1

Table of Contents
Evolution of Indian Banking.............................................................................. 3
Functions of Banks in India............................................................................... 3
Banking Reforms............................................................................................... 4
Types of Banks................................................................................................... 6
Regulation and Supervision............................................................................. 10
Non-Banking Financial Companies (NBFCs).................................................... 12
Non-Performing Assets (NPAs)........................................................................ 13
Project Sashakt................................................................................................. 15
Prompt Corrective Action Framework.............................................................. 15
Economic Capital Framework (ECF).................................................................16
Monetary Policy................................................................................................ 17
Monetary Policy Transmission (MPT).............................................................. 18
Priority Sector Lending (PSL)...........................................................................21
Cooperative Banks............................................................................................21
Financial Inclusion.......................................................................................... 23
Basel Norms..................................................................................................... 25
Insolvency and Bankruptcy Code (IBC)............................................................ 25
Major issues in Banking Sector.........................................................................27
Way Forward to Strengthen the Indian Banking Sector................................... 28

2
Banking Sector in India

Evolution of Indian Banking

1. First Generation Banking (Pre-1947): During the Swadeshi Movement
(1905-1911), many small, local banks were established. Most of these banks failed due
to internal fraud, interconnected lending, and blending of trading with banking
activities​.
2. Second Generation Banking (1947-1967): After Independence, banks
consolidated resources from retail deposits, primarily funding a few business families.
This period saw neglect in agricultural credit, with only about 2% of total bank credit
going to agriculture by the 1950s.
3. Third Generation Banking (1967-1991): The government nationalized 14 major
private banks in 1969 and 6 more in 1980. Priority Sector Lending (PSL) was
introduced in 1972. This transformed banking from 'class banking' to 'mass banking,'
with rural branches increasing from 8,262 in 1969 to over 30,000 by 1991, and
agricultural credit rising to over 15% of total bank credit​​.
4. Fourth Generation Banking (1991-2014): Economic liberalization led to
significant reforms, including issuing new licences for private and foreign banks such
as ICICI and HDFC. The sector adopted technology (ATMs, internet banking),
prudential norms (NPA recognition), operational flexibility, and corporate governance
practices. The capital base was strengthened in line with Basel norms​​.
5. Current Model (From 2014 onwards): The adoption of the JAM (Jan-Dhan,
Aadhaar, Mobile) trinity enhanced financial inclusion, resulting in over 40 crore
Jan-Dhan accounts by 2020. Licences for Payments Banks (e.g., Airtel Payments Bank)
and Small Finance Banks (SFBs) were granted to improve last-mile connectivity and
financial inclusion​.

Functions of Banks in India

1. Primary Functions
a. Accepting Deposits
i. Savings Deposits: Provides an opportunity for individuals to save money
with the facility of earning interest.
ii. Fixed Deposits: Offer higher interest rates for a fixed period, ensuring
safety and returns.
iii. Current Account Deposits: Mainly for business purposes, these
accounts provide liquidity and allow for numerous transactions without
limitations.
b. Lending Money
i. Loans and Advances: Banks provide various types of loans such as
personal loans, home loans, car loans, and business loans.
ii. Credit Creation: By providing loans and advances, banks create credit
which increases the money supply in the economy.
2. Secondary Functions
a. Agency Functions
i. Payment and Collection of Cheques: Banks act as agents for their
customers, handling the collection and payment of cheques.

3
 ii. Remittance of Funds: Facilitate the transfer of funds through demand
drafts, mail transfers, and electronic transfers.
iii. Payment of Bills: Banks assist in paying bills like electricity, water, and
telephone bills on behalf of their customers.
b. Investment of Funds
i. Government Securities: Banks invest in government securities to
maintain statutory liquidity requirements.
ii. Corporate Bonds and Shares: They also invest in corporate bonds and
shares to earn a return on idle funds.
c. Providing Specialized Services
i. Foreign Exchange Services: Facilitate foreign trade by providing
foreign exchange and handling currency conversion.
ii. Advisory Services: Offer financial advice to individuals and businesses
regarding investments, taxation, and wealth management.
iii. Credit Cards and Debit Cards: Issue credit and debit cards, facilitating
cashless transactions and enhancing customer convenience.
3. Modern Functions
a. Promoting Financial Inclusion
i. Small Finance Banks (SFBs): Focus on providing financial services to
the underserved sections of society.
ii. Payment Banks: Aim to increase financial inclusion by providing small
savings accounts and payment services.
iii. Regional Rural Banks (RRBs): Cater to the needs of rural areas by
providing credit for agriculture and rural development.
b. Regulatory Functions
i. Compliance with RBI Regulations: Banks must adhere to guidelines
issued by the RBI regarding CRR, SLR, and priority sector lending.
ii. Risk Management: Implement measures to manage and mitigate
financial risks including credit risk, market risk, and operational risk.
c. Innovative Services
i. Digital Banking: Adoption of internet banking, mobile banking, and
digital wallets to provide convenient and accessible banking services.
ii. Green Banking: Initiatives focused on promoting environmental
sustainability by reducing carbon footprints and supporting green projects.

Banking Reforms
1. Narasimham-I Committee (1991): Formed to enhance the efficiency and
productivity of the financial system, the Narasimham-I Committee submitted its report
in November 1991, recommending comprehensive reforms in the banking sector.
2. Narasimham-II Committee (1998): Tasked with reviewing the progress of
banking reforms since 1992, the Narasimham-II Committee, chaired by M.
Narasimham, focused on issues like the size of banks and Capital Adequacy Ratio
(CAR). The committee's report was submitted in April 1998.
3. SARFAESI Act (2002): The Securitisation and Reconstruction of Financial Assets
and Enforcement of Security Interest Act allows banks to seize securities without court
intervention for secured loans. The 2016 amendment empowered District Magistrates
to secure creditors' interests within 30 days and mandated the registration and
regulation of securitisation and reconstruction companies by the RBI.
4. Swabhiman (2011): Launched on February 10, 2011, Swabhiman is a financial
inclusion initiative aimed at providing branchless banking through technology. Banks
offer basic services like deposits, withdrawals, and remittances using business

4
 correspondents, facilitating the direct crediting of government subsidies and social
security benefits to beneficiaries’ accounts.
5. Bimal Jalan Committee/New Bank Licenses (2014): Chaired by former RBI
Governor Bimal Jalan, this committee evaluated applications for new banks in India. It
granted in-principle approval to Bandhan Microfinance and IDFC. The RBI issued
guidelines for new banks in February 2013.
6. Nachiket Mor Committee (2014): Appointed by the RBI, this committee focused
on providing comprehensive financial services for small businesses and low-income
individuals. It recommended that every adult should have a bank account by January 1,
2016, proposed the issuance of accounts upon receiving an Aadhaar number, and
suggested increasing the priority sector lending cap from 40% to 50%. The committee
also recommended establishing payments banks.
7. Urjit Patel Committee (2014): This expert committee was tasked with examining
and strengthening the monetary policy framework of the RBI. Key recommendations
included adopting the Consumer Price Index (CPI) as the nominal anchor for inflation,
setting an inflation target of 4% with a +/-2% band, and establishing a Monetary Policy
Committee (MPC).
8. Insolvency and Bankruptcy Code (IBC) (2016): Enacted to address the growing
issue of non-performing loans, the IBC shifted the insolvency regime from
debtor-in-possession to creditor-in-control. Its objectives include maximizing asset
value, promoting entrepreneurship, and ensuring time-bound resolution of insolvency
cases.
9. Bank Board Bureau (BBB) (2016): Initiated on April 1, 2016, the BBB served as a
search committee or appointments board for the Chairman of public sector banks,
aiming to improve governance and performance in the banking sector.
10. Damodaran Committee: Headed by former SEBI Chairman M. Damodaran, this
committee was established to examine customer service issues in banks. It
recommended measures to speed up complaint resolution and suggested the
introduction of no-frills savings accounts with basic facilities, such as a cheque book
and ATM card, without requiring a minimum balance.
11. Khandelwal Committee Report: The government formed this committee to
address human resource issues in Public Sector Banks (PSBs). Chaired by Dr. A.K.
Khandelwal, it made 105 recommendations on manpower and recruitment planning,
training, career planning, performance management, and HR professionalization.
12. Bimal Jalan Committee (2019): This committee was constituted to review the
Economic Capital Framework (ECF) for the Reserve Bank of India (RBI). It aimed to
align with global best practices and facilitate the transfer of more surplus to the
government. Previous reviews were conducted by committees led by V. Subrahmanyam
(1997), Usha Thorat (2004), and Y.H. Malegam (2013).
13. VG Kannan Committee (2019): The RBI established this committee to review the
ATM interchange fee structure, with the goal of increasing ATM deployment in
unbanked areas.
14. Upendra Kumar Singh Committee (2019): This committee recommended the
implementation of a video KYC format to replace the existing KYC methods, aiming to
simplify and secure the process for MSMEs.
15. Financial Services Institutions Bureau (FSIB) (2022): Replacing the Bank
Board’s Bureau (BBB), FSIB identifies manpower capabilities and makes
recommendations for senior positions in government-owned financial institutions,
ensuring proper training and development programs.

5
Types of Banks
Central Bank: RBI
The Reserve Bank of India (RBI) was established through the Reserve Bank of India Act of
1934, based on the recommendations of the Hilton Young Commission. Initially privately
owned, the RBI was nationalized in 1949 and is now entirely owned by the Government of
India.

Roles and Functions

1. Monetary Authority:
a. Regulate Money Supply: The RBI is responsible for controlling, issuing, and
maintaining the supply of the Indian rupee, printing currency as per the
requirements.
b. Setting the Official Interest Rate: While the RBI historically set the official
interest rate, this responsibility now lies with the Monetary Policy Committee
(MPC).
2. Regulator and Supervisor of the Financial System:
a. Regulation and Supervision of the Banking Sector: The RBI formulates
and implements policies to regulate and supervise banks and financial
institutions, ensuring stability and protecting depositors' interests.
b. Bankers’ Bank: The RBI provides banking services to other banks and
financial institutions, maintains accounts for scheduled banks, and acts as a
lender of last resort, offering funds to financial institutions in times of liquidity
crises.
c. The Government’s Banker: The RBI acts as the banker and financial advisor
to both central and state governments.
3. Manager of Foreign Exchange: The RBI manages India's foreign exchange
reserves and gold reserves, ensuring stability in international transactions.
4. Issuer of Currency: The RBI is responsible for issuing and controlling the supply of
currency in the country, ensuring adequate circulation of the Indian rupee.

Scheduled and Non-Scheduled Banks

1. Scheduled Banks: Listed in the Second Schedule of the RBI Act, 1934. These include
all nationalized banks, private sector banks, regional rural banks, foreign banks, and
some cooperative banks.
2. Non-Scheduled Banks: Not listed in the Second Schedule of the RBI Act. These are
typically smaller banks that do not satisfy the RBI's criteria for inclusion.

Aspect Scheduled Banks Non-Scheduled Banks

Definition Included in the Second Schedule of Not included in the Second

the RBI Act, 1934. Schedule of the RBI Act,
1934.
Criteria for Must have paid-up capital and Do not meet the minimum
Inclusion reserves of at least ₹5 lakhs. paid-up capital and reserve
requirements.

Affairs must not be detrimental to

depositors' interests.

6
Borrowing and Can borrow from the RBI for regular Cannot borrow from the
Loans banking purposes. RBI.
Eligible for loans from the RBI at
bank rate.
Statutory Must maintain a percentage of total Maintain cash reserves with
Requirements demand and time liabilities as CRR themselves or other
with the RBI. scheduled banks.
Subject to higher regulatory Subject to less stringent
compliance and periodic inspections regulatory oversight.
by the RBI.
Banking Operations Enjoy higher confidence among Generally smaller with a
depositors due to RBI supervision. limited branch network.

Usually larger in size with extensive Primarily cater to local

branch networks. customers.
Examples Public Sector Banks (e.g., SBI, Local area banks and some
PNB), Private Sector Banks (e.g., cooperative banks that do
HDFC, ICICI), Foreign Banks, not meet the criteria for
Regional Rural Banks, and some scheduled banks.
Cooperative Banks.

Participation in Allowed to participate in the call Limited or no access to the

Financial Market money market, obtain membership call money market and
Operations of clearinghouses. clearinghouse facilities.

Eligible for various facilities offered Less privileged in terms of

by the RBI. financial market operations
and services from the RBI.

Commercial Banks
1. Public Sector Banks (PSBs): These banks are majority-owned by the government
(more than 51%). Examples include the State Bank of India (SBI) and its associates etc.
Their primary objective is to serve the public interest and provide banking services
across the country.
2. Private Sector Banks: These banks are predominantly owned by private entities.
They are known for their efficient service, technological innovation, and
customer-centric approach. Examples include HDFC Bank, ICICI Bank, and Axis Bank.
3. Foreign Banks: These banks have their headquarters in foreign countries but operate
in India through branches or wholly-owned subsidiaries. Examples include Citibank,
HSBC, and Standard Chartered. They bring international expertise and offer various
global banking products.

Differentiated Banks
1. Small Finance Banks (SFBs):
○ Purpose: To further financial inclusion by providing basic banking services to
underserved segments, including small business units, small and marginal
farmers, micro and small industries, and other unorganized sector entities.

7
 Functions: Accept deposits, provide loans to underserved sections, sell mutual
○
funds, insurance, and pensions. They cannot deal in sophisticated financial
products or large loans.
○ Regulatory Requirements: Must maintain Cash Reserve Ratio (CRR) and
Statutory Liquidity Ratio (SLR) as per RBI norms. They are required to extend
75% of their credit towards priority sector lending obligations, with at least 50%
of loans up to Rs. 25 lakhs.
2. Payment Banks:
○ Purpose: To further financial inclusion by providing small savings accounts and
payment/remittance services to low-income households, small businesses, and
other unorganized sector entities.
○ Functions: Accept deposits up to Rs. 2 lakhs per customer, issue debit cards,
and distribute financial products like mutual funds and insurance. They cannot
issue loans or credit cards.
○ Regulatory Requirements: Must maintain CRR and invest a minimum of
75% of their "demand deposit balances" in government securities/treasury bills
with maturity up to one year.

Regional Rural Banks (RRBs)

● Purpose: To provide sufficient banking and credit facilities for agriculture and other
rural sectors. RRBs were established to ensure financial inclusion in rural areas by
providing easy access to financial services.
● Ownership: Joint venture between the central government (50%), state government
(15%), and a sponsor bank (35%).
● Regulatory Requirements: 75% of total credit must be given to priority sectors.
They function similarly to commercial banks but focus primarily on rural development.

Local Area Banks (LABs)

● Purpose: To mobilize rural savings and make them available for investments in local
areas. LABs operate within a limited area comprising three contiguous districts.
● Regulatory Framework: Established under the Companies Act, 2013. They are
regulated by the RBI and must adhere to priority sector lending norms.

Cooperative Banks
● Purpose: Initially set up to supplant indigenous money lenders and provide credit to
rural areas. Today, they serve agriculture, allied activities, rural-based industries, and
trade.
● Types:
○ Urban Cooperative Banks: Operate in urban and semi-urban areas.
○ Rural Cooperative Banks: Operate in rural areas.
● Regulatory Changes: Recent changes under the Banking Regulation (Amendment)
Act, 2020 aim to strengthen regulatory oversight and governance.

Aspect Scheduled Commercial Cooperative Banks

Banks (SCBs)
Definition and Listed in the Second Schedule of Financial entities established
Objective the RBI Act, 1934. on a cooperative basis.

Objective: Profit-making and Objective: Providing credit

providing a wide range of banking facilities and promoting
services. members' economic interests.

8
Regulatory Primary Regulator: Reserve Primary Regulator: Dual
Authority Bank of India (RBI). control by RBI and respective
State Governments.

Compliance: Strict adherence to Urban Cooperative Banks

RBI norms. (UCBs): Regulated by RBI.

Rural Cooperative Banks:

Regulated by NABARD and
State Governments.

Ownership and Ownership: Owned by Ownership: Owned by

Management shareholders, including the members who use the bank's
public, corporations, and the services.
government.
Management: Professional Management: Managed by
management with a board of an elected board of members.
directors.
Scope of Scope: Operate nationwide with Scope: Typically operate
Operations a wide range of services. within local areas, districts, or
states.
Branches: Extensive network in Branches: Limited network
urban and rural areas. focused on rural and
semi-urban areas.
Services Offered Services: Comprehensive Services: Agricultural loans,
services including savings, loans, small business loans, and basic
credit cards, and digital banking. banking.

Technology: Advanced Technology: Limited

infrastructure offering internet technological adoption, some
and mobile banking. larger UCBs offer digital
services.
Financial Inclusion Financial Inclusion: Financial Inclusion:
and Social Role Significant role through Promotes financial inclusion in
government schemes like Jan rural areas.
Dhan Yojana.
Social Responsibility: Social Role: Focused on
Undertake CSR activities as community development and
mandated by law. socio-economic upliftment.

Capital Adequacy Capital Adequacy: Higher Capital Adequacy: Lower

and Risk requirements as per Basel III requirements compared to
Management norms. SCBs.
Risk Management: Robust Risk Management: Weaker
frameworks in place. practices due to smaller scale
and resources.

9
Profitability and Profitability: Generally, more Profitability: Lower,
Challenges profitable due to diversified focusing on member benefits.
income sources.
Challenges: NPAs, competition, Challenges: Limited
regulatory compliance. resources, political
interference, governance
issues.

India Post Payment Bank (IPPB)

● Purpose: A wholly-owned subsidiary of the Department of Post, aimed at providing
banking services through physical and digital platforms.
● Functions: Accept deposits up to Rs. 2 lakhs, issue debit cards, provide direct benefit
transfers, and offer remittance services. They cannot issue credit cards or provide
loans.
● Special Features: They use Aadhaar-based biometric authentication and provide
doorstep banking services.

Regulation and Supervision

Reserve Bank of India Act, 1934 (RBI Act)
The RBI Act establishes the Reserve Bank of India and defines its functions, including
regulating India's monetary policy.
● Section 7 allows the Central Government to direct the RBI in public interest. In 2018,
the government used this section to address issues like liquidity for Non-Banking

10
 Financial Companies (NBFCs) and lending to Micro, Small, and Medium Enterprises
(MSMEs).
● Sections 47 and 48 deal with the financial aspects of the RBI's operations.
○ Section 48 exempts the RBI from paying income tax, but the RBI transfers its
surplus to the government after making provisions for contingency funds and the
Asset Development Fund (ADF).
○ Section 47 mandates that any profits made by the RBI from its operations be sent
to the Centre. In FY24, the RBI approved the highest-ever surplus transfer of
₹2.11 lakh crore to the government, more than double the previous year’s ₹86,416
crore.

Banking Regulation Act, 1949 (BR Act)

The Banking Regulation Act, 1949 (BR Act) provides a framework for the supervision and
regulation of all banks, granting the RBI the power to license and regulate bank operations.
● Section 35A empowers RBI to issue directives to banks to protect depositors'
interests. For example, RBI imposed restrictions on Paytm Payments Bank after an
audit revealed persistent non-compliance and supervisory concerns.

Foreign Exchange Management Act, 1999 (FEMA): FEMA is the

primary legislation controlling foreign exchange in India. It regulates cross-border banking
activities and is administered by the RBI to ensure the proper management of foreign
exchange.

Deposits Insurance and Credit Guarantee Corporation Act,

1961: This Act insures deposits placed with various banks through the Deposits Insurance
and Credit Guarantee Corporation (DICGC), a subsidiary of the RBI.

Payment and Settlement Systems Act, 2007: This Act governs the
regulation and supervision of payment systems in India, ensuring their smooth functioning
and security.

Securitisation and Reconstruction of Financial Assets and

Enforcement of Security Interest Act, 2002: The SARFAESI Act
provides a legal framework for the securitisation and reconstruction of financial assets and
enforcement of security interests, helping banks recover their bad loans efficiently.

Banking Ombudsman Scheme, 2006: This Scheme establishes a

quasi-judicial authority to adjudicate disputes between banks and their customers. The
banking ombudsman resolves complaints related to deficiencies in banking services through
mediation or by passing an award.

Recent Measures to Improve Regulation

1. Deposit Insurance: To provide greater protection to depositors, the DICGC raised
the insurance cover for bank deposits from ₹1 lakh to ₹5 lakh per depositor.
2. Prompt Corrective Action (PCA): applies to all banks operating in India, including
foreign banks, based on breaches of risk thresholds of identified indicators. However,
payments banks and Small Finance Banks (SFBs) are excluded from PCA.
3. Banking Regulations Act Amendment (2020): Brought cooperative banks under
RBI regulation like commercial banks. Cooperative banks are now allowed to raise
equity or unsecured debt capital from the public with prior RBI approval, and the RBI
can prescribe qualifications for the appointment and removal of their management.

11
Non-Banking Financial Companies (NBFCs)
A Non-Banking Financial Company (NBFC) is a company registered under the Companies
Act, 1956 or Companies Act, 2013, that provides financial services like lending, investing in
securities, leasing, and insurance but does not hold a banking license.
● NBFCs are regulated by both the Ministry of Corporate Affairs and the Reserve Bank of
India (RBI).
● The RBI issues licenses to NBFCs, oversees their operations, and ensures they comply
with regulatory norms.

Difference between banks & NBFCs

Aspect Banks NBFCs
Definition Financial institutions licensed to Financial institutions providing
receive deposits and make banking services without meeting
loans. the legal definition of a bank.

Operate under the Banking Operate under the Companies Act,

Regulation Act, 1949. 2013, and regulated by RBI under
the RBI Act, 1934.
Regulation and Regulated by the Reserve Bank Regulated by the RBI, but with
Supervision of India (RBI). different regulatory norms.
Must maintain CRR (Cash Not required to maintain CRR or
Reserve Ratio) and SLR SLR, but must adhere to certain
(Statutory Liquidity Ratio). prudential norms.
Deposit Authorized to accept demand Not authorized to accept demand
Acceptance deposits (savings and current deposits.
accounts).
Can issue cheques and provide Cannot issue cheques or provide
transactional banking services. transactional banking services.

Services Offered Wide range of services including Offer loans, asset financing, hire
deposits, loans, credit cards, purchase, leasing, and investment
and payment services. in securities.

Provide wealth management, Focus on niche areas like vehicle

investment banking, and other financing, housing finance,
financial services. microfinance, and infrastructure
finance.
Interest Rates Offer regulated interest rates on More flexibility in setting interest
and Fees deposits and loans. rates on loans.

12
 Fees and charges are generally Fees and charges can be higher,
regulated by the RBI. reflecting higher risk appetite.

Credit Creation Ability to create credit through Do not create credit in the same
the fractional reserve banking manner as banks; rely on
system. borrowing and equity.
Access to Direct access to payment and Do not have direct access to
Payment settlement systems like NEFT, payment and settlement systems;
Systems RTGS, and IMPS. often partner with banks.

Role in the Integral to the financial system, Complement the banking sector by
Economy providing critical services for providing credit to underserved
economic stability and growth. segments and niche markets.

Major players in implementing Significant role in financial

monetary policy and financial inclusion and providing credit to
inclusion initiatives. small and medium enterprises
(SMEs).
Government Significant influence and Lesser influence from direct
Influence regulation by government government policies.
policies.
Often required to implement More flexibility in operations and
government schemes and strategic decisions.
priority sector lending norms.

Non-Performing Assets (NPAs)

A Non-Performing Asset (NPA) is a loan where the principal or interest has been overdue for
90 days or more. NPAs are classified based on the duration they remain overdue:
● Sub-Standard Asset: NPAs for up to 12 months.
● Doubtful Asset: NPAs for over 12 months.
● Loss Asset: Assets with minimal recovery value and are considered impractical to
continue as bankable, though not entirely written off.

Data Insights (RBI's 29th Financial Stability Report):

● Gross NPA Ratio: Reduced to a multi-year low of 2.8% by March 2024.
● Net NPA Ratio: Dropped to 0.6%.
● Sectoral Data: Agriculture had the highest GNPA ratio at 6.2%, while personal loans
stood at 1.2%.

Reasons for the NPA Crisis

1. Global Financial Crisis: The RBI's Report on Trend and Progress of Banking in
India highlighted that, despite resilience, the Indian banking system was vulnerable to
the global economic slowdown and trade collapse post-crisis. Firms with global
exposure contributed significantly to NPAs.

13
 2. Twin Balance Sheet Problems: Post-2011, both the banking and corporate sectors
faced severe financial stress. NPAs in gross loans rose dramatically from around 2% in
2008 to over 11% in 2018.
3. Forbearance Policies: Between 2010-15, banks frequently restructured loans to
delay recognizing non-performance, adopting an ‘extend and pretend’ approach. By
2016, restructured assets made up over 50% of stressed assets, concealing the true
extent of the NPA crisis.
4. Stalled Judicial & Legislative Procedures: Development projects faced delays
due to prolonged judicial litigations, especially in sectors like mining, power, and steel.
Additionally, land acquisition issues led to indefinite project postponements and
stalled investments.
5. Other Factors: Aggressive lending practices, wilful defaults, loan frauds, fund
diversion, and corruption significantly contributed to NPAs. Poor information on
debtors' creditworthiness and ineffective recovery mechanisms exacerbated the issue.

Measures to Control NPAs

1. RBI Initiatives:
a. Prompt Corrective Action (PCA): Introduced in 2002 and reviewed in 2017,
PCA targets banks falling below specific capital, asset quality, and profitability
norms, imposing restrictions to manage risk.
b. Debt Restructuring Schemes: Implemented schemes like the Scheme for
Sustainable Structuring of Stressed Assets (S4A).
c. Asset Quality Review: Conducted to assess the true state of banks' asset
quality.
d. 12 February 2018 Circular: Empowered banks to initiate insolvency
proceedings and set a 180-day timeline for resolution plans.
2. Government Measures:
a. 4R’s Strategy: Encompasses Recognition, Resolution, Recapitalisation, and
Reforms. This strategy aims for transparent NPA recognition, recovery of value
from stressed accounts, recapitalising public sector banks (PSBs), and
implementing reforms for a cleaner financial system.
b. National Asset Reconstruction Company (NARCL): Announced in the
2021-2022 Union Budget to resolve stressed loans worth about INR 2 lakh crore
in phases.
c. Indradhanush Plan: Envisages capital infusion in PSBs to meet regulatory
norms and support growth based on performance.
d. Insolvency and Bankruptcy Code (IBC), 2016: Provides a clear
mechanism for resolving financial failures and insolvency for individuals and
companies, ensuring an easy exit process.
e. Lok Adalats: Established to address NPAs up to INR 20 lakhs, offering a less
expensive, straightforward method for speedy recovery without being harsh on
defaulters.
f. NCLT and NCALT: Replaced BIFR and AAIFR under IBC, allowing both
financial and operational creditors to file for liquidation, with a stipulated
resolution procedure to be completed within 330 days.
3. Other Measures:
a. Bad Banks: Set up to purchase bad loans and illiquid assets from financial
institutions, undertake loan restructuring, and absorb losses. The Public Sector
Asset Rehabilitation Agency (PARA), suggested in the Economic Survey 2016-17,
is a proposed bad bank for public sector banks.

Way Forward
1. Recognising Government Impact: The government must acknowledge how its
sector-specific decisions can influence NPAs. For instance, in the power sector,

14
 mandated renewable purchase obligations (RPOs) for state utilities have impacted
non-renewable projects.
2. Time-bound Project Evaluation: Implementing a timely evaluation process for
assessing project viability can help banks avoid NPAs resulting from ministry
decisions. This proactive approach can shield banks from secondary effects.
3. Rapid NPA Resolution: Ensuring swift resolution of recognized NPAs is vital. The
Insolvency and Bankruptcy Code (IBC) of 2016 was a positive step, but adherence to
the law's timelines must be enforced to prevent delays.
4. Governance Reforms: The government should seriously consider the Nayak
Committee's recommendations on bank board governance. Reviewing and
implementing these suggestions can strengthen oversight and management.
5. Structural Reforms: While the Banks Board Bureau has been established, further
reforms are needed. Setting up a state-owned Bank Investment Company under the
Companies Act for PSBs or fully transitioning the selection of bank chairpersons to the
Banks Board Bureau should be prioritized for deeper structural improvements.

Project Sashakt
Project Sashakt was proposed by a panel led by PNB chairman Sunil Mehta to address the
issue of bad loans in India's banking sector. It is a five-pronged strategy aimed at resolving
non-performing assets (NPAs).

Approach:
1. Loans up to ₹ 50 crore: Managed at the bank level with a resolution deadline of 90
days.
2. Loans of ₹ 50-500 crore: Banks will sign an inter-creditor agreement, allowing the
lead bank to implement a resolution plan within 180 days or refer the asset to the
National Company Law Tribunal (NCLT).
3. Loans above ₹ 500 crore: Resolved through an Asset Management Company
(AMC) or Alternative Investment Fund (AIF). The AIF will raise funds from banks and
institutional investors to bid for insolvent assets under insolvency and bankruptcy
proceedings.
4. NCLT/IBC approach: For assets larger than ₹ 500 crore already with the NCLT or
other unresolved assets, the resolution will follow the Insolvency and Bankruptcy Code
(IBC) process.
5. Asset-trading platform: A platform for trading both performing and
non-performing assets.

Prompt Corrective Action Framework

The Prompt Corrective Action Framework (PCAF) was introduced by the Reserve Bank of
India (RBI) in 2002 as a structured early-intervention system for banks facing financial
difficulties due to poor asset quality or declining profitability.

Objective:
● The main goal of the PCAF is to enable timely supervisory intervention, ensuring that
banks take corrective measures to restore their financial health.
● It aims to address the issue of Non-Performing Assets (NPAs) in the Indian banking
sector.

15
Parameters: The RBI has set specific regulatory trigger points under the PCAF, based
on three key parameters:
● Capital to Risk Weighted Assets Ratio (CRAR)
● Net Non-Performing Assets (NPA)
● Return on Assets (RoA)

Economic Capital Framework (ECF)

The Economic Capital Framework (ECF) outlines the Reserve Bank of India's (RBI)
approach to risk provisions and profit distribution, as mandated by Section 47 of the RBI
Act, 1934. The revised ECF, adopted on August 26, 2019, based on the Bimal Jalan
Committee's recommendations, is reviewed every five years.

RBI's Recent Surplus Transfer: For 2023-24, the RBI transferred a record ₹2,10,874
crore to the Union government, significantly higher than the ₹87,416 crore transferred the
previous year.

Implications of Surplus Transfer

1. Fiscal Relief: Provides significant fiscal relief, aiding in better fiscal management and
boosting capital expenditure.
2. Revenue Compensation: Helps offset revenue shortfalls due to lower tax buoyancy.
3. Budget Support: Acts as a buffer to meet budget targets.
4. Offsetting Losses: Mitigates potential losses from lower disinvestment and other
revenue sources.
5. Fiscal Management: Enhances the government's ability to manage fiscal deficits.

Arguments Against Surplus Transfer

1. Autonomy: Ensures RBI’s independence from government influence.
2. Financial Stability: Maintains sufficient reserves for managing financial crises.
3. Risk Buffer: Provides a contingency buffer for economic shocks.
4. Monetary Policy: Supports effective monetary policy implementation without fiscal
pressure.
5. Long-term Stability: Prioritizes long-term economic stability over short-term fiscal
gains.

Transferring the RBI surplus to the government offers immediate fiscal relief and supports
budgetary goals. However, maintaining adequate reserves is essential for preserving the
RBI’s autonomy and ensuring long-term financial stability. A balanced approach is crucial
for sustainable economic health, balancing immediate fiscal needs with long-term stability.

16
Monetary Policy
Monetary policy is the process by which the Reserve Bank of India (RBI) controls the
creation and supply of money in the economy.

Objectives: The objectives of monetary policy in India have evolved over time to include
maintaining price stability, ensuring an adequate flow of credit to productive sectors of the
economy, supporting economic growth, and achieving financial stability.

Monetary Policy Framework Agreement (2015): In February 2015, the

Government of India and the RBI signed the "Monetary Policy Framework" Agreement. This
agreement outlines the primary objective of monetary policy, which is to maintain price
stability while keeping in mind the objective of growth.

Key Points:
● The inflation target has been set at 4%, with a tolerance band of +/- 2%, for the period
from 2021 to 2026.
● The inflation measure used is the Consumer Price Index (CPI) - Combined, published
by the Ministry of Statistics and Programme Implementation (NSO).
● The RBI is responsible for achieving this inflation target. If the RBI fails to meet the
target, it must provide a written report to the Government of India explaining the
reasons for the failure, the remedial actions to be taken, and an estimated time period
within which the target will be achieved.

Monetary Policy Committee (MPC): The Government of India constituted a

Monetary Policy Committee (MPC) in September 2016, which determines the policy (repo)
rate required to achieve the inflation target.
● The MPC has six members, three from the RBI (including the RBI Governor) and three
appointed by the Government of India. All members have one vote, and in the event of
a tie, the Governor has a second or casting vote.
● The decisions of the MPC are binding on the RBI.
● The MPC has the authority to decide the repo rate only and not the Cash Reserve Ratio
(CRR) or the Statutory Liquidity Ratio (SLR).

Instruments/Tools:
1. Repo Rate: The repo rate is the fixed interest rate at which the RBI provides
overnight liquidity to banks against the collateral of government and other approved
securities under the Liquidity Adjustment Facility (LAF). It is also known as the policy
rate, as it forms the basis for other rates such as the reverse repo rate, bank rate, and
Marginal Standing Facility (MSF) rate.
2. Reverse Repo Rate: The reverse repo rate is the fixed interest rate at which the RBI
absorbs liquidity, on an overnight basis, from banks against the collateral of eligible
government securities. The reverse repo rate is currently set at 0.65% below the repo
rate.
3. Standing Deposit Facility (SDF): Introduced in April 2022, the SDF allows banks
to deposit any amount for overnight (or longer tenures in the future) with the RBI at
the repo rate minus 0.25%. This facility strengthens the operating framework of
monetary policy and serves as a financial stability tool in liquidity management.
4. Liquidity Adjustment Facility (LAF): The LAF consists of overnight and term
repo auctions. The Reserve Bank has increased the proportion of liquidity injected
under variable rate repo auctions to help develop the inter-bank term money market.
This facility aids in improving the transmission of monetary policy.

17
 5. Marginal Standing Facility (MSF): The MSF allows scheduled commercial banks
to borrow additional amounts of overnight money from the RBI against their SLR
portfolio up to a limit at a penal rate of interest, which is the repo rate plus 0.25%.
6. Bank Rate: The bank rate is the standard rate at which the RBI is prepared to buy or
rediscount bills of exchange or other commercial paper. It is currently aligned with the
MSF rate, serving as a penalty rate for shortfalls in reserves.
7. Reserve Requirements:
a. Cash Reserve Ratio (CRR): The CRR is the amount of cash that scheduled
commercial banks are required to maintain with the RBI, calculated as a
percentage of their Net Demand and Time Liabilities (NDTL).
b. Statutory Liquidity Ratio (SLR): The SLR is the amount of reserves that
scheduled commercial banks are required to maintain in liquid assets such as
government securities, gold, and cash.
8. Open Market Operations (OMO): OMOs involve the sale or purchase of
government securities by the RBI to control the money supply in the economy. There
are two types of OMOs: outright OMOs, which are permanent, and LAF OMOs, which
involve the temporary sale or purchase of securities.
9. Market Stabilization Scheme (MSS): Introduced in 2004, the MSS is an
instrument of sterilization used to absorb surplus liquidity of a more enduring nature
arising from large capital inflows. The scheme involves issuing government securities
and impounding the proceeds in a separate account, thereby reducing the money
supply.

Policy Types:
Monetary policy can be either expansionary or contractionary.
1. Expansionary Monetary Policy: Increases the supply of money, also known as a
dovish, accommodative, or easy money policy.
2. Contractionary Monetary Policy: Reduces the money supply, also known as a
hawkish or tight money policy.

Historical Context:
● From 1991 to 2000, the primary tools of RBI's monetary policy were the Cash Reserve
Ratio (CRR) and the Statutory Liquidity Ratio (SLR).
● Since 2000, the RBI has primarily used the repo rate and reverse repo rate, in addition
to the OMOs, as the main tools of monetary policy.

Monetary Policy Transmission (MPT)

Monetary policy transmission is the mechanism through which central banks influence key
economic variables, such as inflation, output, and employment, by adjusting interest rates,
money supply, and other monetary tools.

RBI and its Role: The Monetary Policy Committee (MPC), formed under the amended RBI
Act, sets the policy repo rate to maintain a medium-term inflation target of 4%, within a +/-
2% band. Effective transmission of monetary policy is vital for the RBI to meet its mandate,
and any disruption hampers this goal.

Role of Banks: Central bank policy rate changes affect banks' cost of funds and lending
rates. For instance, a lower policy rate should reduce loan interest rates from commercial
banks, lowering borrowing costs for customers and increasing aggregate demand.

18
Reasons Behind Weak Monetary Policy Transmission
1. Structural Factors:
a. Low Dependency on Repo Rate: The Indian financial system is dominated
by banks, with low reliance on the repo rate due to underdeveloped bond
markets and low investments in corporate bonds and equities.
b. Lack of Competition in the Banking Sector: The stagnant number of
banks, dominated by public sector banks with NPAs, and entry barriers for
private and foreign banks reduce competition and the incentive to pass on rate
changes to consumers.
2. Institutional Factors:
a. Double Financial Repression:
i. Asset Side: High Statutory Liquidity Ratio (SLR) and Priority Sector
Lending (PSL) norms restrict banks' funds and lending to productive
sectors.
ii. Liability Side: Low household savings result in low deposit growth,
limiting banks' ability to offer cheaper credit and pass on rate cuts.
b. Non-Performing Assets (NPAs): High NPAs and poor asset quality in public
sector banks limit their ability to lower interest rates.
3. Operational Factors:
a. Rigidity in Bank Interest Rates: An RBI study highlighted the rigidity in
interest rates on savings deposits, which remained unchanged despite
fluctuations in the policy repo rate and term deposit rates.
b. Issues in the MCLR System: The RBI’s study group found slow and uneven
transmission under the MCLR system, with significant impact on new loans but
not on existing loans. Transmission was also asymmetric across different
monetary policy cycles.
c. Arbitrary Calculations: Arbitrary calculations of base rate/MCLR and
spreads undermine the interest rate-setting process.
4. Policy Factors:
a. Administered Interest Rates: Government-administered interest rates on
small-savings schemes offer higher returns than banks, reducing deposit growth
and hindering rate cuts on term deposits.

19
Impact of Lag in Monetary Policy Transmission
1. Household Sector:
a. Reduced Borrowing: Ineffective transmission of repo rate cuts results in
higher lending rates, leading to less borrowing by households. This stifles
consumption and housing demand.
b. Impeded Consumer Spending: When rate cuts are not effectively passed on,
household spending decreases, reducing overall consumption and slowing down
economic growth.
2. Corporate Sector:
a. Deters Investment: Delays in passing on rate cuts affect corporate sentiment,
reducing investments by private firms and hindering economic expansion.
b. Ineffective Borrowing Costs: Higher borrowing costs due to weak
transmission limit corporate access to cheaper credit, affecting their ability to
finance operations and expansion plans.
3. Banking Sector:
a. Ineffective RBI Policies: Banks not aligning with RBI’s rate changes
undermine the central bank's efforts to control inflation and stimulate growth,
rendering monetary policies ineffective.
4. Export Sector:
a. Hampered Export Competitiveness: Without effective rate cut
transmission, the domestic currency does not depreciate, which can hurt export
competitiveness by making domestic goods more expensive in global markets.
5. Small and Medium Enterprises (SMEs):
a. Impact on SME Borrowers: Retail and SME borrowers, who often rely on
base rate-linked loans, are particularly affected by weak transmission. This lack
of pass-through during easy monetary cycles hampers their ability to benefit
from reduced borrowing costs, as highlighted by an RBI report.
6. General Economic Impact:
a. Impeded Economic Growth: Lack of effective transmission of rate cuts to
customers may reduce overall spending and consumption, potentially leading to
an economic slowdown.

Way Forward
1. Adopting External Benchmark-Based Lending Rates: Adopt a lending rate
system based on external benchmarks, such as the TBill rate, CD rate, or RBI’s policy
repo rate, in line with global practices like the London Interbank Offered Rate
(LIBOR).
2. Addressing the NPA Crisis: Addressing the Non-Performing Assets (NPA) crisis
will enhance banks' ability to pass on rate cuts to customers.
3. Easing Asset-Side Constraints: Reassess Priority Sector Lending (PSL) norms and
ease Statutory Liquidity Ratio (SLR) obligations to alleviate banks' asset-side
repression.
4. Deregulation of Small Savings Interest Rates: Implement market-based
mechanisms to determine small savings rates, as recommended by the Y V Reddy and
Shyamala Gopinath Committees, to boost bank deposits.
5. Adjusting Base Rate-Linked Loans: Recalculate the base rate by removing
arbitrary components, as recommended by the RBI’s Internal Study Group, to ensure
accurate and fair lending rates.
6. Facilitating Migration to MCLR: Allow existing borrowers to switch to the
Marginal Cost of Funds-based Lending Rate (MCLR) without conversion fees,
following the RBI working group's advice.

20
Priority Sector Lending (PSL)
Priority Sector Lending (PSL) was introduced in 1972 to ensure the flow of credit to vital
sectors which, despite being creditworthy, struggle to secure loans from formal financial
institutions.

Categories of Priority Sectors:

● Agriculture
● Micro, Small, and Medium Enterprises (MSMEs)
● Export Credit
● Education
● Housing
● Social Infrastructure
● Renewable Energy
● Others

PSL Targets:
1. Domestic Scheduled Commercial Banks (SCBs) & Foreign Banks with 20+
branches: These banks must allocate 40% of Adjusted Net Bank Credit (ANBC) or
Credit Equivalent Amount of Off-Balance Sheet Exposure (CEOBE), whichever is
higher, to priority sectors.
2. Foreign Banks with less than 20 branches: These banks must also allocate 40%
of ANBC or CEOBE, whichever is higher. Out of this, up to 32% can be for export
credit, and at least 8% must be for any other priority sector.
3. Regional Rural Banks (RRBs) & Small Finance Banks: These banks must
allocate 75% of ANBC or CEOBE, whichever is higher, to priority sectors.
4. Primary (Urban) Co-operative Banks (UCBs): These banks must currently
allocate 40% of ANBC or CEOBE, whichever is higher, to priority sectors. This target
will increase to 75% by FY2025-26.

Consequences of Missing Targets: If banks fail to meet their PSL targets, they must
deposit the shortfall amount into the Rural Infrastructure Development Fund (RIDF) with
NABARD or other specified funds managed by NABARD, SIDBI, Mudra, National Housing
Bank, etc., as decided by the RBI.

Priority Sector Lending Certificates (PSLCs): PSLCs are certificates

issued against priority sector loans. They allow banks to meet their PSL targets by
purchasing these instruments. PSLCs provide a safeguard against shortfalls and incentivize
additional lending to priority sectors.

Cooperative Banks
Cooperative banks in India are customer-owned financial institutions operating on a
cooperative basis. They follow the principles of 'no profit, no loss' and 'one person, one vote'.

As of Feb, 2024, there are over 1,500 scheduled and non-scheduled Urban Cooperative
Banks in India with a total number of branches exceeding 11,000.
The banks have a deposit size of over Rs 5.33 lakh crore, and total lending of more than Rs
3.33 lakh crore.

21
Significance of Cooperative Banks in India:
1. Credit for Agriculture and Rural Sectors: Cooperative banks, including PACS,
DCCBs, and SCBs, provide crucial credit to farmers, aiding agricultural activities and
rural development.
2. Support for MSMEs and SHGs: Urban Cooperative Banks (UCBs) fund small and
medium-sized businesses, and self-help groups, boosting local economies. Example:
Lijjat Papad.
3. Democratic Governance: Members collectively decide policies and elect the board,
ensuring democratic control. Example: Political empowerment in Maharashtra, Kerala,
and Gujarat.
4. Member-Focused Services: Cooperative banks focus on member needs over
profits, offering personalized products like affordable housing loans and customized
savings plans.
5. Community Support: They support local projects in infrastructure, education, and
healthcare, strengthening community socio-economic fabric. Example: Cooperative
banks' role in Sikkim's development.
6. Economic Resilience: Cooperative banks are more resilient to economic downturns
due to lower exposure to high-risk assets. Example: UCBs' resilience during the 2008
Global Financial Crisis.

Issues
1. Financial Issues
a. Financial Frauds: Many cooperative banks have failed due to large-scale
financial scams. Example: PMC Bank, Guru Raghavendra Cooperative Bank,
MSC Bank.
b. Financial Instability: Cooperative banks frequently face issues like low
capitalization, high NPAs, and poor Capital Adequacy Ratio (CAR).
2. Governance and Regulatory Issues
a. Board Members Misusing Borrowing Powers: Unlike commercial banks,
cooperative bank board members can borrow from their own banks, leading to
misuse of funds. Example: PMC Bank.
b. Political Interference and Corruption: Boards dominated by local
politicians often engage in illegal loan issuance and black money transactions.
c. Regulatory Confusion: Dual control by the RBI and state governments causes
regulatory ambiguities and hampers effective supervision.
d. Inadequate Audit Practices: Irregular and superficial audits by state officials
weaken oversight.
e. Governance Challenges: Small size, scattered locations, and lack of unified
policies complicate effective governance and oversight.
3. Competition from Emerging Financial Services: Growth of MFIs, FinTech
companies, payment gateways, and NBFCs hampers cooperative banks' ability to
attract deposits and offer loans.
4. Technological and Logistical Deficiencies: Poor software and bookkeeping
systems increase vulnerability to fraud.

Way Forward:
1. Strict RBI Oversight: RBI should enforce regular delicensing and compulsory
amalgamation of loss-making cooperative banks to ensure better regulation.
2. Formation of Cooperative Federation: Establish a cooperative federation to
conduct comprehensive and regular audits of cooperative banks.
3. Infrastructure Upgrade: Implement standardized software and bookkeeping
systems linked to a central database for effective financial monitoring using AI.
4. Reduce Political Influence: Introduce young professionals in managerial roles to
steer cooperative banks forward, minimizing political interference.

22
 5. Implement N.S. Vishwanathan Committee Recommendations: Adopt the
four-tier classification system, form board-level committees, establish a professional
board of management, and set fixed tenures for board members.
6. Implement R Gandhi Committee Recommendations: Convert Urban
Cooperative Banks (UCBs) with a business size of ₹20,000 crore or more into regular
commercial banks.

Financial Inclusion
Financial inclusion aims to ensure everyone, regardless of their socioeconomic status, has
access to essential financial services like banking, savings, credit, insurance, and digital
payments. This is crucial for promoting equitable economic growth and empowering
marginalized communities by integrating them into the formal financial system.

Schemes launched for financial inclusion include:

● Reserve Bank's FI-Index
● PMJDY
● Mudra loans
● Atal Pension Yojana
● Pradhan Mantri Jeevan Jyoti Bima Yojana
● Pradhan Mantri Suraksha Bima Yojana
● Stand-up India

23
Importance of Financial Inclusion
1. Economic Growth:
a. Multiplier Effect: Boosts overall economic output, reduces poverty and income
inequality, and promotes gender equality and women empowerment.
b. Reduce Poverty: Increases access to financial services and savings, decreasing
income inequality and poverty, leading to higher employment levels.
c. Development: Higher savings, reduced income inequality, decreased poverty,
and increased employment opportunities.
2. Entrepreneurship: Access to formal credit promotes entrepreneurship in the
country.
3. Efficient Service Delivery: Ensures funds reach targeted beneficiaries, reducing
leakage and ensuring effective subsidy distribution.
4. Women Empowerment:
a. Financial Independence: Involves women in household finances, promoting
self-reliance and financial independence, and enhancing financial literacy.
b. Access to Resources: Provides access to savings, credit for business and
training, and encourages mobile phone ownership for financial transactions.
c. Special Benefits: Banks offer women-specific benefits like lower interest rates
and better savings incentives.

Issues
1. Illiteracy and Poverty: Nearly 1/4th of India's population is illiterate and below the
poverty line, making financial inclusion challenging.
2. Rural Banking: Lack of sufficient bank branches in rural areas hinders financial
inclusion.
3. Rising NPAs: High levels of Non-Performing Assets (NPAs) in banks, particularly
due to large corporates, impede financial inclusion efforts.
4. Credit Penetration: Lack of information on the creditworthiness of low-income
households and informal businesses results in limited access to credit and high
borrowing costs.

National Strategy for Financial Inclusion

The Reserve Bank of India (RBI) released the National Strategy for Financial Inclusion
2019-2024 on January 10, 2020. This strategy outlines the vision and objectives for financial
inclusion in India.

Steps Taken for Financial Inclusion:

● PMJDY and Insurance Schemes: Pradhan Mantri Jan Dhan Yojana (PMJDY),
Pradhan Mantri Suraksha Bima Yojana (accidental death/disability cover), and Atal
Pension Yojana (pension cover).
● Bank-Led Model: RBI's bank-led model includes differentiated banking licenses
(small finance banks and payments banks) and the Indian Post Payments Bank
(launched in September 2018) to improve connectivity.

Challenges:
1. Infrastructure: Inadequate infrastructure in rural, Himalayan, and northeastern
regions.
2. Connectivity: Poor tele and internet connectivity in rural areas.
3. Socio-Cultural Barriers: Social and cultural obstacles.
4. Market Players: Lack of market players in the payment product space.

Strategic Objectives:
1. Universal access to financial services.
2. Providing a basic suite of financial services.

24
 3. Access to livelihood and skill development.
4. Financial literacy and education.
5. Customer protection and grievance redressal.
6. Effective coordination.

Measurement of Financial Inclusion:

1. Access: Number of bank branches or ATMs per population.
2. Usage: Percentage of adults with a savings account, insurance, or pension policy.
3. Quality of Services: Grievance redressal measured by the number of complaints
received and resolved.

Basel Norms
These are agreements by the Basel Committee on Banking Supervision to address risks to
banks and the financial system. There are three sets of regulations: Basel I, II, and III.

Basel I: Focuses on credit risk, which is the risk of loss if a borrower fails to repay a loan.
Sets a minimum capital requirement at 8% of risk-weighted assets (RWA).

Basel II: Based on three pillars:

1. Capital Adequacy Requirements: Maintain a minimum capital adequacy of 8% of
risk assets.
2. Supervisory Review: Banks must use better risk management techniques for credit,
market, and operational risks.
3. Market Discipline: Requires increased disclosure, including Capital Adequacy Ratio
(CAR) and risk exposure.

Basel III: Developed in response to the 2007-2008 financial crisis to improve the
quantity and quality of bank capital and enhance supervision, risk management, and
disclosure standards.

Three Pillars of Basel III:

1. Pillar 1: Accurate measurement of credit risk to ensure sufficient capital.
2. Pillar 2: Expands the role of supervisors in risk management.
3. Pillar 3: Enhanced disclosure standards for capital adequacy, asset quality, and risk
management.

Risk Coverage: Basel III covers credit risk, market risk, and operational risk.

Capital Adequacy Ratio (CAR):

1. Basel III stipulates an 8% CAR.
2. RBI requires Indian scheduled commercial banks to maintain a 9% CAR, and public
sector banks to maintain a 12% CAR.

Insolvency and Bankruptcy Code (IBC)

The Insolvency and Bankruptcy Code (IBC), enacted in 2016, is a comprehensive bankruptcy
law in India designed to consolidate and amend the existing legal framework related to
insolvency and bankruptcy for corporate entities, partnership firms, and individuals. The
primary objective of the IBC is to establish a time-bound and creditor-driven process for

25
resolving insolvency, thereby enhancing the credit culture and business environment in the
country.

Key Objectives and Scope:

1. Time-bound Insolvency Resolution: The IBC aims to provide a structured and
time-efficient process for resolving insolvency, ensuring that cases are handled swiftly
to minimize losses for creditors.
2. Creditor-driven Approach: By prioritizing the interests of creditors, the IBC seeks
to improve the overall credit culture, making it more conducive for business
operations.
3. Resolution of Bad Loans: A significant aspect of the IBC is its focus on addressing
the problem of non-performing assets (NPAs) in the banking system, thereby
stabilizing the financial sector.

Regulating Authority:
● Insolvency and Bankruptcy Board of India (IBBI): Established under the IBC,
the IBBI is a statutory body responsible for formulating and enforcing rules and
regulations related to insolvency and bankruptcy resolution. The IBBI consists of 10
members, representing the Ministry of Finance, the Ministry of Corporate Affairs, and
the Reserve Bank of India.

Adjudicating Authority:
1. National Company Law Tribunal (NCLT): The NCLT has jurisdiction over
insolvency matters related to companies and other limited liability entities.
2. Debt Recovery Tribunal (DRT): The DRT handles insolvency cases concerning
individuals and partnership firms, excluding limited liability partnerships.

Significance of the Insolvency and Bankruptcy Code (IBC)

1. Effective Resolution of Stressed Assets
a. Debt Resolution: Since 2016, IBC has resolved ₹3.16 lakh crore of debt in 808
cases over seven years (CRISIL).
b. Higher Recovery Rates: Creditors have recovered an average of 32% of
admitted claims and 169% of liquidation value, outperforming previous
mechanisms (5-20% recovery).
2. Behavioral Change Among Borrowers
a. Proactive Settlements: Borrowers, fearing company loss, have settled over ₹9
lakh crore in debt before insolvency proceedings, showcasing the IBC’s efficacy in
encouraging timely settlements.
3. Growth in Insolvency Filings
a. Increase in CIRP Cases: CIRP cases admitted by NCLTs rose from 744 in
March 2018 to 5,893 by September 2022, indicating the growing reliance on IBC.

Issues
1. Declining Recovery Rates
a. Reduced Recovery Rates: Recovery rates have fallen from 43% in March
2019 to 32% by September 2023.
b. Consequences: Lower asset values and sub-optimal recoveries for creditors
and stakeholders.
c. Causes of Decline:
i. Judicial Shortages: A shortage of judges slows down the case processing,
prolonging resolutions.
ii. Delay in Default Identification: Time-consuming processes for
identifying defaults delay the initiation of resolution proceedings.
2. Prolonged Resolution Times

26
 a. Extended Resolution Periods: The average time to resolve cases increased to
over 700 days in FY22, exceeding the 330-day deadline.
b. Consequences: Slower resolution processes and lower recovery rates due to
delays.
c. Causes of Delays:
i. Prolonged Pre-IBC Admission Stage: Delays in the pre-admission
stage extended to 650 days in fiscal 2022, up from 450 days in fiscal 2019.

Way Forward
CDE Approach Suggested by CRISIL
1. Capacity Augmentation
a. Enhance Resources: Strengthen the infrastructure and increase human
resources at key institutions like the NCLT.
b. Impact: Improve case processing and reduce the backlog of 13,000 cases.
2. Digitalisation
a. Create a Digital Platform: Connect all stakeholders involved in the IBC
process.
b. Impact: Eliminate data asymmetry, increase transparency, and facilitate quicker
decision-making.
3. Expansion of Pre-Pack Resolutions
a. Include Large Corporates: Extend the pre-packaged insolvency resolution
process (PPIRP) to large corporates.
b. Impact: Prevent value erosion due to delays in the resolution process.

Major issues in Banking Sector

Issue Description Solution
Risk from Lending to infrastructure and Banks should set internal
Infrastructure and state government projects risks limits based on each state’s
Capital Investments defaults due to weak state financial health.
finances.
Interconnected Defaults could spread due to Strong risk monitoring
Lending and interconnected lending and weak and emphasizing good
Governance governance. governance.
Challenges for SMEs in SMEs may face risks due to global Banks should assess risks
a Re-Globalizing World shifts and trade agreements. to SMEs and prepare for
potential cash flow
disruptions.
Changing Liabilities Changes in liabilities due to Banks need to be cautious
Landscape digital trends and consumption and prudent, monitoring
affect retail deposits, posing structural shifts in savings.
liquidity challenges.

Stock Market and High stock market valuations may Integrated supervision and
Retail Exposure Risk risk retail exposures with rigorous stress tests on
increased demat accounts and retail portfolios are
high PE ratios. necessary.

27
Way Forward to Strengthen the Indian
Banking Sector
1. Establishing Major Banks
a. Narasimham Committee Insights (1991): Advocated for three or four
major commercial banks with both domestic and international presence.
b. Secondary Tier Banks: Include mid-sized and niche banks with extensive
economic reach.
c. Government Actions: Consolidation of some PSBs and creation of entities like
Development Finance Institution (DFI) and a Bad Bank.
2. Need for Specialized Banks
a. Unique Banking Needs: Specialized banks required for specific sectors such
as retail, agriculture, and MSMEs.
b. DFIs and Niche Banks: Aim to provide low-cost public deposits and improve
asset-liability management.
3. Implementing Blockchain Technology
a. Risk Management: Improved through Blockchain.
b. Neo-Banks: Utilize Blockchain for digital financial inclusion and growth.
c. Supervision: Streamlined oversight and control with Blockchain.
4. Reducing Moral Hazard
a. Public Sector Bank Failures: Rare due to perceived sovereign guarantee.
b. Privatization Challenge: Affects public trust.
c. Reform Needs: Increase deposit insurance and efficient resolution
mechanisms to mitigate moral hazard and systemic risks.
5. Integrating ESG Principles
a. Specialized Banks: Consider listing on stock exchanges and adopting ESG
(Environmental, Social, and Governance) principles to enhance long-term
stakeholder value.
6. Enhancing Banking Regulations
a. Regulatory Improvements: Government should enhance regulations to
support diversified loan portfolios, establish sector-specific regulators, and
effectively address deliberate defaults.
7. Developing the Corporate Bond Market
a. Dynamic Banking System: Promote corporate bond market to reduce
reliance on bank-centric models.
8. Improving Risk Management
a. State-Specific Risk Models: Develop models similar to the Bank Exposure
Risk Index to assess risks of lending to state governments and infrastructure
projects.
9. Adapting to Changes in Liabilities
a. Evolving Liabilities: Acknowledge the impact of digitization and changing
consumption trends on retail deposits.
b. Strategic Response: Formulate strategies to adapt to shifts in retail deposits,
especially in Tier 1 and Tier 2 cities.

28