Docsity
Docsity

Prepare for your exams
Prepare for your exams

Study with the several resources on Docsity


Earn points to download
Earn points to download

Earn points by helping other students or get them with a premium plan


Guidelines and tips
Guidelines and tips

Understanding Monetary Policy: Bank Rate, Cash Reserve Ratio, and NBFCs, Lecture notes of Banking Law and Practice

The role of the Reserve Bank of India (RBI) in monetary policy through the use of the bank rate, cash reserve ratio (CRR), and repo rate. It also introduces non-banking financial companies (NBFCs) and their differences with banks. context on the importance of these concepts in regulating the money supply, inflation, and liquidity in India.

What you will learn

  • What are the differences between banks and non-banking financial companies (NBFCs) in India?
  • How does the bank rate impact the availability of money for banks to lend?
  • What is the role of the Reserve Bank of India (RBI) in monetary policy?
  • How does the RBI's monetary policy affect the money supply, inflation, and liquidity in India?
  • What is the purpose of the cash reserve ratio (CRR) in India?

Typology: Lecture notes

2022/2023

Uploaded on 11/09/2022

ayushi-bhardwaj-2
ayushi-bhardwaj-2 🇮🇳

1 document

1 / 12

Toggle sidebar

This page cannot be seen from the preview

Don't miss anything!

bg1
RATIOS AND RATES OF BANKING SECTOR
RBI has the power to maintain the monetary stability. It being the market regulator, decides
the rates every quarter and it may and may not change them.
1. Bank rate-
- The bank rate is the rate of interest which is charged by a central bank while lending
loans to a commercial bank. In the event of a fund deficiency, a bank can borrow
money from the central bank of a country. In India’s case that would be the Reserve
Bank of India. The borrowing is done as per the basis of the monetary policy of that
country.
- The interest rate is charged by a nation’s central financial authority that controls the
money supply in the economy as well as the banking sector. This is usually done
quarterly to stabilize inflation and control the country’s exchange rates. As of March
2021, the Bank Rate is 4.25%
2. Cash Reserve Ratio-
- Cash Reserve Ratio (CRR) is a specified minimum fraction of the total deposits of
customers, which commercial banks have to hold as reserves either in cash or as
deposits with the central bank (liquid cash). CRR is set according to the guidelines
of the central bank of a country.
- The amount specified as the CRR is held in cash and cash equivalents, is stored in
bank vaults or parked with the Reserve Bank of India. The aim here is to ensure that
banks do not run out of cash to meet the payment demands of their depositors. CRR
is a crucial monetary policy tool and is used for controlling money supply in an
economy.
- CRR specifications give greater control to the central bank over money supply.
Commercial banks have to hold only some specified part of the total deposits as
reserves. This is called fractional reserve banking.
- 4th May 2022 Reserve Bank of India (RBI) raised cash reserve ratio (CRR) by 50
basis points to 4.50% effective May 21.
- How does CRR work?
When the RBI decides to increase the Cash Reserve Ratio, the amount of
money that is available with the banks reduces. This is the RBI’s way of
controlling the excess flow of money in the economy. The cash balance that
is to be maintained by scheduled banks with the RBI should not be less than
4% of the total NDTL, which is the Net Demand and Time Liabilities. This
is done on a fortnightly basis.
NDTL refers to the total demand and time liabilities (deposits) that are held
by the banks. It includes deposits of the general public and the balances held
by the bank with other banks. Demand deposits consist of all liabilities
which the bank needs to pay on demand like current deposits, demand drafts,
balances in overdue fixed deposits and demand liabilities portion of savings
bank deposits.
Time deposits consist of deposits that need to be repaid on maturity and
where the depositor can’t withdraw money immediately. Instead, he is
required to wait for a certain time period to gain access to the funds. This
includes fixed deposits, time liabilities portion of savings bank deposits and
staff security deposits.
pf3
pf4
pf5
pf8
pf9
pfa

Partial preview of the text

Download Understanding Monetary Policy: Bank Rate, Cash Reserve Ratio, and NBFCs and more Lecture notes Banking Law and Practice in PDF only on Docsity!

RATIOS AND RATES OF BANKING SECTOR

RBI has the power to maintain the monetary stability. It being the market regulator, decides the rates every quarter and it may and may not change them.

  1. Bank rate -
    • The bank rate is the rate of interest which is charged by a central bank while lending loans to a commercial bank. In the event of a fund deficiency, a bank can borrow money from the central bank of a country. In India’s case that would be the Reserve Bank of India. The borrowing is done as per the basis of the monetary policy of that country.
    • The interest rate is charged by a nation’s central financial authority that controls the money supply in the economy as well as the banking sector. This is usually done quarterly to stabilize inflation and control the country’s exchange rates. As of March 2021, the Bank Rate is 4.25%
  2. Cash Reserve Ratio -
    • Cash Reserve Ratio (CRR) is a specified minimum fraction of the total deposits of customers, which commercial banks have to hold as reserves either in cash or as deposits with the central bank (liquid cash). CRR is set according to the guidelines of the central bank of a country.
    • The amount specified as the CRR is held in cash and cash equivalents, is stored in bank vaults or parked with the Reserve Bank of India. The aim here is to ensure that banks do not run out of cash to meet the payment demands of their depositors. CRR is a crucial monetary policy tool and is used for controlling money supply in an economy.
    • CRR specifications give greater control to the central bank over money supply. Commercial banks have to hold only some specified part of the total deposits as reserves. This is called fractional reserve banking.
    • 4th May 2022 – Reserve Bank of India (RBI) raised cash reserve ratio (CRR) by 50 basis points to 4.50% effective May 21.
    • How does CRR work?  When the RBI decides to increase the Cash Reserve Ratio, the amount of money that is available with the banks reduces. This is the RBI’s way of controlling the excess flow of money in the economy. The cash balance that is to be maintained by scheduled banks with the RBI should not be less than 4% of the total NDTL, which is the Net Demand and Time Liabilities. This is done on a fortnightly basis.  NDTL refers to the total demand and time liabilities (deposits) that are held by the banks. It includes deposits of the general public and the balances held by the bank with other banks. Demand deposits consist of all liabilities which the bank needs to pay on demand like current deposits, demand drafts, balances in overdue fixed deposits and demand liabilities portion of savings bank deposits.  Time deposits consist of deposits that need to be repaid on maturity and where the depositor can’t withdraw money immediately. Instead, he is required to wait for a certain time period to gain access to the funds. This includes fixed deposits, time liabilities portion of savings bank deposits and staff security deposits.

 The liabilities of a bank include call money market borrowings, certificates of deposit and investment in deposits in other banks. In short, the higher the Cash Reserve Ratio, the lesser is the amount of money available to banks for lending and investing.  NDTL = Demand and time liabilities (deposits) with public sector banks and other banks – deposits with other banks (liabilities)

  • How does CRR affect the economy?  Cash Reserve Ratio (CRR) is one of the main components of the RBI’s monetary policy, which is used to regulate the money supply, level of inflation and liquidity in the country. The higher the CRR, the lower is the liquidity with the banks and vice-versa. During high levels of inflation, attempts are made to reduce the flow of money in the economy.  For this, RBI increases the CRR, lowering the loanable funds available with the banks. This, in turn, slows down investment and reduces the supply of money in the economy. As a result, the growth of the economy is negatively impacted. However, this also helps bring down inflation.  On the other hand, when the RBI wants to pump funds into the system, it lowers the CRR, which increases the loanable funds with the banks. The banks in turn sanction a large number of loans to businesses and industry for different investment purposes. It also increases the overall supply of money in the economy. This ultimately boosts the growth rate of the economy.
  1. Repo Rate :
  • Repo rate is the rate at which the central bank of a country (Reserve Bank of India in case of India) lends money to commercial banks in the event of any shortfall of funds. Repo rate is used by monetary authorities to control inflation.
  • In the event of inflation, central banks increase repo rate as this acts as a disincentive for banks to borrow from the central bank. This ultimately reduces the money supply in the economy and thus helps in arresting inflation.
  1. Reverse Repo Rate :
  • Reverse Repo Rate is defined as the rate at which the Reserve Bank of India (RBI) borrows money from banks for the short term. It is an important monetary policy tool employed by the RBI to maintain liquidity and check inflation in the economy.
  • The Reverse Repo Rate helps the RBI get money from the banks when it needs. In return, the RBI offers attractive interest rates to them. The banks also voluntarily park excess funds with the central bank as it provides them with an opportunity to earn higher interest on surplus money.
  • The Reverse Repo Rate is decided by the Monetary Policy Committee (MPC), headed by the RBI Governor. The decision is taken in the bi-monthly meeting of the Committee.
  1. Prime Lending Rate (PLR) :
  • Historically, prime lending rate is the interest rate at which banks lend to its most credit worthy customers. But, over the course of history, banks have come to lend to customers at interest rates below and above the prime lending rate. Prime lending rate of banks do not vary widely.

NON-BANKING FINANCE COMPANIES:

 INTRODUCTION:

  • Non-bank financial companies (NBFCs), also known as nonbank financial institutions (NBFIs), are financial institutions that offer various banking services but do not have a banking license. NBFCs can offer services such as loans and credit facilities, currency exchange, retirement planning, money markets, underwriting, and merger activities.
  • A Non–Banking Financial Corporation is a company incorporated under the Companies Act 2013 or 1956. According to section 45-I (c) of the RBI Act, a Non– Banking Company carrying on the business of a financial institution will be an NBFC.
  • As banks are not able to reach every corner of financial business needs in India, Non Banking Financial Company (NBFC) plays a very vital role in financial sector of Indian economy. That’s is why, since last few years in Indian economy is going down due to collapse of financial companies in India.
  • Generally, these institutions are not allowed to take traditional demand deposits— readily available funds, such as those in checking or savings accounts—from the public. This limitation keeps them outside the scope of conventional oversight from federal and state financial regulators.
  • Examples of NBFCs include investment banks, mortgage lenders, money market funds, insurance companies, hedge funds, private equity funds, and P2P lenders  DIFFERENCE BETWEEN BANKS AND NBFCs: NBFCs lend and make investments and hence their activities are akin to that of banks; however there are a few differences as given below: a) NBFC cannot accept demand deposits; b) NBFCs do not form part of the payment and settlement system and cannot issue cheques drawn on itself; c) deposit insurance facility of Deposit Insurance and Credit Guarantee Corporation is not available to depositors of NBFCs, unlike in case of banks.

 REGISTRATION OF NBFCs: It is provided under Section 45 (i) (a) of the BRA and is regulated by RBI Act. The applicant company is required to apply online and submit a physical copy of the application along with the necessary documents to the Regional Office of the Reserve Bank of India. The application can be submitted online by accessing RBI’s secured website.  Deposits company (Acceptance of deposits) Rules 1975 govern NBFCs  ROLE OF NBFCs:

  1. Size of sector : The NBFC sector has grown considerably in the last few years despite the slowdown in the economy.
  2. Growth : In terms of year-over-year growth rate, the NBFC sector beat the banking sector in most years between 2006 and 2013. On an average, it grew 22% every year. This shows, it is contributing more to the economy every year
  3. Profitability : NBFCs are more profitable than the banking sector because of lower costs. This helps them offer cheaper loans to customers. As a result, NBFCs' credit growth - the increase in the amount of money being lent to customers – is higher than that of the banking sector with more customers opting for NBFCs.
  4. Infrastructure Lending : NBFCs contribute largely to the economy by lending to infrastructure projects, which are very important to a developing country like India. Since they require large amount of funds, and earn profits only over a longer time- frame, these are riskier projects and deters banks from lending. In the last few years, NBFCs have contributed more to infrastructure lending than banks.
  5. Promoting inclusive growth : NBFCs cater to a wide variety of customers - both in urban and rural areas. They finance projects of small-scale companies, which is important for the growth in rural areas. They also provide small-ticket loans for affordable housing projects. All these help promote inclusive growth in the country.

These are dealt in detail below (banking and NBFC is already covered):

1. Capital Market- - Capital markets are where savings and investments are channeled between suppliers and those in need. Suppliers are people or institutions with capital to lend or invest and typically include banks and investors. Those who seek capital in this market are businesses, governments, and individuals. - Capital markets are composed of primary and secondary markets. The most common capital markets are the stock market and the bond market. They seek to improve transactional efficiencies by bringing suppliers together with those seeking capital and providing a place where they can exchange securities. - Capital markets are used primarily to sell financial products such as equities and debt securities. Equities are stocks, which are ownership shares in a company. Debt securities, such as bonds, are interest-bearing IOUs. - These markets are divided into two different categories:  Primary markets When a company publicly sells new stocks or bonds for the first time, such as in an initial public offering (IPO), it does so in the primary capital market. This market is sometimes called the new issues market. When investors purchase securities on the primary capital market, the company that offers the securities hires an underwriting firm to review it and create a prospectus outlining the price and other details of the securities to be issued.  Secondary markets, The secondary market includes venues overseen by a regulatory body like the SEC where these previously issued securities are traded between investors. Issuing companies do not have a part in the secondary market. - The growth of an economy is measured by the growth of its capital market (aka thermometer of the economy). The status of capital market is calculated by the rise or fall in the most crucial instrument, Sensex. - The key regulating body of capital market is SEBI (Securities exchange board of India) formed by the SEBI Act 1991 2. Insurance: - It is a financial risk management tool in which the insured transfers a risk of potential financial loss to the insurance company that mitigates it in exchange for monetary compensation known as the premium. - Before 1991, there was only one Act for life insurance, i.e. LIC Act 1955 and for general insurance, i.e., GI Act 1975. It was because the government policies did not allow foreign investment in this sector. - Even now, LIC holds a dominant position in the insurance sector. However, in the General insurance sector, four public corporations were there, which were nationalised. After 1991, the market was opened and a new regulator was needed. Then the IRDA Act 1999 was passed. - The Insurance Regulatory and Development Authority (IRDA), an agency of the Government of India, is the regulatory body for the insurance sector’s supervision and development in India.

  1. Mutual Funds :
    • If one is not willing to invest directly (on his own) in the stock market, he can do so indirectly, i.e., by giving money to a mutual fund company who invests on their behalf.
    • A mutual fund is a company that pools money from many investors and invests the money in securities such as stocks, bonds, and short-term debt. The combined holdings of the mutual fund are known as its portfolio. Investors buy shares in mutual funds. Each share represents an investor’s part ownership in the fund and the income it generates.
    • It is regulated by RBI and SEBI
    • Mutual funds are a popular choice among investors because they generally offer the following features:  Professional Management. The fund managers do the research for you. They select the securities and monitor the performance.  Diversification or “Don’t put all your eggs in one basket.” Mutual funds typically invest in a range of companies and industries. This helps to lower your risk if one company fails.  Affordability. Most mutual funds set a relatively low dollar amount for initial investment and subsequent purchases.  Liquidity. Mutual fund investors can easily redeem their shares at any time, for the current net asset value (NAV) plus any redemption fees.
  2. NBFC :
    • Already covered
    • Regulated by BRA and RBI Act, but they regulate banks more than NBFC, which increases the chances of frauds.
  3. Pension :
    • A pension plan is an employee benefit that commits the employer to make regular contributions to a pool of money that is set aside in order to fund payments made to eligible employees after they retire.
    • A pension plan requires contributions by the employer and may allow additional contributions by the employee. The employee contributions are deducted from wages. The employer may also match a portion of the worker’s annual contributions up to a specific percentage or dollar amount. There are two main types of pension plans: the defined-benefit and the defined-contribution plans
    • It is regulated by a statutory authority named PFRDA
    • The Pension Fund Regulatory & Development Authority Act was passed on 19th September, 2013 and the same was notified on 1st February, 2014. PFRDA is regulating NPS, subscribed by employees of Govt. of India, State Governments and by employees of private institutions/organizations & unorganized sectors. 6. BASEL Accords:
    • Already covered

BANKING OMBUDSMAN

 WHO IS A BANKING OMBUDSMAN :

  • Also called Banking Lokpal
  • Banking Ombudsman is a quasi-judicial authority functioning under India’s Banking Ombudsman Scheme 2006, and the authority was created pursuant to a decision made by the Government of India to enable resolution of complaints of customers of banks relating to certain services rendered by the banks.
  • He is a senior official not below the rank of Chief General Manager or General Manager appointed by the Reserve Bank of India to redress the complaints of consumers against deficiency in certain banking services covered under the grounds of complaint under Clause 8 of the scheme.  BANKING OMBUDSMAN SCHEME:
  • The Banking Ombudsman Scheme was first introduced in India in 1995 and was revised in 2002. The current scheme became operative from 1 January 2006, and replaced and superseded the banking Ombudsman Scheme 2002.
  • Prior to this, no remedy existed except: i. Civil remedy in CPC ii. Consumer protection Act 1986, treated account holders as consumers of banks
  • There was a need to have a separate platform specifically in banking sector in order to provide:  Speedy disposal  Ability to approach the immediate authority  To approach higher authority, if immediate authority fails
  • The scheme covers not just scheduled Commercial Banks but also Regional Rural Banks and Scheduled Primary Co-operative Banks. Recently, RBI also extended the concept of Banking Ombudsman to NBFC’s as well. 20 Banking ombudsman have been recently appointed by RBI in the state capitals.
  • The Banking Ombudsman Scheme enables an expeditious and inexpensive forum to bank customers for resolution of complaints relating to certain services rendered by banks. The Banking Ombudsman Scheme is introduced under Section 35 A of the Banking Regulation Act, 1949 by RBI with effect from 1995.  BANCASSURANCE :
  • Bancassurance means selling insurance product through banks.
  • Bancassurance is an arrangement between a bank and an insurance company, through which the insurer can sell its products to the bank's customers. The insurance company benefits from increased sales and a broader client base without having to expand its sales force.

 GROUNDS FOR FILING COMPLAINT UNDER THE SCHEME:

Some of the grounds on which these complaints can be filed by the aggrieved customers are-

  1. Delay or non-payment of cheques, drafts, bills etc.,
  2. Non-acceptance of any notes or coins of the Indian currency without giving any sufficient cause,
  3. Charging some amount of commission for any service mentioned in the above point which the bank does not have the authority of,
  4. Non-payment or delay in payment of the inward remittances,
  5. Non-adherence in regards to the working hours of the banks,
  6. Delay or failure to provide a banking facility, earlier promised by the officials or the agents of the bank,
  7. Refusing to open deposit accounts without any valid reason,
  8. Delay or non-remittance of money or any other bank related matters regarding the non-resident Indians,
  9. Levying of any other additional charge without any previous intimation to the customers,
  10. Non-adherence to the instructions and guidelines given by the Reserve Bank in relation to use of ATM or Debit cards, like – Account debited but cash not dispensed by ATMs, Less cash dispensed by the ATM machine, Stolen cards, Account debited twice for one transaction done on the abovementioned factors,
  11. Non-adherence to the guidelines given by the Reserve Bank in relation to the Credit Card facilities provided by the banks, like – Wrong billings on the card, Charging of excess annual fees against the pre-stated fee, Unsolicited calls for add-on cards etc.
  12. Inappropriate approach by the recovery agents on behalf of the banks or not following the guidelines are given by the Reserve Bank in regards to the functioning of the recovery agents.
  13. Any other guidelines stated by the Reserve Bank.
  14. Non-adherence to the guidelines given by the Reserve Bank in regards to the Mobile or Internet Banking facility provided by the banks, like – delay or failure to effect online payment / Fund Transfer, unauthorized electronic payment / Fund Transfer
  15. Delay or refusal to accept payments towards taxes and other charges as directed by the Reserve Bank or the government,
  16. Delay in issuance or refusal to issue redemption of government securities,
  17. Forced closure of deposit accounts without prior notice or without any specific reasons for the delay in closure of any type of accounts held by the customer,
  18. Complaints on the grounds regarding non-observance of Reserve Bank guidelines on interest rates, refusing to accept applications for loans without a valid reasons or not disposing of the loan applications within the prescribed time or non-adherence