CHAPTER 4

HISTORICAL PERSPECTIVE AND DEVELOPMENTS OF

INDIAN BANKING INDUSTRY

4.1 INTRODUCTION

A well-developed banking system is indispensable for the economic

development of a nation. They play a pivotal role in the development of the industry

and trade. They are acting not only as the custodian of the wealth of the country, but

also as resources of the country, which are necessary for the economic development

of a nation. The volume of their transactions highlights the economic strides made by

the country.

Commercial banks are financial intermediaries, which perform the dual

function of mobilization of deposits and deployment of surplus funds to the various

sectors of the economy. They mobilize the small savings of the people scattered over

a wide area through their network of branches all over the country and make it

available for productive purposes.

During the last 49 years since 1969, tremendous changes have taken place in

the banking industry. The banks have shed their traditional functions and have been

innovating, improving and coming out with new types of products and services to

cater to the emerging needs of their customers. Massive branch expansion in the rural

and underdeveloped areas, mobilization of savings and diversification of credit

facilities to the neglected areas like small scale industrial sector, agriculture and other

preferred areas like export sector, etc. have resulted in the widening and expansion of

the financial infrastructure and transferred the fundamental character of class banking

into mass banking.

Over the years, the banking sector in India has seen a number of changes.

Most of the banks have begun to take an innovative approach towards banking with
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the objective of creating more value for customers. Information technology has given

rise to new innovations in designing the product and their delivery in the banking and

finance industries. Technology offers a chance for banks to build new systems that

address a wide range of customer needs, including many that may not be imaginable

today. Financial innovation associated with technological change totally changed the

banking philosophy and that is further tuned by the competition in the banking

industry.

Indian banking sector is a flourishing industry; it is mainly focused on new

banking technology innovations. Banks created to use technology to provide effective

quality and services to the customer at high speed. Today all the banks started with

the different channels, like ATM, Credit Cards, Debit Cards, Mobile Banking, RTGS,

NEFT, EFT, ECS, Internet Banking, etc. Internet banking and mobile banking made it

convenient for customers to do their banking from geographically diverse places.

The banking industry today is strong and capable of withstanding the

pressures of competition. While internationally accepted prudential norms have been

adopted, with higher disclosures and transparency, Indian banking industry is

gradually moving towards adopting the best practices in accounting, corporate

governance and risk management. The role of banking is redefined from a mere

financial intermediary to a service provider of various financial services under one

roof acting like a financial supermarket. Intense competition among the banks has

redefined the concept of the entire banking system. The banks are looking for new

ways not only to attract but also to retain the customers and gain competitive

advantage over their competitors.

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4.2 HISTORY OF BANKING IN INDIA

Banking plays an important role in our day to day life. Be it at home, school,

office, business or even on travel everywhere we counter some aspect of banking. The

impact of banks in our day to day life is being felt increasingly. Money plays a

significant role in today’s life. Money has evolved from coin to currency notes to

credit cards and debit cards1.

Banking in India originated in the last decades of the 18th century. The first

banks were ‘The General Bank of India’, which started in 1786, and ‘Bank of

Hindustan’, which started in 1790; both are now defunct. The oldest bank in existence

in India is the State Bank of India, which originated in the Bank of Calcutta in June

1806, which almost immediately became the Bank of Bengal. This was one of the

three presidency banks, the other two being the Bank of Bombay and the Bank of

Madras, all three of which were established under charters from the British East India

Company. For many years the Presidency banks acted as quasi-central banks, as did

their successors. The three banks merged in 1921 to form the ‘Imperial Bank of

India’, which, upon India's independence, became the State Bank of India2.

Indian merchants in Calcutta established the Union Bank in 1839, but it failed

in 1848 as a consequence of the economic crisis of 1848-49. The Allahabad Bank,

established in 1865 and still functioning today, is the oldest joint stock bank in India.

4.3 PRE-NATIONALIZATION PERIOD

During the British rule the apex bank of India was established in accordance

with the provisions of the Reserve Bank of India Act, 1934. Reserve Bank of India

(RBI) commenced its operations on 1st April 1935. It was initially owned by private

shareholders with the share capital divided into shares of 100 each fully paid. After

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India gained independence from British rule, the RBI was nationalized on 1st January

1949. The apex bank plays a crucial role in the development strategy of the

Government of India.

At the time of independence in 1947 India had a well-developed banking

system with over 600 commercial banks operating in the country. During that period

banks were favoring only trade and large firms against extending credit to small scale

enterprises, agriculture and commoners. To curb this biased operation of the banks

and to provide better inclusion and coverage for the banking needs of the economy the

government of India nationalized the Imperial bank which was established in 1921.

Pursuant to the provisions of the State Bank of India Act, 1955, RBI acquired

controlling interest in Imperial Bank of India. The Imperial Bank of India was

renamed as State Bank of India (SBI) which commenced its operations on 1st July

1955. In the year 2008, Government of India acquired RBI’s stake in SBI in order to

remove any conflict of interest since RBI is the country’s banking regulatory

authority. State Bank of India along with its five associates and Bharatiya Mahila

Bank merged with effect from 1st April 2017 to take the country’s largest lender to be

among the top 50 banks in the world.

4.4 NATIONALIZATION PROCESS

By the 1960s, the Indian banking industry had become an important tool to

facilitate the development of the Indian economy. At the same time, it had emerged as

a large employer, and a debate had ensued about the nationalization of the banking

industry. Indira Gandhi, Prime Minister of India then, expressed the intention of the

Government of India in the annual conference of the All India Congress Meeting in a

paper entitled "Stray thoughts on Bank Nationalization”. Thereafter, the move to

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nationalize the banks was swift and sudden. The Government of India issued an

ordinance ('Banking Companies (Acquisition and Transfer of Undertakings)

Ordinance, 1969') and nationalized the 14 largest commercial banks with effect from

the midnight of 19 July 1969. These banks contained 85 percent of bank deposits in

the country. Within two weeks of the issue of the ordinance, the Parliament passed the

Banking Companies (Acquisition and Transfer of Undertaking) Bill, and it received

the presidential approval on 9 August 1969.

A second dose of nationalization of 6 more commercial banks followed in

1980. The stated reason for the nationalization was to give the government more

control of credit delivery. With the second dose of nationalization, the Government of

India controlled around 91% of the banking business in India. Later on, in the year

1993, the government merged New Bank of India with Punjab National Bank. It was

the only merger between nationalized banks and resulted in the reduction of the

number of nationalized banks from 20 to 19.

4.5 ECONOMIC LIBERALIZATION

The second major turning point in this phase was economic liberalization in

India. After Independence in 1947, India adhered to socialist policies. The extensive

regulation was sarcastically dubbed as the "License Raj". The Government of India

headed by Narasimha Rao decided to usher in several reforms that are collectively

termed as liberalization in the Indian media with Manmohan Singh whom he

appointed Finance Minister. Dr. Manmohan Singh, an acclaimed economist, played a

central role in implementing these reforms.

In the early 1990s, the then Narasimha Rao government embarked on a policy

of liberalization, licensing private banks. These came to be known as new generation

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tech-savvy banks, which included Global Trust Bank (the first of such new generation

banks to be set up), which was later amalgamated with Oriental Bank of Commerce,

Axis Bank (previously UTI Bank), ICICI Bank and HDFC Bank. The banking sector

in India has seen a rapid growth and there has been a strong and an equal contribution

from each of the three banking sectors viz. government banks, private banks and

foreign banks. The privatization move along with the fast growth in the economy of

India revitalized the banking industry. Presently, the commercial banking structure in

India consists of scheduled commercial banks and non-scheduled commercial banks.

4.6 CLASSIFICATION OF COMMERCIAL BANKS

As per the Reserve Bank of India Act of 1934 commercial banks in India is

classified into two broad categories. They are scheduled commercial banks and non-

scheduled commercial banks.

A scheduled commercial bank is one which is registered under the provisions

of the Second Schedule of the Reserve Bank of India Act of 1934. They come within

the ambit of the various credit control measures of the Reserve Bank of India. They

are entitled to enjoy the facilities of borrowing from RBI. They are also covered by

the deposit insurance scheme and credit guarantee scheme in operation. Scheduled

commercial banks (SCBs) account for a major proportion of the business of the

scheduled banks. Scheduled commercial banks (SCBs) in India are categorized into

the five groups based on their ownership and/or their nature of operations vis-à-vis

State Bank of India, nationalized banks, private sector banks, and foreign and regional

rural banks.

Prior to April 1st, 2017; State Bank of India had five associate banks viz. State

Bank of Patiala, State Bank of Hyderabad, State Bank of Bikaner & Jaipur, State

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Bank of Mysore and State Bank of Travancore and Bharatiya Mahila Bank. From the

financial year starting April 2017 these five associate banks will function as branches

of State Bank of India (SBI).

Non-scheduled commercial banks are those which are not included in the

second schedule of Reserve Bank of India Act of 1934.

The structure of scheduled commercial banks in India is presented in Figure

4.1. It is clear from the figure that scheduled commercial banks consists of public

sector banks, private sector banks, foreign banks and regional rural banks.

Public sector banks are those in which the majority stake is held by the

Government of India (GoI). Public sector banks together make up the largest category

in the Indian banking system. As on 1st April 2017 there are twenty one public sector

banks in India. They include the State Bank of India, nineteen nationalized banks and

IDBI Bank Ltd.

Figure 4.1
Structure of Indian Scheduled Commercial Banks

SCHEDULED COMMERCIAL BANKS

Public Sector Private Sector Foreign Banks Regional Rural

Banks (21) Banks (22) (41) Banks (82)

Old Private Sector New Private Sector

Banks (12) Banks (10)

State Bank of India Nationalized Banks

(1) (19) & IDBI (1)

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 Private sector banks include the old private sector banks and the new

generation private sector banks. New generation private sector banks are those banks

which are incorporated according to the revised guidelines issued by the RBI

regarding the entry of private sector banks in 1993. There are currently twelve old

private sector banks and ten new generation private sector banks operating in India.

4.7 MERGERS AND ACQUISITIONS

Mergers and acquisitions in Indian banking sector have initiated through the

recommendations of Narasimham committee II. The committee recommended that the

merger between strong banks/financial institutions would make for greater economic

and commercial sense and would be a case where the whole is greater than the sum of

its parts and have a force multiplier effect. In order to compete globally, Indian banks

need to have larger capital, sophisticated risk management practices, competitive and

cost effective technology, supported by knowledgeable and skilled workforce.

Table 4.1 provides the list of banks that have been merged in India since post-

liberalization in the country.

Merger and amalgamation of weak banks with strong banks as a policy

measure for strengthening the structure of the banking system resulted in the merger

of (Table 4.1) twenty five banks during the post reform period3.

ICICI was incorporated in 1955 as Industrial Credit and Investment

Corporation of India under the Companies Act to finance small scale and medium

industries in the private sector. ICICI established ICICI Bank in the year 1994 for

performing commercial banking functions. The bank offers a wide variety of domestic

and international banking services. In October 2001, the Boards of Directors of ICICI

and ICICI Bank approved the merger of ICICI and two of its wholly owned retail

finance subsidiaries, ICICI Personal Financial Services Limited and ICICI Capital

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Services Limited, with ICICI Bank. The merger was approved by shareholders of

ICICI and ICICI Bank in January 2002, by the High Court of Gujarat at Ahmedabad

in March 2002 and by the High Court of Judicature at Mumbai and the Reserve Bank

of India in April 2002.

The Industrial Development Bank of India (IDBI) established in 1964 under

an Act of Parliament as a wholly owned subsidiary of the Reserve Bank of India. In

1976, the ownership of IDBI was transferred to the Government of India and it was

made the principal financial institution for coordinating the activities of institutions

engaged in financing, promoting and developing industry in India. A committee

formed by RBI recommended the development of financial institution IDBI to

diversify its activity and harmonize the role of development financing and banking

activities by getting away from the conventional distinction between commercial

banking and developmental banking. To keep up with reforms in the financial sector,

IDBI reshaped its role of a development financial institution to a commercial

institution. With the Industrial Development Bank (Transfer of Undertaking and

Repeal) Act, 2003, IDBI attained the status of a limited company viz., IDBI Ltd.

Subsequently, in September 2004, the Reserve Bank of India incorporated IDBI as a

'scheduled bank' under the RBI Act, 1934. Consequently, IDBI formally entered the

portals of the banking business as IDBI Ltd. from 1 October 2004. The commercial

banking arm, IDBI, was merged into IDBI Bank Ltd. in 2005.

Table 4.1

Banks Merged in the Post Reform Period

Year of Merger Taken over by Banks which got merged

1990 Indian Bank Bank of Thanjavur Ltd.

1990 Bank of India Parur Central Bank Ltd.

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1990 Central Bank of India Purbanchal Bank Ltd.

1993 Punjab National Bank New Bank of India

1993 Bank of India Bank of Karad Ltd

1995 State Bank of India Kashinath Seth Bank

1997 Oriental Bank of Commerce Bari Daob Bank Ltd.

1999 Bank of Baroda Bareilly Corporation Bank Ltd.

1999 Union Bank of India Sikkim Bank Ltd.

2000 HDFC Bank Ltd. Times Bank Ltd

2001 ICICI Bank Ltd. Bank of Madura Ltd.

2002 ICICI Bank Ltd. ICICI

2002 Bank of Baroda Benaras State Bank Ltd.

2003 Punjab National Bank Nedugadi Bank Ltd.

2004 IDBI Bank Ltd. IDBI

2004 Bank of Baroda South Gujarat Local Area Bank

2004 Oriental Bank of Commerce Global Trust Bank Ltd.

2005 Centurion Bank Ltd. Bank of Punjab Ltd.

2006 Federal Bank Ltd Ganesh Bank of Kurudwad Ltd.

2006 IDBI Bank Ltd. United Western Bank Ltd.

2007 Centurion Bank of Punjab Lord Krishna Bank Ltd.

2007 ICICI Bank Ltd. Sangli Bank Ltd.

2007 Indian Overseas Bank Bharat overseas Bank Ltd.

2008 HDFC Bank Ltd. Centurion Bank of Punjab Ltd.

2008 State Bank of India State Bank of Sourashtra

2010 State Bank of India State Bank of Indore

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 2010 ICICI Bank Ltd. Bank of Rajasthan Ltd.

SBI Commercial &

2011 State Bank of India
International Bank Ltd.

2016 Kotak Mahindra Bank ING Vysya Bank

2017 State Bank of India State Bank of Bikaner and

Jaipur, State Bank of

Travancore, State Bank of

Hyderabad, State Bank of

Mysore, State Bank of Patiala

& Bharatiya Mahila Bank

4.8 BRANCH STATISTICS

Bank branches are often considered as the interface between banks and

customers. In recent years branches have changed from being operation-centric to

client servicing. Further, RBI has asked banks to open more brick and mortar

branches in villages with no banking facilities and with a population of more than

5000. Banks are asked to submit a roadmap on how many branches they will open by

31st March 2017. This move by RBI is to promote financial inclusion; scheduled

commercial banks, including public sector banks excluding regional rural banks can

open branches at any place in the country without obtaining prior approval from RBI

in each case.

The area which the banks can serve in respect of CSR activities depends on

the branches and this statistic relating to the branches taken from the year 2011 to

2017 on an interval basis reveals the number of branches as on 31st March of each

year. Data is collected from financial year 2011 onwards on a one year interval basis

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till financial year 2017. Banks which have been merged or closed as on 1st April 2017

is not taken into account for the purpose, hence in State Bank Group only State Bank

of India is considered; as its five associates State Bank of Bikaner and Jaipur, State

Bank of Mysore, State Bank of Travancore, State Bank of Hyderabad and State Bank

of Patiala along with the Bharatiya Mahila Bank have been merged to operate as State

Bank of India from 1st April 2017. ING Vysya has been merged with Kotak Mahindra

Bank on 20th November 2014, in an all stock amalgamation, so while considering

branch statistics for the fiscal year 2011 and 2013 in old private sector banks ING

Vysya Bank has been excluded. From the Table 4.2 it is very clear that in all the bank

groups there has been a steady increase in the number of branches from the financial

year 2011 to 2017 the main reason being the financial inclusion endeavours.

The branch statistics show that in the year 2011 number of branches in the

case of State Bank Group (only State Bank of India is considered) were 13698 and in

the year 2017 the number has increased by 3667 (17365) clocking an annual average

growth rate of 8.25 per cent. The Nationalized Bank Group has also shown a

considerable increase in the number of branches from 44298 in the year 2011 to

67915 branches in the year 2017 which is 15.55 per cent growth. The growth rate of

Old Private Sector Banks is 13.77 per cent showing an increase of 2220 branches

from the year 2011 to 2017. New Private Sector Banks have shown an increase in the

number of branches from 6785 in the year 2011 to 16774 in the financial year ending

2017 clocking an annual average growth rate of 35.83 per cent which is the highest

among the four bank groups. There is a considerable increase in the number of bank

branches in each core group from the year 2011 till 2017. The increase is mainly due

to the lifting of the provision seeking approval of RBI each time a scheduled

commercial bank opens a branch anywhere in India. This main objective of this

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restriction being taken away is to promote the financial inclusion and to cover the

unbanked areas in rural regions.

The Annual Average Growth Rate (AAGR) of each group is found out and

AAGR of SBG in respect of branches is 8.25 per cent while it was 15.55 per cent in

the case of Nationalized Banks and in the case of Old Private Sector Banks the AAGR

is 13.77 per cent and among the bank groups New Private Sector Banks clocked

highest growth rate with 35.83 per cent.

Table 4.2

Branch Statistics

NUMBER OF BRANCHES

YEAR SBGs NBs OPSBs NPSBs

2011 13698 44298 4817 6785

2013 15002 52480 6047 10463

2015 16524 64483 6460 13489

2017 17365 67915 7037 16774

AAGR 8.25 15.55 13.77 35.83

Source: Annual Reports

Annual Average Growth Rate (AAGR) of each bank group is clearly depicted

in Figure 4.2. The growth in respect of the number of branches for each group can be

easily apprehended from the figure with NPSBs having the highest growth rate during

the period undertaken for the study.

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 Figure 4.2
Branch Statistics

35.83

15.55
13.77

8.25

SBG NBs OPSBs NPSBs

4.9 PROFITABILITY STATISTICS

According to Harvard’s Kennedy School of Government “Corporate Social

Responsibility encompasses not only what companies do with their profits, but also

how they make them”. It is a general perception that CSR activities can increase

profit, however linking profit to an abstract variable like CSR which is difficult to

define is a challenging task. There are many stakeholders in an organization and

shareholders are one among them and the responsibility that the organization have

towards them is to increase the profit and also to increase their wealth. Thus profit

generation fall under the economic responsibility of a company. The profit of banks

from financial year 2011 towards 2017 is analyzed on a one year interval basis. From

Table 4.3 it can be perceived that there has been an increase in the profits during the

fiscal year 2013 when compared with the fiscal year 2011. During the period of 2015

there has been a drastic decline in the profitability figures except in the case of New

Private Sector Banks (NPSBs).

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 Table 4.3

Profitability Statistics

PROFITABILITY* (Rs. In Crores)

YEAR SBGs NBs OPSBs NPSBs

2011 8264 31919 2734 14608

2013 14105 32799 4325 24055

2015 13102 21235 3623 34602

2017 10484 (10032) 5498 38858

AAGR 14.53 -59.91 31.24 40.27

Source: Annual Reports (*Profitability is Net Profit after Tax)

Profitability of the four core groups is put to study from the financial year

2011 to 2017 with an interval of one year. The statistics show that in the case of State

Bank Group (only State Bank of India is considered) the profit after tax has increased

to Rs.14,105 Crores in the 2013 from Rs.8,264 Crores in 2011 but in the year 2015 it

has declined to Rs.13,102 Crores and a profit of Rs.10,484 Crores in 2017. The

Nationalized Banks clocked a loss of Rs.10, 032 Crores in the year 2017 while it

showed a profit of Rs.31,919 Crores in the year 2011. Old Private Sector Banks

booked profit amounting to Rs.2,734 Crores in 2011, Rs.4,325 Crores,

Rs.3,623 Crores and Rs.5,498 Crores in 2013, 2015 & 2017 respectively. Only New

Private Sector Banks showed increasing trends each year even though the market

volatility and provisioning for NPAs. New Private Sector Banks profit for the year

2011, 2013, 2015 and 2017 was Rs.14,608 Crores, Rs.24,055 Crores,

Rs.34,602 Crores and Rs.38,858 Crores respectively.

From the Table 4.3 it can be clearly understood that NPSBs have an AAGR of

40.27 per cent in respect of profits and despite a decline in profits in other groups this

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group has managed to increase their profits each year. Among the four groups

Nationalized Banks have a negative AAGR of 59.91 per cent, which is the lowest

among the groups. State Bank Group clocked AAGR of 14.53 per cent and OPSBs

had an AAGR of 31.24 per cent. The Annual Average Growth Rate in respect of

profitability of each bank group is clearly depicted in Figure 4.3.

Figure 4.3
Profitability

40.27
31.24

14.53

SBG NBs OPSBs NPSBs

-59.91

4.10 CONCLUSION

Branch statistics show a steady increase in all four groups. With an annual

average growth rate of 35.83 per cent the NPSBs tops the core group in opening up

branches. There was a considerable and steady increase in the number of branches in

the case of other bank groups also. SBG has an AAGR of 8.25 per cent, Nationalized

Banks AAGR stood at 15.55 per cent and the OPSBs AAGR was 13.77 per cent. The

reasons, mainly for this steady increase are the relaxation of licensing norms by the

apex bank of India and bankers say the government's financial inclusion program that

aims to provide banking services across 6,25,000 villages has also led to the increase

in numbers of rural and semi-urban branches. The other reason being the banks needs

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to improve their geographical reach, hence banks are trying to cover areas which were

previously untapped by them, especially in rural areas where digital banking is not so

popular, banks cannot service the rural population with alternate banking channels

they have to stick with brick and mortar branches.

Reserve Bank of India has issued new branch expansion norms in a bid to take

banking services to the remote locations of the country, the Reserve Bank of India has

permitted the opening of mini branches or banking outlets across the country for all

domestic scheduled commercial banks except Regional Rural Banks without having

to take permission from the regulator on a case by case basis. In this guideline

released the central bank said that banks need to open at least 25% of their banking

outlets in a year in unbanked rural centres4. For the purpose RBI has defined the

banking outlet as a “fixed point service delivery unit manned by either the bank staff

or its business correspondents where services of acceptance of deposits encashment of

cheques withdrawal or lending of money are provided”. The RBI has clarified that

ATM kiosks, cash depositing counters and mobile branches will not be treated as

banking outlets. They have to be left open for at least four hours per day for 5 days in

a week manned either by business correspondents or by bank officials. If the space is

not kept open for the minimum hours mentioned it will be considered as a part time

banking outlet.

Banks are the lifeline of the Indian financial systems. They offer services to

the length and breadth of the country. India’s banking system was burdened with

Rs7.29 lakh crores of gross non-performing assets (NPAs) about 5% of the country’s

GDP, at the end of March 2017. All bank groups except New Private Sector Banks

(NPSBs) show decline in profit while NPSBs showed an increasing trend when

comparing profit from 2011 to 2017 with an interval of one year. The annual average

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growth rate of the NPSBs is 40.27 per cent. They have the highest annual average

growth rate among the four core groups. The reasons for the decline in profits are

Non-Performing Assets (NPA) or bad loans in the State Bank Group and The

Nationalized Banks have breached the tolerance level of RBI hence required

corrective action. Excessive provisioning for bad debts together with high market

volatility and demonetization procedure had hit the banks negatively.

The banking scene in India has undergone a thorough change in the past

decade, with globalization and the financial inclusion process and the endeavour to

tap unbanked areas. The face of Indian banking is changing rapidly. Banks in India

will have to raise their bar to compete against the best in the world in the ever

changing global banking scenario. For a strong banking and financial system, banks

need to go beyond peripheral issues and tackle the significant issues like improvement

in profitability, efficiency and technology. The major issue that Indian banks need to

address as of now is the NPA and control over it if banks are to succeed, not just

survive, in the changing period.

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 REFERENCES

1. Gajdhane, A. (2012), “The Evolution of Banking in India”, Avishkar –

Solapur University Research Journal, Vol 2, 67-75.

2. Kunjukunju, B. (2008), “Commercial Banks in India – Growth, Challenges

and Strategies”, New Delhi: New Century Publications.

3. Krishnan, S. (2014), “Operational Efficiency and Service Quality of

Commercial Banks in India (Ph.D)”, Mahatma Gandhi University.

4. Reserve Bank of India. (2017), “Rationalisation of Branch Authorisation

Policy- Revision of Guidelines” (pp. 1-46). Mumbai: Department of Banking
Regulation.

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