INDIAN BANKING SYSTEM

Topics Proposed
 History
 Banks : Evolution, Industry Dynamics, Regulatory Framework
 Banking Sector -Today
 Retail Banking
 Investment Banking
 Asset Management Companies
 Insurance
 Financial Intermediaries & Infrastructure
 Basics of Risk Management
History

PHASE I:-The General Bank of India was set up in the year 1786. Next
came Bank of Hindustan and Bengal Bank. The East India Company
established Bank of Bengal (1809), Bank of Bombay (1840) and Bank of
Madras (1843) as independent units and called it Presidency Banks.

PHASE II:- Nationalisation of Imperial Bank of India with extensive

banking facilities on a large scale specially in rural and semi-urban areas.
It formed State Bank of India to act as the principal agent of RBI and to
handle banking transactions of the Union and State Governments all over
the country.
Seven banks forming subsidiary of State Bank of India was nationalised
in 1960 on 19th July, 1969, major process of nationalisation was carried
out. 14 major commercial banks in the country was nationalised.

PHASE III:- This phase has introduced many more products and facilities
in the banking sector in its reforms measure. In 1991, under the
chairmanship of M Narasimhama, a committee was set up by his name
which worked for the liberalisation of banking practices.
 A Decade of change and evolution…
Pre-reform The 1990s Today

 Extensive  Liberalisation  Resilient

regulation  Globalisation industry
Indian
 Focus on  Structural  Buoyant
economy
industrial change – services
sector services sector
 Diversified
 Opening up
 Highly financial
of various
Financial segmented groups
sub-sectors
sector  Public sector  Globally
 Private sector
dominance benchmarke
participation
d
..financial sector mirroring macro-economic
change
PRE-GLOBALIZED SCENARIO OF
SERVICE CULTURE IN THE INDIAN BANKS

FORMALIZED

CUSTOMER UNFRIENDLY

NON COMPETETIVE
SERVICE CULTURE
ATTITUDE.
WAS EXTREMELY

PRODUCT FOCUSED & NOT

CUSTOMERSERVICE FOCUSED.

DEMOTIVATED & NON INTERESTED

EMPLOYER& EMPLOYEE.
The Banking Sector Today

Depth
 Countrywide coverage
 Large number of players
 Increasingly
sophisticated financial
markets
Diversification
 Emergence of integrated
players
 Diversifying capital
deployment
 Leveraging synergies

Technology Regulation
 Robust regulatory system
 Increasing use of
aligned to international
technology in operations
standards
 Poised to expand and
 Efficient monetary
deepen technology usage
management

6
Sector Snapshot

 Total assets of US$ 335 billion

Size  Total deposits of US$ 279 billion

 Over 290 scheduled banks

 Public sector: 27
Number of  Private sector: new – 9; old – 24
banks  Foreign: 37
 Over 190 regional rural banks

 Over 66,000 branches

 Public sector: 46,000
Branch  Private sector: 5,500
network  Foreign: 190
 Regional rural: 14,400

7
 A New orientation among banks…
Traditional/ public sector New/ private sector
 Sell products  Meet customers’ needs
 Product research: what  Customer research:
will sell? what does the customer
 Product sales and want?
profitability targets  Customer segment
 Product specialist sales and profitability
groups targets
 Introduce new  Customer owners
offerings every few  Customer specific new
years/months offerings every
 “Branch banking” week/day
 Focus - customer  Customer convenience
acquisition  Deepen relationships

8
 Technological Architecture

Channels
(ATM, Internet,
Analytics. Mobile, Phone)

Transaction Product Processors

Monitoring/AML Retail Bank
CBS

CRM Product Processors

Corporate Bank

Anciliary systems
(HRMS, Portal ) General Ledger
Technology- leads the Winning Combination

“The winners will be those institutions that tie their technology to their
strategies and at an optimum cost in order to meet their challenges.”

Cost
• Cutting Cost through Integration
• Better Information Management
Customer
• Reaching Customers Faster
• Managing Diverse Needs
Competition
Key Banking • Competitive Edge in
Technology Aspects technology over very
short life cycle.

Performance & Evaluation

• Better analytics to drive quality
• Objective Evaluation Process
Risk Management
Complexities
•Easier Risk Identification
•Early warning capabilities
•Easier to Assess Risks
Major drivers for Banking Sector, world wide
Importance of Core Banking Solution

Benefits of CBS
 Faster Response to Customer Demands

 Allows Faster New Product Developments

 CBS Architecture Allows for Existing Products to be

Quickly Customized

 Online Validation of Data – at the Time of Entry

 Independent from the Organization Structure and

Supports the four Primary Entities – Customer,
Account, Product and Business Organization

 Runs in Real Time Update Mode

RBI- Regulator Background
History:- Become operational on April 1,1935
Nationalized in the year 1949
Major objectives:-
Regulate the issue of banknote
Maintain reserve with a view to securing monetary
stability
To operate the credit and currency system of the
country to its advantage
Functions of RBI
The function are classified into three heads;-
1.Traditional functions
2.Promotional functions
3.Supervisory functions
How it controls banks & economy :-
Tools-(as on2nd Nov,2010)
CRR- 6.00%
REPO RATE- 6.25%
REVERSE REPO RATE- 5.25%
STATUTORY LIQUIDITY RATIO(SLR)- 25%
Reforms in Banking Sector
 Government equity in banks has been reduced and
strong banks have been allowed to access the capital
market raising additional capital.
 Bank now enjoying the operational freedom in terms
of opening of new branches and bank having good
track record of profitability given flexibility in
recruitment.
 New private sector banks have been set up and
foreign banks are allowed to expand their function in
India including through subsidiaries.
 Banks are also allowed to set up off shore banking
units in SEZ.

 New instrument have been introduced for better

flexibility and better risk management like interest
rate exchange, cross currency forward contract.
Private Sector Banks
 Private sector banks are better capitalized compared to PSU Banks in case of
rising NPLs

 More seasoned loan book resulting in less incremental NPLs

 NIM are stable as the PLR cut is not much compared to PSU banks

 Pvt Sector banks to improve margins due to steep decline in deposit cost
(decline in wholesale deposit cost by 400-500 bps point)

 Top 3 pvt banks has a significant portion of their revenue coming from capital
market linked business. While the capital markets are expected do well in the
near future it bodes well for the private sector banks

 Majority of the top private banks are in a process to consolidate their balance
sheet, to restructure their balance sheet, reduced NPLs, restructured loans
and slippages which is good in the long term

 Increased thrust on the CASA deposit i.e., primarily focusing on the low cost
deposit

 Private banks have been historically innovative and technologically superior

Private Sector Banks
Things to watch for:

 Private sector banks have been conservative in last few quarters, restructuring
there balance sheet which will have a negative impact on the NIMs,
profitability, ROE in the coming quarters

 Private sector banks have relied heavily on capital market linked activity,
approximately 30-40% of their revenue and net worth is relied on third party
distribution products. Any downfall in the capital market will have a significant
impact on the bottom line of the company

 Private sector banks trades at a lower ROE (13-14%) compared to public

sector banks (17-18%)

 Cost of funding at 6.5% is higher in comparison to Public sector banks (6%)

 Private sector banks might need to account for MTM losses, provisions etc
due to its presence in uncertain international markets
Public Sector Banks
 Despite higher ROE, PSU banks are trading at a lower P/BV

 Strong operating performance and profitability

 Strong Earnings growth

 Improving Quality of earnings

 No MTM losses

 Banks have significant franchise value

 Improving quality of earnings

 PSU banks have been more aggressive in lending which will help it to
increase its profitability, NIMs, ROE

 Increased focus on low cost deposit by rapidly increasing the branches

leading to a decline in the funding cost

 Improved focus on non-banking revenues (Asset Management, Private Equity,

IB etc), leveraging on its existing branch network
 Public Sector Banks
Things to watch for:
 PSU Banks are likely to face more margin pressure compared to private sector banks:
 Lending rates have been cut much more then private sector banks
 Lending in a weak corporate environment
 High cost deposit mobilized during the second half of 2009
 Excess investment in government securities and parking of excess funds with RBI
carry's a negative yield on investment portfolio
 PSU banks are more likely to be persuaded by Government to reduce the lending rates
 Operating expenses for the PSU banks are likely to go up due to higher wage increase
and transfer from PF to pensions
 Restructuring has been high in PSU banks resulting in a increase in NPLs
 Cautious on fundamentals due to slowing loan growth, declining margins (NIMs) and
rising credit costs
 Employee productivity and profit per branch have always been a concern in compared to
private sector banks
 Traditionally, PSU banks have been laggard in technology
 Asset quality will be a concern in a long run due to aggressive lending in a weak
corporate environment
 Yield on advances at 9.5% is lower compared to private banks (11%)
Public Sector v/s Private sector Banks

Pvt Banks Public Banks

C/D 77% 73%

Inv/Dep 41% 33%
Asset/Equity 10.3 17.3
Cost of Dep 6.5 6.0
Yield on Dep 7.3 7.4
Yield on Inv 11 9.5
NIM 2.7 2.4
NII/Total Inc 57.3 67.1
RoE 13.4 17.2
RoA 1.0 1.0
Important numbers
 Highest credit Growth
 PSU Banks: PNB(38%)
 Pvt Banks: Axis(28%)
 Highest Deposit Growth
 PSU Banks: SBI(36%)
 Pvt Banks: Axis(24%)
 NIM
 PSU Banks: PNB(3.4%)
 Kotak Mahindra Bank(6%), HDFC BK(4.1%)
 CASA
 PSU Banks: PNB(38%), SBI(38%)
 Pvt Banks: HDFC BK(45%), Axis Bank (40%)
 Provision
 PSU Banks: PNB(89%), BoB(81%)
 Pvt Banks: HDFC Bk(71%), Axis Bank(59%)
 Credit Spread
 PSU Banks: PNB(4.9)
 Pvt Banks: Yes Bank(4.4)
New Initiatives in banks

 Technology savvy: SBG daily 11 lakh ATM transactions amounting to

 Rs 140 crore per day
 Specialized branches
 New products targeted at specific groups
 Change in structure, systems and procedures involving quick
 turnaround time to meet world standards
 Marketing orientation
 Change in ambience
 Recruitment of specialists
 Tie-ups, sharing networks, and strategic alliances
Structural Issues

 Non-performing assets
 Legacy systems
 Low levels of technology
 Seller’s market mindset
 Low level of innovation in products and
services
 Limited responsiveness to customers’ needs

The Indian banking sector has responded to

these structural issues by adopting certain
strategic imperatives
With significant success in resolution

(%) Gross NPAs as % of GDP

50.0%
43% 43%
40%
40.0%
30%
30.0%

 Position much 20.0% 15%

stronger than other 10.0% 4%
Asian economies 0.0%

Jap an
Chi na

I nd i a
S. Ko re a
M a l a y si a
T ha i l a nd
 Net NPL accretion
tapering off with
progress in asset US$ bn
resolution and
increase in
provisioning levels

Source: E&Y, RBI

Bank Lending as percentage of Deposits

Country Lending as percent of

Deposits
China 130
UK 114
Malaysia 101
USA 92
India 61
 Summary
 The reform and liberalization process has transformed the
Indian economy

 Structural shift with service sector growth

Immense potential to leverage technology and
knowledge capital
 Improved competitiveness in manufacturing after
intermediate period of restructuring & rationalization
 Growing international linkages

Exports, manufacturing and distribution overseas
 India as a manufacturing base
 Globally benchmarked businesses, capable of
competing internationally
 Summary (contd).

 The banking sector has achieved significant success

in addressing legacy concerns
 Resolution of asset quality concerns through
recovery, restructuring and provisioning
 Evolved a unique model on low cost
technology
 The economic transformation provides major
opportunities for the banking sector
 Retail finance – credit and banking services
 Corporate finance - banking services and
structured finance
 Financial Inclusion
 The sector is poised to capitalize on these
opportunities
IT spend in India is at an inflection point driven by increased domestic corporate spending
and increasing consumer sophistication

Domestic IT spend
USD billion

* ▪ India is the
fastest growing
*
* IT spender in
* Asia market

* * ▪ By 2020 India
* has the potential
* * to become Top 3
* * * IT markets
* globally
* * *
*
Services *
Hardware
Software *
* * * * *

* * * * * * * *
27
SOURCE: Nasscom
 Key contributors to this growth in technology services will be BFSI,
government and telecom
Domestic IT services and software industry

$b CAGR, %

16
* * 48-60
* 20
* *
* * * 19
*
* 21
* 12
* 18

* * 14
*

Government 20
* *
and education

* * * 16

* *
28
SOURCE: McKinsey team analysis; global insight data; NASSCOM data; Gartner
 There is no correlation between IT productivity jump and jump in IT intensity at the
macro-economic level
CAGR, %
Jump in productivity growth rate1

“Non-IT story” “New economy”

Securities

Electronics Industrial machinery

(semiconductor) (computer manuf.)
Retail

Wholesale
Banks
Hotels
Telecom

“No story” “Paradox”

Jump in IT capital intensity growth rate2

1 Jump in real value-added per persons engaged in production (PEP) growth rate between 1987–95 and 1995–2000
2 Jump in real IT capital stock per PEP growth rate between 1987–95 and 1995–2000
29
SOURCE: Bureau of Economic Analysis; McKinsey Global Institute
 Retail, healthcare, transportation and government are likely to be the next wave of adopters

IT Spend
% of revenue
High growth sectors
*
*
* *

*
*
*
* *
*
* *
* *
*
*

CAGR 2008–2020
%

SOURCE: McKinsey team analysis; global insight data; NASSCOM data; Gartner 3
 IT can transform India by harnessing technology to enable inclusive
growth

Areas Potential of ICT solutions

50% of Indians do not have access to primary healthcare –

Healthcare technology can provide it at half the cost

80% of Indian households are unbanked – technology can enable

Financial services
access for 200 million families

India faces a 3-fold shortage in teachers – technology can address

Education
this through remote solutions

Public India suffers from a leakage of 40-50% in public food distribution –

services technology can ensure transparency

31
SOURCE: Expert interviews; McKinsey analysis
Key messages
India is at an inflection point in the adoption of it enabled solutions
▪ IT spending, tele-density and corporate sophistication to drive technology
adoption
▪ Health care, retail, transportation and government are likely to drive next wave
of technology adoption
▪ ICT solutions can transform India by enabling inclusive growth and help
overcome the challenges of rising population

However, globally it has been proven that IT alone is not a silver bullet
▪ There is no correlation between IT productivity jump and jump in IT intensity
▪ IT is an enabler but alone is not sufficient - managerial innovation, competition
and to some extent demand cycles
▪ Successful IT applications shared three characteristics

Hence, the role of CIO in India has to be transformational

▪ To be transformational CIOs need to play four different roles in their
organisation
▪ Very few will be able to play all four roles as it requires different skill set
▪ CIOs can choose which role to play based on their personal strengths and
their company context
32
 There is no correlation between IT productivity jump and jump in IT intensity at the
macro-economic level
CAGR, %
Jump in productivity growth rate1

“Non-IT story” “New economy”

Securities

Electronics Industrial machinery

(semiconductor) (computer manuf.)
Retail

Wholesale
Banks
Hotels
Telecom

“No story” “Paradox”

Jump in IT capital intensity growth rate2

1 Jump in real value-added per persons engaged in production (PEP) growth rate between 1987–95 and 1995–200
2 Jump in real IT capital stock per PEP growth rate between 1987–95 and 1995–2000
33
SOURCE: Bureau of Economic Analysis; McKinsey Global Institute
 However, IT investments combined with strong management delivers value at micro-
economic (corporate) levels
Systematic correlation between IT investment and productivity (LSE Research)
Increase in total factor productivity, %

Top
quartile
+8% +20%
Manage-
ment
practice
score

Bottom
quartile
0 +2%

Bottom quartile Top quartile

Intensity of IT deployment

The LSE research stated that IT intensity increased productivity,

particularly where there was strong management

34
1 McKinsey Global Institute research; London School Of Economics and McKinsey research
 ILLUSTRATIVE
Further, India is driving innovation using technology in several areas

IT led innovations

▪ UID for improved Government to Citizen services

Public services

▪ State of the art call centre to provide emergency assistance

Healthcare ▪ Using technology to provide remote medical care

▪ Use of smart cards for microfinance customers

Financial
▪ Pilot project with payment processors to deploy wireless POS
inclusion

▪ Smart grids for optimizing distribution losses

Power ▪ Use of IT to bring down bill generation from 1 month to 3 days

35
SOURCE: Press search
Key messages
India is at an inflection point in the adoption of it enabled solutions
▪ IT spending, tele-density and corporate sophistication to drive technology
adoption
▪ Health care, retail, transportation and government are likely to drive next wave
of technology adoption
▪ ICT solutions can transform India by enabling inclusive growth and help
overcome the challenges of rising population

However, globally it has been proven that IT alone is not a silver bullet
▪ There is no correlation between IT productivity jump and jump in IT intensity
▪ IT is an enabler but alone is not sufficient - managerial innovation, competition
and to some extent demand cycles
▪ Successful IT applications shared three characteristics

Hence, the role of CIO in India has to be transformational

▪ To be transformational CIOs need to play four different roles in their
organisation
▪ Very few will be able to play all four roles as it requires different skill set
▪ CIOs can choose which role to play based on their personal strengths and
their company context
36
Several of these major changes are presenting significant
threats and opportunities to Indian CIOS
Drive
business
innovation
Commodity functions
(e.g. infrastructure)
combined with other
Drive
shared services (e.g.
procurement business
differentiation

Business increasingly
driving and owning IT
agenda reducing CIO to
Drive scale
order taker
and efficiency

Increased outsourcing
reducing role of CIO to
a “vendor manager”

THREATS OPPORTUNITIES
37
Wholesale Banking
 Transaction Services
 Cash Management Services
 Trade Solutions
 Securities Services

 Treasury Services
 Risk Treasury Function
 Sales & Structuring
 Trading

 Corporate Finance
 Loans
 Capital Markets
 Advisory
Retail Banking
 Branch Banking
 Liabilities
 Investments
 Wealth Management

 Consumer Loans
 Secured & Unsecured Loans
 Risk Management

 Cards
 Credit/Prepaid/Debit Cards
 Merchant Acquiring
 Risk Management
Investment Banking

 Client Services
 Trading
 Equities - Agency business
 Equity Capital Markets
 Debt Capital Markets
 Advisory
 Alternative Investments
 Private Equity
 Real Estate, Distressed & other Asset classes
Asset Management Companies

 Legal Organization
 AMC
 Trust & Trustees
 Products & Services
 Debt, Equity, Hybrid, Arbitrage, Commodities
 Open, Close, ETF
 Portfolio Management Services
Insurance

 Products & Services

 Life , General, Health
 Asset Management Products

 Regulatory Framework
 Business Drivers – Capitalization, Distribution, Claim ratios etc.
Financial Intermediaries & Infrastructure

 Non Bank Finance Companies

 How are they different from Banks?
 Products & Services offered
 Regulatory framework for NBFC’s
 Recent Trends

 Broker-Dealers
 Products & Services
 Regulatory Framework
 Recent Trends

 Exchanges
 Stock Exchanges
 Commodity Exchanges
 Currency Futures

 Clearing Corporation of India Limited

 NSDL & CDSL
 CIBIL