© kno Peto" limi; lea,” tation ie anker, duties ang 1eque ? ed before T in India. d to the Act. -d cheque r runs in makings cuss the » law 0 fp 2005) NARASIMHAM COMMITTEE KEPORT PART I AND II SYNOPSIS e Introduction e Phases of Indian Banking e Problems of Indian Banking System e Narasimham Committee Report Part I Narasimham Committee Report Part II e Post Reform Position INTRODUCTION It is very important in this era of globalization that the financial systems of a country should be strengthened to face emerging markets and developing economies. A sound financial system serve as an important channel for achieving economic growth through the mobilization of financial savings and putting them to productive use Banking sector being a integral part of a financial system is thereby also required to be strengthened. Before parameters like nineties, banks in India were largely regulated and business growth and branch network were the major performance criteria, After the reform process since 1991-92, the ea operations changed significantly. These changes brought a baste in 'n the paradigm of Indian banking operations and in the mindset 0 and transforming various risks. 333.asingly to the advent of new rvival with growth and growth with coupled with competition from global cou ing exciting in the new millennium, Prone Ke emerged as the most important per! for bank ty has banks have initiated restructuring of their operatio: S. Man ly ns te emerging challenges in thé new market driven environment, meet the SES OF INDIAN BANKING Indian banking system over the years has gone through Vari phases. The evolution of banking since last 5 decades aa independence can be divided into following 5 phases “i Foundation Phase : It be gained from 1950s nationalization of banks in 1969. Focus was to lay sound banking system. ‘echnology 5, Profit, “The. mterparts mar’ imperatives Indian bank, formance criterion extending from foundation for 4 Expansion Phase : It gained moment banks and continued till 1984. Effort w: facilities available to masses by creating rural and semi-urban areas. um after nationalisation of ‘as made to make banking a branch network covering Consolidation Phase : It started in 1985 initiatives we RBI to improve house keeping, staff productivity. ere taken by customer service, credit management, Reforms Phase : After 1991 there were extensive financial sector reforms. Reforms brought deregulation of interest rates, more competition, technological changes, prudential guidelines on asset classification and income Tecognition, capital adequacy, autonomy packages etc. It was during this phase that Narsimham Committee teport was prepared and submitted, Post Reforms Phase : During this era there are developments in banking system. The focus is on bigger size, new innovative products. and global standards of serving. PROBLEMS OF INDIAN BANKING SYSTEM A Despite of progress made by Indian Commercial banks during ks. last two decades, there are still many problems faced by these ba" Some of them are listed below : 1, Indian banks are facing low profitability.AND IL 335 f of Indian banks have been Srowing rapidh y. 3. The capital uniform. 1 i base of Indian banks Was very low and not ind not 4, Many bank involve in window ¢ rolve Iressin, sheets. They artificially Increase their diet one of the nancial year Posits in last weeks 5. Some bank favour certain companies in advancing | Joans €ss, often these loans ‘turn 6. The quality of loan portfolios of many banks is very bad usually they advance loans under Political pressures. * 7. Many banks misutilise public deposits by indulging in share speculation. There have been various scams which revealed the negative role of public and private sector banks. 8. There have been reported many irregularities in maintaining accounts by the banks. This shows that Indian commercial banks are not operating properly. Therefore number of committees have suggested measures to improve this workings. One of the major committee and its recommendations are explained here under. _— NARASIMHAM COMMITTEE REPORT PART I(1991) fir committee on Financial system under the chairmanship of Sri M. simham laid down the blue print of financial sector reforms. The committee assumed that the financial resources of commercial banks came from gencral public therefore these funds should be deployed for maximum benefit of the depositors} This automatically implies that even the government cannot be all6wed to endanger the solvency, health and efficiency of nationalized banks. In order to ensure that the financial system operates on the basis of operational flexibility and functional autonomy with a view to enchancing, tficiency, productivity and profitability the committee recommended certain measures including phasing out statutory stipulations, directed tredit programmes, improving asset quality, institution of prudential "onms and better housekeeping in terms of accounting practices. FFCordingly ¢ objectives of (Ensuring degree of operational flexibility () Internal autonomy for the banks in their decision Making | process. (iii) Greater degree of professionalism in banking operatio, Aasimram Committee recommendation covered such § as directed investment, directed credit programmes, interest rates, structural reorganization of Indian b: ry the various recommendations of tl LDifected Investment The recommendations of the Narasimham Committee Under this heading were as under : CCts + Structure op anking system, Let the committee, us discuss cle; (@Atatutory Liquidity Ratio : original intention of regarding it as a prudential Tequirement and the Present practice of using it as a major instrument to mobilize funds for \°government and public sector financial institutions should be given up % immediately. SLR should be used with the SLR should be reduced from Statutory maximum of 38.5 Percent to 25 percent of net demand and time liabilities of banks over next five years, hich was principal instrument of monetary and credit control, 4- List Committee proposed that CR from its present high level of 15 per 2 Dig ed Credit P 7 Y Committee emphasized the Postulates of social banking ae” should not clash with sound banking. \ i Committee should be R should be progressively reduced Teent to 3 to S percent. rogrammes we Proposed that the system of priority sector lendint gradually phased out,am COMMITTEE REPORT PART | AND IL 337 » Priority sector should be redefined to comprise the small and marginal farmers, the tiny, small business and transport operators, village and collage industries, rural artisans and other weaker sections, » The credit target for this redefined priority sector should be fixed at 10% of aggregate credit. » The system should be reviewed after a period of three years to assess the need to continue or terminate the programme. sd Prada doctos cture of Interest Rates pole gro Pik ph endtocnele The level and structure of interest rates in the country should | - 2 pees be broadly determined by market forces. ? » All control and regulation on interest rates on lending and deposit rates of banks, financial institutions and also on debenture and company deposits should be removed. » Interest rate on govt. borrowings may also be gradually brought in line with market determined rates. » RBI should be the sole authority to simplify the structure of interest rates, » Bank rate should be anchor rate and all other rates should be closely connected to it. : LAM eho GAtmrent dL piiyele sec’ beuuls Capital Adequacy ~ i- 2 pare L Pave se o » The committee observed that the capital ratios of Indian banks are generally low and some banks are seriously under- capitalized. Poricyiaboomles > The basic committee on Banking Regulations and Supervisory Practices appointed by the Bank of International Settlements. (BIS) has prescribed certain capital adequacy standards-to be followed -by commercial banks. The BIS standard seeks to Measure capital adequacy as the ratio of capital to risk Weighed assets. > The BIS standard of 8% should be achieved over the period of three years by March 1996.—_ - BANKING LAW AND PRAC \iricome Recognition and Classification of Asset “>No income shoutd be recognized in the accounts in respect of NPAS. An asset would be considered non performing ip interest on such assets remain past due for a period exceeding 180 days at the balance sheet date. > Banks and Fis should be given 3 years period to move towards the above norms in a phased manner. » Assets should be classified into 4 categories. The Categories and provision required to be made are as under : Provision required Standard No Provision Substandard 10% of total assets under this category Doubtful 100% of security short fall plus| | 20 to 50% of further Provision, Lies To be fully written off or provided for upto 100%, Asset Reconstruction Fund (ARF) > ARF should be established to take over from the banks and Fis portion of bad and doubtful debts at a discount, The level of discount will be determined by independent Auditors on the basis of clearly stipulated guidelines, ARF should be given special recovery powers, Capital of ARF to be subscribed by the public sector banks | | and Fls. On the basis of the valuation given in respect of each as sscl the ARF would issue bonds to the concerned institution. 8, 5¢facture of Banking System > In order to bring gre e ‘ater efficiency in banking operations tht | committee suggested Substantial reduction in the number of | Public sector banks through mergers and acquition. Committee proposed 3 of 4 large banks (including SB!) | international in character, |. " shout ks with a network of branches throug ban 8ed in unive, rsal banking. “© operations would be generally confined to in : CMchiding RRBs) Whose operations would be he rurg meas and predominantly engaged in the e/allied activities, S indicate th, nationalisation Of banks. Pin - Priva with Public Sector B, '¢ Sector Banks should be at par nic baintenid the p ‘anks, There should be no bar for entry of TIvate sector. e B and other requirements. > Subject to Meeting statutory gl tphaspareney of Balance Sheet Balance sheets of banks ani full disclosures. A period of 4 toconform to these provision Tribunals yi Spesit According to Committee there aitable mechanism through which th could be realized without delay. Speci the pattern recommended by Tiwari process of recovery. there would be no further 'd Fls should be m Years should be gi ng requirements, ade transparent with ven to banks and Fls is urgent need to work out a © dues of the credit institutions al tribunals should be set up on i Committee to speed up the |l. Other X€commendations 2d Pours >» Supervision of merchant banks, mutual funds, leasing companies, venture capital companies and factoring Companies should come within the purview of a new agency \ [0 be set up for this purpose. * SEBI should be reg of the market to the Operations, ponsible for ensuring orderly functioning extent their activities impinge on market " chislation for the constitution and functioning of mutual ‘nds should be enacted,» ~ “Capital market Portfolo investment, should be gradually BAe 2 foreig, opened to Rh i 2 depth of the mark,, Efforts should be initiated to improve the depth 1 by facilit debt instruments, - es and Innovaty, aling issue of new types of equities Ive Appropriate amendments will need to be carried Out in th. Stamp Act for facilitating securitisation of debt, to increas, the flow of instrument. The Committee secks to consolidate the gains made in the India, financial sector while improving the quality of portfolio, Providing greater operational flexibility, greater autonomy in internal Operations g of the banks and Fls so as to nurture a healthy, competitive ang vibrant financial sector. The summary of major recommendations and status implementation (as on Oct. 31, 2005) is as under : of their % on S.No. Recommendation Status. lL Directed Investment-SLR | Wef Oct, 22, 1997, SLR tas should be reduced to 25% and | been. brought down to 259 CRR to 10% over a time period | a uniform pattern. CRR has so that the funds of banks are | been reduced to 5.0% (wef deployed by them in more 02.10.2004) and RBI is remunerative loan assets. allowed to fix the level. 2. Directed Credit - Priority Sector should be, redefined to comprise the small/marginal farmer, tiny sector, small business and transport operators, villabe/cottage industries, rural artisans and other weaker sections, (Target for redefined sector to be 10% f aggregate credit). Capi Adequacy norms BIS norms on capital adequacy should be achieved, The Govt. decided not to sector definition was enlarged to include certain categories which were earlier not patt o! Priority sector, RBI implemented these nau 9) beginning from April n and as on 31.03.2004 all bat! achieve! 1 of 9% achieved the norm hee reduce priority, sector lending | from 40%, but the priority |Asset Classification and Provisions norms should be implemented to improve the quality of assets, The banks implemented the guidelines of RBI, wef 1.4.92 Asset Reconstruction Fund bad debts of the banks on discount and bank balance sheet should be made clean asa One time exercise. should be created to take over Govt. has already set up Asser Reconstruction Company India Ltd. with participation from Fis and Banks during June 2002. Restructuring the banks. The banks should be restructured by creating 3-4 large banks which would become international in character, 8-10 national banks with net work of branches throughout the country engaged in universal banking, local banks in specific regions and rural banks for rural areas. On 4.9.93, a loss making bank, New Bank of India, has been merged with Punjab National Bank and during March 2002, ICICI Ltd. had merged itself with ICICI Bank Ltd» to become a Universal Bank wef March 31, 2002. IDBI Ltd. is also in the process of becoming a universal bank after merger with IDBI Bank Ltd. wef April 02, 2005. 1. bank balance sheet and profit and loss accounts should be modified in such a manner that the bank balance sheets should disclose more information. Transparency-The format of RBI has already modified the format wef March 1992 and banks are preparing their balance sheets as per _/the modified format. Beginning from the period 1996 many significant disclosures have been introduced. Loan Recovery. The govt., should take steps to ensure recovery of bank dues by creating some special recovery tribunals and provide for quick Fecovery process. Govt. created 22 Debt Recovery Tribunals and set up 5 Appellate Tribunal. During 2002, Govt. passed an Act then (SRFASEI Act) to streng legal position of banks. for quick recovery. |COMMITTEE ON BANKING SECTOR REFO! 1998 Aw committee was constituted to review the progress of banking sector reforms and suggest reforms necessary to strengthen India’s financial system and make it internationally competitive. The committee gave its Report on April 23, 1998. The major recommendations and status of implementation are given as under ; In the next three years, the entire portfolio of the Govt. securities should be marked to market risk. There should be a 5% weight for market risk for Govt. and other approved securities against zero at present. Presently the 2.5% risk weight is being implemented eis risk weight for Govt. guaranteed advance should be sane as for the other advances. RBI has decided to assign risk weight on such advances as under (a) Central government % (b) State government 0% (c) Governments remaining defaulters as on 31.3.2000 20% (d) Govts. continuing to be defaulters after March 31, 2000 100% These recommendations have been implemented. The minimum capital to risk assets ratio be increased to 10%, An intermediate minimum target of 9% be achieved by the year 2090 and the ratio of 10% is to be achieved by 2002 ‘The additional capital requirements of public sector banks (PSBs) would have to come from either the government or, preferably, the capital market domestic/foreign. The target of 9% has been introduced but the implementation of | ratio target of 10% is yet to be decided by RBI | A Aan asset is to be classified as doubtful if it is in the sub stdadéfd category for 18 months in the first instance and 12. months eventually (against two years now) and loss when identified thouel! not written off.SEMAN Ce REPORT PART 3 ~ NARASE HCO! EPORT PART AND I Condition of 18 re ‘ond " yi molt Nas implemented wef M, ch ie = March 2001 ane = months to become effective yy eS the ye pe fine ar ending cone Y farch 2005, < For ihe Purposes of evaluatin, yt. guaranteed advances sh qo 8 should be treated as NP uch NPAs should be separately shown ac = gisclosure and greater transparency of operations anh einsiana! Targeted average level of p t 3 ent by the year 2000. let NPAs for ig the Quality of asset portfolio pero all banks below 5 Banks have been already directed to these targets. I For banks with a high NPA Portfolio all loan assets in the doubtfal and loss categories should be transferred. te ar sme Reconstruction Company (ARC) which would issue to the banks. NPA Swap Bonds representing the realisable value of the as transferred. The first ARC already established during June 2002 and Process of setting up of few other ARC's is on. In place of 180 days norm of income recognition, the international norm of 90 days should be introduced in a phased manner, that is, if interest/instalment of principal is not paid within this period, income should not be accounted for by banks This has been implemented w.e.f, year ending 31.03.2004. ni i ™“s ys Re should consider introduction of a general prov standard assets say of 1% in a phased manner. RBI has already introduced the provision 0.25% on standard Assets. sion on A"Banks should also pay greater attention to asset ‘liability management to avoid mismatches and to cover, among others uidity and interest rate risks. this was implemented by banks w.e.f. April 01, 1999. “Banks should be encouraged to adopt sta I ‘wagement techniques like Value-at-Risk in respect of z lenis, Which are susceptible to market price Muctuations, forex ““Yolatility and interest rate changes. KB) issued related guidelines during Oct. 1999.ee r There is need to institute an independent loan review mechanism especially for large borrowal accounts and systems to identify potential NPAs. The s istem was put in place in major banks like SBI, PNB etc, There is over manning in public sector banks in order to rationalise the staff strengths, it is necessary to introduce an appropriate Voluntary Retirement Scheme with incentives. ‘These schemes implemented by public sector banks upto March 2001. 14. The DFIs should, over a period of time, convert themselves to banks for creating only two forms of intermediaries viz. banking Companies and non-banking finance companies. ICICI Ltd. has already converted itself into universal bank by merger with ICICI Bank Ltd. IDBI Bank Ltd. has also merged into IDBI bank Ltd. w.e.f. 02 April 2005. 15. The minimum share holding by Govt./RBI in the equity of the nationalised banks and SBI should be brought down to 33%. The RBI as a regulator of the monetary system should riot be the owner also of a bank in view of the potential for possible conflict of interest, Gout. introduced a bill buring Dec. 2000 in Parliament, but no | progress so far has been made. . The inter-bank call and notice money market-and inter- bank term money market should be strictly restricted to banks and primary dealers only. This recommendation has been implemented since than. RL In regard to deposit insurance, there should be a system of | graded premium instead of the flat rate premiums to risk, based on | variable rate premium. This recommendation is still in progress. ‘ | eee : ; ~ cctor | The setting up of Narasimham Committee on Banking Secle’ Reforms (1998) was clearly unnecessary as it was like watch acti? | replay of earlier report except few issues, We can make comparison © some of the * , ‘ome of the major recommendations of 1991 and 1998 reports. |IVARAS IVINS Ss [- 1998 Recommendations 1991 Recommendations More strong Banks (cautioned merger of strong and weak banks) Merger weak banks to reduce number Free bank boards from interference Free bank boards from interference Move to three-tier structure Move to three-tier structure Review capital adequacy norm Fix capital adequacy at 8% Consider whether autonomy is consistent with public ownership Ensure autonomy of banks. Wind up banking division of Finance f Ministry POST REBORM POSITION Fallawine are Aavalandant> Wits Dien dlidta atid Can TuBicics