whenever required 5. Govt. suspended futures trading in rice, urad, tur, guar gum and guar seed. 6. Govt. banned exports of edible oils (except coconut oil and forest-based oil) and edible oils. 7. Govt. imposed stock limits on certain essential commodities such as pulses, edible oil, and edible oilseeds and rice. 8. Increased excise duty on gold.

Via schemes
9. Govt. has been giving rice and wheat to poor families at very cheap rate under the Antodyaya Anna Yojana. 10. Govt. allocated huge amount of foodgrain under the targeted PDS (TPDS). 11. government has allocated rice and wheat under the Open Market Sales Scheme (OMSS) 12. direct cash transfer. 13. Introduced Rajiv Gandhi Equity Saving scheme (with tax benefits) to make people invest money in it, rather than in gold.

Via Policy/Act
14. Recently the government permitted FDI in multi-brand retail trading. This will improve logistical facilities connecting farmers with the final consumers and cut down the middlemen. 15. The States of Madhya Pradesh and West Bengal have recently waived the market fee on fruits and vegetables. Such waivers are expected to promote investment private sector in the infrastructure necessary for transports and processing of fruits and vegetables. 16. Budgetary provisions for improving storage and warehousing facilities, creating infrastructure for aquaculture etc.

Why Govt could not control inflation?

From above points, it seems Government did lot of things to reduce inflation. Then why are we not seeing any good results?

Export bans = uncertainty

Because, to fight food inflation, govt. started imposing ban on exporting some food commodities, increased and decreased the duties on import/export as necessary. While this may look a good solution for the short term but in long term, this creates uncertainty for businessmen, farmers. It reduces their incentive to produce more, because theyre not certain whether govt. will allow them to export or not? (for example Sugarcane->sugar, onion etc.) So indirectly, this affects employment and income of people => leads to more inflation.

Export bans = CAD

When Government puts ban on export of xyz item, that means India receives that much less foreign exchange (dollars). So this increases the Current Account deficit (CAD). When CAD increases = rupee weakens against dollar = crude oil become expensive for us = inflation in everything.

Therefore, export bans are like firefighting / short term quickfix solutions. They donot solve the fundamental problems of Indian economy, infact they worsen it in long run.

Black money and gold purchase

All Government schemes = leakage, corruption. And corruption =black money. And black money is mostly invested in gold and real estate. So demand of gold forever high= high current account deficit = rupee weakens against dollar= crude oil price increases = petrol/diesel price increases = even more inflation. Government did try to hike excise duty, make PAN cards mandatory for high value gold purchase and even thought of putting bans on gold import. But these moves have been heavily opposed

by the jeweler lobby, hence Government has shied away from doing anything radical to stop the gold consumption. Besides a small hike of 2-3% in gold excise duty doesnt prevent those bad guys with black money from buying gold! And Government hasnt done much to stop the Black money / corruption either.

FDI and infra= No quick results

You have read and heard this ten thousand times that FDI in multibrand retail = no middlemen = less inflation in food. And similarly cold storage, and food processing infrastructure= less wastage. But, suppose Government allows wallmart on Monday, that doesnt mean from Tuesday Wallmart will start running and from Wednesday inflation will be gone. All these things take months and years to get file permission, construction, hiring and training employees, setting up supply lines etc.

Environmental clearances

Many coal and mining projects are not cleared due to environmental issues. This has affected the electricity and raw material supply = input cost increased in manufacturing sector=inflation.

Fiscal consolidation
Government is on the path of fiscal consolidation so it increased the prices of petrol, diesel and reduced the number of subsidized LPG cylinders. These moves have increased the inflation.

Steps taken by RBI to curb inflation

Lets do a recap: from SBI manangers point of view
CRR SLR Repo Reverse Repo Ive to keep this much cash aside. I cannot loan it to people. I donot earn any interest on this. Ive to invest this much cash in govt. securities, gold and reliable corporate bonds. Ive to pay this much interest rate, IF I take short term loans from RBI. I earn this much interest rate, IF I deposit my money in RBI for short term.

So what will be the impact on liquidity when RBI changes these rates?

Rate CRR SLR

When rate is increased When rate is decreased Liquidity decreases Liquidity decreases Liquidity increases Liquidity increases Liquidity increases

Repo Rate Liquidity decreases

Note: RBI doesnt need to change reverse repo rate, because they automatically keep it 1% less than repo rate. (1%= 100 basis points). In winter, the supply of green vegetables is high so their price goes down. But in summer, their supply is low, so price goes high. Same is the link between liquidity and interest rates. When liquidity increases = loan interest rate decreases. When liquidity decreases = loan interest rate increases = harder to get loans for home, car, bike, business.

RBI focused its monetary policy on two objectives

1. Control inflation. 2. Facilitate growth.

But It has been very difficult to do both these things at the same time. Because if RBI wants to control inflation, then it needed to reduce the liquidity= RBI had to increase repo rate, CRR. But this type of tight monetary policy badly affects both producers (businessmen) and consumers. Why? But when repo rate is increased= liquidity decreased= difficult to get loans for home, car, bike etc.= demand down + difficult for businessmen to get loans = this hurts the businessman and whatever hurts the businessmen also hurt the GDP and employment.

To put this in refined words: the tight monetary policy of RBI decreased the flow of credit (loan) to productive sectors of Economy and hence negatively affected the growth.

But due to inflationary pressures, RBI followed tight monetary policy during 2010-11. During this period, RBI raised policy rate (repo rate) by 3.75%= repo rate was increased from 4.75 per cent to 8.5 per cent. Check the following chart.

But this move has backfired: global economy was progressing slow (due to problems in EU, and USA not yet fully recovered) => so, this tight monetary policy actually contributed to a sharper slowdown of Indian economy than anticipated. GDP growth rate fell down from good 9+% to around 5-6%.

CRR rates
Check the chart

As you can see, between 2010-11, here too, RBI kept increasing CRR rates to curb inflation. But from 2012 onwards, RBI has started decreasing the CRR.

SLR rates

As you can see, RBI hasnt changed SLR much in last three years.

Why RBI couldnt control inflation?

Were facing inflation because there is mismatch between supply and demand.

Supply (of food, gold, houses, everything) is low While demand of those items (particularly food) is high (because population is high, the income levels of public has increased). Now think about this: What can RBI do? It can only increase the interest rates. While increased interest rates may decrease the demand of houses, cars, bikes but it cannot directly decrease the demand of food, milk and other essential commodities. In other words, Interest rates cannot change the dietary habits of people, not at least in the short term. Besides, high interest rates make it difficult for businessmen to borrow = less new projects = less new employment, less GDP. Therefore primary solution to fight Indias inflation =Increase the supply of food items. But this will requie thorough revision of the way govt. treats agriculture, allied activities, food processing and infrastructure. Small farms, disguised unemployment, heavy reliance on monsoon : all these issues must be addressed in comprehensive manner.

Way ahead
For RBI

World Banks report (January 2013) says prices of most of the global commodity prices are expected decrease in 2013 and 14 (except for metals.) However, as per the assessment of RBI, global economic and financial conditions are still fragile. So theyre not providing any growth stimulus to the economy. (for example, if situation in Europe and America was good, theyd have been importing a lot more goods and services from India= Indias GDP could increase.) So in that context, even if RBI drastically reduces repo or CRR, that wont do much good to economy.

For Government

tackling the supply side bottlenecks take months and years. So in the mean time poor people must be protected from the inflation. Thats why govt. needs to continue giving welfare schemes and subsidies. But such support must be targeted to the right beneficiaries: thats where UID/Aadhar, Direct cash transfer comes into picture. Other than that, Government needs to continue pushing for fiscal consolidation, deregulation of sugar pricing (as per Rangarajans recommendations), and other policy initiatives.

On a side note:

RESIDEX

Rural to urban migration is an inevitable part of economic growth. But when people migrate from rural areas to urban areas, it creates pressure on civic amenities and housing (slums).

Year % of Indian population living in Urban areas 1951 17 2011 30 2040 50 (expected)

Until recently, we did not have an index to capture the prices of residential buildings in urban areas. Hence Residex index was launched in 2007. This index records the changes in the prices of residential buildings. According to the RESIDEX, the housing prices have declined in Hyderabad, Banglore and Jaipur (from 2007 to 2012) but they have increased by more than 100% in Pune, Bhopal and Chennai.

Mock questions
1. Correct statements about WPI? a. It is released by finance ministry b. It classifies items into three categories 1) primary 2) fuel and fodder 3) Manufactured products and services. c. It is calculated using Laspeyres formula. d. None of above 2. Incorrect statements about CPI a. The base year is 2004-05 b. It is calculated by Labour Bureau with the help of NSSO c. Both A and B d. Neither A or B. 3. Correct statements a. CPI measures price change in both goods and services. b. WPI measures price change in only in goods but not in services. c. Both A and B d. Neither A or B. 4. What is the formula for GDP deflator? a. GDP at constant price divided by current price b. GDP at current price divided by annual WPI c. WPI divided by CPI d. GDP at current price divided by constant price 5. What is RESIDEX? a. It is a drug to combat swine flu. b. It is a new vaccine for rabies. c. It is an index to capture the prices of residential buildings in urban areas. d. It is an index to capture the prices of residential buildings in both rural and urban areas. 6. Between March 2011 to March 2013, what was the highest Repo rate? a. 9.00 b. 7.25

c. 8.50 d. None of Above 7. Which of the following can be used to measure inflation directly? a. Current Account deficit b. GDP deflator c. Fiscal deficit d. Purchasing power parity

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Banking Concepts

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Banking Concepts

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BANKING CONCEPTS SERVICE TAX VOLUNTARY COMPLIANCE ENCOURAGEMENT SCHEME A one-time amnesty for those who have collected

EQUITY SAVINGS SCHEME

Read more: http://www.bankersadda.com/2013/04/about-rajiv-gandhi-equity-savingsscheme.html#ixzz2mz4e7uUt

Definition of 100+ (A-Z) Terms of Economics from BBC

providing help to absorb potential losses, such as in a bank recapitalisation

Capital adequacy ratio

Collateralised debt obligations (CDOs)

Credit default swap (CDS)

Dead cat bounce

Financial Policy Committee

Financial transaction tax

Freddie Mac, Fannie Mae

Independent Commission on Banking

Mortgage-backed securities (MBS)

Naked short selling

Private equity fund

Cheque Truncation System (CTS)

Understanding BASEL III

THE RTGS SYSTEM

THE NEFT SYSTEM

For long term loans = Capital market. See this diagram

Use of money market

Call/ Notice/Term Money Market

3 types of deals in Call Market

Players in Call Market

The players in Repo / Reverse Repo Rate

Lets rewind the liquidity tape

RBI & Repo

RBI & Reverse Repo

Definition difference from international market.

The FDI in Retail business pro-cons Single brand vs Multibrand Retail

Whats the difference between Single brand vs Multibrand retail?

Crude Oil Bill

Why king of Saudi does not accept payment in rupees?

At the beginning only 1$=Rs.40?why not 1$=Re.1?

What is a credit rating agency?

What is Angel fund?

49-51 sharing percentage is calculated on total investment, which can be anything.

Cash and Carry wholesale trade

Traditional wholesale trade

Cash and Carry wholesale trade

Cash n Carry wholesale in India

Index of Industrial Production Introduction

Who calculates this IIP?

When do they calculate this IIP?

Why do they calculate it every month?

What are other Indexes?

What is the impact of poor Industrial Production?

IIP for October11 : Rupee weakens

IIP for December 2011

Gold deposit scheme (1999)

Cons: Gold deposit scheme (1999)

Gold Exchange traded fund (2006)

What is exchange traded funds?

Like mutual fund

they contains set of shares or commodity (gold, silver.)

they can be traded (bought and sold) @stock exchange.

How does ETF work?

How does Gold ETF work?

Gold ETF: Pros

Gold ETF: Cons

Linking Gold ETF with Gold Deposit Scheme (2013)

So far we know that

FDI and FII difference Reform: FDI vs FII definition

Whats the difference? Which one is better?

What are the Income tax slabs in Budget 2012?

Then how to calculate income tax?

Step #1: Distribute money in suitcases

#2: tax deduction

Union budget 2012: provisions of Tax Deduction and Tax Exemption

Tax Exemption (on INCOME / Salary)

Tax Deduction (on SPENDING)

Who is Tax-Adviser / Tax-Consultant?

Black Money and Agro-Income

Coming back to the opening sentence of this article:

How does RGESS save Rs.5000 In Tax?