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    BANKING REFORMS AND REPORTS

    INTRODUCTION:

    The changes in Indian banking since liberalization have been no less marked than those in the

    financial markets. In relatively less conspicuous but equally certain ways, the banking sector has

    moved towards greater privatization and globalization in the decade and a half since

    liberalization. As in the case of financial markets, the ride has not been free of bumps, but on the

    whole, it has stayed on course. Larger private banks often floated by public institutions as

    well as foreign banks have entered the arena and several new financial products are being

    offered. While mishaps like the Global Trust Bank collapse have occasionally shaken the

    confidence of depositors and the financial system, timely intervention and bail-out, regardless of

    their feared long-term effects, have avoided them from boiling over to crisis proportions.

    As the real sector reforms began in 1992, the need was felt to restructure the

    Indian banking industry. The reform measures necessitated the deregulation of the financial

    sector, particularly the banking sector. The initiation of the financial sector reforms brought

    about a paradigm shift in the banking industry. In 1991, the RBI had proposed to form the

    committee chaired by M. Narasimham, former RBI Governor in order to review the Financial

    System viz. aspects relating to the Structure, Organisations and Functioning of the financial

    system. The Narasimham Committee report, submitted to the then finance minister, Manmohan

    Singh, on the banking sector reforms highlighted the weaknesses in the Indian banking system

    and suggested reform measures based on the Basle norms. The guidelines that were issued

    subsequently laid the foundation for the reformation of Indian banking sector.

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    GOIPORIA COMMITTEE

    For over two decades, the Government, the Reserve Bank of India and the banks have been

    seriously concerned about the Customer Service in banks. Several studies were instituted and

    strategies evolved to improve the Customer Service. As early as in 1972, the Banking

    Commission, appointed by the Government of India under the Chairmanship of Veteran Co-

    operative banker Sri R. G. Saraiya, had made several recommendations on Customer Service.

    Later, in the year 1975 the Government appointed a Working Group on Customer Service in

    banks under the Chairmanship of Sri R.K. Talwar. This Working Group made 176

    recommendations covering all the important areas relating to customer service besides some

    general recommendations. For monitoring the implementation of these recommendations, a

    Standing Committee on Customer Service of Banks with representatives from Ministry of

    Finance, RBI and the IBA and a few public sector banks was constituted.

    In the decade of 80s, greater importance was given for the redressal of grievances of customers.

    The Government and the RBI, to redress the grievances took several steps such as setting up of

    Customer Service Committees, Customer Service Centres in various cities, Directorate of Public

    Grievances under the Cabinet Secretariat etc., as also in the observance of Customer Day. The

    year 1986 was celebrated by Public Sector Banks as Customer Service Year. The year 1988

    witnessed further improvement in customer service with the implementation of the

    recommendations of the Estimates Committee.

    In response to the former Finance Ministers observation that the banking industry has to be

    made more responsive to the needs to the public, the RBI constituted a Committee under the

    Chairmanship of Mr. M.N. Goiporia in 1990, to look into the various aspects of customer

    service.

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    The Terms Of Reference Of The Said Committee Were:

    1. The causes for the persistence of below par customer service in banks.

    2. The areas in which deficiencies in customer service are prevalent and how these can be

    remedied;

    3. Improvement in work culture and inculcation of greater customer orientation on the part of the

    bank Employees;

    4. Identification of structural and operational rigidities and inadequacies in the existing systems

    and procedures which adversely affect the working of banks, especially customer service, and

    suggesting remedial measures with a view to ensuring greater flexibility and speedier transaction

    of business;

    5. Up-gradation of technology to ensure prompt and efficient service to customers, better

    housekeeping, quicker flow of information and effective supervision and managerial control and

    competitive strength.

    For examining the level of customer service prevailing in banks and for framing its

    recommendations for improvement, the Committee made use of several sources of information

    including findings of the survey/studies conducted by the RBI and other organizations, direct

    interaction with representatives of different consumer groups, discussions with Chairman and

    executives of banks, visits to a few branches of banks and responses received to the

    questionnaires circulated to the different customer interest groups.

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    Increases customers choice of alternatives and more so in the service industry as the

    measurement of service, which is intangible, is subjective and varies from time to time and from

    person to person. However, to have the winning edge in a competitive market, the provision of

    superior quality of service rendered would make all the difference. Total Quality Management

    would, therefore, become an integral part for the organization in providing services.

    Banking in the coming days as foreseen would be different with acute competition not only

    amongst the banks themselves but also from other financial intermediaries. This would bring to

    the fore, the two main factors viz., efficacy and customer service based on which the success rate

    will be determined. Efficacy to a greater extent can be brought about by adopting the modern

    infrastructural facilities and mechanization. Since customer service needs continuous up-

    gradation, banks should constantly revive the level of service rendered and improve upon them

    with the ultimate aim of satisfying the customer. In the years ahead, technology driven banking

    alone can help in improving customer service. ATMs, net banking, phone-banking etc. will be

    gaining importance in the days ahead and hence banks should give more attention to technology

    and expansion of internet banking, ATM network etc. in the days to come.

    The factoring services1 made an entry into India with deliberate attempt supported by theindustrial organizations and academicians as a step forward to upgrade economy in the year

    1991. To introduce these services, for the first time, Working group on Money Market

    popularly known as Vaghul Committee was constituted in 1987 which strongly recommended

    for introducing factoring services, particularly for small scale units

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    VAGHUL COMMITTEE:

    Until few years ago, the Indian money market was small with transactions generally confined to

    overnight borrowing and lending money by Bank/ financial institutions. Except commercial bills,

    there was no major other short term negotiable instruments for dealing. The fixed interest rate

    regime along with restrictions on entry of participants in the market provided little incentive for

    market development, which was almost dormant. The money management was, therefore,

    regarded as if no consequence by the investors, aspiring for better returns on short term funds.

    The reserve Bank of India however, in due course of time, recognized the need for an active

    secondary money market in India especially in the context of the setting up subsidiaries by many

    banks for operating mutual fund schemes and ever expanding business of the unit Trust of India,

    Life Insurance Corporation of India, Industrial Development bank of India and other financial

    institutions which needed avenues for the development of funds flowing in regularly. For an in

    depth study and to make recommendations on the step required to be taken for the development

    of a healthy and active money market, the Reserve Bank of India, appointed a working group

    under the Chairmanship of Shri. N. Vaghul in September 1986. The Bank of India for thedevelopment of the Indian money market. The broad objectives and the strategy laid down by the

    Vaghul group serves as the milestone in the development of Indian money market. The working

    group recommended that the money market should be made broad- based by introducing new

    negotiable instruments and allowing more participants. Turnover or volume of trading is a sure

    indicator of the growth and for increase in turnover, there has to be a free play of market forces

    in fixing the rates and prices. The working group therefore recommended that the administered

    interest rate regime should be given up initially in such financial transactions as are out through

    the money market.

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    The Specific Terms Of Reference Of The Vaghul Group Were:

    To examine money market instruments and recommend specific measures for their development;

    To recommend the pattern of money market interest rate and to indicate whether these should be

    administered or determined by the market;

    To study the feasibility of increasing the participants in the money market;

    To assess the impact of changes in the cash credit system on the money market and to examine

    the need for developing specialized institutions such as discount houses; and

    To consider any issue having a bearing on the development of the money market.

    Recommendations of the Committee:

    The Vaghul Group, as a background to its recommendations, outlines the conceptual framework

    in the form of broad objectives of the money market which are:

    1. It should provide as equilibrium mechanism for evening out short term surpluses and

    deficits;

    2. It should provide a focal point for central bank intervention for influencing liquidity in

    the economy;

    3. It should provide reasonable access to users of short term money to meet their

    requirements at a realistic price.

    To achieve these objectives, the Vaghul group adopts a four pronged strategy:

    a. Selective increase in the number of participants to broaden the base of the money market.

    b. Activating the existing instruments and developing new ones so as to have a diversified

    mix of instruments,

    c. Orderly movement away from administered interest rates to market determined interest

    rates and

    d. Creation of an active secondary market through establishing new instruments

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    NARSHIMAM COMMITTEE

    During the decades of the 60s and the 70s, India nationalized most of its banks. This culminated

    with the balance of payments crisis of the Indian economy where India had to airlift gold to

    International Monetary Fund (IMF) to loan money to meet its financial obligations. This event

    called into question the previous banking policies of India and triggered the era of economic

    liberalization in India in 1991. Given that rigidities and weaknesses had made serious inroads

    into the Indian banking system by the late 1980s, the Government of India (GOI), post-crisis,

    took several steps to remodel the country's financial system. (Some claim that these reforms were

    influenced by the IMF and the World Bankas part of their loan conditionality to India in 1991).

    The banking sector, handling 80% of the flow of money in the economy, needed serious reforms

    to make it internationally reputable, accelerate the pace of reforms and develop it into a

    constructive usher of an efficient, vibrant and competitive economy by adequately supporting the

    country's financial needs. In the light of these requirements, two expert Committees were set up

    in 1990s under the chairmanship of M. Narasimham (an ex-RBI (Reserve Bank of India)

    governor) which are widely credited for spearheading the financial sector reform in India. The

    first Narasimhan Committee (Committee on the Financial System - CFS) was appointed by

    Manmohan Singh as India's Finance Minister on 14 August 1991, and the second one

    (Committee on Banking SectorReforms) was appointed by P.Chidambaram as Finance Minister

    in December 1997. Subsequently, the first one widely came to be known as the Narasimham

    Committee-I (1991) and the second one as Narasimham-II Committee (1998). This article is

    about the recommendations of the Second Narasimham Committee, the Committee on Banking

    Sector Reforms.

    The purpose of the Narasimham-I Committee was to study all aspects relating to the structure,

    organization, functions and procedures of the financial systems and to recommend improvements

    in their efficiency and productivity. The Committee submitted its report to the Finance Ministerin November 1991 which was tabled in Parliament on 17 December 1991.

    http://en.wikipedia.org/wiki/Banking_in_India#Nationalisationhttp://en.wikipedia.org/wiki/1991_India_economic_crisishttp://en.wikipedia.org/wiki/Economy_of_Indiahttp://en.wikipedia.org/wiki/International_Monetary_Fundhttp://en.wikipedia.org/wiki/Economic_liberalisation_in_Indiahttp://en.wikipedia.org/wiki/Economic_liberalisation_in_Indiahttp://en.wikipedia.org/wiki/Government_of_Indiahttp://en.wikipedia.org/wiki/World_Bankhttp://en.wikipedia.org/wiki/M._Narasimhamhttp://en.wikipedia.org/wiki/Reserve_Bank_of_Indiahttp://en.wikipedia.org/wiki/Manmohan_Singhhttp://en.wikipedia.org/wiki/Finance_Ministerhttp://en.wikipedia.org/wiki/Banking_systemhttp://en.wikipedia.org/wiki/P.Chidambaramhttp://en.wikipedia.org/wiki/Banking_in_India#Nationalisationhttp://en.wikipedia.org/wiki/1991_India_economic_crisishttp://en.wikipedia.org/wiki/Economy_of_Indiahttp://en.wikipedia.org/wiki/International_Monetary_Fundhttp://en.wikipedia.org/wiki/Economic_liberalisation_in_Indiahttp://en.wikipedia.org/wiki/Economic_liberalisation_in_Indiahttp://en.wikipedia.org/wiki/Government_of_Indiahttp://en.wikipedia.org/wiki/World_Bankhttp://en.wikipedia.org/wiki/M._Narasimhamhttp://en.wikipedia.org/wiki/Reserve_Bank_of_Indiahttp://en.wikipedia.org/wiki/Manmohan_Singhhttp://en.wikipedia.org/wiki/Finance_Ministerhttp://en.wikipedia.org/wiki/Banking_systemhttp://en.wikipedia.org/wiki/P.Chidambaram
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    The Narasimham-II Committee was tasked with the progress review of the implementation of the

    banking reforms since 1992 with the aim of further strengthening the financial institutions of

    India. It focused on issues like size of banks and capital adequacy ratio among other things. M.

    Narasimham, Chairman, submitted the report of the Committee on Banking Sector Reforms

    (Committee-II) to the Finance MinisterYashwant Sinha in April 1998.

    Recommendations of the Committee:

    The 1998 report of the Committee to the GOI made the following major recommendations:

    Autonomy in Banking

    Greater autonomy was proposed for the public sectorbanks in order for them to function with

    equivalent professionalism as their international counterparts. For this the panel recommended

    that recruitment procedures, training and remuneration policies of public sector banks be brought

    in line with the best-market-practices of professional bank management. Secondly, the

    committee recommended GOI equity in nationalized banks be reduced to 33% for increased

    autonomy. It also recommended the RBI relinquish its seats on the board of directors of these

    banks. The committee further added that given that the government nominees to theboard of

    banks are often members of parliament, politicians, bureaucrats, etc., they often interfere in the

    day-to-day operations of the bank in the form of the behest-lending. As such the committee

    recommended a review of functions of banks boards with a view to make them responsible for

    enhancing shareholder value through formulation of corporate strategy and reduction of

    government equity.

    To implement this, criteria for autonomous status was identified by March 1999 (among other

    implementation measures) and 17 banks were considered eligible for autonomy. But some

    recommendations like reduction in Government's equity to 33%, the issue of greater

    professionalism and independence of the board of directors of public sector banks is still

    awaiting Government follow-through and implementation.

    http://en.wikipedia.org/wiki/Capital_adequacy_ratiohttp://en.wikipedia.org/wiki/Minister_of_Finance_(India)http://en.wikipedia.org/wiki/Yashwant_Sinhahttp://en.wikipedia.org/wiki/Public-sector_undertakinghttp://en.wikipedia.org/wiki/Board_of_directorshttp://en.wikipedia.org/wiki/Board_of_directorshttp://en.wikipedia.org/wiki/Parliament_of_Indiahttp://en.wikipedia.org/wiki/Capital_adequacy_ratiohttp://en.wikipedia.org/wiki/Minister_of_Finance_(India)http://en.wikipedia.org/wiki/Yashwant_Sinhahttp://en.wikipedia.org/wiki/Public-sector_undertakinghttp://en.wikipedia.org/wiki/Board_of_directorshttp://en.wikipedia.org/wiki/Board_of_directorshttp://en.wikipedia.org/wiki/Parliament_of_India
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    Reform in the Role of RBI

    First, the committee recommended that the RBI withdraw from the 91-day treasury bills market

    and that interbank call money and term money markets be restricted to banks and primary

    dealers. Second, the Committee proposed a segregation of the roles of RBI as a regulator of

    banks and owner of bank. It observed that "The Reserve Bank as a regulator of the monetary

    system should not be the owner of a bank in view of a possible conflict of interest". As such, it

    highlighted that RBI's role of effective supervision was not adequate and wanted it to divest its

    holdings in banks and financial institutions.

    Pursuant to the recommendations, the RBI introduced a Liquidity Adjustment Facility (LAF)

    operated through repo and reverse repos in order to set a corridor for money market interest

    rates. To begin with, in April 1999, an Interim Liquidity Adjustment Facility (ILAF) was

    introduced pending further up gradation in technology and legal/procedural changes to facilitate

    electronic transfer.[18] As for the second recommendation, the RBI decided to transfer its

    respective shareholdings of public banks like State Bank of India (SBI), National Housing Bank

    (NHB) and National Bank for Agriculture and Rural Development (NABARD) to GOI.

    Subsequently, in 2007-08, GOI decided to acquire entire stake of RBI in SBI, NHB and

    NABARD. Of these, the terms of sale for SBI were finalized in 2007-08 itself.

    Stronger Banking System

    The Committee recommended for merger of large Indian banks to make them strong enough for

    supporting international trade. It recommended a three tier banking structure in India through

    establishment of three large banks with international presence, eight to ten national banks and a

    large number of regional and local banks. This proposal had been severely criticized by the RBI

    employees union. The Committee recommended the use of mergers to build the size and strength

    of operations for each bank. However, it cautioned that large banks should merge only with

    banks of equivalent size and not with weaker banks, which should be closed down if unable to

    revitalize themselves.[6]Given the large percentage ofnon-performing assets for weaker banks,

    some as high as 20% of their total assets, the concept of "narrow banking" was proposed to assist

    in their rehabilitation.[11]

    http://en.wikipedia.org/w/index.php?title=Liquidity_Adjustment_Facility&action=edit&redlink=1http://en.wikipedia.org/wiki/Narasimham_Committee_on_Banking_Sector_Reforms_(1998)#cite_note-IE3-17http://en.wikipedia.org/wiki/Narasimham_Committee_on_Banking_Sector_Reforms_(1998)#cite_note-IE3-17http://en.wikipedia.org/wiki/State_Bank_of_Indiahttp://en.wikipedia.org/wiki/National_Housing_Bankhttp://en.wikipedia.org/wiki/National_Bank_for_Agriculture_and_Rural_Developmenthttp://en.wikipedia.org/wiki/Trade_unionhttp://en.wikipedia.org/wiki/Narasimham_Committee_on_Banking_Sector_Reforms_(1998)#cite_note-JainKhanna-5http://en.wikipedia.org/wiki/Narasimham_Committee_on_Banking_Sector_Reforms_(1998)#cite_note-JainKhanna-5http://en.wikipedia.org/w/index.php?title=Non-performing_asset&action=edit&redlink=1http://en.wikipedia.org/wiki/Narasimham_Committee_on_Banking_Sector_Reforms_(1998)#cite_note-MBA-10http://en.wikipedia.org/w/index.php?title=Liquidity_Adjustment_Facility&action=edit&redlink=1http://en.wikipedia.org/wiki/Narasimham_Committee_on_Banking_Sector_Reforms_(1998)#cite_note-IE3-17http://en.wikipedia.org/wiki/State_Bank_of_Indiahttp://en.wikipedia.org/wiki/National_Housing_Bankhttp://en.wikipedia.org/wiki/National_Bank_for_Agriculture_and_Rural_Developmenthttp://en.wikipedia.org/wiki/Trade_unionhttp://en.wikipedia.org/wiki/Narasimham_Committee_on_Banking_Sector_Reforms_(1998)#cite_note-JainKhanna-5http://en.wikipedia.org/w/index.php?title=Non-performing_asset&action=edit&redlink=1http://en.wikipedia.org/wiki/Narasimham_Committee_on_Banking_Sector_Reforms_(1998)#cite_note-MBA-10
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    Non-Performing Assets

    Non-performing assets had been the single largest cause of irritation of the banking sector of

    India. Earlier the Narasimham Committee-I had broadly concluded that the main reason for the

    reduced profitability of the commercial banks in India was the priority sector lending. The

    committee had highlighted that 'priority sector lending' was leading to the buildup of non-

    performing assets of the banks and thus it recommended it to be phased out. Subsequently, the

    Narasimham Committee-II also highlighted the need for 'zero' non-performing assets for all

    Indian banks with International presence. The 1998 report further blamed poor credit decisions,

    behest-lending and cyclical economic factors among other reasons for the buildup of the non-

    performing assets of these banks to uncomfortably high levels. The Committee recommended

    creation of Asset Reconstruction Funds or Asset Reconstruction Companies to take over the baddebts of banks, allowing them to start on a clean-slate. The option of recapitalization through

    budgetary provisions was ruled out. Overall the committee wanted a proper system to identify

    and classify NPAs,NPAs to be brought down to 3% by 2002[4] and for an independent loan

    review mechanism for improved management of loan portfolios. The committee's

    recommendations let to introduction of a new legislation which was subsequently implemented

    as the Securitization and Reconstruction of Financial Assets and Enforcement of Security

    Interest Act, 2002 and came into force with effect from 21 June 2002.

    Capital Adequacy and Tightening Of Provisioning Norms

    In order to improve the inherent strength of the Indian banking system the committee

    recommended that the Government should raise the prescribed capital adequacy norms. This

    would also improve their risk taking ability. The committee targeted raising the capital adequacy

    ratio to 9% by 2000 and 10% by 2002 and have penal provisions for banks that fail to meet these

    requirements. For asset classification, the Committee recommended a mandatory 1% in case of

    standard assets and for the accrual of interest income to be done every 90 days instead of 180

    days.

    http://en.wikipedia.org/wiki/Narasimham_Committee_on_Banking_Sector_Reforms_(1998)#cite_note-Frontline-3http://en.wikipedia.org/w/index.php?title=Securitisation_and_Reconstruction_of_Financial_Assets_and_Enforcement_of_Security_Interest_Act&action=edit&redlink=1http://en.wikipedia.org/w/index.php?title=Securitisation_and_Reconstruction_of_Financial_Assets_and_Enforcement_of_Security_Interest_Act&action=edit&redlink=1http://en.wikipedia.org/wiki/Capital_adequacy_ratiohttp://en.wikipedia.org/wiki/Capital_adequacy_ratiohttp://en.wikipedia.org/wiki/Capital_adequacy_ratiohttp://en.wikipedia.org/wiki/Narasimham_Committee_on_Banking_Sector_Reforms_(1998)#cite_note-Frontline-3http://en.wikipedia.org/w/index.php?title=Securitisation_and_Reconstruction_of_Financial_Assets_and_Enforcement_of_Security_Interest_Act&action=edit&redlink=1http://en.wikipedia.org/w/index.php?title=Securitisation_and_Reconstruction_of_Financial_Assets_and_Enforcement_of_Security_Interest_Act&action=edit&redlink=1http://en.wikipedia.org/wiki/Capital_adequacy_ratiohttp://en.wikipedia.org/wiki/Capital_adequacy_ratiohttp://en.wikipedia.org/wiki/Capital_adequacy_ratio
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    To implement these recommendations, the RBI in Oct 1998, initiated the second phase of

    financial sector reforms by raising the banks' capital adequacy ratio by 1% and tightening the

    prudential norms for provisioning and asset classification in a phased manner on the lines of the

    Narasimham Committee-II report. The RBI targeted to bring the capital adequacy ratio to 9% by

    March 2001. The mid-term Review of the Monetary and Credit Policy of RBI announced another

    series of reforms, in line with the recommendations with the Committee, in October 1999.

    Entry of Foreign Banks

    The committee suggested that the foreign banks seeking to set up business in India should have a

    minimum start-up capital of $25 million as against the existing requirement of $10 million. It

    said that foreign banks can be allowed to set up subsidiaries and joint ventures that should be

    treated on a par with private banks.

    Initially, the recommendations were well received in all quarters, including the Planning

    Commission of India leading to successful implementation of most of its recommendations.

    Then it turned out that during the 2008 economic crisis of major economies worldwide,

    performance of Indian banking sector was far better than their international counterparts. This

    was also credited to the successful implementation of the recommendations of the Narasimham

    Committee-II with particular reference to the capital adequacy norms and the recapitalization ofthe public sector banks. The impact of the two committees has been so significant that elite

    politicians and financial sectors professionals have been discussing these reports for more than a

    decade since their first submission applauding their positive contribution over the years.

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    CONCLUSION:

    Since the banking reforms of 1991, there have been significant favorable changes

    in Indias highly regulated banking sector. This project has assessed the impact of the reforms by

    examining several hypotheses. It concludes that the banking reforms have had a moderately

    positive impact on reducing the concentration of the banking sector (at the lower end) and

    improving performance.

    Allowing banks to engage in non-traditional activities has contributed to

    improved profitability and cost and earnings efficiency of the whole banking sector, including

    public-sector banks. By contrast, investment in government securities has lowered the

    profitability and cost efficiency of the whole banking sector, including public-sector banks.

    Lending to priority sectors and the public-sector has not had a negative effect on profitability and

    cost efficiency, contrary to our expectations.

    Further, foreign banks (and private domestic banks in some cases) have generally performed

    better than other banks in terms of profitability and income efficiency. This suggests that

    ownership matters and foreign entry has a positive impact on banking sector restructuring.