TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

UNIT 2: BANKING AND NON BANKING FINANCIAL INSTITUTIONS (25%)

CONTENTS:
● The Public and Private sector, structure,
● Commercial and Cooperative banks
● Non Banking Financial Institutions
● Insurance companies: role of IRDA
● Merchant Banking: meaning & its services
● Small Savings: meaning & instruments

Banking Regulation Act of 1949 defines banking as “accepting for the purpose of
lending or investment, of deposits of money from the public, repayable on demand or
otherwise, and withdrawable by cheque, draft, order or otherwise”
Characteristics / Features of a Bank:
1. Dealing in Money Bank is a financial institution which deals with other people's
money i.e. money given by depositors.
2. Individual / Firm / Company A bank may be a person, firm or a company. A banking
company means a company which is in the business of banking.
3. Acceptance of Deposit A bank accepts money from the people in the form of deposits
which are usually repayable on demand or after the expiry of a fixed period. It gives
safety to the deposits of its customers. It also acts as a custodian of funds of its
customers.
4. Giving Advances A bank lends out money in the form of loans to those who require it
for different purposes.
5. Payment and Withdrawal A bank provides easy payment and withdrawal facility to its
customers in the form of cheques and drafts. It also brings bank money in circulation.
This money is in the form of cheques, drafts, etc.
6. Agency and Utility Services A bank provides various banking facilities to its
customers. They include general utility services and agency services.
7. Profit and Service Orientation A bank is a profit seeking institution having a service
oriented approach
8. Ever increasing Functions Banking is an evolutionary concept. There is continuous
expansion and diversification as regards the functions, services and activities of a bank.
9. Connecting Link Bank acts as a connecting link between borrowers and lenders of
money. Banks collect money from those who have surplus money and give the same to
those who are in need of money.
10. Banking Business A bank's main activity should be to do business of banking which
should not be subsidiary to any other business.
11. Name Identity A bank should always add the word “bank” to its name to enable
people to know that it is a bank and that it is dealing in money
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

CONSTITUENTS OF THE INDIAN BANKING SYSTEM The constituents of the Indian

Banking System can be broadly listed as under:
RBI is the apex banking institution in India.

(a) Commercial Banks:

(i) Public Sector Banks
(ii) Private Sector Banks
(iii) Foreign Banks
iv) Regional rural banks

(b) Cooperative Banks:

(i) Short term agricultural institutions
(ii) Long term agricultural credit institutions
(iii) Non-agricultural credit institutions

(c) Development Banks:

(i) National Bank for Agriculture and Rural Development (NABARD)
(ii) Small Industries Development Bank of India (SIDBI)
(iii) EXIM Bank
(iv) National Housing Bank

d) Payment banks
e) small finance banks

CLASSIFICATION OF BANKS The banking institutions form an indispensable part in a

modern developing society. They perform varied functions to meet the demands of
various sections of the society. On the basis of the functions performed and its
ownership, the banks can be classified into the following types:
A. On the Basis of Functions:
1.Central Bank.
2.Commercial Banks
3. Industrial Banks
4. Regional Rural Banks
5. Exchange Banks

On the Basis of Ownership:

1. Public Sector Banks
2. Private Sector Banks
3. Co - operative Banks
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

On the Basis of Schedules of RBI:

1. Scheduled Bank
2. Non - Scheduled Bank

On the basis of Functions:

Central bank: Every country has a central bank of its own which is called a central
bank. It is the apex bank and the statutory institution in the money market of a country.
The central bank occupies a central position in the monetary and banking system of the
country and is the superior financial authority. In India, the Reserve Bank of India is the
central bank of our country. Reserve Bank of India: Reserve Bank of India was
established in 1935. It is the central bank of India.
The following are the main objectives of RBI:
(a) To manage and regulate foreign exchange. (b) To build a sound and adequate
banking and credit structure. (c) To promote specialized institutions to increase the term
finance to industry. (d) To give support to government and planning authorities for the
economic development of the country. (e) To control and manage the banking system in
India. (f) To execute the monetary policy of the country.

Functions of RBI:

1. Issue of currency note: RBI is the sole authority for the issue of currency notes in
India except one rupee coin, one rupee note and subsidiary coins. These notes are
printed and issued by the issue department.

2. Banker to the Government: RBI acts as the banker and agent of the government. It
gives the following services It maintains and operates the government cash balances. b)
It receives and makes payments on behalf of the government. c) It buys and sells
government securities in the market. d) It sells treasury bills on behalf of the
government. e) It advises the government on all banking and financial matters such as
financing of five year plans, balance of payments etc., f) It acts as the agent of the
government in dealings with the International Monetary Fund, World Bank International
finance Corporations, EXIM Banks etc.

3. Bankers’ Bank: As per the Banking Regulation Act 19499, every bank has to keep a
certain minimum cash balance with RBI. This is called the Cash Reserve ratio. The
scheduled banks can borrow money from the reserve bank of India on eligible securities
and by rediscounting bills of exchange. Thus it acts as a bankers' bank.
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

4. Controller of Credit: RBI controls money supply and credit to maintain price stability in
the country. It controls credit by using the following methods: Different methods of credit
control:
a. Quantitative Credit Control Methods: In this method the central bank controls the
quantity of credit given by commercial banks by using the following weapons. i) Bank
Rate: It is the rate at which bills are discounted and rediscounted by the banks with the
central bank. During inflation, the bank rate is increased and during deflation, bank rate
is decreased. ii) Open Market Operation: Direct buying and selling of government
securities by the central bank in the open market is called open market operations.
During inflation the securities are sold in the market by the Central Bank. During the
deflation period, the central bank buys the bills from the market and pays cash to
commercial banks.iii) Variable reserve ratio: Every commercial bank has to keep a
minimum cash reserve with the Reserve Bank of India depending on the deposits of the
commercial bank. During inflation this ratio is increased and during deflation the ratio is
decreased.

5. Custodian of Foreign Exchange reserves: RBI controls the foreign exchange reserves
and exchange value of the rupee in relation to other country’s currencies. Currencies
should be exchanged only with RBI or its authorized banks

6. Publication of data: It collects data related to all economic matters such as finance,
production, balance of payments, prices etc. and is published in the form of reports,
bulletins etc.

7. Bank of Central Clearance: The central bank of India acts as a bank of central
clearance in settling the mutual accounts of commercial banks. If there is no RBI branch
to do this service, the State Bank of India discharges these functions.

8. Promotional and Developmental Functions: It provides finance for the development of

Agriculture, industry and export. RBI also gives credit to weaker sections and priority
sectors at concessional rate of interest. It takes an active part in developing an
organized bill market to provide rediscounting facilities to commercial banks and other
financial institutions. It helps for the development and regulation of the banking system
in the country.

Commercial Bank: Banks, which help for the development of trade and commerce, are
called Commercial Banks. The commercial banks may be owned by the government or
owned by the private sector. For eg: Canara Bank, Punjab National Bank, Lakshmi Vilas
Bank, Karur Visya Bank etc., are called commercial banks.
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Commercial bank is a financial institution that accepts deposits for the purpose of
lending. Commercial banks act as intermediaries because they accept deposits from
savers and lend these funds to borrowers. In other words, commercial banks provide
services such as accepting deposits, giving business loans and also allow for a variety
of deposit accounts. They collect money from those who have it to spare and lend to
those who require it. Commercial banks are bankers to the general public. Commercial
banks registered under Indian Companies Act, 1956 and are also governed by the
Indian Banking Regulation Act, 1949.

Structure of Commercial Banks:

Commercial banks are basically of two types:
1. Scheduled banks
2. Non-scheduled bank
Scheduled banks are those which have been in II Schedule of RBI Act, 1934 and
following criteria should be satisfied.
Minimum paid up capital Rs.5 lakh
It must be a corporation
Any activity of the bank will not adversely affect the interest of depositors.
Scheduled banks consist of public sector banks, private sector banks, foreign banks
and regional rural banks.

Public Sector Banks:

Public sector banks are those in which 50% of their capital is provided by the Central
Government
Private Sector Banks:
Private sector banks are those in which majority of share capital kept by business house
and individuals.
Foreign Banks:
Foreign banks are those which are incorporated outside India and open their branches
in India. Foreign banks performed all the functions like other commercial banks in India.
Regional Rural Banks:
The regional rural banks are banks set up to increase the flow of credit to smaller
borrowers in the rural areas. These banks were established on realising that the
benefits of the co-operative banking system were not reaching all the farmers in rural
area

Functions of Commercial Bank:

Functions of a Commercial Bank can be classified into three.
I. Principal/ Primary/ Fundamental functions
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II. Subsidiary/ Secondary/ Supplementary functions

III. Innovative functions.
(a) Principal functions:
Commercial banks perform many functions. They satisfy the financial needs of the
sectors such as agriculture, industry, trade, communication, so they play a very
significant role in a process of economic social needs. The functions performed by
banks, since recently, are becoming customer-centred and are widening their functions.
Generally, the functions of commercial banks are divided into two categories; primary
functions and the secondary functions. Two ‘acid test’ functions of commercial banks
are Accepting deposits and Lending loans. These functions along with credit creation,
promotion of the cheque system and investment in Government securities form basic
functions of commercial banks. The secondary functions of commercial banks include
agency services, general utility services and innovative services.
1. Receiving deposits:
Most important function of a commercial bank is to accept deposits from those who can
save but cannot profitably utilise these savings themselves. By making deposits in the
bank, savers can earn something in the form of interest and avoid the danger of theft.
To attract savings from all sorts of customers, banks maintain different types of accounts
such as current account, Savings bank account, Fixed Deposit account, Recurring
deposit account and Derivative Deposit account.

2. Lending of funds:
The second important function of commercial banks is to advance loans to its
customers. Banks charge interest from the borrowers and this is the main source of
their income. Modern banks give mostly secured loans for productive purposes. In other
words, at the time of advancing loans, they demand proper security or collateral.
Generally, the value of security or collateral is equal to the amount of loan. This is done
mainly with a view to recover the loan money by selling the security in the event of
non-refund of the loan.
Commercial banks lend money to the needy people in the form of Cash credits, Term
loans, Overdrafts (OD), Discounting of bills, Money at call or short notice etc.
(i) Cash Credit:
In this type of credit scheme, banks advance loans to its customers on the basis of
bonds, inventories and other approved securities. Under this scheme, banks enter into
an agreement with its customers to which money can be withdrawn many times during a
year. Under this set up banks open accounts of their customers and deposit the loan
money. With this type of loan, credit is created.

(ii) Term loans:

TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

A term loan is a monetary loan that is repaid in regular payments over a set period of
time. In other words, a loan from a bank for a specific amount that has a specified
repayment schedule and a floating interest rate is called a Term loan. Term loans
usually last between one and ten years, but may last as long as 30 years in some
cases. It may be classified as short term,medium term and long term loans.

(iii) Overdrafts:
It is the extension of credit from a bank when the account balance reaches zero level.
Banks advance loans to its customer’s up to a certain amount through over-drafts, if
there are no deposits in the current account. For this, banks demand a security from the
customers and charge a very high rate of interest. Overdraft facility will be allowed only
for current account holders.

(iv) Discounting of Bills of Exchange:

This is the most prevalent and important method of advancing loans to the traders for
short-term purposes. Under this system, banks advance loans to the traders and
business firms by discounting their bills. While discounting a bill, the Bank buys the bill
(i.e. Bill of Exchange orPromissory Note) before it is due and credits the value of the bill
after a discount charge to the customer's account. The transaction is practically an
advance against the security of the bill and the discount represents the interest on the
advance from the date of purchase of the bill until it is due for payment. In this way,
businessmen get loans on the basis of their bills of exchange before the time of their
maturity.
(v) Money at Call and Short notice:
Money at call and short notice is a very short-term loan that does not have a set
repayment schedule, but is payable immediately and in full upon demand. Money at-call
loans give banks a way to earn interest while retaining liquidity. These are generally lent
to other institutions such as discount houses, money brokers, the stock exchange,
bullion brokers, corporate customers, and increasingly to other banks. ‘At call’ means
the money is repayable on demand whereas ‘At short notice’ implies the money is to be
repayable on a short notice up to 14 days.
3. Investment of funds in securities:
Banks invest a considerable amount of their funds in government and industrial
securities. In India, commercial banks are required by statute to invest a good portion of
their funds in government and other approved securities. The banks invest their funds in
three types of securities—Government securities, other approved securities and other
securities. Government securities include both, central and state governments, such as
treasury bills, national savings certificates etc. Other securities include securities of
state associated bodies like electricity boards, housing boards, debentures of Land
Development Banks, units of UTI, shares of Regional Rural banks etc.
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

4. Credit Creation:
When a bank advances a loan, it does not lend cash but opens an account in the
borrower’s name and credits the amount of loan to this account. Thus a loan creates an
equal amount of deposit. Creation of such deposits is called credit creation. Banks have
the ability to create credit many times more than their actual deposit.

5. Promoting cheque system:

Banks also render a very useful medium of exchange in the form of cheques. Through a
cheque, the depositor directs the banker to make payment to the payee. In the modern
business transactions by cheques have become a much more convenient method of
settling debts than the use of cash. Through promoting cheque system, the banks
ensure the exchange of accounted cash. At present, CTS (Cheque Truncation System)
cheques are used by Indian Banks to ensure speedy settlement of transactions in
between banks. In contrast to the declining importance of cheques, the use of electronic
payment instruments at the retail level has been growing rapidly.
(b) Subsidiary functions:
1. Agency services:
Banks act as an agent on behalf of the individual or organisations. Banks, as an agent
can work for people, businesses, and other banks, providing a variety of services
depending on the nature of the agreement they make with their clients. Following are
the important agency services provided by commercial banks in India.
Commercial Banks collect cheques, drafts, Bill of Exchange, interest and dividend on
securities, rents etc. on behalf of customers and credit the proceeds to the customer’s
account.
Pay LIC premium, rent, newspaper bills, telephone bills etc
Buying and selling of securities
Advise on right type of investment
Act as trustees (undertake management of money and property), executors (carry out
the wishes of deceased customers according to will) & attorneys (collect interest &
dividend and issue valid receipt) of their customers.
Serve as correspondents and representatives of their customers. In this capacity, banks
prepare Income Tax returns of their customers, correspond with Income Tax authorities
and pay Income Tax of their customers.
2. General Utility Services:
In addition to agency services, modern banks perform many general utility services for
the community. Following are the important general utility services offered by
Commercial Banks.
Locker facility: Banks provide locker facility to their customers. The customers can keep
their valuables such as gold, silver, important documents, securities etc. in these lockers
for safe custody.
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

Issue travellers’ cheques: Banks issue traveler’s cheques to help their customers to
travel without the fear of theft or loss of money. It enables tourists to get funds in all
places they visit without carrying actual cash with them.
Issue Letter of Credits: Banks issue letter of credit for importers certifying their credit
worthiness. It is a letter issued by the importer's banker in favour of the exporter
informing him that the issuing banker undertakes to accept the bills drawn in respect of
exports made to the importer specified therein.
Act as referee: Banks act as referees and supply information about the financial
standing of their customers on enquiries made by other businessmen.
Collect information: Banks collect information about other businessmen through fellow
bankers and supply information to their customers.
Collection of statistics: Banks collect statistics for giving important information about
industry, trade and commerce, money and banking. They also publish journals and
bulletins containing research articles on economic and financial matters.
Underwriting securities: Banks underwrite securities issued by government, public or
private bodies.
Merchant banking: Some banks provide merchant banking services such as capital to
companies, advice on corporate matters, underwriting etc.

(c) Innovative Functions:

The adoption of Information and Communication technology enables banks to provide
many innovative services to the customers such as;
1. ATM services:
Automated Teller Machine (ATM) is an electronic telecommunications device that
enables the clients of banks to perform financial transactions by using a plastic card.
Automated Teller Machines are established by banks to enable its customers to have
anytime money. It is used to withdraw money, check balance, transfer funds, get mini
statements, make payments etc. It is available 24 hours a day and 7 days a week.

2. Debit card and credit card facility:

Debit card is an electronic card issued by a bank which allows bank clients access to
their account to withdraw cash or pay for goods and services. It can be used in ATMs,
Point of Sale terminals, e-commerce sites etc. Debit card removes the need for cheques
as it immediately transfers money from the client's account to the business account.
Credit card is a card issued by a financial institution giving the holder an option to
borrow funds, usually at point of sale. Credit cards charge interest and are primarily
used for short- term financing.

3. Tele-banking:
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

Telephone banking is a service provided by a bank or other financial institution that

enables customers to perform financial transactions over the telephone, without the
need to visit a bank branch or automated teller machine.

4. Internet Banking:
Online banking (or Internet banking or E-banking) is a facility that allows customers of a
financial institution to conduct financial transactions on a secured website operated by
the institution. To access a financial institution's online banking facility, a customer must
register with the institution for the service, and set up some password for customer
verification. Online banking can be used to check balances, transfer money, shop
online, pay bills etc.

5. Bancassurance:
It means the delivery of insurance products through banking channels. It can be done
by making an arrangement in which a bank and an insurance company form a
partnership so that the insurance company can sell its products to the bank's client
base. Banks can earn additional revenue by selling the insurance products, while
insurance companies are able to expand their customer base without having to expand
their sales forces.

6. Mobile Banking:
Mobile banking is a system that allows customers of a financial institution to conduct a
number of financial transactions through a mobile device such as a mobile phone or
personal digital assistant. It allows the customers to bank anytime anywhere through
their mobile phone. Customers can access their banking information and make
transactions on Savings Accounts, Demat Accounts, Loan Accounts and Credit Cards
at absolutely no cost.
7. Electronic Clearing Services:
It is a mode of electronic funds transfer from one bank account to another bank account
using the services of a Clearing House. This is normally for bulk transfers from one
account to many accounts or vice versa. This can be used both for making payments
like distribution of dividend, interest, salary, pension, etc. by institutions or for collection
of amounts for purposes such as payments to utility companies like telephone,
electricity, or charges such as house tax, water tax etc.

8. Electronic Fund Transfer/National Electronic Fund Transfer (NEFT):

National Electronic Funds Transfer (NEFT) is a nation-wide payment system facilitating
one-to-one funds transfer. Under this Scheme, individuals, firms and corporations can
electronically transfer funds from any bank branch to any individual, firm or corporate
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

having an account with any other bank branch in the country participating in the
Scheme. In NEFT, the funds are transferred based on a deferred net settlement

9. Real Time Gross Settlement System (RTGS):

It can be defined as the continuous (real-time) settlement of funds transfers individually
on an order by order basis. 'Real Time' means the processing of instructions at the time
they are received rather than at some later time. It is the fastest possible money transfer
system in the country.

DEPOSITS

Deposits of banks are classified into three categories:

(1) Demand deposits are repayable on customers’ demand. These comprise of:
(i) Current account deposits
(ii) Current Deposits Premium Scheme
(iii) Savings bank deposits
(iv) Premium or Savings Bank Plus Account
(v) Call deposits

(2) Term deposits are repayable on maturity dates as agreed between the customers
and the banker. These comprise of:
(i) Fixed deposits
(ii) Recurring deposits
(iii) Monthly-Plus Deposit Scheme / Recurring Deposit Premium account
(iv) Special Term Deposits

(3) Hybrid deposits or flexi deposits combine the features of demand and term deposits.
These deposits have been lately introduced by some banks to better meet customers’
financial needs and convenience and are known by different names in different banks.

Industrial Bank: These banks assist to promote industrial development by providing

medium and long term loans, underwrites the shares and debentures, assisting in the
preparation of project reports, providing technical advice and managerial service to the
industries. For eg: Industrial Development Bank of India (IDBI), Industrial Credit and
Investment Corporation of India (ICICI), are known as industrial banks.
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

Regional Rural Bank: These banks are established in rural areas. Its object is to
develop the rural economy by providing credit and other facilities for agriculture, trade,
commerce, industry and other productive activities in the rural areas.

The Regional Rural Banks (RRBs) were established in 1975 under the provisions of
the Ordinance promulgated on 26th September 1975 and Regional Rural Banks Act,
1976. RRBs are financial institutions which ensure adequate credit for agriculture
and other rural sectors.The RRBs combine the characteristics of a cooperative in
terms of the familiarity of the rural problems and a commercial bank in terms of its
professionalism and ability to mobilise financial resources.

Functions:The basic functions of a bank can be summarized as follows: 

● To provide safety to the savings of customers 

● To create credit and increase the supply of money 
● To encourage public confidence in the financial system
●  To mobilize the savings of public 
● To increase its network so as to reach every segment of the society 
● To provide financial services to all customers irrespective of their level of
income
● To bring in social equity by providing financial services to every stratum of
society

Exchange bank: Exchange banks deal in foreign exchange and specialize in foreign
trade. It plays an important role in promoting international trade. It encourages flow of
foreign investments into India and helps in capturing international capital markets.

Co-operative Banks:
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These banks are operated on cooperative principles. It is a voluntary association of

members for self-help and caters to their financial needs on a mutual basis. These
banks are also subject to control and inspection by the Reserve Bank of India. The main
function of co-operative banking is to link the farmers with the money markets of the
country.

a) Primary Agricultural Co-operative societies (PACS):

It is the root of the credit structure. It is also called village societies and the members
belong to the related villages.
Functions:
It gives short-term and medium term loans to farmers.
It helps in distribution of fertilizers and seeds.
It helps in distribution of consumer goods to their members.
It helps in milk, egg, sugar production in the village.

b) Central Co-operative Banks (CCB):

It is the federation of all primary societies at the district level. Therefore it is also called a
District co-operative central bank. It supervises, controls and finances the primary credit
societies.
Functions:
It gives finances to primary credit societies.
It gives credit to individual customers on the basis of security.
It accepts deposits and pays a higher rate of interest than commercial banks.
It helps in remitting money to their customers.
It helps in solving problems of primary co-operative societies.
It controls and supervises the working of primary co-operative societies.
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c. State Co-operative Banks (SCBs):

State Co-operative Bank is the federation of district Cooperative central banks. Each
state has one state central co-operative bank. It is also called Apex Bank in the
three-tier structure.
Functions:
It coordinates the activities of primary and Central Co-operative Banks in the state.
It mobilizes deposits for the benefit of co-operatives.
It helps in maintaining a balance among Central Co-operative banks
It also functions as a commercial bank.

d. Land Development Banks:

It was earlier called Land Mortgage Banks. Its structure is not uniform in all the states.
In some states it is separate, in some states it is federal. And in some states it is mixed.
Functions:
It gives long-term loans to agriculturalists for making improvements on the land,
repaying old debts etc., loans.
It gives loan to free the mortgaged land and to buy new land
It also grants loans to cottage and small industries in rural areas.
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Payment Banks:
A payments bank is like any other bank, but operating on a smaller scale without
involving any credit risk. In simple words, it can carry out most banking operations but
can’t advance loans or issue credit cards. It can accept demand deposits (up to Rs 1
lakh), offer remittance services, mobile payments/transfers/purchases and other
banking services like ATM/debit cards, net banking and third party fund
transfers.example Airtel payment bank. paytm
The main objective of payments bank is to widen the spread of payment and financial
services to small business, low-income households, migrant labour workforce in
secured technology-driven environment.

With payments banks, RBI seeks to increase the penetration level of financial services
to the remote areas of the country.

Small Finance Banks in India are a specific segment of banking created by RBI,
under the guidance of the Government of India. They were introduced with the
objective of furthering financial inclusion by primarily extending basic banking
services to unserved and underserved sections including small and marginal
farmers, small business units, micro and small industries and unorganized
entities

ON THE BASIS OF SCHEDULES OF RBI:

Scheduled banks:
These types of banks are included in the second schedule of the Reserve bank of India
Act 1934. The banks, which fulfill the following conditions, are classified into scheduled
banks.
Its paid up capital and reserves are at least Rs.5 Lakhs.
Its operations are not detrimental to the interest of the depositors.
It is a corporation or co-operative society and not a partnership or a single owner firm.

Non-Scheduled banks:
The banks, which are not covered by the second schedule of Reserve Bank of India,
are called non-scheduled banks.
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Non-Banking Financial Company (NBFC)

Non-Banking Financial Company (NBFC) is a company registered under the

Companies Act, 1956 engaged in the business of loans and advances, acquisition of
shares/stocks/bonds/debentures/securities issued by Government or local authority or
other marketable securities of a like nature, leasing, hire-purchase, insurance
business, chit business but does not include any institution whose principal business is
that of agriculture activity, industrial activity, purchase or sale of any goods (other than
securities) or providing any services and sale/purchase/construction of immovable
property. A non-banking institution which is a company and has the principal business
of receiving deposits under any scheme or arrangement in one lump sum or in
instalments by way of contributions or in any other manner, is also a non-banking
financial company.

Difference between banks & NBFCs

NBFCs lend and make investments and hence their activities are akin to that of banks;
however there are a few differences as given below:
i. NBFC cannot accept demand deposits;
ii. NBFCs do not form part of the payment and settlement system and cannot issue
cheques drawn on itself;
iii. Deposit insurance facility of Deposit Insurance and Credit Guarantee Corporation is
not available to depositors of NBFCs, unlike in case of banks.
Is it necessary that every NBFC should be registered with the RBI?
In terms of Section 45-IA of the RBI Act, 1934, no Non-banking Financial company can
commence or carry on business of a non-banking financial institution without a)
obtaining a certificate of registration from the Bank and without having a Net Owned
Funds of ₹ 25 lakhs (₹ Two crore since April 1999). However, in terms of the powers
given to the Bank, to obviate dual regulation, certain categories of NBFCs which are
regulated by other regulators are exempted from the requirement of registration with
RBI viz. Venture Capital Fund/Merchant Banking companies/Stock broking companies
registered with SEBI, Insurance Company holding a valid Certificate of Registration
issued by IRDA, Nidhi companies as notified under Section 620A of the Companies
Act, 1956, Chit companies as defined in clause (b) of Section 2 of the Chit Funds Act,
1982,Housing Finance Companies regulated by National Housing Bank, Stock
Exchange or a Mutual Benefit company.
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Housing Finance Companies, Merchant Banking Companies, Stock Exchanges,

Companies engaged in the business of stock-broking/sub-broking, Venture Capital
Fund Companies, Nidhi Companies, Insurance companies and Chit Fund Companies
are NBFCs but they have been exempted from the requirement of registration under
Section 45-IA of the RBI Act, 1934 subject to certain conditions.
Housing Finance Companies are regulated by National Housing Bank, Merchant
Banker/Venture Capital Fund Company/stock-exchanges/stock brokers/sub-brokers
are regulated by Securities and Exchange Board of India, and Insurance companies
are regulated by Insurance Regulatory and Development Authority. Similarly, Chit
Fund Companies are regulated by the respective State Governments and Nidhi
Companies are regulated by the Ministry of Corporate Affairs, Government of India.
Companies that do financial business but are regulated by other regulators are given
specific exemption by the Reserve Bank from its regulatory requirements for avoiding
duality of regulation.
NBFCs are categorized as follows:
I. Asset Finance Company (AFC) : An AFC is a company which is a financial institution
carrying on as its principal business the financing of physical assets supporting
productive/economic activity, such as automobiles, tractors, lathe machines, generator
sets, earth moving and material handling equipments, moving on own power and
general purpose industrial machines. Principal business for this purpose is defined as
aggregate of financing real/physical assets supporting economic activity and income
arising therefrom is not less than 60% of its total assets and total income respectively.
II. Investment Company (IC) : IC means any company which is a financial institution
carrying on as its principal business the acquisition of securities,
III. Loan Company (LC): LC means any company which is a financial institution
carrying on as its principal business the providing of finance whether by making loans
or advances or otherwise for any activity other than its own but does not include an
Asset Finance Company.
IV. Infrastructure Finance Company (IFC): IFC is a non-banking finance company a)
which deploys at least 75 per cent of its total assets in infrastructure loans, b) has a
minimum Net Owned Funds of ₹ 300 crore, c) has a minimum credit rating of ‘A ‘or
equivalent d) and a CRAR of 15%.
V. Systemically Important Core Investment Company (CIC-ND-SI): CIC-ND-SI is an
NBFC carrying on the business of acquisition of shares and securities which satisfies
the following conditions:-
(a) it holds not less than 90% of its Total Assets in the form of investment in equity
shares, preference shares, debt or loans in group companies;
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

(b) its investments in the equity shares (including instruments compulsorily convertible
into equity shares within a period not exceeding 10 years from the date of issue) in
group companies constitutes not less than 60% of its Total Assets;
(c) it does not trade in its investments in shares, debt or loans in group companies
except through block sale for the purpose of dilution or disinvestment;
(d) it does not carry on any other financial activity referred to in Section 45I(c) and
45I(f) of the RBI act, 1934 except investment in bank deposits, money market
instruments, government securities, loans to and investments in debt issuances of
group companies or guarantees issued on behalf of group companies.
(e) Its asset size is ₹ 100 crore or above and
(f) It accepts public funds
VII Non-Banking Financial Company – Factors (NBFC-Factors): NBFC-Factor is a
non-deposit taking NBFC engaged in the principal business of factoring. The financial
assets in the factoring business should constitute at least 50 percent of its total assets
and its income derived from factoring business should not be less than 50 percent of
its gross income.

INSURANCE
Insurance is a more commonly known concept that describes the act of guarding
against risk. An insured is the party who will seek to obtain an insurance policy while the
insurer is the party that shares the risk for a paid price called an insurance premium.
The insured can easily obtain an insurance policy for a number of risks. The most
common type of insurance policy taken out is a vehicle/auto insurance policy as this is
mandated by law in many countries. Other policies include homeowners insurance,
renter’s insurance, medical insurance, life insurance, liability insurance, etc. The insured
who takes out vehicle insurance will specify the losses against which he wishes to be
insured. This may include repairs to the vehicle in case of an accident, damages to the
party who is injured, payment for a rented vehicle until such time the insured’s vehicle is
fixed, etc. The insurance premium paid will depend upon a number of factors such as
the insured’s driving record, driver’s age, any medical complications of the driver, etc. If
the driver has had a reckless driving record he may be charged a higher premium as
the probability of loss is higher. On the other hand, if the driver has had no previous
accidents then the premium will be lower since the probability of loss is relatively low.
Reinsurance
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

Re insurance is when an insurance company will guard themselves against the risk of
loss. Reinsurance in simpler terms is the insurance that is taken out by an insurance
company. Since insurance companies provide protection against the risk of loss,
insurance is a very risky business, and it is important that an insurance company has its
own protection in place to avoid bankruptcy. Through a reinsurance scheme, an
insurance company is able to bring together or ‘pool’ its insurance policies and then
divide up the risk among a number of insurance providers so that in the event that a
large loss occurs this will be divided up throughout a number of firms, thereby saving
the one insurance company from large losses.
TYPES OF INSURANCE
The following are the various types of insurance businesses recognised under the
Insurance Act, 1938:
(a) Life insurance business
(b) General insurance business (also called “Non-Life” business). This is subdivided into
the following 3 sub-categories:
(i) Fire insurance business
(ii) Marine insurance business
(iii) Miscellaneous insurance business
Life insurance business covers the risk of contingencies dependent on human life. For
example payment of an amount (called “sum assured”) on the death of the life assured.
Further, annuity contracts (which provide for periodic payments to life assured as long
as the policyholder is alive) or the provisions of accident benefits also form part of life
insurance business. All businesses other than Life are classified as General insurance
businesses. Fire insurance, as the name suggests covers the risks associated with loss
due to a fire accident to properties. Marine insurance means the business of effecting
insurance contracts upon vessels of any description, including cargoes, freights and
other interests which may be insured for transit by land or water or both and includes
warehouse risks or similar risks incidental to such transit. Miscellaneous insurance
includes all insurance businesses other than Fire and Marine insurance business (and
Life insurance business). It includes Motor, Liability, Health and Burglary insurances.
Generally, indemnity based health insurance policies (which reimburse hospitalisation
expenses) were classified under the General insurance business. Under the Insurance
Bill, Health insurance business has been categorised as a separate line of business
than the General insurance business. Standalone health insurance companies have
been licensed by IRDA to sell only health insurance policies, given the huge potential
for this business.

Today there are 24 general insurance companies including the ECGC and Agriculture
Insurance Corporation of India and 23 life insurance companies operating in the
country.
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

Beside IRDA Act and Insurance Act, 1938, there are some common Act/Regulation to
the General and Life Insurance Business in India and some Acts have been made for
specific requirement of Life Insurance/General Insurance Acts/Regulations common to
General and Life Insurance Business in India
The following Acts regulate the Insurance Business in India.
• Insurance Act, 1938
• IRDA Act, 1999
• Insurance Amendment Act, 2002
• Exchange Control Regulations (FEMA)
• Insurance Co-op Society
• Indian Stamp Act, 1899
•Consumer Protection Act, 1986
• Insurance Ombudsman
Why is Regulation of Insurance Businesses required?
Any industry wherein the stakes of the public are high would come within the purview of
a Regulation – reason being that failure of such companies could result in serious
implications on the economy of the country at large. Insurance business involves
collection of money from various Policyholders, investing them properly, honouring the
obligations of the Policyholders and providing an efficient service. It is important to
ensure that the entities providing these services stick to their commitments. Failure to
honour commitments by such entities could have major repercussions on the financial
services industry. After liberlisation and entrance of Private players in Insurance
business and Seeing the large numbers of customers and high risk potential,
Government of India constituted the Insurance Regulatory and Development Authority
in Year 1999.

Insurance Regulatory & Development Authority

A. Organizational Structure of IRDAI:

Composition of IRDAI:
As per Sec. 4 of IRDAI Act, 1999, the composition of the Authority is:
a) Chairman;
b) Five whole-time members;
c) Four part-time members,
(appointed by the Government of India)

IRDAI’s Head Office is at Hyderabad

All the major activities of IRDAI including ensuring financial stability of insurers and
monitoring market conduct of various regulated entities is carried out from the Head
Office.
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

IRDAI’s Regional Offices are at New Delhi & Mumbai

The Regional Office, New Delhi focuses on spreading consumer awareness and
handling of Insurance grievances besides providing required support for inspection of
Insurance companies and other regulated entities located in the Northern Region. This
office is functionally responsible for licensing of Surveyors and Loss Assessors.
Regional Office at Mumbai handles similar activities, as in Regional Office Delhi,
pertaining to Western Region.

B. Insurance Regulatory Framework:

1. Insurance Regulatory and Development Authority of India (IRDAI), is a statutory body
formed under an Act of Parliament, i.e., Insurance Regulatory and Development
Authority Act, 1999 (IRDAI Act 1999) for overall supervision and development of the
Insurance sector in India.

2. The powers and functions of the Authority are laid down in the IRDAI Act, 1999 and
Insurance Act, 1938.

The key objectives of the IRDAI include

A. promotion of competition so as to enhance customer satisfaction
B .increased consumer choice and fair premiums
C. ensuring the financial security of the Insurance market.

3. The Insurance Act, 1938 is the principal Act governing the Insurance sector in India.
It provides the powers to IRDAI to frame regulations which lay down the regulatory
framework for supervision of the entities operating in the sector. Further, there are
certain other Acts which govern specific lines of Insurance business and functions such
as Marine Insurance Act, 1963 and Public Liability Insurance Act, 1991.

4. IRDAI adopted a Mission for itself which is as follows:

● To protect the interest of and secure fair treatment to policyholders;
● To bring about speedy and orderly growth of the Insurance industry
(including annuity and superannuation payments), for the benefit of the
common man, and to provide long term funds for accelerating growth of the
economy;
● To set, promote, monitor and enforce high standards of integrity, financial
soundness, fair dealing and competence of those it regulates;
● To ensure speedy settlement of genuine claims, to prevent Insurance frauds
and other malpractices and put in place effective grievance redressal
machinery;
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

● To promote fairness, transparency and orderly conduct in financial markets

dealing with Insurance and build a reliable management information system
to enforce high standards of financial soundness amongst market players;
● To take action where such standards are inadequate or ineffectively
enforced;
● To bring about optimum amount of self-regulation in day-to-day working of
the industry consistent with the requirements of prudential regulation.

Entities regulated by IRDAI:

a. Life Insurance Companies - Both public and private sector Companies

b. General Insurance Companies - Both public and private sector Companies. Among
them, there are some standalone Health Insurance Companies which offer health
Insurance policies.
c. Re-Insurance Companies
d. Agency Channel
e. Intermediaries which include the following:
● Corporate Agents
● Brokers
● Third Party Administrators
● Surveyors and Loss Assessors.

Reinsurer
General Insurance Corporation of India (GIC of India) is the sole National Reinsurer,
providing Reinsurance to the Insurance companies in India. The Corporation’s
Reinsurance programme has been designed to meet the objectives of optimising the
retention within the country, ensuring adequate coverage for exposure and developing
adequate capacities within the domestic market. It is also administering the Indian Motor
Third Party Declined Risk Insurance Pool – a multilateral Reinsurance arrangement in
respect of specified commercial vehicles where the policy issuing member insurers
cede Insurance premium to the Declined Risk pool based on the underwriting policy
approved by IRDAI.

Public Sector Insurance Companies

Life Insurance Corporation of India

TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

LIC of India was incorporated on 1st September, 1956 by amalgamating 243

Companies by the Act of Parliament called Insurance Act, 1956. LIC is governed by the
Insurance Act 1938, LIC Act 1956, LIC Regulations 1959 and Insurance Regulatory and
Development Authority Act 1999. As on 31st March, 2016, LIC has 8 Zonal Offices, 113
Divisional Offices, 2048 Branch Offices, 73 Customer Zones, 1401 Satellite Offices and
1240 Mini Offices in India.
The Corporation has Branch Offices in Fiji, Mauritius and the United Kingdom. It also
operates through Joint Venture(JV) Companies in overseas Insurance Market.

GENERAL INSURANCE CORPORATION OF INDIA

The General insurance industry was nationalized in 1972 and 107 insurers were
grouped and amalgamated into four Companies – National Insurance Co. Ltd., The New
India Assurance Co. Ltd., The Oriental Insurance Co. Ltd. and United India Insurance
Co. Ltd. The GIC was incorporated in 1972 and the other four companies became its
subsidiaries. In November 2000, GIC was notified as the Indian Reinsurer, and its
supervisory role over its subsidiaries was brought to an end. From 21 March 2003,
GIC's role as a holding company of its subsidiaries also came to an end and the
ownership of the subsidiaries was transferred to the Government of India. The
Corporation has its head office in Mumbai and 3 liaison offices in India (Delhi, Kolkata
and Chennai), 3 branches in foreign countries (London, Dubai and Kuala Lumpur) and 1
representative office in Moscow. It also has 2 foreign subsidiaries (GIC Re South Africa
and GIC Re India Corporate Member Ltd. in the UK). As on 31.03.2016 the employee
strength of the Corporation is 558. The authorized capital is Ra.1000 crore while the
paid-up equity capital of the company is Rs.430 crore.

THE NEW INDIA ASSURANCE COMPANY LIMITED

The company was founded by Sir Dorabji Tata on July 23rd, 1919 and nationalized in
1973 with the merger of Indian companies. The Company has 2329 offices and the
employee strength is 18783 as on 31.03.2016. The company provides insurance
services to the customers having over 170 products catering to almost all segments of
general insurance business. The authorized capital and paid-up equity capital of the
company is Rs.300 crore and Rs.200 crore respectively.

UNITED INDIA INSURANCE COMPANY LIMITED

United India Insurance Company Limited was incorporated in 1938. With the
nationalization of the General Insurance business in India, 12 Indian Insurance
Companies, 4 Cooperative Insurance Societies and Indian operations of 5 Foreign
Insurers, besides General Insurance operations of the southern region of Life Insurance
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

Corporation of India were merged with United India Insurance Company Limited. The
Company has 2080 offices and employee strength of 16345 as on 31.03.2016. The
company provides insurance services to the customers catering to almost all segments
of general insurance business. The authorized capital and paid-up equity capital of the
company is Rs.200 crore and Rs.150 crore respectively.

THE ORIENTAL INSURANCE COMPANY LIMITED

The Oriental Insurance Company Ltd was incorporated in 1947. In 2003 all shares of
the company held by the General Insurance Corporation of India were transferred to the
Government of India. The Company has 1924 offices in the country and has employee
strength of 13923 as on 31.03.2016. The company provides insurance services to the
customers catering to almost all segments of general insurance business. The
authorized capital and paid-up equity capital of the company is Rs.200 crore.

NATIONAL INSURANCE COMPANY LIMITED

The Company was incorporated in 1906. After nationalization it was merged, along with
21 foreign and 11 Indian companies, to form National Insurance Company Ltd. The
Company has 1998 offices all over India and employee strength of 15079 as on
31.03.2016. The company provides insurance services to the customers catering to
almost all segments of general insurance business. The authorized capital and paid-up
equity capital of the company is Rs.200 crore and Rs.100 crore respectively.

AGRICULTURE INSURANCE COMPANY OF INDIA LIMITED

'Agriculture Insurance Company Of India Limited’ (AIC) was incorporated to exclusively
cater to the insurance needs of the persons engaged in agriculture and allied activities
in India under the Companies Act, 1956 on 20th December 2002. General Insurance
Corporation of India (GIC), NABARD and four public sector general insurance
companies have contributed towards the share capital of the Company. The Authorized
Share Capital of the Company is Rs. 1500 crore with initial Paid-up Equity Share Capital
of the Company of Rs. 200 crore.

MERCHANT BANKING
Functions of merchant Banking:
Corporate counselling
Project Counselling
Capital Structuring
Portfolio Management
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

Issue Management
Credit Syndication
Working capital
Venture Capital
Lease Finance
Fixed Deposits
(i) Corporate counselling: Corporate counselling covers counselling in the form of
project counselling, capital restructuring, project management, public issue
management, loan syndication, working capital fixed deposit, lease financing,
acceptance credit etcThe scope of corporate counselling is limited to giving suggestions
and opinions to the client and helping them take actions to solve their problems. It is
provided to a corporate unit with a view to ensure better performance, maintain steady
growth and create a better image among investors.
(ii) Project counselling Project counselling is a part of corporate counselling and relates
to project finance. It broadly covers the study of the project, offering advisory assistance
on the viability and procedural steps for its implementation. a. Identification of potential
investment avenues. b. A general view of the project ideas or project profiles. c.
Advising on procedural aspects of project implementation d. Reviewing the technical
feasibility of the project
(iii)Capital Structure Here the Capital Structure is worked out i.e., the capital required,
raising of the capital, debt-equity ratio, issue of shares and debentures, working capital,
fixed capital requirements, etc.,
(iv) Portfolio Management It refers to the effective management of Securities i.e., the
merchant banker helps the investor in matters pertaining to investment decisions.
Taxation and inflation are taken into account while advising on investment in different
securities. The merchant banker also undertakes the function of buying and selling of
securities on behalf of their client companies. Investments are done in such a way that it
ensures maximum returns and minimum risks
(v)Issue Management: Management of issues refers to effective marketing of corporate
securities viz., equity shares, preference shares and debentures or bonds by offering
them to the public. Merchant banks act as intermediaries whose main job is to transfer
capital from those who own it to those who need it. The issue function may be broadly
divided into pre issue and post issue management. a. Issue through prospectus, offer
for sale and private placement. b. Marketing and underwriting c. pricing of issues
(vi) Credit Syndication: Credit Syndication refers to obtaining of loans from a single
development finance institution or a syndicate or consortium. Merchant Banks help
corporate clients to raise syndicated loans from commercial banks. Merchant banks
help in identifying which financial institution should be approached for term loans.
(vii) Working Capital: The Companies are given Working Capital finance, depending
upon their earning capacities in relation to the interest rate prevailing in the market.
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

(viii)Venture Capital: Venture Capital is a kind of capital requirement which carries more
risks and hence only few institutions come forward to finance. The merchant banker
looks into the technical competency of the entrepreneur for venture capital finance.
Other Functions
•Treasury Management- Management of short term fund requirements by client
companies.
•Stock broking- helping the investors through a network of service units
•Servicing of issues- servicing the shareholders and debenture holders in distributing
dividends, debenture interest.
•Small Scale industry counselling- counselling SSI units on marketing and finance
•Equity research and investment counselling –merchant bankers play an important role
in providing equity research and investment counselling because the investor is not in a
position to take appropriate investment decisions.
•Assistance to NRI investors - the NRI investors are brought to the notice of the various
investment opportunities in the country.
•Foreign Collaboration: Foreign collaboration arrangements are made by the Merchant
bankers

SMALL SAVINGS SCHEMES

Small savings instruments are managed by the central government to encourage
citizens to save regularly, irrespective of their age. They not only provide returns that
are usually higher than bank fixed deposits. They also come with a sovereign guarantee
and tax benefits.
● Small savings instruments help the citizens to achieve their financial goals over a
particular time period.
● The small savings instruments include
● Public Provident Fund Account (PPF)
● Sukanya Samriddhi Scheme
● Senior Citizen Savings Scheme
● Post Office Savings Account
● 5-Year Post Office Recurring Deposit Account (RD)
● National Savings Certificates (NSC)
● They are the major source of household savings in India. The small savings
schemes basket can be classified under three categories. They are
● Postal deposits: Post Office Savings Account(SB)​, National Savings
Recurring Deposit Account(RD)​​, National Savings Time Deposit
Account(TD) etc.
● Savings certificates: National Savings Certificates (VIIIth Issue), Kisan
Vikas Patra (KVP) etc.
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

● Social security schemes: Public Provident Fund (PPF), Senior Citizens

‘Savings Scheme (SCSS) etc.
● Interest rates are reviewed every quarter by the Government for these schemes

SOME IMPORTANT SMALL SAVING SCHEMES

Post Office ● It is like a savings account with a bank.
Savings ● Only one account can be opened by an individual as a
single account
Account
● Minimum deposit amount: – Rs. 500
● Minimum withdrawal amount: – Rs. 50
● Maximum deposit: – No maximum limit

Kisan Vikas ● It can be purchased from any post office.

Patra (KVP) ● The minimum deposit is Rs. 1000 and in multiple of Rs.
100, no maximum limit.
● The deposit shall mature on the maturity period
prescribed by the Ministry of Finance from time to time
as applicable on the date of deposit.
● Certificates are easily transferable

Senior Citizen’s ● An individual above 60 years of age can open an

Savings account.
● Retired Civilian Employees above 55 years of age and
Scheme
below 60 years of age, subject to the condition that
investment is made within 1 month of receipt of
retirement benefits.
● The maximum limit of investment allowed per individual
(combined balances in all accounts) is Rs. 15 lakhs.
The minimum deposit shall be Rs. 1000.

Public Provident ● PPF is a long-term investment for a period of 15 years.

Fund (PPF) ● Minimum deposit Rs. 500 and the maximum deposit is
Rs. 1.50 lakh in a financial year.
TY BBA SEM 6 FINANCIAL MARKETS AND INSTITUTIONS UNIT 2

National ● The NSC has a maturity period of 5 years.

Savings ● The minimum deposit is Rs. 1000 and in multiple of Rs.
100. There is no maximum limit.
Certificate
(NSC)

Sukanya ● It is introduced for the benefit of the girl child.

Samriddhi ● The minimum deposit is Rs. 250 and the maximum
deposit can be made up to Rs. 1.50 lakh in a financial
Scheme
year.
● The investment will mature after the completion of 21
years from the date of opening the account, or upon
the marriage of the girl child after attaining the age of
18.
● The account will also have to be closed if the girl child
becomes an NRI or loses her Indian citizenship.