Financial Services Assignment-1

Section-B; Group-3
Pinaki Ranjan Bhakat (14202238)
Subham Panda (14202057)
Ankita Singh (14202093)
Nancy Gupta (14202158)
Avhijeet Ray (14202214)
Harish Baskey (14202260)
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1. Identify and discuss ten key issues/challenges before Indian
financial sector. The issues can be related to financial market,
institutions, regulations or the services offered by different
intermediaries.
Ans: The Indian financial system is characterised by its two major segments - an
organised sector and a traditional sector that is also known as informal credit
market. Financial intermediation in the organised sector is conducted by a large
number of financial institutions which are business organisations providing financial
services to the community. Financial institutions whose activities may be either
specialised or may overlap are further classified as banking and non-banking entities.
The Reserve Bank of India (RBI) as the main regulator of credit is the apex
institution in the financial system. Other important financial institutions are the
commercial banks (in the public and private sector), cooperative banks, regional
rural banks and development banks. Non-bank financial institutions include finance
and leasing companies and other institutions like LIC, GIC, UTI, Mutual funds,
Provident Funds, Post Office Banks etc.
There were lot of issues in the pre reform days i.e before 1991 like unregulated
financial system, mostly system driven by the money lenders, mobilization is the key
challenge, banks are becoming insolvent etc. Post reform period i.e after 1991 the
scenario has changed a bit due to the recommendation given by Narasimham
Committee in 1991. Key changes that took place were like reduction is SLR and CRR,
LPG took place, private participation increased etc.
In the current financial market though the problem has reduced but some issues are
still there. The issues relating to the Indian Financial sector related to financial
market, financial institution, regulation or the services offered by the intermediaries
are discussed in the following section
i.

Inter-linkages among the financial markets: Main problem in Indian

financial market is lack of inter-linkages among the various financial
markets.
The dream of all central banks is to see the various segments of financial markets
working in a smooth and well-coordinated manner. Well-developed financial
markets help central banks to effectively conduct monetary policy with the use of
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market-based instruments. The inter-linkages between money market, government

securities market and foreign exchange market are now fairly well established.
However, as in financial markets in other developing economies, the capital markets
in India are not yet fully integrated with the other segments of the markets. While the
extent of integration between capital market and other segments of financial markets
is much deeper in the developed economies. This is more so because typically equity
prices are more sensitive to news than to the underlying fundamentals.
ii.
Issues on Indian Banking sector:
In the context of Indian banking sector the main issue is consolidation,
which is the main problem in the banking industry at all.
The largest bank of China having its asset base over US $400 billion whereas two
largest banks in India containing its asset base around US $130 billion and US $80
billion, one is public sector and other from private sector side. Though currently
Indian govt. had passed a bill to raise fund and allow the FDI to invest in the private
banking sector but still it is far more distance to mitigate the issue of consolidation.
The Reserve Bank has also on its part, suggested certain changes in the Banking
Regulation (Amendment) Bill, 2003 that seek to address some of the legal
impediments arising in the consolidation process.
Another problem in the banking sector is the Management of Sticky Assets.
This is a key to the stability and continued viability of the banking sector. Although
the ratio of nonperforming loans to total assets are higher in comparison to
international standards, the Indian banks have done a marvellous job in containment
of nonperforming loans (NPL) in recent times. Non-performing loans to total loans
of banks were 1.2 per cent in the US, 1.4 per cent in Canada and in the range of 2-5
per cent in major European economies. In context to the same scenario for the
Indian banks gross NPL is currently 4.45% in 2015 and its in an increasing trends. In
2013 it was around 3.05%. So its a great concern for Indian banking sector.
Another problem in banking sector is Credit delivery system.
The persistence of divergence between the informal and formal sector interest rates
in effect has meant that, with deregulation, the formal credit mechanisms have not
been able to pierce the informal system. The differences in apparent cost and total
real cost might be an important factor behind this divergence. Reducing the total
real cost in the formal sector is likely to be an important consideration to bring
about a degree of convergence between the price of credit between the formal and
informal sectors. In recognition of this fact, the last several annual policies have
placed explicit emphasis on streamlining credit delivery through a gamut of
measures, including, among others, widening the scope of infrastructure lending,
revamping the rural credit delivery system by envisaged restructuring of the rural
banking segment, widening the scope of priority sector lending etc.
iii.

Issues on Corporate Debt Market: Another important issues on Indian

Capital market is in still in developing stage from a long days. The
development of deep and liquid corporate bond market is necessary for
funding different projects also it can help for lending support to various
growing institution in India.
The primary corporate debt market is largely of the private placement type and is
concentrated among a few institutions both in terms of issuance and subscription.
On the other hand, the secondary market for corporate debt is virtually absent in
India. The stage for the development of a vibrant corporate debt market with a large
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issuer profile and investor base is now set with the successful development of the
government securities and money markets. With the development of an active
primary and secondary market in government securities, a sovereign yield curve has
emerged even for sufficiently longer-term securities. An efficient clearing and
settlement system and credit rating system also exist. Some steps are still required to
improve standards of public disclosure, implement bankruptcy laws and enhance
supporting infrastructure. There is also need to broaden the institutional investor
base, standardise products and reduce transaction costs.
iv.

Financial illiteracy: Another issue relating to financial sector is financial

illiteracy due to that many of the Indian household still believe in putting
their money in bank FD or post office. Still they dont believe in equity
market or debt market, they thought that if you invest in stock market your
money can go into the vain so financial market is still not efficient as
maximum portion of the money are into the banking head.
The survey divided consumers on three aspectsbasic money management (50%
weight), financial planning (30% weight) and investment (20% weight)to arrive at
the overall financial literacy index. On individual parameters, India scored 50 index
points in basic money management, which was lowest among 16 countries. With
respect to financial planning, which involves savings and planning for the
unexpected and retirement, India showed improvement from the last round of
survey and scored 76 index points and for investments it scored 58, one index point
lower compared with last year. According to the report, for Indians, the lack of ability
to keep up with bills, set money aside for big item purchases and to pay off credit
cards fully could be due to a lack of surplus cash, resulting from the fact that income
levels are not high enough to cover expenses.
v.

Institutional Investment in Capital Market: As in case of India household

savings continue to remain the major source of funds for the Indian
financial system, it had been seen that there was a shift in the willingness
of investor towards investing in safe instruments.
A main reason is the volatility of the stock market. Rather than investing directly in
the stock markets, retail investors are preferring to route their investments through
avenues such as mutual funds and insurance companies. The size of the mutual fund
industry in India is, however, still quite small as compared to the developed
countries. At present, the mutual funds in India are so far more active in the debt
markets and less so in the equity markets. There have been some concerns in the past
regarding skewed holding pattern of mutual fund schemes with dominance of few
large investors, like corporates. It needs to be emphasised that the mutual funds
essentially provide an avenue for investments to small investors who are not well
equipped to manage risks on their own. As this industry grows, the regulators would
have to take steps to ensure that it develops on sound lines.
vi.

Venture Capital: For funding start-up firms, the role of venture capital can
hardly be missed. The venture capital financing is especially important as
they can focus on certain sunrise industries and also provide guidance to
the start-up firms in the initial stages of their development.
They play a very useful role in solving the problem of pre-IPO financing. The venture
financing has not picked up that satisfactorily in India possibly because of stringent
regulations. Several issues relating to lock-in of shares, exit options, freedom to
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invest in various types of instruments, modes of investment and some tax-related

issues need to be addressed to encourage flow of venture capital funds in India.
vii.

Challenges to Regulation & Supervision: As the Indian financial system

undergo structural changes relating to ownership, competition and
integration with global financial markets, the necessity of an ongoing
restructuring of the regulatory framework and improved monitoring of the
embedded risks in the financial system was also recognized. The hallmark
of Indian regulatory response has been its inclusive approach through a
consultative framework, increased emphasis on self regulation and
strengthening of market participants through measures of capital
adequacy, corporate governance and effective internal control
mechanisms. Increasingly, on-site supervision is being complemented by
Risk based Supervision (RBS).
Presently, the RBS has been used in 23 Banks on a pilot basis, but one can certainly
visualize the extensive use of RBS by regulators in India in the near future. In view of
the complex nature of operation of financial conglomerates, the Reserve Bank of
India is putting in place appropriate supervisory strategies. Regulatory initiatives
also include consolidation of domestic banking sector, restructuring of Development
Finance Institutions and appropriate timing for the significant entry of foreign banks
so as to be coterminous with the transition to greater capital account convertibility
while being consistent with our continuing obligation under the WTO commitments.
In respect of foreign banks, regulatory initiatives are directed at choice of the mode
of presence, acceptable transition path, according national treatment, addressing
supervisory concerns, linkages between foreign banks and their presence in other
(non-banking) financial services.
viii.

Complex Structure: The Financial Sector Legislative Reforms Commission

(FSLRC), constituted by the Ministry of Finance in March 2011, was asked
to comprehensively review and redraw the legislations governing Indias
financial system. According to the FSLRC, the current regulatory
architecture is fragmented and is fraught with regulatory gaps, overlaps,
inconsistencies and arbitrage. To address this, the FSLRC submitted its
report to the Ministry of Finance on March 22, 2013, containing an
analysis of the current regulatory architecture and a draft Indian Financial
Code (IFC) to replace the bulk of the existing financial laws.
The draft Code is a non-sectoral, principles-based law bringing together laws
governing different sectors of the financial system. It addresses nine components,
which the FSLRC believes any financial legal framework should address. These
contains Consumer protection, Monetary Policy, Micro-prudential regulation,
Systematic risk, Development and redistribution, Public debt management, Capital
control, Resolution and Contracts, trading and market abuse.
Another thing that IFC proposed is to reduce the complex structure of financial
system in India. Currently suppose a bank has to report to RBI, SEBI and also IRDA
as because it is dealing with insurance, capital market. So it creates a complex
regulation for an institution. To eliminate this issue IFC propose to create a unified
regulatory body which will control the whole thing at a time.
ix.

Monopolistic market in Insurance sector: In the insurance sector the

market is still monopolistic in nature though there are lots of private
player exist still the upper hand is on some top player in India.
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In the General Insurance segment top player is New India Assurance with a market
share of around 32-35% where as in life insurance segment the ball is in Life
Insurance Companys (LIC) court with around 60% market share.
In the present scenario through there are a lot of private companies like ICICI
Lombard, SBI Life insurance co., PNB metlife, Reliance life insurance co. etc. But still
they are fighting each other to provide a challenge with the others.
x.

Issues on Long term financing or Infrastructure financing: The biggest

challenge in Indian financial sector at this juncture is to find sources for
funding investments in long gestation projects including infrastructure. As
in most other emerging market economies, corporate sector in India is
often credit constrained. The shortage is particularly marked with respect
to longer-term finance with the constraint being particularly severe for the
small and medium-size firms.
Traditionally, the development financial institutions (DFIs) were the major source of
long-term finance in India. The corporate sector's need for long-term funds for
project implementation was earlier met by the three development finance
institutions which have mutated in course of reforms and liberalisation of the
financial sector Industrial Development Bank of India (IDBI), Industrial Credit
and Investment Corporation of India (ICICI) and the Industrial Finance Corporation
of India (IFCI). These were conceived as development finance banks and provided
long-term loans to companies. In the wake of financial sector reforms and invasion of
the idea of universal banking, two of the Development Finance Institutions (DFIs)
were allowed to undertake commercial banking. In due course, they metamorphosed
into full-fledged commercials only and the DFI role vanished altogether. We are,
thus, left with IDBI Bank and ICICI Bank but no DFI. The third one namely, IFCI ran
into the problem of non-performing assets and total mismanagement. So it becomes
a difficult job to take and carry forward the infrastructure projects as the DFIs are
turning into the banks.
The various steps taken by the Government to meet the challenges of a complex
financial architecture and issues have ensured that a new face of the Indian financial
sector is emerging to culminate into a strong, transparent and resilient system. The
situation however is quite dynamic and there would be changes, which we are unable
to anticipate now. It is clear, however, that the financial sector players of the future
will emerge larger in size, technologically better equipped and stronger in capital
base. The regulatory as well as the self-regulatory mechanisms will match up to the
best worldwide thereby ensuring that the health of the Indian financial system is not
only preserved but improved upon and its ability to withstand shocks, which are
inevitable with global integration, remains strong.

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