BANKING &FINANCE

UNIT 4

Banking and non banking institutions - scheduled commercial banks,NBFC , Regional

rural banks

Banking and non-banking financial institutions are essential components of a country's

financial system, serving as intermediaries to mobilize savings and allocate resources
efficiently. Here's an overview of Scheduled Commercial Banks (SCBs), Non-Banking
Financial Companies (NBFCs), and Regional Rural Banks (RRBs):

1. Scheduled Commercial Banks (SCBs):

Definition:

Scheduled Commercial Banks are banks listed in the Second Schedule of the Reserve Bank
of India (RBI) Act, 1934. They comply with specific criteria set by the RBI, such as
maintaining a minimum paid-up capital and adhering to RBI regulations.

Features:

 Regulation: Regulated by the RBI under the Banking Regulation Act, 1949.
 Main Activities: Accepting deposits, granting loans, credit creation, and offering a
wide range of financial services.
 Access to RBI Support: Eligible for borrowing and refinancing facilities from the
RBI.
 CRR and SLR Requirements: Required to maintain a Cash Reserve Ratio (CRR)
and Statutory Liquidity Ratio (SLR) as per RBI guidelines.

Types of Scheduled Commercial Banks:

1. Public Sector Banks:

o Majority-owned by the Government of India.
o Examples: State Bank of India (SBI), Punjab National Bank (PNB), Bank of
Baroda (BoB).
2. Private Sector Banks:
o Majority-owned by private shareholders.
o Examples: HDFC Bank, ICICI Bank, Axis Bank.
3. Foreign Banks:
o Operate as branches or subsidiaries of international banks.
o Examples: Citibank, HSBC, Standard Chartered Bank.
4. Small Finance Banks:
o Focus on financial inclusion by providing loans and deposits to underserved
populations.
o Examples: Ujjivan Small Finance Bank, Equitas Small Finance Bank.
5. Payments Banks:
 o Offer basic banking services, focusing on small deposits and remittances.
o Examples: Paytm Payments Bank, Airtel Payments Bank.

2. Non-Banking Financial Companies (NBFCs):

Definition:

NBFCs are financial institutions that provide banking-like services but do not have a banking
license. They cannot accept demand deposits (e.g., savings or current accounts) but can offer
loans, asset financing, leasing, and other financial services.

Features:

 Regulation: Regulated by the RBI under the Reserve Bank of India Act, 1934, but
with fewer restrictions than banks.
 Focus: Often cater to niche markets, such as small businesses, rural customers, or
infrastructure financing.
 No Demand Deposits: NBFCs cannot issue cheques or offer transactional accounts.
 Funding Sources: Primarily funded through borrowings, debentures, and equity
capital.

Types of NBFCs:

1. Loan Companies:
o Provide loans for personal, business, or industrial purposes.
o Examples: Bajaj Finance, Muthoot Finance.
2. Infrastructure Finance Companies (IFCs):
o Specialize in financing infrastructure projects.
o Examples: Power Finance Corporation (PFC), Infrastructure Development
Finance Company (IDFC).
3. Asset Finance Companies (AFCs):
o Focus on financing physical assets like automobiles or machinery.
4. Investment Companies:
o Manage investments in securities and shares.
5. Microfinance Institutions (MFIs):
o Offer small loans to low-income groups, often in rural areas.
6. Housing Finance Companies:
o Specialize in housing loans.
o Examples: Housing Development Finance Corporation (HDFC).
7. Payment NBFCs:
o Offer digital wallet services and payment solutions.

Key Differences from Banks:

 Cannot issue cheques or draft instruments.

 Less stringent capital requirements.
 More focused on specific sectors like retail lending or asset financing.
3. Regional Rural Banks (RRBs):
Definition:

Regional Rural Banks are specialized banks established under the RRB Act, 1976 to promote
financial inclusion in rural areas by providing credit and other financial services to small
farmers, artisans, and rural entrepreneurs.

Features:

 Ownership: Jointly owned by the Central Government (50%), the State

Government (15%), and a Sponsor Bank (35%) (usually a public sector bank).
 Focus: Rural areas, primarily catering to agriculture and rural development.
 Regulation: Governed by the RBI and supervised by NABARD (National Bank for
Agriculture and Rural Development).
 Low Cost: Operate with a focus on cost-efficiency and financial inclusion.

Functions:

1. Agricultural Credit:
o Provide loans to farmers for crop production, farm equipment, and irrigation.
2. Microfinance:
o Offer credit to self-help groups (SHGs) and rural entrepreneurs.
3. Basic Banking Services:
o Accept deposits, offer remittance services, and promote savings habits among
rural residents.
4. Government Schemes:
o Distribute funds for government rural development programs like MNREGA,
PM-KISAN, and rural housing schemes.

Examples:

 Prathama Bank
 Andhra Pragathi Grameena Bank
 Baroda UP Bank
Phases of Banking Sector Reforms in India
1. Pre-Liberalization Era (Pre-1991):

 Banking was highly regulated with stringent controls on interest rates, lending, and
branch expansion.
 Dominance of public sector banks after nationalization in 1969 (14 major banks) and
1980 (6 more banks).
 Focus on expanding rural banking through Regional Rural Banks (RRBs) (established
in 1975) and cooperative banks.

2. Post-Liberalization Era (1991 and Beyond):

The 1991 economic crisis prompted major reforms, based on the recommendations of the
Narasimham Committee.

Key Reforms:

1. Deregulation of Interest Rates:

o Banks were given the freedom to set interest rates for loans and deposits.
o Led to increased competition and efficiency in the banking sector.

2. Capital Adequacy Norms:

 o Introduction of Basel norms to ensure banks maintain adequate capital
against their risk-weighted assets.
o Strengthened the stability and solvency of banks.

3. Reduction in Statutory Pre-Emptions:

o Reduction in CRR (Cash Reserve Ratio) and SLR (Statutory Liquidity Ratio) to
free up resources for lending.

4. Entry of Private and Foreign Banks:

o Encouragement for private sector banks like ICICI Bank and HDFC Bank.
o Expansion of foreign banks like HSBC, Standard Chartered, and others.

5. Asset Quality Monitoring:

o Introduction of NPA (Non-Performing Asset) classification norms.
o Focus on cleaning up bad loans and improving credit discipline.

6. Technological Upgradation:
o Introduction of Core Banking Solutions (CBS).
o Adoption of ATMs, online banking, and mobile banking for better customer
services.

7. Development of Financial Markets:

o Emphasis on money market reforms to create a vibrant and efficient financial
system.

8. Specialized Financial Institutions:

o Focus on microfinance, small finance banks, and NBFCs to cater to specific
needs.

3. Post-Global Financial Crisis Reforms (2008 and Beyond):

1. Basel III Norms:

o Implementation of stricter Basel III capital and liquidity norms to improve
resilience against financial crises.

2. Strengthening Risk Management:

o Adoption of improved risk management practices, including stress testing and
robust credit appraisal systems.

3. Merger of Banks:
o Consolidation of public sector banks for scale and efficiency.
o Example: SBI merger with its associate banks in 2017, and subsequent PSB
mergers (2019-2020).

4. Strengthening Regulatory Oversight:

 o Increased role of the RBI as a regulator and supervisor of commercial banks,
NBFCs, and cooperative banks.

5. Introduction of Payment Banks and Small Finance Banks:

o Launch of niche banks to promote financial inclusion.
o Examples: Paytm Payments Bank, Ujjivan Small Finance Bank.

6. Financial Inclusion Initiatives:

o Launch of schemes like Pradhan Mantri Jan Dhan Yojana (PMJDY) for
universal banking access.
o Expansion of rural banking and digital banking channels.

7. Recapitalization of Public Sector Banks:

o Infusion of government funds to strengthen the capital base of public sector
banks.

4. Recent Reforms (2020 and Beyond):

1. Bank Consolidation:
o Reduction of the number of public sector banks to 12 from 27 (pre-2017),
leading to stronger entities with improved operational efficiency.

2. Privatization of Public Sector Banks:

o Announcement of privatization of selected public sector banks to reduce
fiscal burden and improve performance.

3. IBC for Bad Loans:

o Introduction of the Insolvency and Bankruptcy Code (IBC), 2016 to expedite
the resolution of stressed assets and improve NPA recovery.

4. Digitization and FinTech Integration:

o Promoting digital transactions through Unified Payments Interface (UPI),
mobile banking, and FinTech partnerships.
o Encouraging banks to adopt technologies like blockchain and AI for better
service delivery.

5. Development Finance Institution (DFI):

o Establishment of DFIs to fund large infrastructure projects and long-term
development initiatives.

6. Priority Sector Lending (PSL) Reforms:

o Expanding PSL norms to include sectors like startups, renewable energy, and
health infrastructure.

7. Enhanced Governance Norms:

o Strengthening governance frameworks for public and private sector banks.
 o Appointment of independent directors and professional management.

Challenges in Banking Sector Reforms

1. Rising NPAs:
o Non-performing assets continue to be a significant challenge, especially in
public sector banks.

2. Slow Credit Growth:

o Delays in transmission of monetary policy measures impact lending growth.

3. Financial Inclusion Gap:

o Despite efforts, access to formal banking services in remote areas remains a
challenge.

4. Competition from FinTechs:

o Traditional banks face increasing competition from agile, tech-driven FinTech
players.

5. Cybersecurity Risks:
o Increased digitization has led to heightened risks of cyberattacks and data
breaches.

Priority Sector Lending (PSL) is a key policy initiative in India's banking system designed
to promote inclusive growth by ensuring that critical sectors of the economy receive adequate
financial support. Under this mandate, the Reserve Bank of India (RBI) requires banks to
allocate a specific portion of their lending to designated priority sectors.

Key Features of Priority Sector Lending

1. Applicability:
o Applies to all scheduled commercial banks, small finance banks, regional
rural banks (RRBs), and foreign banks operating in India.
o The scope and target vary for foreign banks with less than 20 branches.
2. Priority Sector Categories: The PSL guidelines specify sectors that require focused
attention due to their importance for the economy and society. These include:
o Agriculture:
 Loans to individual farmers, Self-Help Groups (SHGs), and Farmer
Producer Organizations (FPOs).
 Sub-limit for small and marginal farmers (at least 8% of Adjusted
Net Bank Credit (ANBC) or Credit Equivalent Amount of Off-Balance
Sheet Exposure).
 o Micro, Small, and Medium Enterprises (MSMEs):
 Credit to manufacturing and service units under the MSME definition.
o Export Credit:
 Export-oriented loans, subject to a ceiling as prescribed.
o Education:
 Loans to individuals for educational purposes up to ₹20 lakh for
studies in India or abroad.
o Housing:
 Loans for affordable housing projects and loans up to ₹35 lakh for
individual home purchases in metropolitan cities (₹25 lakh in other
cities).
o Social Infrastructure:
 Loans for creating basic infrastructure such as schools, health care
centers, and sanitation facilities in rural and semi-urban areas.
o Renewable Energy:
 Loans for solar power, biomass-based generators, windmills, and other
renewable energy projects.
o Others:
 Loans to weaker sections, distressed farmers, and loans under
government schemes like the National Rural Livelihood Mission
(NRLM).
3. PSL Targets:
o For domestic banks and foreign banks with 20 or more branches:
 40% of Adjusted Net Bank Credit (ANBC) or Credit Equivalent
Amount of Off-Balance Sheet Exposure must be allocated to PSL
sectors.
o Sub-targets within the 40% include:
 Agriculture: 18%
 Small and Marginal Farmers: 8%
 Weaker Sections: 10%
o For foreign banks with less than 20 branches:
 40% PSL target to be achieved in a phased manner.
 No specific sub-targets for agriculture and weaker sections.
4. Priority Sector Lending Certificates (PSLCs):
o Banks can meet their PSL shortfall by purchasing Priority Sector Lending
Certificates from banks with surplus PSL lending.
o Encourages flexibility and cost-efficiency while ensuring overall PSL
compliance.
5. Exclusions:
o Loans given for personal purposes (other than education or housing).
o Non-priority sector industries, speculative lending, and luxury housing
projects.

Rationale Behind Priority Sector Lending

 Promote Financial Inclusion: Ensure access to credit for sectors that lack sufficient
financing due to higher risk or lower profitability.
  Support Underserved Sectors: Encourage investments in critical areas such as
agriculture, MSMEs, renewable energy, and rural development.
 Stimulate Economic Growth: Foster balanced regional development and reduce
economic disparities.
 Align with National Priorities: Support government initiatives like Pradhan Mantri
Awas Yojana (PMAY), Pradhan Mantri MUDRA Yojana (PMMY), and rural
electrification programs.

Cooperative Banking

Cooperative Banking is a system of banking that is based on cooperative principles. It is

designed to meet the needs of individuals and businesses within a specific community,
emphasizing collective welfare rather than profit maximization. Cooperative banks play a
vital role in promoting financial inclusion, especially in rural and semi-urban areas.

Key Features of Cooperative Banks

1. Ownership:
o Owned by members (shareholders), who are also the customers.
o Operate on the principle of "one member, one vote", ensuring democratic
decision-making.
2. Objective:
o Primarily aim to serve the community by providing affordable banking
services rather than maximizing profits.
3. Regulation:
o Regulated by a dual framework:
 Reserve Bank of India (RBI): Supervises banking operations.
 State Governments: Oversee incorporation, management, and audit
under state cooperative laws.
o Governed by the Banking Regulation Act, 1949, and respective state or
central cooperative societies acts.
4. Membership:
o Open membership for individuals or entities within a specified area.
o Members share profits and participate in governance.
5. Structure:
o Operate at three levels: Primary (rural areas), District, and State.

Types of Cooperative Banks

1. Urban Cooperative Banks (UCBs):

 Operate in urban and semi-urban areas.

  Focus on retail banking, offering loans and deposits to small traders, professionals,
and urban poor.
 Examples: Saraswat Cooperative Bank, Cosmos Bank.

2. Rural Cooperative Banks:

 Operate primarily in rural areas to support agriculture and allied activities.

 Classified into:
o Short-Term Cooperative Credit Institutions:
 Primary Agricultural Credit Societies (PACS): Operate at the
village level, providing short-term credit for farming.
 District Central Cooperative Banks (DCCBs): Provide credit and
banking services to PACS.
 State Cooperative Banks (SCBs): Apex banks at the state level,
coordinating and supervising DCCBs.
o Long-Term Cooperative Credit Institutions:
 Provide long-term loans for capital investments in agriculture, such as
purchasing land or machinery.

Functions of Cooperative Banks

1. Deposit Mobilization:
o Offer savings accounts, fixed deposits, recurring deposits, and other deposit
schemes.
o Typically provide higher interest rates compared to commercial banks.
2. Credit Provision:
o Offer short-term and medium-term loans for agriculture, small businesses, and
personal needs.
3. Support to Agriculture and Rural Development:
o Provide affordable credit to farmers and rural enterprises.
o Play a key role in government schemes for rural development.
4. Financial Inclusion:
o Extend banking services to underserved and unbanked populations.
5. Other Services:
o Provide ancillary services like locker facilities, remittances, and utility bill
payments.

Strengths of Cooperative Banking

1. Community Focus:
o Prioritize the welfare of members and local communities.
o Cater to small-scale farmers, artisans, and small businesses.
2. Affordable Banking Services:
 o Offer lower interest rates on loans and higher returns on deposits compared to
commercial banks.
3. Decentralized Structure:
o Operate close to the grassroots, making them more accessible to rural and
semi-urban populations.
4. Democratic Governance:
o Decisions are made collectively, ensuring transparency and accountability.
5. Support for Government Initiatives:
o Act as a conduit for implementing rural development and poverty alleviation
programs.

Challenges of Cooperative Banking

1. Dual Regulation:
o The dual control by RBI and state governments often leads to overlapping
responsibilities and inefficiencies.
2. Limited Resources:
o Depend heavily on deposits, with limited access to capital markets for raising
funds.
3. Governance Issues:
o Often face mismanagement due to lack of professional expertise and political
interference.
4. High Non-Performing Assets (NPAs):
o Credit to small-scale farmers and businesses is riskier, leading to higher
default rates.
5. Technology Gap:
o Many cooperative banks lag behind commercial banks in adopting modern
banking technology.
6. Inadequate Supervision:
o Frequent cases of financial irregularities and fraud due to weak oversight
mechanisms.
7. Competition from Commercial Banks:
o Struggle to compete with technologically advanced and resource-rich
commercial banks.

Cooperative banking in India operates on a three-tier structure, with Urban Cooperative

Banks (UCBs) and Rural Cooperative Banks functioning as the primary classifications.
Within rural cooperative banks, there are Primary Agricultural Credit Societies (PACS),
Central Cooperative Banks (CCBs), and State Cooperative Banks (SCBs). Here's a
detailed explanation:

1. Urban Cooperative Banks (UCBs)

Definition:
Urban Cooperative Banks are financial institutions primarily established in urban and semi-
urban areas to serve small businesses, traders, and individuals with banking and credit
facilities.

Key Features:

 Operate on a single-tier system (no hierarchy like rural cooperatives).

 Focus on urban and semi-urban populations.
 Provide short-term credit for personal loans, housing, small businesses, and trade
financing.
 More oriented toward retail banking rather than agriculture.

Services:

 Savings accounts, fixed deposits, and recurring deposits.

 Loans for small businesses, housing, and education.
 Payment and remittance services.

Regulation:

 Regulated by the Reserve Bank of India (RBI) under the Banking Regulation Act,
1949.
 Dual control by RBI and respective State Cooperative Societies Acts.

Examples:

 Saraswat Cooperative Bank

 Cosmos Bank
 Shamrao Vithal Cooperative Bank

Challenges:

 Weak governance and risk management.

 Lack of modernization and digital adoption compared to commercial banks.
 High NPAs due to reliance on unsecured loans.

2. Rural Cooperative Banks

Definition:

Rural Cooperative Banks are established to provide affordable credit to farmers, small rural
businesses, and individuals in rural areas. They operate under a three-tier system.

Three-Tier Structure of Rural Cooperative Banks:

a. Primary Agricultural Credit Societies (PACS):

 Grassroots-level institutions at the village level.

 First contact point for farmers and small borrowers.
 Provide short-term and medium-term credit for agricultural and allied activities.
 Function as self-help groups and deposit mobilizers.

b. Central Cooperative Banks (CCBs):

 Operate at the district level.

 Serve as intermediaries between PACS and State Cooperative Banks.
 Provide credit to PACS and other member societies.
 Supervise PACS and ensure proper functioning.

c. State Cooperative Banks (SCBs):

 Apex institutions at the state level.

 Coordinate and finance the operations of CCBs.
 Liaison with Reserve Bank of India (RBI) and National Bank for Agriculture and Rural
Development (NABARD).

Functions of Rural Cooperative Banks:

1. Credit Provision:
o Short-term loans for crop production.
o Medium-term loans for rural development activities (e.g., purchasing
equipment or cattle).
2. Support for Government Schemes:
o Act as a channel for subsidies and agricultural finance under schemes like
Kisan Credit Card (KCC).
3. Deposit Mobilization:
o Collect savings from rural households and reinvest in the local economy.

Role of Central Cooperative Banks

Central Cooperative Banks (CCBs) are crucial intermediaries in the rural cooperative
structure. They link the grassroots PACS with the apex State Cooperative Banks.

Key Functions:

1. Credit Distribution:
o Provide credit to PACS for onward lending to farmers and small businesses.
2. Supervision:
 o Monitor and audit the financial and operational health of PACS.
3. Policy Implementation:
o Act as a bridge between SCBs and PACS to implement policies and schemes.

Primary Agricultural Credit Society (PACS)

Primary Agricultural Credit Societies (PACS) are the foundational tier of the cooperative
credit structure in India, operating at the village or grassroots level. PACS serve as the
primary interface for farmers and rural communities, providing short-term and medium-term
credit and other financial services.

Features of PACS
1. Local Institution:
o Operate at the village or cluster of villages level.
o Typically serve small and marginal farmers, agricultural laborers, and rural
artisans.
2. Membership:
o Membership is open to rural individuals (farmers or local residents).
o Members contribute to the society's capital by purchasing shares.
3. Democratic Governance:
o Managed by an elected board of directors chosen from the membership.
o Operate on the principle of "one member, one vote" regardless of
shareholding.
4. Affiliation:
o Affiliated with District Central Cooperative Banks (DCCBs), which in turn
connect to State Cooperative Banks (SCBs).
5. Profit Sharing:
o Profits are distributed among members, typically in the form of dividends.
6. Services:
o Provide credit, sell agricultural inputs, and offer storage and marketing
facilities.

Functions of PACS
1. Credit Services:

 Short-Term Credit:
o Loans for seasonal agricultural needs like seeds, fertilizers, pesticides, and
irrigation.
 Medium-Term Credit:
 o Loans for agricultural equipment, cattle, land improvement, and similar
investments.

2. Supply of Inputs:

 Supply of essential agricultural inputs like seeds, fertilizers, and pesticides at

reasonable rates.

3. Marketing Support:

 Facilitate the sale of agricultural produce, ensuring better returns for farmers.
 Often act as agents for government procurement of crops like wheat and rice.

4. Storage Facilities:

 Provide small storage facilities like godowns to help farmers store produce safely.

5. Other Services:

 Act as agents for Kisan Credit Cards (KCC).

 Disburse subsidies and loans under government schemes like PM Kisan Samman
Nidhi.

Recent Developments and Reforms

1. Digitization Initiatives:
o Introduction of Core Banking Systems (CBS) in PACS to modernize
operations.
o Efforts to link PACS with larger cooperative banks and digital payment
platforms.
2. Credit Linkage Programs:
o Programs like the Kisan Credit Card (KCC) and government subsidies are
channeled through PACS.
3. Government Support:
o Increased funding and capacity-building programs under schemes like
Atmanirbhar Bharat.
4. Amalgamation and Modernization:
o Merger of weak PACS with stronger ones to improve financial health and
sustainability.