HISTORY OF BANKING
Before we look into the knitty-gritty of banking sector reforms process, we must have a proper perspective of what is the history of our banking system in India and also understand the rationale of why reform is necessary and what reforms are essential. Like in many other aspects, India had a long tradition of banking. Evidence regarding the existence of money-lending operations in India is found in the literature of the Vedic times, i.e., 2000 to 1400 B.C. The literature of the Buddhist period, for e.g., the Jatakas, and recent archaeological discoveries supply evidence of the existence of sresthis, or bankers. From the laws of menu, it appears that money-lending and allied problems had assumed considerable importance in ancient India.
What were the interest rates? They were prescribed by almost all Hindu law-givers, Manu, Vasistha, Yajnavalkya, Gautama, and Baudhayana as also Kautilya. A common base number was 15 per cent annum what the banker-economist Dr. Thingalaya calls Hindu rate of interest. Incidentally, this is close to current Prime Lending Rate (PLR) of many banks. However, Chanakya gives a different approach. The interest works out for 15 per cent annum for general advances. The traders are charged a rate of 60 per cent per annum. Where the merchandise has to pass through forests, the traders have to pay 120 per cent while those engaged in the export-import business handling sea-borne cargo have to pay 240 per cent per annum. Chanakya’s interest rate structure is risk-weighted; the rate of interest increases with the risk involved in the borrowers’ business. Again, it is not everyone who could take up banking business. The
Dharmashastra laid down the rates according to the castes of the borrowers, and the eligibility of men belonging to Vaishya caste alone could take up the money-lending profession. In other words, in ancient times, your caste gives you license to banking; not RBI!!!
Banking Sector Reforms
.INTRODUCTION TO THE TOPIC
As the real sector reforms began in 1992, the need was felt to restructure the Indian banking industry. The reform measures necessitated the deregulation of the financial sector, particularly the banking sector. The initiation of the financial sector reforms brought about a paradigm shift in the banking industry. In 1991, the RBI had proposed to form the committee chaired by M. Narasimham, former RBI Governor in order to review the Financial System viz. aspects relating to the Structure, Organisations and Functioning of the financial system. The Narasimham Committee report, submitted to the then finance minister, Manmohan Singh, on the banking sector reforms highlighted the weaknesses in the Indian banking system and suggested reform measures based on the Basle norms. The guidelines that were issued subsequently laid the foundation for the reformation of Indian banking sector.
The main recommendations of the Committee were: -
• Reduction of Statutory Liquidity Ratio (SLR) to 25 per cent over a period of five years
• Progressive reduction in Cash Reserve Ratio (CRR)
• Phasing out of directed credit programmes and redefinition of the priority sector
Banking Sector Reforms
• Deregulation of interest rates so as to reflect emerging market conditions
• Stipulation of minimum capital adequacy ratio of 4 per cent to risk weighted assets by March 1993, 8 per cent by March 1996, and 8 per cent by those banks having international operations by March 1994
• Adoption of uniform accounting practices in regard to income recognition, asset classification and provisioning against bad and doubtful debts
• Imparting transparency to bank balance sheets and making more disclosures
• Setting up of special tribunals to speed up the process of recovery of loans
• Setting up of Asset Reconstruction Funds (ARFs) to take over from banks a portion of their bad and doubtful advances at a discount
• Restructuring of the banking system, so as to have 3 or 4 large banks, which could become international in character, 8 to 10 national banks and local banks confined to specific regions. Rural banks, including RRBs, confined to rural areas
• Abolition of branch licensing
• Liberalising the policy with regard to allowing foreign banks to open offices in India
• Rationalisation of foreign operations of Indian banks
• Giving freedom to individual banks to recruit officers
Banking Sector Reforms
• Inspection by supervisory authorities based essentially on the internal audit and inspection reports
• Ending duality of control over banking system by Banking Division and RBI
• A separate authority for supervision of banks and financial institutions which would be a semi-autonomous body under RBI
• Revised procedure for selection of Chief Executives and Directors of Boards of public sector banks
• Obtaining resources from the market on competitive terms by DFIs
• Speedy liberalisation of capital market