Pre and Post Reforms in Indian

Financial System

 Group Members:-
 Sakshi Vig- 43
 Rishik Shetty- 104
 Sunil Lala- 51
 Premjeet Pakhare- 74
 Tarun Pamnani- 55
Pre and Post reforms in Indian
financial system

 A 'financial system' is a system that allows the

exchange of funds between lenders, investors, and
borrowers. Financial systems operate at national and
global levels. ... Money, credit, and finance are used as
medium of exchange in financial systems
 Importance
 Financial sector reforms refer to the reforms in the
banking system and capital market.
 An efficient banking system and a well-functioning capital
market are essential to mobilize savings of the households
and channel them to productive uses.
 The high rate of saving and productive investment are
essential for economic growth.
 Prior to 1991 while the banking system and the capital
market had shown impressive growth in the volume of
operations
 Drawbacks of Pre Financial reforms

 The weaknesses of the banking system was extensively

analyzed by the committee (1991) on financial sector
reforms, headed by Narasimham. The committee found
that banking system was both over-regulated and under-
regulated.
 Prior to 1991 system of multiple regulated interest rates
prevailed. Besides, a large proportion of bank funds was
preempted by Government through high Statutory
Liquidity Ratio (SLR) and a high Cash Reserve Ratio
(CRR). As a result, there was a decrease in resources of
the banks to provide loans to the private sector for
investment.
 This preemption of bank funds by Government
weakened the financial health of the banking system and
forced banks to charge high interest rates on their
advances to the private sector to meet their needs of
credit for investment purposes.
 Further, the lack of transparency in the accounting
practice of the banks and non-application of
international norms by the banks meant that their
balance sheets did not reflect their underlying financial
position.
 This was prominently revealed by 1992 scarcity scam
triggered by Harshad Mehta. In this situation the quality
of investment portfolio of the banks deteriorated and
culture of’ non-recovery’ developed in the public sector
banks which led to a severe problem of non-performing
assets (NPA) and low profitability of banks. Financial
sector reforms aim at removing all these weaknesses of
the financial system.
Types of Financial Sector Reforms
 Reduction in Statutory Liquidity Ratio (SLR) and Cash
Reserve Ratio (CRR)
 An important financial reform has been the reduction in Statutory
Liquidity Ratio (SLR) and Cash Reserve Ratio (CRR) so that more
bank credit is made available to the industry, trade and agriculture.
 SLR which was as high as 39% of deposits with the banks has been
reduced to 25%.In 2008,SLR was reduced to 24% by RBI.
 CRR which was 15% was reduced to 4.5% in June 2003.
 Reduction in SLR and CRR also made possible for RBI to use open
market operations and changes in bank rate as tools of monetary
policy to achieve the objectives.

 End of Administered Interest Rate Regime:

 A basic weakness of the Indian financial system was that interest
rates were administered by the Reserve Bank/Government. In the
case of commercial banks, both deposit rates and lending rates
were regulated by RBI. The purpose behind the administered
interest-rate structure was to enable certain priority sectors to get
funds at concessional rates of interest.
 Competitive Financial System:
 Accordingly, private sector banks such as HDFC, Corporation Bank,
ICICI Bank, UTI Bank, IDBI Bank and some others have been set up.
Establishment of these banks has made substantial contribution to
housing finance, car loans and retail credit through credit card
system.Wider use of plastic money, Debit and Credit Cards.
 Competition has also sought to be promoted by permitting liberal
entry od Branches of private sector banks, foreign banks, CITI bank,
American Express in the Metropolitan cities.
 Liberalization of FDI in banks

 Prudential Norms: High Capital Adequacy Ratio

 In order to ensure that financial system operates on sound and
competitive basis, prudential norms, especially with regard to
capital-adequacy ratio, have been gradually introduced to meet the
international standards.
 Capital adequacy norm refers to the ratio of paid-up capital and
reserves to deposits of banks. The capital base of Indian banks has
been very much lower by international standards and in fact
declined over time.
 Capital adequacy norm of 8% based on risk-weighted asset ratio
system has been introduced in India.
 Non-Performing Assets (NPA) and Income
Recognition Norm:
 Non-performing assets of banks have been a big problem of
commercial banks. Non-performing assets mean bad loans,
that is, loans which are difficult to recover.
 A large quantity of non-performing assets also lowers the
profitability of bank. In this regard, a norm of income
recognition introduced by RBI is worth mentioning.
According to this, income on assets of a bank is not
recognized if it is not received within two quarters after the
last date.
 In order to improve the performance of commercial banks
recovery management has been greatly strengthened in
recent years. Measures taken to reduce non-performing
assets include:-
 Restructuring at the bank level, Recovery of bad debt
through Lok Adalats, Civil Courts, setting up of Recovery
Tribunals and compromise settlements.
 MONEY MARKET
Condition of Money Market in the pre-reform period
(before1991)

Financial system functioned in an environment of constriction, driven

primarily by fiscal compulsions. It was geared to provide significant
support for Government expenditure.

The monetary and debt management policy was underlined by excessive

monetisation of Central Government's fiscal deficit.

Money and Govt. Securities market did not display any vibrancy and had
limited significance in the indirect conduct of monetary policy.Money
Market instruments were few.

Market had a narrow base and limited to a few participants - commercial

banks and six all India Financial Institutions
 Rate of interest on money market instruments was regulated.

 Money market instruments consisted of Treasury Bills (91-days T-Bills) and

term securities of different maturities issued by the Central and State
Governments.

 The average maturity of securities remained fairly long, that is above 20-
years, reflecting the preference of more the Issuers than those of the
Investors

 Government borrowings were done at rates, which were far below the
market rates.For example,for 30-year securities the interest rate was low at
 6.5 per cent in 1977-78.The Policy led to distortions in the Banking System
with high lending rates on certain segments combined with relatively low
interest rates ondeposits.
REFORMS IN THE INDIAN MONEY
MARKET
 Indian Government appointed a committee under the chairmanship of Sukhamoy
Chakravarty in 1984 to review the Indian monetary system. Later, Narayanan Vaghul
working group and Narasimham Committee was also set up. As per the
recommendations of these study groups and with the financial sector reforms
initiated in the early 1990s, the government has adopted following major reforms in
the Indian money market.
 Deregulation of the Interest Rate : In recent period the government has
adopted an interest rate policy of liberal nature. It lifted the ceiling rates of the
call money market, short-term deposits, bills rediscounting, etc. Commercial banks
are advised to see the interest rate change that takes place within the limit.

 Money Market Mutual Fund (MMMFs) : In order to provide additional

short-term investment revenue, the RBI encouraged and established the Money
Market Mutual Funds (MMMFs) in April 1992. MMMFs are allowed to sell units to
corporate and individuals. The upper limit of 50 crore investments has also been
lifted. Financial institutions such as the IDBI and the UTI have set up such funds.
 CAPITAL MARKET REFORMS
 Primary CapitalMarket:
 SEBI was set up in 1988 as non statutory body.It was given statutory
powers through the enactment of SEBI Act, 1992 for regulating
securities market.
 Diversification of infrastructure of Primary Capital market by setting up
large number of merchant bankers,investment and consulting agencies.
 Institutionalization of market started in 1987-88 when mutual funds
sponsored by banks and financial institutions were set up and gained
momentum in 1990 when mutual funds were set up in privatesector.
 The requirement to issue shares at par value of Rs. 10 and Rs. 100 was
withdrawn.
 Companies are required to disclose all material facts, specific risk
factors associated with their projects while launching public issues
and it must ensure fair and truthful disclosures.
 To reduce the cost of issue, underwriting by the issuer was made
optional,subject to the conditions.
 Secondary CapitalMarket:
 The new stock exchange at national level was set up in the 1990s.
 Over the Counter Exchange of India,1994
Inter-connected Stock Exchange of India,1999
 Framing and Implementing codes of corporate governance by
the committee appointed by SEBI under the chairmanship of
Kumar Mangalam Birla, to protect the interest of stakeholders.
 Companies are allowed to buy-back their own shares for capital
restructuring, subject to conditions that buy-back must not
exceed 25% of the paid up capital and it must be done to enhance
liquidity and wealth of shareholders.
 In February 1999, trading terminals were allowed to be set up
abroad to facilitate market participation by non-residents.
Internet trading was permitted in February 2000.
 It is mandatory for all brokers to disclose all details of
block deals. Block deals includes trading which accounts
more than 0.5% of equity shares of that listedcompany
 FII’s and NRI’s were permitted to invest in all exchange-
traded derivative contracts and participate in delisting
offers and disinvestment by the government in listed
companies.
 Securities Contract Regulation Act, 2004 was introduced
to protect the interest ofminority shareholder.
 KETAN PAREKH SCAM
 Ketan Parekh is a former stock broker from Mumbai, India Popularly known as
‘Bombay Bull’.
 KP arrested on 30 march 2001 for the security market scam known as Ketan
Parekh scam.
 He was convicted in 2008, for involvement in the Indian stock market
manipulation scam in late 1999-2001.
 Currently he has been debarred from trading in the Indian stock exchanges till
2017
 He was a trainee of Harshad Mehta.
 Ketan Parekh can be best described as the Pied Piper of Dalal Street
 KP took advantage of low liquidity in certain stocks which later came to be
known as‘K-10’ Stocks
 Held significant stakes in the K-10 companies
 The buoyant stock markets from January to July 1999 helped the K-10 stocks
increase in value substantially
 As a result other brokers and fund mangers started investing heavily in these
stocks,
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