Module 1: Indian Banking System and Regulatory Authorities

Banking-Definition and Evolution-Classification of Banking: Commercial Banking, Development banking,

Cooperative banking, EXIM bank- structure and functions. Banker and Customer Relationship, know Your
Customer (KYC) and Anti-Money Laundering (AML) guidelines.

Regulatory Authorities - Reserve Bank of India, - objectives and functions-Promotional Role- NABARD and its
functions – Securities and Exchange Board of India – Objectives and functions.

Bank:
Banks are a medium through which economic and fiscal policies of the government are materialized.

Kinley’s definition, “A bank is an establishment which makes to individuals such advance of money as may be required and safely
made and to which individuals entrust money when not required by them for use”.

The definition of R.S. Sayers, however, reveals the true character of a modern bank. In his words, “Banks are institution whose
debts usually referred to as bank deposits are commonly accepted in final settlement of other people’s debts”.

Under Indian law, Banking Regulation Act of India, 1949, “Accepting, for the purpose of lending or investment, of deposits of
money from the public, repayable on demand or otherwise and withdrawal by cheque, draft and order or otherwise” (Section
5b).

Origin of the Word ‘Bank’

The term ‘bank’ is derived from the Italian word ‘Banco’ which means a Bench or Money exchange table. In olden
days, European money lenders or money changers used to display (show) coins of different countries in big heaps
(quantity) on benches or tables for the purpose of lending or exchanging

Evolution

The banking sector development can be divided into three phases:

Phase I: Pre-Independence Period (1786-1947)

Phase II: Post Independence Period (1947-1991)
Phase III: The Liberalisation or the Banking Sector Reforms Phase which began in 1991 and continues to flourish till
date

Pre Independence Period (1786-1947) The first bank of India was the “Bank of Hindustan”, established in 1770 and
located in the then, Indian capital, Calcutta. However, this bank failed to work and ceased operations in 1832. During
the Pre Independence period over 600 banks had been registered in the country but only a few managed to survive.
Following the path of Bank of Hindustan, various other banks were established in India.

During the British rule in India, The East India Company had established three banks: Bank of Bengal, Bank of Bombay
and Bank of Madras and called them the Presidential Banks. These three banks were later merged into one single bank
in 1921 which was called the “Imperial Bank of India.” The Imperial Bank of India was later nationalised in 1955 and
was named The State Bank of India, which is currently the largest Public sector Bank.

If we talk of the reasons as to why many major banks failed to survive during the during the pre independence period,
following conclusions can be drawn:

● Indian account holders had become fraud prone

● Lack of machines and technology
● Human errors & time consuming
● Less facilities
● Lack of proper management skills
Following the Pre Independence period was the post independence period which observed some major changes in the
banking industry scenario and had significantly developed.

Post Independence Period (1947-1991)

At the time, when India got independence, all the major banks of the country were led privately which was a cause of
concern as the people belonging to rural areas were still dependent on money lenders for financial assistance. With an
aim to solve this problem, the then Government decided to nationalise the Banks. These banks were nationalised
under the Banking Regulation Act, 1949 and the Reserve Bank of India was nationalised in 1949. Following it was the
formation of State Bank of India in 1955. The Government of India issued the Banking Companies (Acquisition and
Transfer of Undertakings) Ordinance in 1969 and nationalized the 14 largest commercial banks in India at that time.
These were the banks whose national deposits were more than 50 crores. The second wave of Nationalisation
followed in 1980 with 6 more commercial banks, which later became an integral part of the history of banking in India.
The Regional Rural Banks in India were established in the year 1975 for the development of rural areas in India.

Given below is the list of these 14 Banks nationalised in 1969:

1. Allahabad Bank
2. Bank of India
3. Bank of Baroda
4. Bank of Maharashtra
5. Central Bank of India
6. Canara Bank
7. Dena Bank
8. Indian Overseas Bank
9. Indian Bank
10. Punjab National Bank
11. Syndicate Bank
12. Union Bank of India
13. United Bank
14. UCO Bank

Liberalisation Period (1991-Till Date)

Once the banks were established in the country, regular monitoring and regulations need to be followed to continue
the profits provided by the banking sector. The last phase or the ongoing phase of the banking sector development
plays a very important role. To provide stability and profitability to the Nationalised Public sector Banks, the
Government decided to set up a committee under the leadership of Shri. M Narasimham to manage the various
reforms in the Indian banking industry. The biggest development was the introduction of Private sector banks in India.

The other measures taken include:

● Setting up of branches of the various Foriegn Banks in India

● No more nationalisation of Banks could be done
● The committee announced that RBI and Government would treat both public and private sector
banks equally
● Any Foreign Bank could start joint ventures with Indian Banks
● Payments banks were introduced with the development in the field of banking and technology
● Small Finance Banks were allowed to set their branches across India
● A major part of Indian banking moved online with internet banking and apps available for fund
transfer
Thus, the history of banking in India shows that with time and the needs of people, major developments have been
done in the banking sector with an aim to prosper it.

Classification of Banking
Indian banking system comprises of both organised and unorganised banks. Unorganised banking includes indigenous
bankers and village money-lenders. Organised banking includes Reserve Bank of India, Commercial Banks, (including
Foreign Banks), Development Banks, Exim Bank, Co-operative Banks, Regional Rural Banks, National Bank for
Agriculture and Rural Development, Land Development Banks etc.

Th
ere are two broad categories under which banks are classified in India-

1. SCHEDULED
2. NON-SCHEDULED BANKS

(a) Scheduled Commercial Banks :

The scheduled commercial banks constitute those banks which have been included in the Second Schedule of Reserve
Bank of India (RBI) Act, 1934. RBI in turn includes only those banks in this schedule which satisfy the below criteria laid
down vide section 42 (60) of the Act. This sub sector broadly consists of private sector banks, foreign banks.

1. The paid up capital and reserves of the bank must not be less than Rs.5 Lakh
2. Scheduled Banks need to maintain cash reserves with RBI, at the rates prescribed by it.
3. The banker concerned must be in the business of banking in India
4. It must satisfy the RBI that its affairs are not conducted in a manner detrimental to the interest of the
depositors
5. Scheduled banks must submit the periodic reports and statement of their financial affairs to the Reserve bank
of India.
Scheduled Commercial Banks are grouped under following categories:

1. State Bank of India and its Associates

2. Nationalized Banks
3. Foreign Banks
4. Regional Rural Banks
5. Other Scheduled Commercial Banks

Note: Banks in the groups (1) & (2) above are known as public sector banks whereas, other scheduled commercial
banks mentioned at group (5) above are known as private sector banks.

(b) Non-Scheduled Commercial Banks: The Non-Scheduled commercial banks constitute those banks which are not
included in the Second Schedule of Reserve Bank of India (RBI) Act, 1934 . They may be classified in to four groups:

1. Banks with paid up capital and reserves in excess of Rs.5 lakh

2. Banks with paid up capital and reserves ranging between 1 Lakh and 5 Lakh
3. Banks with paid up capital and reserves ranging between Rs.50000 and 1 Lakh
4. Banks with paid up capital and reserves ranging below Rs.50000

Non-Scheduled Commercial Banks are not entitled to all the facilities that the scheduled banks get from RBI. Since the
enactment of the Banking regulation Act in 1949, non scheduled banks have also come in the scope of the RBI control.
It has become necessary that these banks also prepare their annual accounts and balance sheets in accordance to the
requirements of Section 29 under Banking Regulation Act

Example: All local area banks are called the Non-scheduled banks.

Non-Scheduled State Co-operative Banks

Non-Scheduled Urban Cooperative Banks

COMMERCIAL BANKS are regulated and managed under the Banking Regulation Act,[Link] areprofit-makingg
banks based on their business model. Granting loans to the government, general public, and corporate and accepting
deposits counts as the primary function.

There are four types of commercial banks:

 Public Sector Banks

 Private Sector Banks
 Foreign Banks
 Regional Rural Banks

Public sector banks These are the nationalized banks and account for more than 75 percent of the total banking
business in the country. Majority of stakes in these banks are held by the government. In terms of volume, SBI is the
largest public sector bank in India and after its merger with its 5 associate banks (as on 1st April 2017) it has got a
position among the top 50 banks of the world.

Private Sector Banks These include banks in which major stake or equity is held by private shareholders. All the
banking rules and regulations laid down by the RBI will be applicable on private sector banks as well.
Foreign Banks A foreign bank is one that has its headquarters in a foreign country but operates in India as a private
entity. These banks are under the obligation to follow the regulations of its home country as well as the country in
which they are operating

Regional Rural Bank

In spite of the rapid expansion programmes undertaken by the commercial banks, a large segment of the rural
economy was still beyond the reach of the organized commercial banks. To fill this gap it was thought necessary to
create a new agency which could combine the advantages of having adequate resources but operating relatively with
a lower cost at the village level. After the declaration of emergency, the then Prime Minister, Smt. Indira Gandhi,
announced on July 1, 1975 the 20 point economic programme of the Government of India. One of the points of this
programme was the liquidation of rural indebtedness by stages and provide institutional credit to farmers and artisans
in rural areas. The Government of India promulgated on September 26, 1975, the Regional Rural Bank Ordinance, to
set up regional rural banks throughout the country; the Ordinance was replaced by the Regional Rural Banks Act, 1976.
The main objective of the regional rural banks is to provide credit and other facilities particularly to the small and
marginal farmers, agricultural labourers, artisans and small entrepreneurs so as to develop agriculture, trade,
commerce, industry and other productive activities in rural areas.

Functions of Regional Rural Banks

The functions of Regional Rural Bank are as follows:

1. Granting of loans and advances to small and marginal farmers and agricultural labourers, either individually or in
groups.
2. Granting of loans and advances to co-operative societies, agricultural processing societies and co-operative farming
societies primarily for agricultural purposes or for agricultural operations and other related purposes.
3. Granting of loans and advances to artisans, small entrepreneurs and persons of small means engaged in trade,
commerce and industry or other productive activities within a specified region.
4. Accepting various types of deposits.
[Link] credit policy of regional rural banks is more liberal than co-operative banks. It is not necessary for the borrower
to mortgage property or deposit title deeds. It is not necessary to produce “not encumbrance certificate” or get legal
opinion.

Co-operative banks
Cooperative bank is an institution established on the cooperative basis and dealing in ordinary banking business. Like
other banks, the cooperative banks are founded by collecting funds through shares, accept deposits and grant loans.
Cooperative banks are generally concerned with the rural credit and provide financial assistance for agricultural and
rural activities.
Cooperative banking in India is federal in structure. Primary credit societies are at the lowest rung. Then, there are
central cooperative banks at the district level and state cooperative banks at the state level.

These institutions can be classified into two broad categories- agricultural and non agricultural.

Agricultural credit institutions dominate the entire cooperative credit structure. Agricultural credit institutions are
further divided into short-term agricultural credit institutions and long-term agricultural credit institutions.

The short-term agricultural credit institutions which cater to the short-term financial needs of agriculturists have
three-tier federal structure

Short-Term Rural Cooperative Credit Structure:

In rural India, there exists a 3-tier short-term rural cooperative structure. Tier-I includes state cooperative banks (SCBs)
at the state level; Tier-II includes central cooperative banks (CCBs) at the district level; and Tier- III includes primary
agricultural credit societies (PACSs).
1. State Cooperative Banks (SCBs):

State cooperative banks are the apex institutions in the three-tier cooperative credit structure, operating at the state
level. Every state has a state cooperative bank. State cooperative banks occupy a unique position in the cooperative
credit structure because of their three important functions:

(a) They provide a link through which the Reserve Bank of India provides credit to the cooperatives and thus
participates in the rural finance,
(b) They function as balancing centers for the central cooperative banks by making available the surplus funds of some
central cooperative banks. The central cooperative banks are not permitted to borrow or lend among themselves,
(c) They finance, control and supervise the central cooperative banks, and, through them, the primary credit societies.

2. Central Cooperative Banks (CCBs):

Central cooperative banks are in the middle of the three-tier cooperative credit structure.
Central cooperative banks are of two types:
(a) There can be cooperative banking unions whose membership is open only to cooperative societies. Such
cooperative banking unions exist in Haryana, Punjab, Rajasthan, Orissa and Kerala.
(b) There can be mixed central cooperative banks whose membership is open to both individuals and cooperative
societies. The central cooperative banks in the remaining states are of this type. The main function of the central
cooperative banks is to provide loans to the primary cooperative societies. However, some loans are also given to
individuals and others.

3. Primary Agricultural Credit Societies (PACSs):

Primary agricultural credit society forms the base in the three-tier cooperative credit structure. It is a village-level
institution which directly deals with the rural people. It encourages savings among the agriculturists, accepts deposits
from them, gives loans to the needy borrowers and collects repayments.
It serves as the last link between the ultimate borrowers, i.e., the rural people, on the one hand, and the higher
agencies, i.e., Central cooperative bank, state cooperative bank, and the Reserve Bank of India, on the other hand.
A primary agricultural credit society may be started with 10 or more persons of a village. The membership fee is
nominal so that even the poorest agriculturist can become a member.
The members of the society have unlimited liability which means that each member undertakes full responsibility of
the entire loss of the society in case of its failure. The management of the society is under the control of an elected
body.
Long-Term Rural Cooperative / Land Development Banks (LDBs) or Cooperative Agricultural and Rural Development
Banks (CARDBs) :

Besides short-term credit, the agriculturists also need long-term credit for making permanent improvements in land,
for repaying old debts, for purchasing agricultural machinery and other implements. Traditionally, the long-term
requirements of agriculturists were mainly met by money lenders and some other agencies. But this source of credit
was found defective and has been responsible for the exploitation of farmers.
Cooperative banks and commercial banks by their very nature are not in a position to provide long-term loans because
their deposits are mainly demand (short-term) deposits. Thus, there was a great need for a specialised institution for
supplying long-term credit to agriculturists. The establishment of land development banks now known as cooperative
and rural development banks (CARDBs) is an effort in this direction.
Structure:
The land development banks are registered as cooperative societies, but with limited liability.
These banks have two-tier structure:
(a) At the state level, there are state or central land development banks, now known as state cooperative agricultural
and rural development banks (SCARDBs) generally one for each state. They were previously known as central land
mortgage banks,
(b) At the local level, there are branches of the state land development banks or SCARDBs and primary land
development banks now known as primary cooperative agricultural and rural development banks (PCARDBs).
In some states, there are no primary land development banks, but the branches of the state land development bank.
In Madhya Pradesh, the state cooperative bank itself functions as the state land development bank. In other states like
Andhra Pradesh, Kerala and Maharashtra, there are more than one state land development banks.
Similarly, the primary land development banks also vary organisationally in different states. At the national level, the
land development banks have also formed a union, called All-India Land Development Banks’ Union.

Development Bank
Meaning

A development bank is a multipurpose financial institution with a broad developmental objective. It is defined as a
financial concern which is concerned with providing financial assistance to business concerns. The financial assistance
is provided in the form of loans, underwriting shares and debentures, investment and guarantee activities. It also
performs

promotional activities in a variety of ways. It renders several services like discovery of investment projects, preparation
of project reports, management services etc. Thus, development banks provide capital, technology and
entrepreneurship. Development banks are considered to be the backbone of financial market. Industrial development
depends on active role played by the development banks

Features

Following are the main characteristic features of a development bank:

(a) It is a specialized financial institution.

(b) It provides medium and long-term finance to business units.
(c) Unlike commercial banks, majority of development banks does not accept deposits from the public.
(d) It is not just a term-lending institution. It is a multi-purpose financial institution.
(e) It is essentially a development-oriented bank. Its primary object is to promote economic development by
promoting investment and entrepreneurial activity in a developing economy. It encourages new and small
entrepreneurs and seeks balanced regional growth.
(f) It provides financial assistance not only to the private sector but also to the public sector undertakings.
(g) It aims at promoting the saving and investment habit in the community.
(h) It does not compete with the normal channels of finance, i.e., finance already made available by the banks and
other conventional financial institutions. Its major role is of a gap-filler, i.e., to fill up the deficiencies of the existing
financial facilities.
(i) Its motive is to serve public interest rather than to make profits. It works in the general interest of the nation.

Important Development Banks in India

There are about 60 development banks in India. The important development banks functioning in our country are as
follows:

1. The Industrial Finance Corporation of India.

2. The Industrial Credit and Investment Corporation of India.
3. The State Financial Corporations.
4. The Industrial Development Bank of India.
5. The Small Industries Development Bank of India.
6. The Industrial Reconstruction Bank of India.
7. The State Industrial Development Corporations.
8. The Unit Trust of India.
9. The Life Insurance Corporation of India.
10. The Export and Import Bank of India.

All these banks are being operated at national, state and local levels. They have been providing all types of financial
assistance to business units in the form of loans, underwriting, investment and guarantee operations. They have also
undertaken promotional activities. They are thus multi-purpose financial institutions. They have done commendable
service for the development of industries in our country.

Development banks have been set up mainly to provide infrastructure facilities for the country's industrial growth.
They provide financial assistance for both public and private sector industries.

The main objectives of the development banks are

1. To promote industrial growth,

2. To develop backward areas,
3. To create more employment opportunities,
4. To generate more exports and encourage import substitution,
5. To encourage modernisation and improvement in technology,
6. To promote more self employment projects,
7. To revive sick units,
8. To improve the management of large industries by providing training,
9. To remove regional disparities or regional imbalance,
10. To promote science and technology in new areas by providing risk capital,
11. To improve capital market in the country.
EXIM BANK
EXIM Bank is a specialized financial institution wholly owned by the Government of India with presence in Indian and
foreign cities around the world. It was set up in 1982, for the purpose of financing, facilitating and promoting India’s
international trade.

EXIM Bank Functions

The bank’s functions can be grouped under products and services. They are discussed briefly below:

Financial Products

 Buyer’s credit – it is a credit facility program that encourages Indian exporters to explore new regions across
the globe. It also facilitates exports for SMEs by offering credit to overseas buyers to import goods from India.
 Corporate banking – it offers a variety of financing programs to augment the export-competitiveness of Indian
companies.
 Lines of credit – it offers extended a line of credit to Indian exporters to help them expand to new
geographies and uses a line of credit as an effective market-entry tool.
 Overseas investment finance – it offers term loans to Indian companies for equity investments in their
overseas joint ventures or wholly-owned subsidiaries.
 Project exports – encourages project exports from India and helps Indian companies secure contracts abroad.

Services

 Marketing advisory services – help Indian exporters in their globalization ventures by assisting in locating
overseas distributors/partners, etc. Also, assists in identifying opportunities abroad for setting up plant
projects or acquiring companies.
 Research and analysis – conducts research in the field of international economics, trade and investment,
country profiles to identify risks, etc.
  Export advisory services – it offers information, advisory, and support services enabling exporters to evaluate
international risks, exploit export opportunities and improve competitiveness.
 Term deposit scheme

Indigenous Banks: Indigenous bankers are individuals or private firms which receive deposits and give loans and
thereby operate as banks. Since their activities are not regulated, they belong to the unorganised segment of the
money market. The indigenous bankers have been engaged in the banking business in both ancient and medieval
periods. They received set back with the introduction of modern banking after the arrival of the British.
There are three types of indigenous bankers: (a) those whose main business is banking,
(b) those who combine their banking business with trading commission business, and
(c) those who are mainly traders and commission agents but who do a little banking business
also. The majority of the indigenous bankers belong to the second group.
The commercial banking structure in India consists of two major set of players scheduled commercial banks and
unscheduled banks.

Functions of Commercial Banks

Commercial banks have to perform a variety of functions which are common to both developed and developing
countries. These are known as ‘General Banking’ functions of the commercial banks. The modern banks perform a
variety of functions. These can be broadlydivided into two categories: (a) Primary functions and (b) Secondary
functions.

1. Acceptance of Deposits: Accepting deposits is the primary function of a commercial bank. It mobilises savings of the
household sector.

Deposit Mobilisation: Deposit Mobilisation is the primary function of a commercial bank which mobilises savings of
the customers. Banks generally accept three types of deposits viz., (a) Current Deposits (b) Savings Deposits (c) Fixed
Deposits (d ) Recurring deposit account
1. Current Deposits: These deposits are also known as demand deposits. It can be withdrawn at any time. Generally,
no interest is allowed on current deposits. Cheques are used to withdraw the amount. These deposits are
maintained by businessmen and industrialists who receive and make large payments through banks. The bank
levies certain incidental charges on the customer for the services rendered by it.

Features of Current Accounts:

 It is generally opened by trading & industrial concerns.

 It is opened not for profit or savings but for convenience in payments
 Introduction is necessary to open the account.
 Any number of transactions permitted in the account.
 Withdrawals are generally allowed by cheque
 Deposit is repayable on demand
 No interest is allowed but incidental charges claimed.
 Minimum balance requirement varies from bank to bank.

2. Savings Deposits: This is meant mainly for professional men and middle class people to help them deposit their
small savings. It can be opened without any introduction. Money can be deposited at any time. There is a
restriction on the amount that can be withdrawn at a particular time or during a week. Interest is allowed on the
credit balance of this account. The rate of interest is greater than the rate of interest on the current deposits and
less than that of fixed deposit. This system greatly encourages the habit of savings.

Features of Saving Bank (SB) accounts :

 It is generally opened by middle/low income group who save a part of their income for future needs
 Introduction is necessary to open the account if cheque facility is allowed.
 There are some restrictions on number of withdrawals.
 Fair interest (less than FD) is offered on the deposits of this account.

3. Fixed Deposits: These deposits are also known as time deposits. These deposits cannot be withdrawn before the
expiry of the period for which they are deposited or without giving a prior notice for withdrawal. If the depositor
is in need of money, he may partially or fully cancel the FD for a penal charge. Depositors are attracted by the
payment of interest which is usually higher for longer period. Fixed deposits are liked by depositors both for their
safety and as well as for their interest. In India, they are generally accepted between three months and ten years.

Features of Fixed Deposit accounts

 It is generally opened by small investors who do not want to invest money in risky industrial securities
like shares.
 No introduction is necessary to open the account.
 No maximum limit for investing.
 Minimum period of investment is 15 days
 Withdrawal is allowed only after the expiry of a fixed period.
 Withdrawal is generally allowed by surrendering FD Receipt
 Higher rate of interest is offered on the deposits of this account,

Features of Recurring Deposit accounts / Cumulative Deposit account.

 This account is meant for fixed income earning group, who can deposit a fixed sum regularly.
 The amount is paid back along with interest after a specified period.
 High rate of interest is offered on recurring deposits compared to Savings account.
 The main objective of this deposit is to save smaller amount at regular intervals say every month and
withdraw a huge sum at the end of maturity along with the cumulative interest

2. Advancing Loans: The second primary function of a commercial bank is tomake loans and advances to all
types of persons, particularly to businessmen andentrepreneurs. Loans are made against personal security,
gold and silver, stocks ofgoods and other assets.
The most common way of lending is by:
(a) Overdraft Facilities: In this case, the depositor in a current account is allowed to drawover and above his
account up to a previously agreed limit. Suppose a businessmanhas only Rs. 30,000/- in his current account in
a bank but requires Rs. 60,000/- tomeet his expenses. He may approach his bank and borrow the additional
amountof Rs. 30,000/-. The bank allows the customer to overdraw his account throughcheques. The bank,
however, charges interest only on the amount overdrawn fromthe account. This type of loan is very popular
with the Indian businessmen.
(b) Cash Credit:Under this account, the bank gives loans to the borrowers againstcertain security. But the
entire loan is not given at one particular time, instead theamount is credited into his account in the bank; but
under emergency cash willbe given. The borrower is required to pay interest only on the amount of
creditavailed to him. He will be allowed to withdraw small sums of money according tohis requirements
through cheques, but he cannot exceed the credit limit allowedto him.
(c) Discounting Bills of Exchange:This is another type of lending which is verypopular with the modern banks.
The holder of a bill can get it discounted by thebank, when he is in need of money. After deducting its
commission, the bank pays the present price of the bill to the holder. Such bills form good investmentfor a
bank. They provide a very liquid asset which can be quickly turned intocash. The commercial banks can
rediscount, the discounted bills with the centralbanks when they are in need of money. These bills are safe
and secured [Link] the bill matures the bank can secure its payment from the party which hadaccepted
the bill.
(d) Money at Call: Bank also grant loans for a very short period, generally notexceeding 7 days to the
borrowers, usually dealers or brokers in stock exchangemarkets against collateral securities like stock or
equity shares, debentures, etc.,offered by them. Such advances are repayable immediately at short notice
hence,they are described as money at call or call money.
(e) Term Loans:Banks give term loans to traders, industrialists and to agriculturistsalso against some
collateral securities. Term loans are so-called because their maturityperiod varies between 1 to 10 years.
Term loans, as such provide intermediate orworking capital funds to the borrowers. Sometimes, two or more
banks may jointlyprovide large term loans to the borrower against a common security. Such loans arecalled
participation loans or consortium finance.
(f) Consumer Credit:Banks also grant credit to households in a limited amount tobuy some durable consumer
goods such as television sets, refrigerators, etc., orto meet some personal needs like payment of hospital bills
etc. Such consumercredit is made in a lump sum and is repayable in instalments in a short time. Underthe 20-
point programme, the scope of consumer credit has been extended tocover expenses on marriage, funeral
etc., as well.
(g) Miscellaneous Advances: Among other forms of bank advances there are packingcredits given to
exporters for a short duration, export bills purchased/discounted,import finance-advances against import
bills, finance to the self-employed, creditto the public sector, and credit to the cooperative sector and above
all, credit to theweaker sections of the community at concessional rates.
3. Creation of Credit: A unique function of the bank is to create credit. Banks supplymoney to traders and
manufacturers. They also create or manufacture money. Bankdeposits are regarded as money. They are as
good as cash. The reason is they can beused for the purchase of goods and services and also in payment of
debts. When abank grants a loan to its customer, it does not pay cash. It simply credits the accountof the
borrower. He can withdraw the amount whenever he wants by a cheque. Inthis case, bank has created a
deposit without receiving cash. That is, banks are saidto have created credit. Sayers says “banks are not
merely purveyors of money, but also in an important sense, manufacturers of money.”
Basis of Credit Creation
The basis of credit money is the bank deposits. The bank deposits are of two kinds viz.
(1) Primary deposits, and (2) Derivative deposits.
1. Primary Deposits: Primary deposits arise or formed when cash or cheque is deposited by customers. When
a person deposits money or cheque, the bank will credit his account. The customer is free to withdraw the
amount whenever he wants by cheques. These deposits are called “primary deposits” or “cash deposits.” It is
outof these primary deposits that the bank makes loans and advances to its customers.
2. Derivative Deposits: Bank deposits also arise when a loan is granted or when a bank discounts a bill or
purchase government securities. Deposits which arise on account of granting loan or purchase of assets by a
bank are called “derivative deposits.” Since the bank play an active role in the creation of such deposits, they
arealso known as “active deposits.” When the banker sanctions a loan to a customer, a deposit account is
opened in the name of the customer and the sum is credited tohis account. The bank does not pay him cash.
The customer is free to withdraw theamount whenever he wants by cheques. Thus the banker lends money
in the form of deposit credit. The creation of a derivative deposit does result in a net increase inthe total
supply of money in the economy, Hartly Withers says “every loan createsa deposit.” It may also be said
“loans make deposits” or “loans create deposits.” It isrightly said that “deposits are the children of loans, and
credit is the creation of bankclerk’s pen.”
Granting a loan is not the only method of creating deposit or credit. Depositsalso arise when a bank discounts
a bill or purchase government securities. Whenthe bank buys government securities, it does not pay the
purchase price at once incash. It simply credits the account of the government with the purchase price.
Thegovernment is free to withdraw the amount whenever it wants by cheque. Similarly,when a bank
purchase a bill of exchange or discounts a bill of exchange, the proceedsof the bill of exchange is credited to
the account of the seller and promises to pay theamount whenever he wants. Thus asset acquired by a bank
creates an equivalent bankdeposit. It is perfectly correct to state that “bank loans create deposits.” The
derivatedeposits are regarded as bank money or credit. Thus the power of commercial banksto expand
deposits through loans, advances and investments is known as “creditcreation.”
Thus, credit creation implies multiplication of bank deposits. Credit creation maybe defined as “the expansion
of bank deposits through the process of more loans and advances and investments.”
Process of Credit Creation
An important aspect of the credit creating function of the commercial banks is the processof multiple-
expansion of credit. The banking system as a whole can create credit whichis several times more than the
original increase in the deposits of a bank. This process iscalled the multiple-expansion or multiple-creation of
credit.
The process ofmultiple credit-expansion can be illustrated by assuming
(a) The existence of a number of banks, A, B, C etc., each with different sets ofdepositors.
(b) Every bank has to keep 10% of cash reserves, according to law, and,
(c) A new deposit of Rs. 1,000 has been made with bank A to start with.
Suppose, a person deposits Rs. 1,000 cash in Bank A. As a result, the deposits of bankA increase by Rs. 1,000
and cash also increases by Rs. 1,000. The balance sheet of the bankis as follows:

Balance Sheet of Bank A

Liabilities Rs Assets Rs

New 1,000 New Cash 1,000

deposit

Total 1,000 Total 1,000

Under the double entry system, the amount of Rs. 1,000 is shown on both [Link] deposit of Rs. 1,000 is a
liability for the bank and it is also an asset to the bank. Bank Ahas to keep only 10% cash reserve, i.e., Rs. 100
against its new deposit and it has a surplus ofRs. 900 which it can profitably employ in the assets like loans.
Suppose bank A gives a loan toX, who uses the amount to pay off his creditors. After the loan has been made
and the amountso withdrawn by X to pay off his creditors, the balance sheet of bank A will be as follows:

Balance Sheet of Bank A

Liabilities Rs Assets Rs

Deposit 1,000 New Cash 100

Loan to X 900

Total 1,000 Total 1,000

Suppose X purchase goods of the value of Rs. 900 from Y and pay cash. Y deposits theamount with Bank B.
The deposits of Bank B now increase by Rs. 900 and its cash alsoincreases by Rs. 900. After keeping a cash
reserve of Rs. 90, Bank B is free to lend thebalance of Rs. 810 to any one. Suppose bank B lends Rs. 810 to Z,
who uses the amount topay off his creditors. The balance sheet of bank B will be as follows:
Balance Sheet of Bank B

Liabilities Rs Assets Rs

Deposit 900 Cash res. 90

Loan to Z 810

Total 900 Total 900

Suppose Z purchases goods of the value of Rs. 810 from S and pays the amount. S depositsthe amount of Rs.
810 in bank C. Bank C now keeps 10% as reserve (Rs. 81) and lendsRs. 729 to a merchant. The balance sheet
of bank C will be as follows:
Balance Sheet of Bank C

Liabilities Rs Assets Rs

Deposit 810 Cash Res. 81

Loan 729

Total 810 Total 810

Thus looking at the banking system as a whole, the position will be as follow:

NAME OF DEPOSIT CASH LOAN

BANK RS RESERVE Rs
RS

BANK A 1000 100 900

BANK B 900 90 810
BANK C 810 81 729

Total 2710 271 2439

It is clear from the above that out of the initial primary deposit, bank advanced Rs. 900as a loan. It formed
the deposit of bank B, which in turn advanced Rs. 810 as [Link] sum again formed, the deposit of bank C,
which in turn advanced Rs. 729 asloan. Thus the inital primary deposit of Rs. 1,000 resulted in bank credit of
Rs. 2439 inthree banks. There will be many banks in the country and the above process of creditexpansion
will come to an end when no bank has an excess reserve to lend. In theabove example, there will be 10 fold
increase in credit because the cash ratio is 10%.
The total volume of credit created in the banking system depends on the cash ratio. Ifthe cash ratio is 10%
there will be 10 fold increase. If it is 20%, there will be 5 foldincrease. When the banking system receives an
additional primary deposit, there will bemultiple expansion of credit.

4. Promote the Use of Cheques: The commercial banks render an important service byproviding to their
customers a cheap medium of exchange like cheques. It is found muchmore convenient to settle debts
through cheques rather than through the use of [Link] cheque is the most developed type of credit
instrument in the money market.
5. Financing Internal and Foreign Trade: The bank finances internal and foreigntrade through discounting of
exchange bills. Sometimes, the bank gives short-termloans to traders on the security of commercial papers.
This discounting businessgreatly facilitates the movement of internal and external trade.
6. Remittance of Funds: Commercial banks, on account of their network of branchesthroughout the country,
also provide facilities to remit funds from one place to anotherfor their customers by issuing bank drafts, mail
transfers or telegraphic transferson nominal commission charges. As compared to the postal money orders
or otherinstruments, bank drafts have proved to be a much cheaper mode of transferringmoney and has
helped the business community considerably. Digitalization and IT in bank has also brought forward more
convenient modes of remittances that includes RTGS, NEFT, IMPS etc.
B. Secondary Functions
Secondary banking functions of the commercial banks include:
1. Agency Services
2. General Utility Services
These are discussed below.
1. Agency Services: Banks also perform certain agency functions for and on behalfof their customers. The
agency services are of immense value to the people at large.
The various agency services rendered by banks are as follows:
(a) Collection and Payment of Credit Instruments: Banks collect and pay various creditinstruments like
cheques, bills of exchange, promissory notes etc., on behalf oftheir customers.
(b) Purchase and Sale of Securities: Banks purchase and sell various securities likeshares, stocks, bonds,
debentures on behalf of their customers.
(c) Collection of Dividends on Shares: Banks collect dividends and interest on sharesand debentures of their
customers and credit them to their accounts.
(d) Acts as Correspondent: Sometimes banks act as representative and correspondentsof their customers.
They get passports, traveler’s tickets and even secure air andsea passages for their customers.
(e) Income-tax Consultancy: Banks may also employ income tax experts to prepareincome tax returns for
their customers and to help them to get refund of incometax.
(f) Execution of Standing Orders: Banks execute the standing instructions of their customers for making
various periodic payments. They pay subscriptions, rents,insurance premia etc., on behalf of their customers.
(g) Acts as Trustee and Executor: Banks preserve the ‘Wills’ of their customers andexecute them after their
death.
2. General Utility Services: In addition to agency services, the modern banks providemany general utility
services for the community as given.
(a) Locker Facility: Bank provide locker facility to their customers. The customers cankeep their valuables,
such as gold and silver ornaments, important documents;shares and debentures in these lockers for safe
custody.
(b) Traveler’s Cheques and Credit Cards: Banks issue traveler’s cheques to help their customers to travel
without the fear of theft or loss of money. With this facility,the customers need not take the risk of carrying
cash with them during theirtravels.
(c) Letter of Credit: Letters of credit are issued by the banks to their customerscertifying their credit
worthiness. Letters of credit are very useful in foreigntrade.
(d) Collection of Statistics: Banks collect statistics giving important information relatingto trade, commerce,
industries, money and banking. They also publish valuablejournals and bulletins containing articles on
economic and financial matters.
(e) Acting Referee: Banks may act as referees with respect to the financial standing,business reputation and
respectability of customers.
(f) Underwriting Securities: Banks underwrite the shares and debentures issued bythe Government, public or
private companies.
(g) Gift Cheques: Some banks issue cheques of various denominations to be used onauspicious occasions.
(h) Accepting Bills of Exchange on Behalf of Customers: Sometimes, banks accept billsof exchange, internal as
well as foreign, on behalf of their customers. It enables customers to import goods.
(i) Merchant Banking: Some commercial banks have opened merchant bankingdivisions to provide merchant
banking services.
C. Fulfillment of Socio-Economic Objectives
In recent years, commercial banks, particularly in developing countries, have been calledupon to help achieve
certain socio-economic objectives laid down by the state. For example,the nationalized banks in India have
framed special innovative schemes of credit to helpsmall agriculturists, village and cottage industries,
retailers, artisans, the self-employedpersons through loans and advances at concessional rates of interest.
Under the DifferentialInterest Scheme (D.I.S.) the nationalized banks in India advance loans to persons
belongingto scheduled tribes, tailors, rickshaw-walas, shoe-makers at the concessional rate of around 4 per
centper annum. This does not cover even the cost of the funds made available to these prioritysectors.
Banking is, thus, being used to sub serve the national policy objectives of reducinginequalities of income and
wealth, removal of poverty and elimination of unemployment inthe country.
It is clear from the above that banks help development of trade and industry in the country.
They encourage habits of thrift and saving. They help capital formation in the country. Theylend money to
traders and manufacturers. In the modern world, banks are to be considerednot merely as dealers in money
but also the leaders in economic development.

Banker
According to H. L. Hart, a banker is “one who in the ordinary course of his business honours cheques drawn
upon him by person from and for whom he receives money on current accounts”.

Indian Banking Regulation Act: Under Section 5(1) (b and c) of the Banking Regulation Act 1949, “Banking
means the accepting for the purpose of lending or investment of deposits of money from the public,
repayable on demand or otherwise and withdrawable by cheque, draft, order or otherwise. Banking company
means any company which transacts the business of banking in India.”

From the definitions given above, it is clear that if any person or institution fulfils the following conditions, it
will satisfy the definition of a banker or a banking company.

(a) Accepting of deposits from the public, repayable on demand or otherwise. The deposits may be of
different types, current, savings, fixed etc.

(b) Such deposits must be withdrawable by cheques, drafts, order or otherwise.

(c) Any money accepted as deposits must be for the purpose of lending or investment.

(d) Performance of banking business as the main business.

According to Section 6 of the Act, a banker, apart from the usual services, may also engage in any one or
more of the following forms of business namely:

1. The borrowing, raising or taking up of money, the lending or advancing of money either upon or without
security.

2. The drawing, making, accepting, discounting, buying, selling, collecting and dealing in bills of exchange,
hundis, promissory notes, coupons, drafts, bills of lading, railway receipts, warrants, debenture, certificates,
scrips, and other instruments.

3. The granting and issuing of the letters of credit, traveller’s cheques and notes.

4. The buying, selling and dealing in bullion and specie.

5. The buying and selling of foreign exchange including foreign bank notes.

6. The acquiring, holding, issuing on commission, underwriting and dealing in stocks, funds, shares,
debentures, bonds, obligations, securities and investments of all kinds.

7. Acting as agents for any government or local authority.

8. The purchasing and selling of bonds, scrips and other forms of securities on behalf of constituents or
others.

9. Contracting for public and private loans and negotiating and issuing the same.

10. The receiving of all kinds of bonds, scrips or valuable on deposits or for safe custody or otherwise.

11. The providing of safe deposit vaults.

12. The collecting and transmitting of money and securities.

 13. The effecting, insuring, guaranteeing, underwriting, participating in managing and carrying out of any
issue, public or private, of state, municipal or other loans or of shares stock, debentures, or debenture stock
of any company, corporation or association and the lending of money for the purpose of any such issue.

14. Carrying on and transacting every kind of guarantee and indemnity business.

15. Managing, selling and realising any property which may come into the possession of the company in
satisfaction or part satisfaction of any of its claims.

16. Undertaking and executing trusts.

17. Undertaking the administration of estates as executor, trustee or otherwise.

18. The acquisition, construction, maintenance and alternation of any building or works necessary or
convenient for the purposes of the company.

19. Doing all such other things as are incidental or conducive to the promotion or advancement of the
business of the company.

20. Any other form of business which the Central Government may, by notification in the official Gazette,
specify as a form of business in which it is lawful for a banking company to engage.

A banking company is not permitted to engage in any form of business other than those referred to above.

Meaning and Definition of a Customer

The term ‘customer’ of a bank is not defined by law. In the ordinary language, a person who has an account in a bank
is considered its customer.

According to an old view, as expressed by Sir John Paget, “to constitute a customer, there must be some recognizable
course or habit of dealing in the nature of regular banking business...... It has been thought difficult to reconcile the
idea of a single transaction with that of a customer that the word predicates, even grammatically, some minimum of
custom, antithetic to an isolated act.” According to this view, in order to constitute a customer of a bank, two
conditions are to be fulfilled.

(a) There must be some recognizable course or habit of dealing between the customer and the banker.

(b) The transactions must be in the form of regular banking business.

Further, for a person to be a customer of a bank, he should have some sort of account with the bank and the initial
transaction in opening an account would not constitute the relation of banker and customer; there should be some
kind of continuity. The concept of duration does not hold good any longer. At present to constitute a customer,
duration is not essential.

According to Dr. Hart “a customer is one who has an account with a banker or for whom a banker habitually
undertakes to act as such.”

The Banker-Customer Relationship

The relationship between the banker and the customer arises out of the contract entered in between them. This
contract is created by mutual consent. A contract that exists between a bank and its customer is a loan contract. This is
because if the customers account is in credit, the bank owes him that money and vice versa, if the account is
overdrawn. This contractual relationship between banker and customer is regulated by the rules contained in the
Negotiable Instruments Act, 1881 and the Indian Contract Act, 1872. The relationship between the banker and the
customer is vital. The relationship starts right from the moment an account is opened and it comes to an end
immediately on closure of the account.

This relationship is of two types:

A. General relationship, and B. Special relationship.

A. General relationship:

The general relationship between banker and customer can be classified into two types, viz., 1. Primary relationship,
and 2. Secondary [Link] are discussed below.

1. Primary Relationship

Primary relationship is in the form of a ‘Debtor’ which arises out of a contract between the banker and customer.
Banker is neither a bailee nor a trustee nor an agent but only a debtor. Thus, the fundamental relationship is that of
“Debtor and Creditor.” Sometime the banker discharges agency functions like collection of bills, cheques etc., acts as a
bailee by keeping valuables in safe custody and acts as trustee by administering the property for the benefit of defined
beneficiary. Here the relationship is not that of ‘Debtor and Creditor’. The authorities on banking law and many court
decisions have said that primary relationship is that of ‘Debtor and Creditor’

Relation of Debtor and Creditor

The true relationship between a banker and his customer is that of a debtor and a creditor. Sir John Paget says: “The
relation of banker and customer is primarily that of a debtor and creditor, the respective positions being determined
by the existing state of the account.

When banker accepts deposits from the customer then bank becomes the debtor and the customer is the creditor.
If customer takes loans from bank then the customer becomes debtor and banks becomes creditor.

The Creditor must Demand Payment: Although the banker is a debtor and the customer is creditor, it is not at all
necessary for the debtor to go to the creditor to pay the amount. This is normally expected in case of commercial
transactions where in there are two parties one a debtor and the other a creditor i.e., ordinary debtor creditor
relationship. But, here in case of banker and customer relationship, though the banker is a debtor, he is not expected
to approach the creditor for settlement of dues. Here, the relationship is different and has a special feature, namely,
demand is necessary from the customer.

Proper Place and Time of Demand: The demand by the creditor must be made at the proper place and in proper time.
It means that the customer should present the cheque for payment at that place of the bank where the customer’s
account is maintained. It is quite clear that at other places, the customer of the state of his account are not known. It
is also essential that the customers should demand payment on a working day i.e., not on a holiday or a day which is
closed for public. And in addition, it must be presented during business hours i.e., it should not be presented either
before or after the business hours.

Demand Must be Made in Proper Form: The demand made by the customer must be in the prescribed form as
required by the bank. It means that the demand for the refund of money deposited must be made through a cheque
or an order as per the common usage amongst the bankers. Otherwise the banker has every right to refuse payment.
So far we have discussed the primary relationship between the banker and the customer. There are other types of
relationship called secondary relationship.

2. Secondary Relationship : It will be in the form of:

(a) Banker as agent
(b) Banker as trustee
(c) Banker as bailee

(a) Banker as Agent: A banker acts as an agent of his customer and performs a number of agency functions for the
convenience of his customers. These are as follows:
(1) Purchasing or selling of securities.
(2) Collection of income
(3) Making periodical payments as instructed by his customers.
(4) Collecting interest and dividend on securities lodged by his customers.
(5) Receiving safe custody valuables and securities lodged by his customers.
(6) Collecting cheques, hundies, drafts of the customers.
In this case, the banker and customer relationship is, in the form of an ‘Agent’ and ‘Principal’.
 (b) Banker as Trustee: A trustee holds property for the beneficiary, and the profit earned from this property
belongs to the beneficiary. If the customer deposits securities or valuables with the banker for safe custody,
banker becomes a trustee of his customer. The customer is the beneficiary so the ownership remains with the
customer.

(c) Banker as Bailee: Bailment is a contract for delivering goods by one party to another to be held in trust for a
specific period and returned when the purpose is ended. Bailor is the party that delivers property to another.
Bailee is the party to whom the property is delivered. So, when a customer gives a sealed box to the bank for safe
keeping, the customer became the bailor, and the bank became the bailee.

As a bailee, the banker should protect the valuables in his custody with reasonable care. If the customer suffered
any loss due to the negligence of the banker in protecting the valuables, banker is liable to pay such loss. If any
loss is incurred due to the situation beyond the control of the banker, he is not liable for penalty.

To conclude, the primary general relationship exists when the account is opened by customer with bank. The
relationship is that of debtor and creditor. When the bank acts as trustee or agent or bailee for the valuables, he
will be establishing the secondary general relationship.

B. Special relationshipThe special relationship between banker and customer takes the form of rights which the
banker can exercise and the obligations which he owes to his customers.

Following are the rights enjoyed by the banker with regard to the customer’s account:
1. Right of general lien
2. Right of set-off
3. Right to appropriate payments
4. Right to charge interest, incidental charges
5. Right not to produce books of accounts
6. Right under Garnishi order
7. Right to close accounts

Some of these rights are discussed below.

1. Right of General Lien: One of the important rights enjoyed by a banker is that of general lien. A lien may be defined
as the right to retain property belonging to a debtor until he has discharged a debt due to the retainer of the property.
In case lien is exercised by a trader on his customer’s goods, he has no right to use the goods nor any right to sell
them. All that he can do is to retain the goods until the obligations are cleared. Once the obligations are cleared by the
customer, it is an obligation on the part of the trader to return back his goods immediately. There are two kinds of
lien:

(a) Particular lien, and (b) General lien.

(a) Particular Lien: A particular lien confers a right to retain the goods in respect of particular debt involved in
connection with a particular transaction. This lien is enjoyed by the persons who have spent their labour on such
properties and have-not yet recovered their labour charges or service charges from the debtors. For example, a tailor
has the right to retain the cloths made by him for his customer until his tailoring charges are paid by the customer. So
is the case with public carriers and the repair shops.

(b) General Lien: A general lien confers a right to retain goods not only in respect of debts incurred in connection with
a particular transaction but also in respect of any general balance arising out of the general dealing between the two
parties. This right can be exercised only by persons such as bankers, factors, policy brokers, attorneys of High Court,
etc. The basic object of general lien is to have protection for the bank funds. The loans or advances granted to
customers can be recovered easily if the general lien is exercised by the bankers.
Banker’s lien is a general lien. It has been held in Brandao Vs Barnett (1864,3, CB 519) that bankers have general lien
on all securities deposited with them as bankers by a customer, unless there be an express contract or circumstances
that show an implied contract, inconsistent with the lien.
Further, in the same judgement, a banker’s lien has been defined as an implied pledge. Pledge is superior and
strengthens the hands of the person who exercises the pledge. In case of pledge, not only the goods will come into the
possession of the pledge but in addition, if default is made in complying with the terms of the pledge, the pledgee
after giving reasonable notice, can definitely auction the property pledged, recover the proceeds and appropriate the
same towards his outstanding arrears. It is because of this reason pledge is said to bemuch superior and more
powerful than lien. But in case of bankers, whenever they exercise their power of lien, it has the effect of pledge.
Therefore, it is rightly said that the banker’s lien is an implied pledge.

The banker can exercise his power of lien in respect of the following:

(a) Bonds and coupons belonging to the customer deposited for collection.
(b) Customer’s securities leftover with the banker after paying the loan.
(c) Any security given by the customer for the purpose of a covering loan.
The banker cannot exercise his power of lien in respect of the following:

(a) Contents of safe deposit lockers belonging to the customer.

(b) Securities and money deposited for specific purpose.
(c) In respect of trust accounts wherein his customer (on whom the banker desiresto put up his lien) is acting
in the capacity of trustee.
(d) Amounts not due.
(e) In respect of joint accounts wherein one of the joint account holder is a customer on whom the banker
desires to exercise his lien.
(f) Documents etc., submitted for getting a loan.
(g) A general lien cannot arise in respect of property of a customer pledged assecurity for a particular debt.
(h) No lien arises over properties on which the customer has no title.
(i) The banker cannot exercise lien when credit and liability are not in the samerights.
(j) The banker’s lien is not affected by the Limitation Act.

2. Right of Set-off: The right of set-off is a statutory right which enables a debtor to take into account a debt owed to
him by a creditor, before the latter could recover the debt due to him from the debtor. In other words, the mutual
claims of debtor and creditor are adjusted together and only the remainder amount is payable by the debtor. A
banker, like other debtors, possesses this right of set-off which enables him to combine two accounts in the name of
the same customer and to adjust the debit balance in one account with the credit balance in the other. For example,
Swaroophas taken an overdraft from his banker to the extent of Rs. 10,000 and he has a creditbalance of Rs. 5,000 in
his savings bank account, the banker can combine both of these accounts and claim the remainder amount of Rs.
5,000 only. This right ofset-off can be exercised by the banker if there is no agreement - express or implied contrary to
this right and after a notice is served on the customer intimating the latter about the former’s intention to exercise the
right of set-off. To be on the safer side the banker takes a letter of set-off from the customer authorising the banker
toexercise the right of set-off without giving him any notice. There are conflicting decisions regarding the application
of right of set-off.

In the case of Garnett Vs Mckean (1872, 27, L.T. 560), it was held that in the absenceof any special agreement to the
contrary, a banker might set-off a customer’s credit balanceagainst a debt due to him from the customer and that
there was no legal obligation on a bankto give notice to a customer of his intention to combine accounts. But in
another subsequentcaseGreenhalgh and Sons Vs Union Bank of Manchester (1924, 2, K.B. 153), the LearnedJudge
observed: “If the banker agrees with his customer to open two accounts or more; hehas not in my opinion, without
the assent of the customer, any right to move either assets orliabilities from one account to the other; the very basis
of his agreement with his customer is that the two accounts shall be kept separate.”

In view of these conflicting opinions, the banker can be on the safer side by taking anagreement from the customer
authorising him to combine the accounts at any time withoutnotice and to return cheques which, as a result of his
having taken such action, wouldoverdraw the combined account. However, in such cases as the death or bankruptcy
of thecustomer, the banker can exercise the right of set-off without notice even in the absence ofan agreement, in
order to ascertain the net amount owing to him.

Conditions Necessary for Exercising the Right of Set-off

The right of set-off can be exercised subject to the fulfilment of the following conditions:

(a) The accounts must be in the same name and in the same right.
(b) By giving notice to customer of banker’s intention to combine accounts.
(c) The right can be exercised in respect of debts due and not in respect of future debtsor contingent debts.
(d) The amount of debts must be certain..
(e) The right may be exercised in the absence of an agreement to the contrary.
(f) The banker has the right to exercise this right before the Garnishee order is madeeffective.

Conditions Under which the Right Cannot be Exercised

(a) If the accounts are not in the same right.

(b) The right of set off cannot be extended to a future contingent debt e.g., a bill whichwill mature in future.
(c) If the amounts of debts are uncertain.
(d) Trust account in which personal account of the customer cannot be combined.
(e) The account balance of an individual cannot be set-off against a joint account balance in which he is one of the
account holders.
Automatic Right of Set-off

The banker enjoys the right of Automatic set-off in following cases:

(a) On the death, insolvency or insanity of customer r.

(b) On the insolvency of a partner.
(c) On receipt of Garnishee order
(d) On receiving the notice of assignment of a customer’s credit balance.
(e) On receiving the notice of second mortgage on the security on which the bank holdsfirst charge.
(f) On the winding up of a company.
Thus, the right of set-off a statutory right. But to exercise this right, it is the normal practice of the banker to obtain a
letter of set-off from the customer.

3. Right to Appropriate Payments: Whenever the customer deposits funds into his account in the bank, it is his duty to
inform the bank to which account they are to be credited (provided the customer has more than one account at the
same bank).Once the customer gives specific directions regarding appropriation, the banker has no right to alter them.
It is his bounden duty to carry out the instructions of the customer. This right of appropriation is to be exercised by the
customer at the time of depositing funds and not later. In case the customer is silent or fails to give instructions, the
banker has every right to appropriate in his own way.

4. Right to Charge Interest: As a creditor, a banker has the implied right to charge interest on the advances granted to
the customer. The rate of interest is nowadays levied as per the directions of Reserve Bank of India. It is charged on
half yearly or quarterly basis and generally compound interest is used. The interest is directly debited, i.e., charged to
the customer’s account and then the interest is calculated on the principal with interest. Interest may also be fixed
bythe banker and customer by mutual consent. It may not however be beyond theprescribed limits of Reserve Bank of
India.

In KonakallaVenkataSatyanarayanaand others Vs State Bank of India (AIR, 1975 A.P. 113) the agreement providedthat
“interest @..... shall be calculated on the daily balance of such accountand shall be charged to such account on the last
working day of each month.”
For several years the customer availed the overdraft facilities and periodicalstatements of accounts were being sent to
the customer showing that interestwas being changed and debited at compound rate and no objection was raisedat
any time. The High Court, therefore, held that there was no doubt that thecustomer had agreed to the compound rate
of interest being charged and debitedto their account. Banks also charge incidental charges on the current accounts
tomeet the incidental expenses on such accounts.

5. Right not to Produce Books of Accounts: According to the provisions of the BankersBook Evidence Act, the banker
need not produce the original books of accounts as anevidence in the cases in which the banker is not a party. He can
issue only an attestedcopy of the required portion of the account which can be utilised as an evidence beforethe
court. When the court is not satisfied with the certified copy, the court can summonthe original books. But when a
banker is a party to the suit, the court can force thebanker to produce the original records in support of his claim.

6. Right under Garnishee Order: The term “Garnishee” is derived from the Latinword “garnire” which means “to
warn.” This order warns the holder of money of judgement debtor, not to make any payment out of it till the court
directs. It is an order issued by a competent court of law addressed to a banker instructing him to stop or withhold
payment of money belonging to a particular person who has committed a default in satisfying the claim of his
creditors. Therefore, whenever a bank receives such an order, the banker has to obey the order fully.

Let us take an example to clearly explain this procedure.

Chaluvaiah is a contractor and obtains a loan from Eshwarappa a money lenderor banker. Chaluvaiah fails to pay the
money to Eshwarappa as per the [Link] Eshwarappa files a suit in the court of law for dues. Eshwarappa
alsoknows that the money is due to Chaluvaiah from the agency (third party) withwhich he is doing his contract
business. Now Eshwarappa can request the courtto issue an order directing the Chaluvaiah’s agency not to make any
payment toChaluvaiah. If the court issues the order that becomes a garnishee order. In thissuit Chaluvaiah is
judgement debtor and Eshwarappa is a judgement [Link] third party is garnishee.

Sheldon defines Garnishee order thus, “It is an order obtained by a judgementcreditor attaching funds in the hands of
a third party, who owes the judgement debtor money, warning the third party, not to release the money attached
until directed bycourt to do so.”

Thus, garnishee order is a direction given by the court to a third party who is dueto the judgement debtor not to make
any payment till it gives a verdict regarding thepaid money. This order is issued at the request of the judgement
[Link] Garnishee order is issued in two parts.

A. Order-Nisi:It is an order issued by a court on a specific banker ordering him, notto release any funds belonging to a
particular customer (judgement debtor) untilfurther orders are issued. In the meantime, the judgement debtor is
requested toappear before the court for further proceedings.

B. Order-Absolute: This is an order of the court issued to a banker after completion ofthe hearing of the parties
concerned and through this order, the court specifies howmuch amount is to be kept separate. The banker has to
follow these orders afterlooking at the position of the customer’s account.

In the following circumstances the Garnishee order would not be applicable:

(a) Where the account of the judgement debtor is a joint account holder with another person;
(b) Where the identity of the judgement debtor is doubtful;
(c) Where the account of the judgement debtor is held by him in the capacity of atrustee;
(d) Where the judgement debtor has previously made an official assignment ofhis balance in favour of a third party
and the banker is informed about it inwriting;
(e) Where the account of the judgement debtor reveals a debit balance.
7. Right to Close Accounts: Banker also enjoys the right to close his customer’s accountand discontinue operations.
This process terminates the relationship between bankerand customer. This is done only in situations where the
continuation of relationship seems unprofitable to the banker.

These are the rights enjoyed by the banker with regard to the customer’s account.

Obligations of Bankers
Bankers are under the obligations to fulfil certain duties while dealing with customers. Such

Obligations are as under:

1. Obligation to honour the customer’s cheques.

2. Obligation to maintain secrecy of customers account.
3. Obligation to receive the cheques and other instruments for collection.
4. Obligation to honour the cheques of customers across the counter.
5. Obligation to give reasonable notice before closing the customers accounts.
Some of these obligations are discussed below.

1. Obligation to Honour the Customer’s Cheques

Section 31 of the Negotiable Instruments Act, 1881, imposes a statutory obligation upon thebanker to honour the
cheques of his customer drawn against his current account so longas his balance is sufficient to allow the banker to do
so, provided the cheques are presentedwithin a reasonable time after their ostensible date of issue. The section runs
as follows:

“The drawee of a cheque having sufficient funds of the drawer in his hands, properlyapplicable to the payment of
such cheque, must pay the cheque when duly requiredso to do and in default of such payment, must compensate the
drawer for any loss ordamage, caused by such default.”

2. Obligation to Maintain Secrecy of Customers Account

In every profession, there are certain things to be maintained absolutely in secret; for example, a doctor is not
expected to disclose the details of his patients to others. The professiondemands from him that he must maintain
those matters in strict confidence. Similarly, abank’s profession also demands that he should maintain the particulars
of his customersaccounts in secret.

The banker has an implied obligation to maintain secrecy of the customer's [Link] should not disclose matters
relating to the customers financial position since it mayadversely affect the customer's credit and business. This
obligation continues even after theaccount of the customer is closed.

Only in the following circumstances, disclosure is justified:

(a) To Satisfy Statutory Requirements: According to the Income Tax Act, the bankeris required to give out information
regarding his customers to the Income TaxDepartment. Similarly, whenever the court needs any information regarding
thecustomers, the banker is required to give the information. According to the BankingRegulation Act, all banks are
required to give in the prescribed forms detailedinformation regarding the customers to the Reserve Bank of India.

(b) As a Common Courtesy: In this case, it is a common practice followed among bankersto exchange information
regarding their customers, accounts etc., as a matter ofcommon courtesy. Whenever the banker is called upon to give
information regardinghis customers, he can do so without any difficulty. As far as possible, he shouldfurnish bare facts
while expressing his opinion. He should be very careful whileexpressing his opinion. He should not exaggerate nor
underestimate the financialstanding of his customers.
(c) Disclosure at the will of Customer: The banker can disclose the state of affairs of thecustomer's account when the
customer gives his consent to disclose the [Link] auditor of the organisation can fully examine the customer's
account whenan express consent is given by him. Similarly when a customer gives the name of aguarantor, the
guarantor can examine the accounts of the customer which the bankershould furnish. When banker acts as a
reference, he can disclose the accounts of thecustomer.

(d) To Protect his Own Interest: Whenever the banker is required to protect his owninterest, if he discloses the details
of a customer's account, it must be a reasonableand proper occasion. For example, if the banker is to recover his own
money from aparticular customer, he may give the details to his lawyers.

(e) To Protect Public Interest: The Banking Commission (1972) opined as follows: Whenbanks are required to give out
information regarding their customers in the interestof the public, the information should relate to financial aspect of
the customers. Thefollowing are instances of such cases:

(i) Where considerable amounts are received from other countries.

(ii) In case the bank thinks that the customer is carrying on such activities which arenot congenial in the interest of the
nation.

(iii) In case the banker thinks that the customer is trying to break the provisions ofthe law on the basis of his records.

(iv) When the Government calls upon the bank to give information regarding aparticular customer and when the bank
feels that a particular customer hascommitted an offence.

3. Obligation to Receive Cheques and Other Instruments for Collection

Basically, the business of banking, as it is known today, comprises acceptance of moneyon deposit account and
payment of cheques. It also includes collection of cheques. It mayrightly be contended that anyone who does not
perform these essential services is not abanker. Whenever a banker is entrusted with the job of collection of cheques,
they must becollected as speedily as possible through the accepted channels. Failure to exercise propercare and
employ the recognised route for collection may make the bank liable for any losswhich the customer may sustain.

4. Obligation to Give Reasonable Notice before Closing the Account

Reasonable time mustbe granted to before the closure of account. Where any customer becomesa nuisance through
overdrawing without arrangement or issuing post-dated cheques etc., itis advisable to close his account. But
reasonable time has to be given to enable him to makealternative arrangements if he so desires. If a bank abruptly
closes the customer's account, it might affect his credit, giving cause for an action against the bank.
 .

KYC Norms and Anti-Money Laundering (AML) Guidelines

“Know your Customer” is a term used for customer identification which involves making reasonable efforts to
determine true identity and beneficial ownership of accounts, source of funds, the nature of customer’s business,
fairness of operations in the account in relation to the customer’s business, etc. so as to help the banks to manage
their risks cautiously.

Objectives

The objectives of the policy are to prevent criminal elements from using the bank for money laundering activities by
enabling the bank to know/understand the customer and their financial dealings better, which, in turn, would help the
bank to manage risks prudently and to lay in place appropriate controls for accounting and spotting of wary activities
in accordance with the established operations so as to abide by with applicable laws and regulatory guidelines.

KYC has two components - Identity and Address. The banks need to periodically change their records since although
the identity remains the same, but the address may change.

The framework of KYC norms mainly incorporates the following four key elements:

1. Customer Acceptance Policy (CAP)

2. Customer Identification Procedures(CIP)
3. Monitoring of Transactions; and
4. Risk Management.

1. Customer Acceptance Policy: The Bank will:

i. classify customer into various risk categories and based on risk perception decided on acceptance criteria for
each category of customer;
ii. Accept customer after verifying their identity as laid down in Customer Identification Procedures;
iii. Not open accounts in the name of anonymous/fictitious/benaminame
iv. Not to open an account where the bank is unable to apply appropriate customer due diligence measures, i.e.,
the bank/FI is unable to verify the identity and /or obtain required documents either due to non-cooperation of
the customer or non-reliability of the documents/information furnished by the customer. The bank/FI may also
consider closing an existing account under similar circumstances
v. The bank/FI should have suitable systems in place to ensure that the identity of the customer does not match
with any person or entity, whose name appears in the sanction lists circulated by the Reserve Bank.

while carrying out due diligence, ensure that the procedure adopted will not result in denial of banking services to
the general public especially those who are financially or socially disadvantaged.

2. Customer Identification Procedure: The fit requirement of customer identification procedure is to be satisfied
that
i. a prospective customer is who he/she claims to be,
ii. the second requirement of customer identification procedures is to ensure that sufficient information is
obtained and verified on thepurpose of the intended nature of the banking relationship, nature of the business
that the customer expects to undertake, and any expected, or predictable, pattern of transactions and The
information collected will be used for profiling the customer,
iii. TheCustomer Identification Procedures are to be carried out at the stages:

a) while establishing a banking relationship;

b) while carrying out a financial transaction;
c) when the bank/FI has a doubt about the authenticity or adequacy of the customer identification data it
has obtained;
d) when banks sell third party products as agents;
e) While selling banks’ own products, payment of dues of credit cards/sale and reloading of prepaid/travel
cards and any other product for more than Rs. 50,000/-.
f) when carrying out transactions for a non-account based customer, that is a walk-in customer, where the
amount involved is equal to or exceeds Rs. 50,000/-, whether conducted as a single transaction or several
transactions that appear to be connected.
g) when a bank/FI has reason to believe that a customer (account- based or walk-in) is intentionally
structuring a transaction into a series of transactions below the threshold of Rs. 50,000/-

3. Monitoring of Transactions: Monitoring of transactions will be conducted taking into consideration the risk
profile of the account. Special attention will be paid to all complex, unusually large transactions and all
unusual patterns, which have no apparent logical or visible lawful purpose. Transactions that involve large
amounts of cash inconsistent with the normal and expected activity of the customer will be subjected to
detailed scrutiny.
After due diligence at the appropriate level in the Bank, transactions of suspicious nature and/or any other
type of transaction notified under PML Act, 2002 will be reported to the appropriate authority and a record of
such transactions will be preserved and maintained for a period as prescribed in the Act.
Branches would be maintaining a close watch on cash transactions (whether deposits or withdrawals) of Rs10
lakh and above in all deposit and loan accounts and recording the same separately in the prescribed register.
Besides, the branches would also be reporting all cash transactions of Rs 10 lakh and above with full details to
their controlling offices through a periodical statement, on fortnightly basis. The controlling offices would
scrutinize the same and, if required, make enquiries from the branches in case the cash deposit/withdrawal is
not in consonance with the known profile of the customer and follow up with the branches till logical end. In
case, the controlling offices find that the report is in order, no further action would be taken and the
designated officer in RO/ZO would close the report.

4. Risk Management: The Board of Director of the bank should ensure that an effective and efficient KYC
program is put in place by establishing appropriate procedures and ensuring their proper execution. It should
cover proper management supervision, segregation of responsibilities, systems and controls, training and
other related matte. Responsibility should be explicitly apportioned within the bank for ensuring that the
bank’s policies and procedures are carried out effectively.
Anti-Money Laundering (AML)
Money launderingis the illegal process of concealing the origins of money obtained illegally by passing it
through a complex sequence of banking transfers or commercial transactions.

The three stages of money laundering – placement, layering, and integration – form a cyclical process that
allows illicit funds to enter the legitimate financial system, obfuscate their origins, and then reintegrate,
appearing as legal tender.
1. In the ‘placement’ stage, ‘dirty’ money, typically in cash form, is inserted into the financial system,
often through cash-intensive businesses, invoice fraud, or deposit structuring, commonly known as
‘smurfing’.

2. The ‘layering’ stage involves conducting complex transactions designed to confuse and cover tracks,
often exploiting the vast, globalized financial system through the use of offshore accounts, shell
companies, and digital currencies.
3. Lastly, the ‘integration’ stage sees the now ‘clean’ money re-enter the legitimate economy, typically
through the purchase of assets, where it becomes increasingly difficult to differentiate it from legally
sourced funds. This process provides a cloak of legitimacy to illicitly acquired wealth, presenting
significant challenges to law enforcement and financial regulators globally.

 “Money Mules” can be used to launder the proceeds of fraud schemes (e.g., phishing and identity theft)
by criminals who gain illegal access to deposit accounts by recruiting third parties to act as “money
mules”. In order to minimise the operations of such mule accounts, banks should strictly adhere to the
guidelines on opening of accounts and monitoring of transactions.

Prevention of Money Laundering Act, 2002 (“PMLA”) came in to effect on 1st July 2005

 Banks/FIs should introduce a system of maintaining proper record of transactions prescribed under Rule
3 of Prevention of Money Laundering (Maintenance of Records) Rules, 2005 (PML Rules, 2005), as
mentioned below:

o All cash transactions of the value of more than Rupees Ten Lakh or its equivalent in foreign
currency;
o Series of all cash transactions individually valued below Rupees Ten Lakh, or its equivalent in
foreign currency which are that have taken place within a month and the monthly aggregate
which exceeds rupees ten lakhs or its equivalent in foreign currency. It is clarified that for
determining ‘integrally connected transactions’ ‘all accounts of the same customer’ should be
taken into account.
o All transactions involving receipts by non-profit organisations of value more than rupees ten
lakh or its equivalent in foreign currency
o All cash transactions where forged or counterfeit currency notes or bank notes have been used
o All suspicious transactions, whether or not in cash, made
 Banks/FIs should take appropriate steps for proper maintenance and preservation of account information
in a manner that allows data to be retrieved easily and quickly whenever required or when requested by
the competent [Link] terms of PML Amendment Act 2012, banks/FIs should maintain for at least
five years from the date of transaction
 Reporting to Financial Intelligence Unit –India: Banks/FIs are required to furnish information relating to
suspicious cash transactions and cash transaction above threshold to Financial Intelligence Unit-India
(FIU-IND) without a delay.
 Cash Transaction Report (CTR): The CTR for each month should be submitted to FIU-IND by 15th of the
succeeding month to [Link] filing CTR, details of individual transactions below Rupees Fifty
thousand need not be furnished.
 The Suspicious Transaction Reports (STR) should be furnished within seven days of arriving at a
conclusion that any transaction, whether cash or non-cash, or a series of transactions integrally
connected are of suspicious nature.
 Reserve Bank of India
The Reserve Bank of India was established on April 1, 1935 in accordance with the provisions of the Reserve
Bank of India Act, 1934.

The Central Office of the Reserve Bank was initially established in Kolkata but was permanently moved to
Mumbai in 1937. The Central Office is where the Governor sits and where policies are formulated.

Though originally privately owned, since nationalisation in 1949, the Reserve Bank is fully owned by the
Government of India. The Reserve Bank's affairs are governed by a central board of directors. The board is
appointed by the Government of India in keeping with the Reserve Bank of India Act.

Objectives of RBI

The main objectives of the Reserve Bank of India are:

1. Promotion of monetisation and monetary integration of the economy.

2. Amendment and modification of currency and regulation of foreign exchange.
3. Promotion of specialised financial institutions at national and regional levels to enhance facilities for term
finance to industry.
4. Provide support to planning authorities and governments to bring economic development with stability
and social justice.
5. Institutionalization of savings through promotion of banking habit.
6. Building up a sound and adequate banking and credit structure.
7. Evolving a well-differentiated structure of institutions for providing credit for Agriculture and Allied
(related) activities.

Main Functions

Monetary Authority:

 Formulates, implements and monitors the monetary policy.

 Objective: maintaining price stability while keeping in mind the objective of growth.

Commercial bank in the country creates credit according to the demand in the economy. But if this credit
creation is unchecked or unregulated then it leads the economy into inflationary cycles. On the other credit
creation is below the required limit then it harms the growth of the economy. As a central bank of the nation
the RBI has to look for growth with price stability. Thus, it regulates the credit creation capacity of commercial
banks by using various credit control tools.

Regulator and supervisor of the financial system:

 Prescribes broad parameters of banking operations within which the country's banking and financial system
functions.
 Objective: maintain public confidence in the system, protect depositors' interest and provide cost-effective
banking services to the public.

The RBI has been endowed with vast powers for supervising the banking system in the country. It has powers
to issue license for setting up new banks, to open new branches, to decide minimum reserves, to inspect
functioning of commercial banks in India and abroad, and to guide and direct the commercial banks in India.
It can have periodical inspections an audit of the commercial banks in India.

Manager of Foreign Exchange

  Manages the Foreign Exchange Management Act, 1999.
 Objective: to facilitate external trade and payment and promote orderly development and maintenance of
foreign exchange market in India.

It is an essential function of the RBI. In order to maintain stability in the external value of rupee, it has to
prepare domestic policies in that direction. Also, it needs to prepare and implement the foreign exchange
rate policy which will help in attaining the exchange rate stability. In order to maintain the exchange rate
stability, it has to bring demand and supply of the foreign currency (U.S Dollar) close to each other.

Issuer of currency:

 Issues, exchanges and destroys currency notes as well as puts into circulation coins minted by Government of
India.
 Objective: to give the public adequate quantity of supplies of currency notes and coins and in good quality.

The RBI has the sole right or authority or monopoly of issuing currency notes except one rupee note and coins
of smaller denomination. These currency notes are legal tender issued by the RBI. The RBI has powers not
only to issue and withdraw but even to exchange these currency notes for other denominations. It issues
these notes against the security of gold bullion, foreign securities, rupee coins, exchange bills and promissory
notes and government of India bonds.

Regulator and Supervisor of Payment and Settlement Systems:

 Introduces and upgrades safe and efficient modes of payment systems in the country to meet the
requirements of the public at large.
 Objective: maintain public confidence in payment and settlement system

Related Functions

 Banker to the Government: performs merchant banking function for the central and the state governments;
also acts as their banker.
 Banker to banks: maintains banking accounts of all scheduled banks.

 Banker to other Banks: The RBI being an apex monitory institution has obligatory powers to guide, help and direct
other commercial banks in the country. The RBI can control the volumes of banks reserves and allow other banks
to create credit in that proportion. Every commercial bank has to maintain a part of their reserves with its parent's
viz. the RBI. Similarly, in need or in urgency these banks approach the RBI for fund. Thus, it is called as the lender
of the last resort.

 Banker to the Government: The RBI being the apex monitory body has to work as an agent of the central and state
governments. It performs various banking function such as to accept deposits, taxes and make payments on
behalf of the government. It works as a representative of the government even at the international level. It
maintains government accounts, provides financial advice to the government. It manages government public
debts and maintains foreign exchange reserves on behalf of the government. It provides overdraft facility to the
government when it faces financial crunch.

Developmental role

Along with the routine traditional functions, central banks especially in the developing country like India have to
perform numerous functions. These functions are country specific functions and can change according to the
requirements of that country. The RBI has been performing as a promoter of the financial system since its inception.
Some of the major development functions of the RBI are maintained below.
1. Development of the Financial System: The financial system comprises the financial institutions, financial markets
and financial instruments. The sound and efficient financial system is a precondition of the rapid economic
development of the nation. The RBI has encouraged establishment of main banking and nonbanking institutions to
cater to the credit requirements of diverse sectors of the economy.
2. Development of Agriculture: In an agrarian economy like ours, the RBI has to provide special attention for the credit
need of agriculture and allied activities. It has successfully rendered service in this direction by increasing the flow of
credit to this sector. It has earlier the Agriculture Refinance and Development Corporation (ARDC) to look after the
credit, National Bank for Agriculture and Rural Development (NABARD) and Regional Rural Banks (RRBs).
3. Provision of Industrial Finance: Rapid industrial growth is the key to faster economic development. In this regard,
the adequate and timely availability of credit to small, medium and large industry is very significant. In this regard the
RBI has always been instrumental in setting up special financial institutions such as ICICI Ltd. IDBI, SIDBI and EXIM
BANK etc.
4. Provisions of Training: The RBI has always tried to provide essential training to the staff of the banking industry. The
RBI has set up the bankers' training colleges at several places. National Institute of Bank Management i.e NIBM,
Bankers Staff College i.e BSC and College of Agriculture Banking i.e CAB are few to mention.
5. Collection of Data: Being the apex monetary authority of the country, the RBI collects process and disseminates
statistical data on several topics. It includes interest rate, inflation, savings and investments etc. This data proves to be
quite useful for researchers and policy makers.
6. Publication of the Reports: The Reserve Bank has its separate publication division. This division collects and
publishes data on several sectors of the economy. The reports and bulletins are regularly published by the RBI. It
includes RBI weekly reports, RBI Annual Report, Report on Trend and Progress of Commercial Banks India., etc. This
information is made available to the public also at cheaper rates.
7. Promotion of Banking Habits: As an apex organization, the RBI always tries to promote the banking habits in the
country. It institutionalizes savings and takes measures for an expansion of the banking network. It has set up many
institutions such as the Deposit Insurance Corporation-1962, UTI-1964, IDBI-1964, NABARD-1982, NHB-1988, etc.
These organizations develop and promote banking habits among the people. During economic reforms it has taken
many initiatives for encouraging and promoting banking in India.
8. Promotion of Export through Refinance: The RBI always tries to encourage the facilities for providing finance for
foreign trade especially exports from India. The Export-Import Bank of India (EXIM Bank India) and the Export Credit
Guarantee Corporation of India (ECGC) are supported by refinancing their lending for export purpose.

Supervisory Functions of RBI

The reserve bank also performs many supervisory functions. It has authority to regulate and administer the entire
banking and financial system. Some of its supervisory functions are given below.
1. Granting license to banks: The RBI grants license to banks for carrying its business. License is also given for opening
extension counters, new branches, even to close down existing branches.
2. Bank Inspection: The RBI grants license to banks working as per the directives and in a prudent manner without
undue risk. In addition to this it can ask for periodical information from banks on various components of assets and
liabilities.
3. Control over NBFIs: The Non-Bank Financial Institutions are not influenced by the working of a monitory policy.
However, RBI has a right to issue directives to the NBFIs from time to time regarding their functioning. Through
periodic inspection, it can control the NBFIs.
4. Implementation of the Deposit Insurance Scheme: The RBI has set up the Deposit Insurance Guarantee
Corporation in order to protect the deposits of small depositors. All bank deposits below Rs. One lakh are insured with
this corporation. The RBI work to implement the Deposit Insurance Scheme in case of a bank failure.

National Bank for Agriculture and Rural Development (NABARD)

Established on 12th July, 1982 as an apex bank for agriculture and rural development in accordance with the
recommendations of the Committee to Review Arrangements for Institutional Credit for Agriculture and Rural
Development (CRAFICARD), NABARD is accredited with all matters concerning policy, planning and operations in the
field of credit for agriculture and other economic activities in rural areas. NABARD functions to promote sustainable
rural development for attaining prosperity of rural areas in India.

It is basically concerned with “matters concerning policy, as well as planning and operations in the field of credit for
agriculture and other economic activities in rural areas in India”. It is worth noting with refernce to NABARD that RBI
has sold its own stake to the Government of India. Therefore, Government of India holds 99% stake in NABARD.

Functions of NABARD

Credit Functions:

 Framing policy and guidelines for rural financial institutions.

 Providing credit facilities to issuing organizations
 Monitoring the flow of ground level rural credit.
 Preparation of credit plans annually for all districts for identification of credit potential.
 NABARD gives high priority to projects formed under IRDP. It provides refinance for IRDP accounts in order to
give highest share for the support for poverty alleviation programs run by IRDP.

Development Functions:

 Help cooperative banks and Regional Rural Banks to prepare development actions plans for themselves.
 Help Regional Rural Banks and the sponsor banks to enter into MoUs with state governments and cooperative
banks to improve the affairs of the Regional Rural Banks.
 Monitor implementation of development action plans of banks.
 Provide financial support for the training institutes of cooperative banks, commercial banks and Regional
Rural Banks.
 Provide financial assistance to cooperative banks for building improved management information system,
computerization of operations and development of human resources.
 NABARD also prepares guidelines for promotion of group activities under its programs and provides 100%
refinance support for them.
 It is making efforts to establish linkages between Self-help Group(SHG) that are organized by voluntary
agencies for poor and needy in rural areas and other official credit agencies.
  It refinances to the complete extent for those projects that are taken under the ‘National Watershed
Development Programme‘ and the ‘National Mission of Wasteland Development‘.
 It also has a system of District Oriented Monitoring Studies, under which, study is conducted for a cross
section of schemes that are sanctioned in a district to various banks, to ascertain their performance and to
identify the constraints in their implementation, It also initiates appropriate action to remedy them.
 It also supports Vikas volunteer Vahini programs which offer credit and development activities to poor
farmers.
 It also runs programs for agriculture and rural development.
 NABARD also provides assistance and support for the training and development of the staff of various other
credit institutions, that are engaged in credit distributions.

Supervisory Functions:

 Undertakes inspection of Regional Rural Banks (RRBs) and Cooperative Banks (other than urban/primary
cooperative banks) under the provisions of Banking Regulation Act, 1949.
 NABARAD also recommends about licensing for RRBs and Cooperative banks to RBI.
 Undertakes inspection of State Cooperative Agriculture and Rural Development Banks (SCARDBs) and apex
non- credit cooperative societies on a voluntary basis.
 Provides recommendations to Reserve Bank of India on issue of licenses to Cooperative Banks, opening of
new branches by State Cooperative Banks and Regional Rural Banks (RRBs).
 Undertakes portfolio inspections besides off-site surveillance of Cooperative Banks and Regional Rural Banks
(RRBs).
 It also inspects and supervises the cooperative banks and RRBs to periodically ensure the development of the
rural financing and farmers’ welfare.

SEBI

SEBI stands for Securities and Exchange Board of India. It is a statutory regulatory body that was established by the
Government of India in 1992 for protecting the interests of investors investing in securities along with regulating the
securities market. SEBI also regulates how the stock market and mutual funds function. As for the board members, The
Central Government of India appoints one Chairman of the Board, one member Board is appointed by the Reserve
Bank of India (RBI), two members of the board are from the Union Ministry of Finance, and the Central Government of
India elects five members to the board.

Objectives of SEBI

Following are some of the objectives of the SEBI:

1. Investor Protection: This is one of the most important objectives of setting up SEBI. It involves protecting the
interests of investors by providing guidance and ensuring that the investment done is safe.
2. Preventing the fraudulent practices and malpractices which are related to trading and regulation of the activities of
the stock exchange
3. To develop a code of conduct for the financial intermediaries such as underwriters, brokers, etc.
4. To maintain a balance between statutory regulations and self regulation.
Functions of SEBI

SEBI has the following functions

1. Protective Function
2. Regulatory Function
3. Development Function
The following functions will be discussed in detail

Protective Function: The protective function implies the role that SEBI plays in protecting the investor interest and
also that of other financial participants. The protective function includes the following activities.

a. Prohibits insider trading: Insider trading is the act of buying or selling of the securities by the insiders of a company,
which includes the directors, employees and promoters. To prevent such trading SEBI has barred the companies to
purchase their own shares from the secondary market.
b. Check price rigging: Price rigging is the act of causing unnatural fluctuations in the price of securities by either
increasing or decreasing the market price of the stocks that leads to unexpected losses for the investors. SEBI
maintains strict watch in order to prevent such malpractices.
c. Promoting fair practices: SEBI promotes fair trade practice and works towards prohibiting fraudulent activities
related to trading of securities.
d. Financial education provider: SEBI educates the investors by conducting online and offline sessions that provide
information related to market insights and also on money management.
Regulatory Function: Regulatory functions involve establishment of rules and regulations for the financial
intermediaries along with corporates that helps in efficient management of the market.

The following are some of the regulatory functions.

a. SEBI has defined the rules and regulations and formed guidelines and code of conduct that should be followed by
the corporates as well as the financial intermediaries.
b. Regulating the process of taking over of a company.
c. Conducting inquiries and audit of stock exchanges.
d. Regulates the working of stock brokers, merchant brokers.

Developmental Function: Developmental function refers to the steps taken by SEBI in order to provide the investors
with a knowledge of the trading and market function. The following activities are included as part of developmental
function.

1. Training of intermediaries who are a part of the security market.

2. Introduction of trading through electronic means or through the internet by the help of registered stock brokers.
3. By making the underwriting an optional system in order to reduce cost of issue.
References
 Indian Institute of Banking and Finance (IIBF), Principles and Practice of Banking, Macmillan
 Neelam C. Gulati, Principles of Banking Management, Excel Books
 [Link]
 [Link]