Unit 1

Meaning and Definition of Bank:

A bank is an institution which deals with money and credit. It accepts deposits from the public,
makes the funds available to those who need them, and helps in the remittance of money from one
place to another. In fact, a modem bank performs such a variety of functions that it is difficult to
give a precise and general definition of it. It is because of this reason that different economists give
different definitions of the bank.

According to Crowther, a bank "collects money from those who have it to spare or who are saving it
out of their incomes, and it lends this money to those who require it.”

In the words of Kinley, “A bank is an establishment which makes to individuals such advances of
money as may be required and safely made, and to which individuals entrust money when not
required by them for use."

According to John Paget, "Nobody can be a banker who does not (i) take deposit accounts, (h) take
current accounts, (iii) issue and pay cheques, and (iv) collects cheques-crossed and uncrossed-for its
customers,"

Prof. Sayers defines the terms bank and banking distinctly. He defines a bank as "an institution
whose debts (bank deposits) are widely accepted in settlement of other people's debts to each other."

Again, according to Sayers, "Ordinary banking business consists cash for bank deposits and bank
deposits for cash; transferring bank deposits from one person or corporation to another; giving bank
deposits in exchange for bills of exchange, government bonds, the secured promises of businessmen
to repay and so forth".

As per Section 5(c) of the Banking Regulation Act, 1949 a "Banking Company" means any company
which transacts the business of banking in India.

Explanation: Any company which is engaged in the manufacture of goods or carries on any trade
and which accepts the deposits of money from public merely for the purpose of financing its
business as such manufacturer or trader shall not be deemed to transact the business of banking
within the meaning of this clause."

As per Section 5(b) of the Banking Regulation Act, 1949 , "banking" means the 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.”

In short, the term bank in the modern times refers to an institution having the following features:
i. It deals with money; it accepts deposits and advances loans.
ii. It also deals with credit; it has the ability to create credit, i.e., the ability to expand its
liabilities as a multiple of its reserves.
iii. It is commercial institution; it aims at earning profit.
iv. It is a unique financial institution that creates demand deposits which serve as a medium
of exchange and, as a result, the banks manage the payment system of the country.

Creation of Money :
Banks accept deposits from the public for the purpose of lending it to those who need money to meet
their personal or business needs.

While granting loans to the borrowers, the bank does not handover the entire cash to him but credits
the amount of the loan in his bank account. The borrower has a right to issue or draw cheques
against it as and when he needs. According to Hartley Withers, “Every loan crates a deposit.”
When a loan is granted to a borrower he acquires a right or claim against the bank to withdraw that
amount. This right is similar to the right of a customer to withdraw his own deposit from his bank
account.
In economics, money creation is the process by which the money supply of a country or a monetary
region (such as the Eurozone) is increased. A central bank may introduce new money into the
economy (termed ‘expansionary monetary policy’) by purchasing financial assets or lending money
to financial institutions. Commercial bank lending then multiplies this base money through fractional
reserve banking, which expands the total of broad money (cash plus demand deposits).
Structure of Commercial Banks In India:
Reserve Bank of India is the Central Bank of our country. It was established on 1st April 1935
under the RBI Act of 1934. It holds the apex position in the banking structure. RBI performs
various developmental and promotional functions. As of now 26 public sector banks in India out of
which 21 are Nationalised banks and 5 are State Bank of India and its associate banks. There are
total 92 commercial banks in India. Public sector banks hold near about 75% of the total bank
deposits in India.

Indian Banks are classified into commercial banks and Co-operative banks. Commercial banks
comprise: (1) Schedule Commercial Banks (SCBs) and non-scheduled commercial banks. SCBs are
further classified into private, public, foreign banks and Regional Rural Banks (RRBs); and (2) Co-
operative banks which include urban and rural Co-operative banks.
1. Central Bank or Apex Bank: The Reserve Bank of India

2. Commercial Banks:

(I) Public Sector Banks:

(a) State banks

(b) Nationalized Banks:

(II) Private Sector Banks:
(a)Indian Banks
(b)ForeignBanks

(III)Co-operativeBanks:

(a) Central/ District Co- operative Banks

(b) Primary Credit

Society

(c) (IV)Regional Rural

banks

(V)National Bank for Agriculture and Rural Development (NABARD)

(VI)Development Bank

SALIENT FEATURES OF INDIAN BANKING SYSTEM

1. Establishment : Most of the commercial banks in India have been registered as joint stock
companies under the Companies Act, 1956. Reserve Bank was established under the Reserve Bank
of India Act, 1934. The State Bank of India and its subsidiaries were established under their
respective statutes. Cooperative banks were established under the Central or State Co-operative Acts.
Nationalised banks have been re-established under the Banking Companies (Acquisition and
Transfer of Undertakings) Act, 1970 Foreign banks operating in India have been established under
the respective laws of the country of their origin.
2. Ownership : Ownership of these banks differ depending upon how these have been established.
Commercial banks are owned by the public. State Banks and its subsidiaries as well as the major
commercial banks are owned by the Government. Co-operative banks are owned by respective co-
operative societies.
3. Capital Rquirements : Minimum paid up capital of each schedule bank shall not be less than 5
lacs. A nationalised bank must have authorised capital of 1,500 crore which can be increased upto
3,000 crore. A new private sector bank must have a minimum paid up capital of crore.
4. Capital Adequacy Norms : An Indian bank having foreign branches and a foreign bank operating
in India must have capital adequacy norms of 8% (the proportion of its capital and reserve in relation
to risk weight: asset).
Other banks have capital adequacy norms of 4%.
5. Mixed Banking: Commercial banks in India are practicing mixed banking. Originally these
banks were lending for short-term requirements. Recently, the banks have also started term lending.
6. Increased Credit to Private Sector: In accordance with the recommendations of the Narsimham
Committee Report banks have increased credit to the priority sector viz., agriculture, small scale
industry and export etc.
7. Control over the banks: Reserve Bank of India is empowered to regulate and control the banking
sector. Banks have to comply with the provisions of the Reserve Bank of India Act, 1934 and the
Banking Regulation Act, 1949 and the rules made thereunder.
8. Maintenance of Cash Reserve Ratio (CRR): Every bank is under an obligation to maintain a
cash reserve ratio of 5% of its demand and time Liabilities. It can be raised up to 20%.
9. Maintenance of Statutory Liquidity Ratio (SLR): Likewise, every bank -Las to maintain SLR
equal to 25% of its demand and time liabilities. It can have raised up to 40%.
10. Reserve Bank's Monopoly of Note Issue: Reserve Bank of India has been given the monopoly
of issuing currency notes of Rs. 2 denominations and above. The Central Government has the
monopoly of issuing notes of Rs. 1.
11. Uniform Accounting Policy: Banks are under an obligation to follow uniform accounting
policy. It relates to income recognition, provisioning for k an losses and classification and valuation
of assets.
12. Technology Changes: Technology changes are taking place very rapidly. Banks have fully
computerised their branches. Most of the major public sector banks and new private sector banks
have introduced Core Banking Service (CBS). This has enabled a bank's customer to avail banking -
ices 'any time anywhere'. A customer in Delhi can operate his account any other CBS branch
anywhere in India. Shift to payment system from o cashless (Debit Cards) and mobile banking.
13. Internet Banking: It is a corollary of the above feature. Internet king means transacting
Banking business on-line with the help of internet. This helps in facilitating banking transactions on-
line, banking and Automatic Teller Machine (A.T.M.) operations throughout country 24 x 7.
14. Branch Banking: Indian banking system is dominated by branch banking system due to the
huge size, topography and economic system of country.
15. Diversification of Banking Operations: Gone are the days when we’re doing business of
deposit acceptance and money lending. Now are embarking upon number of new businesses.
However, banks can diversify their business only with the prior approval of the Reserve Bank h is
subject to certain conditions being fulfilled.

Different types of bank categorized by functions, ownership and domicile:

Banks can be classified into various types on the basis of their functions, ownership, domicile, etc.
The following are the various types of banks:

1. Commercial Banks:

The banks, which perform all kinds of banking business and generally finance trade and commerce,
are called commercial banks. Since their deposits are for a short period, these banks normally
advance short-term loans to the businessmen and traders and avoid medium-term and long-term
lending.

However, recently, the commercial banks have also extended their areas of operation to medium-
term and long-term finance. Majority of the commercial banks are in the public sector. However,
there are certain private sector banks operating as joint stock companies. Hence, the commercial
banks are also called joint stock banks.
2. Industrial Banks:

Industrial banks, also known as investment banks, mainly meet the medium-term and long-term
financial needs of the industries. Such long-term needs cannot be met by the commercial banks,
which generally deal with short-term lending.

The main functions of the industrial banks are:

(a) They accept long-term deposits.
(b) They grant long-term loans to the industrialists to enable them to purchase land, construct factory
building, purchase heavy machinery, etc.
(c) They help selling or even underwrite the debentures and shares of industrial firms,
(d) They can also provide information regarding the general economic position of the economy. In
India, industrial hanks, like Industrial Development Bank of India, Industrial Finance Corporation of
India, Slate Finance Corporations, are playing significant role in the industrial development of the
country.
 3. Agricultural Banks:

Agricultural credit needs are different from those of industry and trade. Industrial and commercial
banks normally do not deal with agricultural finance. The agriculturists require:

(a) short-term credit to buy seeds, fertilizers and other inputs, and
(b) long-term credit to purchase land, to make permanent improvements on land, to purchase
agricultural machinery and equipment, etc. In India, agricultural finance is generally provided by co-
operative institutions. Agricultural co-operatives provide short-term loans and Land Development
Banks provide the long-term credit to the agriculturists.

4. Exchange Banks:

Exchange banks deal in foreign exchange and specialise in financing foreign trade. They facilitate
international payments through the sale, purchase of bills of exchange, and thus play an important
role in promoting foreign trade.

5. Saving Banks:

The main purpose of saving banks is to promote saving habits among the general public and
mobilise their small savings. In India, postal saving banks do this job. They open accounts and issue
postal cash certificates.

6. Central Bank:

Central bank is the apex institution, which controls, regulates and supervises the monetary and credit
system of the country. Important functions of the central bank are:
(a) It has the monopoly of note issue;
(b) It acts as the banker, agent and financial adviser to the state;
(c) It is the custodian of member banks reserves;
(d) It is the custodian of nation's reserves of international currency;
(e) It serves as the lender of the last resort;
(f) It functions as the bank of central clearance, settlement and transfer; and
(g) It acts as the controller of credit. Besides these functions, India's central bank, i.e., the Reserve
Bank of India, also performs many developmental functions to promote economic development in
the country.

7. Classification on the Basis of Ownership:

On the basis of ownership, banks can be classified into three categories:

(a) Public Sector Banks:
These arc owned and controlled by the government. In India, the nationalized banks and the regional
rural banks come under these categories,
(a) Private Sector Banks:
These banks are owned by the private individuals or corporations and not by the government or co-
operative societies,
 (b) Cooperative Banks:
Cooperative banks are operated on the cooperative lines. In India, cooperative credit institutions are
organised under the cooperative societies law and play an important role in meeting financial needs in the
rural areas
.

8. Classification on the Basis of Domicile:

On the basis of domicile, the banks are divided into two categories:
(a) Domestic Banks:
These are registered and incorporated within the country,
(b) Foreign Banks:
These are foreign in origin and have their head offices in the country of origin.

9. Scheduled and Non-Scheduled Banks:

In India, banks have been broadly classified into scheduled and non-scheduled banks. A Scheduled
Bank is that which has been included in the Second Schedule of the Reserve Bank of India Act, 1934
and fulfills the three conditions
(a) it has paid-up capital and reserves of at least Rs. 5 lakhs. It ensures the Reserve Bank that its
operations are not detrimental to the interest of the depositors;
(b) It is a corporation or a cooperative society and not a partnership or a single owner firm. The
banks which are not included in the Second Schedule of the Reserve Bank of India Act are non-
scheduled banks.