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What is Banking Sector, Meaning, Structure Of Banking Sector, Reform

Banks anks are financial institutions which are licensed to take deposits from public and grant them loans. In that sense they differ from the traditional money lenders. The banking sector reforms in India are aimed at introduction of best international practices and technological changes for making the Indian banking sector competitive globally.

The Indian Banking System is more efficient and stable today. Consequently, there has been a rapid increase in the number of banks in country. The banking horizon is changing because of the increasing number of private banks and the foreign banks. Apparently there is a cut throat competition between the banks. Banks diversify their services as part of their corporate strategy to cater to various customer segments.

Structure of Banking in India

The Indian Banking System is classified into scheduled and non-scheduled banks. Scheduled banks are those which are included in the Second Schedule of Banking Regulation Act, 1956. The Scheduled banks are then classified as State Cooperative Banks and Commercial Banks. The Non-scheduled banks are classified as Central Cooperative Banks and Primary credit societies and the Commercial Banks. The origin of banks in India in modern sense dates back to 18th century, when the Bank of Hindustan was established.

Banks in India have passed through different phases and have adopted itself to ever-changing economic conditions of the country. The largest and the oldest bank, State Bank of India (SBI) came into being in 1921 after the merger of Bank of Madras and Bank of Bombay. SBI commands the largest number of banks in India along with a clutch of eight associated banks known as its subsidiary banks or associated banks.

Reserve Bank of India is the Central Bank which looks after the monetary policy. RBI in India’s controls the supply of money in the economy. The major purpose of monetary policy is to check inflation and regulate interest rates with liquidity infusion or quantitative squeeze.

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Need for Reforms in India

Until recently, the lack of competitiveness vis-a-vis global standards, low technological level in operations, over staffing, high NPAs and low levels of motivation had shackled the performance of the banking industry. As the international standards became prevalent, banks had to unlearn their traditional operational methods of directed credit , directed investments and fixed interest rates, all of which led to deterioration in the quality of loan portfolios, inadequacy of capital and the erosion of profitability.

Thus, banking sector reforms were needed to provide necessary platform for the Indian banks to operate on the basis of operational flexibility and functional autonomy, thereby enhancing efficiency, productivity and profitability . Further, the reforms help in enhancing the competitive element in the market through the entry of new banks. Reforms lead to increase in transparency of the bank’s balance sheets through introduction of prudential norms and increase in the role of market forces due to the deregulated interest rates.

Banking Sector Reforms in India

Banking sector reforms undertaken in India are as follows

1)Reform Before New Economic Policy (1991)

• Nationalisation of Banks In the year 1969, government with banking companies (Acquisition and transfer of undertakings) ordinance nationalised 14 banks. The second nationalisation process of commercial banks took place in 1980s in which 6 more private banks were nationalised. The nationalisation process transitioned them from class banking to mass banking. In this way, these banks were aligned with the fiscal policy of government.

2)Reforms after New Economic Policy

•Liberalisation and Privatisation of Banks Another watershed reform in banking sector came in 1990s. In order to align with the new economic policy of government, the banking sector was liberalised. Licenses were given to private banks which changed the outlook of banking sector. Banks were now offering best practices available across the globe with the help of technology and management practices. ICICI, HDFC, Axis Banks were and still are pioneers in private sector banking,

•Setting up of Committees on Banking Sector Reforms After the economic crisis of 1991, two committees under the chairmanship of M Narasimham were formed. It recommended wide ranging reform measures for the banking sector. The Indian banking system has witnessed a substantial improvement in both stability and efficiency parameters such as capital position, asset quality and overall profitability after adopting reform measures. Various committees were set up even after that as well like Damodaran Committee, Khandelwal Committee, Nachiket Mor Committee and Urjit Patel Committee to bring the best practices and changes in banking sector.

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• Mission Indradhanush In the wake of bringing new reform in the banking sector, Mission Indradhanush was launched in 2015. It is a 7-stage plan to address the challenges faced by Public Sector Banks (PSBs). Many of the measures taken were suggested by PJ Nayak Committee on banking sector reforms. The 7 parts include appointments, banks board bureau, capitalisation, de-stressing, empowerment, framework of accountability and governance reforms.

The strategy, Indradhanush (Rainbow), focuses on systemic changes in state-run lenders, including a fresh look at hiring a comprehensive plan to de-stress bloated lenders, capital infusion, accountability incentives with higher rewards including stock options and cleaning up governance. Bank Board Bureau is set up to advise the banks on how to raise funds and how to go ahead with mergers, acquisitions and ways to address bad loans.

• Steps Taken by RBI In 2003, the RBI introduced a framework of Prompt Corrective Action (PCA) under which banks falling short of predetermined critical levels of capital adequacy, percentage of Non-Performing Assets (NPAs) and return on assets would automatically trigger some mandatory corrective action and possibly also further non-mandatory actions. RBI also decided to setup Public Credit Registry (PCR), an extensive database of credit information which is accessible to all stakeholders. This would breed transparency in bank credit culture.

• Resolution of Bad Loans The Parliament passed the Insolvency and Bankruptcy Code, 2016 to streamline the resolution process of defaulting companies. The code helped in reducing the time taken for resolution of non-performing assets of banks.

•Setting up of MUDRA Banks Another area with a promising future is Micro Units Development and Refinance Agency (MUDRA). MUDRA Bank was unveiled by the government to provide credit to Micro, Small and Medium Enterprise (MSME). A specialised bank for this sector will go a long way ensuring smooth flow of credit. On the other hand, small banks under differentiated license is expected to provide a whole suite of banking but in a limited area. The objective is to increase penetration of bank in the untouched areas. RBI has provided for Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR) norms for these bank’s prudent operation.

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Suggestion for the Improvement in Banking Sector

major reforms have been undertaken to improve the condition of banking , a lot needs to be done to abate current and future risks that surround banking sector. Banking sector for the time is stressed mainly due to its rising NPA. The NPAs might rise further due to loans made under the government’s schemes like Pradhan Mantri Mudra Yojana and the Kisan Credit Card. Further, challenges like cyber-theft, banking frauds and decentralised currency such as Bitcoins) pose a threat to banking sector which needs to be addressed.

The NBFCs have caused credit crisis in the financial sector. Default in IL and FS bonds (Infrastructure Leasing and Finance Services) sparked a liquidity crunch on other NBFCs. Having sound regulation for NBFCs, which is vital to India’s overall , will help India’s financial sector.

The World Bank has suggested that India must undertake financial reforms in three key areas

• Sound regulations for Non-Banking Financial Companies (NBFCs).

• Allow private sector banks to expand in the banking sector.

• Deepen capital market to aid growth.


Financial sector is the mainstay of any economy and it contributes immensely in the mobilisation and distribution of resources. Financial sector reforms have long been viewed as significant part of the programme for policy reforms in a nation. The Banking Sector reforms have provided the economy with a lot of resilience and stability and have boomed nearly every sector of the economy. Now banks are playing significant role in resource mobilisation. Financial experts suggest that effective reforms keep an economy competitive and attractive from investors across the world. Openness to reforms and innovations and improvements in the government structure will allow for faster growth in banking sector.

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