Article Dr. Savita

8/11/2019 Article Dr. Savita

http://slidepdf.com/reader/full/article-dr-savita 1/10

UNIVERSAL BANKING: A PARADIGM SHIFT IN INDIAN

BANKING SYSTEMDr. Savita

Assistant Professor,

Department of Commerce

Dev Samaj College for Women,

Ferozepur City (PB.)

Abstract: The major challenge before Indian policy-makers has been to allow the development of

appropriate institutional structure that would respond to and open and liberalized regime.

Furthermore the ongoing liberalization process with its focus on international integrationnecessitates the emergence of not just domestically strong players but also globally competitive

ones. Acquisition of a "Universal Banking" structure could be perceived as a strategic reaction of

certain players to these changed circumstances. In an emerging economy like India where

volatility is large, emergence of universal banks can contribute to faster economic growth as itassist in strengthening the alliance between companies and banks. A movement into universality

is likely to promote consolidation in a healthy manner and hence should be encouraged.

Introduction:

The concept of universal Banking in the Indian context has somehow come to represent the

reverse merger of financial institution with its banking progeny. During the last few years, banksin India have been increasingly expanding and diversifying beyond the boundaries of traditional

banking. Most of the Indian Banks have setup their subsidiaries through which they are

providing a wide range of specialized financial services like underwriting of equities and bonds,venture capital financing, leasing etc. Earlier, Banking was considered to be business activity of

accepting and safeguarding money owed by other individual and entities, and then lending out

this money in order to earn a profit. Historically in the Indian set-up, it was commercial banks

that had largely met short-term working Capital requirements of business enterprises, whilenational and state level financial institutions (FIs) took care of long term project finance

requirements. As, DFIs are set up with the main objectives of meeting the investment needs of

industries. They have build up expertise in Merchant Banking and Project evaluation, So, saddleswith obligations to fund long gestation projects, the DFIs have been burdened with serious

mismatches between their assets and liabilities of the balance sheet . In this context, the

Narsihman committee-II had suggested DFIs should convert into banks or Non- Banking Financecompanies (NBFCs). Converting of this DFIs into universal Banks will grant them ready access

to cheap retail deposits and increase the coverage of the advances to include short term working

capital loans to corporate with greater operational flexibility. At that time DFIs were in need to

acquire a lot of mass in their volume of operations to solve the problem of total asset base and

networth. In the year 2001, ICICI and ICICI Bank announced their merger to form a universalBank, and within a couple of day 'IDBI' decided to follow suit. Both have proposed reverse

merges i.e the smaller Commercial Bank taking over the larger DFIs indicating universalBanking becoming a major event in the Indian Banking system and raised several important

issues.

Background of Transition of Indian Banks Towards Universal Banking:-

In the earlier Era, the three DFIs (IDBI, ICICI and IFCs) were mostly engaged in consortium

lending and there were uniformity in their services, pricing and quality of assets. This model ofuniformity has to undergo a change as:-



1. The license/permit/quota raj gave way to a more liberalized economy.

2. Corporate borrowers were forced to face global competition instead of operating in a

protected environment.

3. Interest rates were liberalized and the facility of issuing bonds eligible for SLR

investment was withdrawn.

4. Capital markets developed and top class corporate stopped needing the intermediation of

DFIs etc.

5. More stringent provisioning norms came into operation- IDBI also lost its tax-exempt

status.

In this changed context, the major challenge before Indian policy -makers has been toallow the development of appropriate institutional structures that would respond to challenges

posed by an open and liberalized financial regime. Furthermore, the ongoing liberalization

process with its focus an international integration necessitates the emergence of not just

domestically strong players but also globally competitive ones. The institution which changed its business model was ICICI, with entering into areas like consumer finance, shorter term debt etc

and expanding faster than the other two kundapur Vaman kamath, the CEO of ICICI Bank spoke

about his ambitious to make his Bank a universal Bank, selling every conceivable financial products So, the issue of Universal Banking emerged in year 2000, when ICICI gave a presentation to RBI to discuss the time frame and possible options for transforming itself into an

Universal Bank. The RBI also spelt to the Parliamentary Standing Committee on Finance its

proposed policy to enable domestic financial institution (DFIs) to become Universal Banks. InJanuary 1999, RBI released a discussion paper on harmonizing the role and operation of

financial institution and banks in order to bring in a clear-cut clarity on the roles of banks and

financial institutions. Now RBI has asked FIs which are interested to convert itself into universal bank to submit their plans for transition to universal banks for consideration and further

discussion.

Nowadays, Indian Banks in addition to normal banking provide other functions which are

non banking in character, such as Investment, Insurance, Mortgage, Securitization etc. Thesetypes of Banks a define at universal banks. So, it is necessary to evaluate the actual performanceand suitability of a universal Banking model for India, given India's development and financial

priorities. In this paper we have made attempt to cover the following objective.

1. To Discuss the concept of Universal Banking and details its advantages and limitations.

2. To Expatiates upon the actual Indian experience in Universal Banking last Seven to Eightyears.

3. To discuss various regulatory challenges involved in the monitoring and financing

conglomerates.

4. To establish a link between Indians current financial challenges and efficacy of UniversalBanking Model.

Section-1

Concept of Universal Banking

"Universal Banking" may be defined as a banking system made up of large-scale banksthat operate extensive networks of branches provide many different services, hold several claims

on firms (including equity and debt), and participate directly in the corporate governance of

firms that rely on these banks as sources of funding or as securities underwriters [Calomiris



1995]. Universal banks conduct a range of financial services comprising deposit-taking and

lending, trading financial instruments and foreign exchange (and their derivatives), underwriting

of new debt and equity issues, brokerage, investment management, and insurance

As per the World Bank, "In Universal Banking, large banks operate extensive network ofbranches, provide many different services, hold several claims on firms(including equity and

debt) and participate directly in the Corporate Governance of firms that rely on the banks for

funding or as insurance underwriters". Universal Banking generally takes one of the three

forms:UNIVERSAL BANKING MODEL: AN INTERNATIONAL SCENARIO

The global experience of Universal banking can be segregated into broadly three models:

There is the Swedish or Hong Kong type model in which the banking corporate engages in In-

house activities associated with banking.

In Germany and the UK , certain types of activities are required to be carried out by separate

subsidiaries.

In the US type model, there is a holding company structure and separately capitalized

subsidiaries. The United States continues to block commercial banks from engaging in securities

transaction and underwriting.

UNIVERSAL BANKS IN DIFFERENT FORMS

Universal banks have played a leading role in Germany, Switzerland, and other Continental European

countries. The principal financial institutions in these countries typically are universal banks offering

the entire array of banking services. Germany today and before the second World War offers the best

example of universal banking (In practice, German universal banks conduct only securities andmerchant banking operations within the bank; insurance, mortgage banking, portfolio management and

investment funds are provided in affiliates, organized under an "Allfinanz" financial holding company).

Since European economic unification permits banks to operate in all European Community (EC)

countries as they are permitted to operate in their home country, it is likely that all countries in the EC

will be served by universal banks, subject to some restrictions on share ownership by banks, as well as

by specialized banks. In addition, banks in Switzerland and many non-European countries (with the

exception of Japan) permit universal banking. Most other countries (notably, Canada) allow banks to

offer any financial service through bank-owned subsidiaries. By contrast, the United States is served

only by specialized banking. Commercial banks are not permitted to offer full service securities



transactions and underwriting. Banks may not underwrite insurance and, in most states and cities, they

may not sell it either. Banks generally may not hold equities in nonfinancial companies and are

restrained from taking an active role in disciplining poor managers of these companies. The primary

laws that prohibit universal banking in the United States are the 1933 Glass-Steagall Act, which

separates commercial and investment banking, and the Bank Holding Company Act and the National

Banking Act, which generally prevent banks from offering insurance policies, real estate brokerage, and

other financial products.

Section – II

INDIAN EXPERIENCE IN UNIVERSAL BANKING

In the early 1990s, firms requiring project finance approached one of three Development

Finance Institutions (DFIs) - IDBI, ICICI or IFCI; while individuals requiring home finance

approached HDFC. Players like Kotak Mahindra Finance focused on niche products like car

loans. Today, we find entities like ICICI, IDBI, SBI and Kotak Mahindra undertaking extensive

cross-selling of products resulting in significant expansion of their total business. Today, these

entities have all become one-stop departmental stores for mutual funds, loans, insurance, etc

[Financial Services, IBEF 2005]. These entitled shave realized that their newly acquired

universal banking structure has helped them immensely in diversify in business risks. To cite an

example, today the State Bank of India (SBI) offers the life insurance covers of its subsidiary,

"SBI Life", to all its saving account holders for a small fee. The SBI Life - an insurance arm of

SBI derives close to 70 per cent of its premium income through this route. In areas in which

foreign banks enjoyed comparative advantage for decades, Indian universal banks are making

serious inroads. Three Indian universal banks ICICI, SBI, HDFC have already stepped as leading

universal banks. These Indian universal banks have now crossed the two million card based with

ICICI leading the pack at four million cards (racing head of city bank which is at 2.8 million)

while HDFC bank has a card base for 2.2 million, SBI cards just crossed over 2 millions.

These banks deals with three key business segments - wholesale banking services, Retail

banking services and Treasury. They have entered the banking consortia many gaint cooperates

for providing working capital finance, trade services, corporate finance, merchant banking. They

are also providing sophisticated product services in area of foreign exchange and derivates,

money market and debt trading and equity. SBIs access to over 100 million accounts across the

country through 19000 branches (including associates banks and RRBs ) provide vibrant base for

insurance, penetration across every region and economic strata in the country ensuring true

financial inclusion Gross premium, the company crossed Rs. 12000 Crores by the year 2011

showing a growth of 28%. SBI-Life has emerged as the top private insurer in terms of number oflives covered. SBI Life has a healthy mix of Bancassurance, Agency Channel coperate agents

indirect marketing. Bancassurance generated 33% of total business in 2009-10 Agency business

contributed 35% during the same period. SBI life has also bagged the distinction of having the

largest number of Million Dollar Round Table (MDRT) agents in 2010 among the global

insurance company. Ahead of the global heavy weights like New York life, Samsung Life

Insurance, North western mutual and Prudential Life Insurance. SBI Life's 2904 MDRT

members make it first Indian company to be included to the top 10 Global insurance company.



Overall , the channel productivity of the SBI Life is amongst the best in the industry with highest

average ticket size of approximately Rs. 30,000 contributing to its lower operating costs1.

At Present SBI has SBICAP (Securities Limited SSL) Which is wholly owned subsidiary

of capital market limited, besides offering equity broking services to retain and institutional

clients, this compnay also generated a profit of Rs. 4.59 crore for FY 2010-11.Similarly SBICAP

Trustee Co. which recently commenced security Trusty business w.e.f Ist Aug 2008 has on a

gross income of Rs. 8.3 crores and a net profit of 4.43 crore during 2010-11 as compared to Rs.

1.94 Crore during 2009-10. SBIFMPL, the Mutual Fund arm of SBI is also excelling with

average Assets Under Management (AUM) of the Company stood at Rs. 41,672 Crore as against

Rs 37417 Crore as on March 2010 achieving a Yoy growth of 11% as against the growth of 6%

for the mutual fund industry.

With more and more middle class customer wanting to spread their wealth across

banking products, leading banks like SBI see sense in adopting the universal banking model, so

that they can make their customer completely dependent on them. At the same time SBI

conversion into universal banks has not at all affected adversely the core lending operations as

SBI total advances have increased 17.52 Percent from 204573 crores in (2009-10) to 240423

Crores (10-11) showing an increase of 21.62 percent in above financial year.

In all ICICI is diversified financial service company that provide a range of banking and

financial services to customer, including retail baking , project and corporate finance, working

capital finance, insurance, venture capital and private equity, investment banking, broking and

treasury products and services. The company operates in india, U.K, Canada and Russia. It

operates in eight segments: treasury, wholesale banking, retail banking, life insurance, other

banking business, general insurance, venture and fund management and others.

Treasury includes the entire investment portfolio of the bank, ICICI Eco-net internet and

technology fund, ICICI equity fund, ICICI emerging sectors fund and ICICI strategic

investments fund. Wholesale banking includes all advances to trusts, partnership firms,

companies and statutory bodies which are not included under the retail banking. The investment

banking division provides treasury services including corporate advisory services, primary

dealership in government securities and equity underwriting and brokerage. Life Insurance is

provided trough subsidiary, ICICI Prudential Life insurance company. ICICI Venture funds

management company manages funds that provide venture capital funding to start-up companies

and private equity to a range of companies. As of March 31,2009, it had funds under

management of about INR97.87 billion.

1. Defined As Individual New Business Annualised Premium Equivalent (NBAPE) /Total

No. of Individual Policies



ICICI Bank, with two of its main subsidiaries ICICI Prudential Life Insurance and

Prudential ICICI Mutual fund have been performing well and have attained leadership positions

within the private player segment. ICICI Bank Reported its consolidated net profit for the quarter

ended 30th Sep 2011 surged 43 percent to Rs. 199 Crore, compared with Rs. 1395 Crore, The

rise was strongly aided by higher Earnings of Bank's Life Insurance Arm, ICICI Prudential Life

Insurance Company reported profit after tax of Rs. 350 Crore during the quarter, compared with

15 crore a year earlier. A part for income for core banking operation the fee income (from non

core banking operation) rose seven percent to Rs. 1700 Crores. The Bank's advances increased

20 percent year -on-year to Rs. 233952Crores driven mainly by growth in coporate loans. The

Bank has been successful to cut its provision by 50 percent, compared to a year ago to Rs. 319

crore during the quarter, due to improvement in quality of its assets. The Chanda Kohhar

Managing Director and Chief Executive officer ICICI Bank said that ICICI Banks aims to

increase its advances to 18 percent this financial year with much growth aimed at corporate andin retail advances.The share of low cost current account and saving account deposits to total

deposits improved subsequently to 42.1 percent. Saving account stood at Rs. 70149 crore, while

current account deposit were Rs. 32,997 Crore. The Bank Capital adequacy ratio was 18.99

percent while its tier-1-adequacy rates was 13.14 percent2

Influenced with the performance and working and these two trend setters of universal

banks, many banks both in private and public sector are now meeting diversify needs of

customer to name of few: Punjab National Bank, UTI ( AXIS Bank), Hong Kong and Shaghai

Banking (HSBC), Kotak Mahindra Bank, Sundram Bank, Oriental Bank of commerce etc.

In a recent move, India's largest insurance company- Life Insurance Company (LIC) has

entered into the home loans and mutual funds business in a big way. Though it is not into

banking yet, it has made a foray by picking up a substantial stake in a state-run bank -

Corporation Bank. Cooperation bank itself has been planned to setup and insurance subsidiary

since a long time.

Going forward, however, there is an apprehension that these full-fledged universal banks

in India will gain more market share from other players because of their potential to exploit scale

and scope economies, technological edge and risk diversification. Influenced by the actual

performance of universal banks in India, policy-makers are increasingly favoring strategic

alliances between public sector banks (PSBs) and other financial sector players such as insurance

companies, mutual funds, etc. which would help PSBs enhance their product range, leverage on

economies of scale and reduce costs.



In fact, relatively stronger PSBs have already started moving into universality following a

well-drawn transition path with a time-bound programme. As a first step most of them are

moving towards centralized databases and core banking solutions. They have put in place

comprehensives technology plans encompassing computerization, branch networking and

aggressive expansion of ATMs.

Almost all of them have entered bank assurance tie -up sand have also taken up mutual

fund distribution. To cite a few examples, Punjab National Bank has started marketing mutual

fund products of Principal PNB-AMC from lastly ear with an aim to retain large custom e/base

and enhance fee-based income of the bank. A joint venture insurance broking company, PNB-

Principal Insurance Advisory Company (IAC) has also been set up, which has already

commenced its activities with effect from April 18, 2005. A tie up with IFFCO-TOKIO General

Insurance has been done so as to provide insurance to housing loan borrowers. It has also enteredinto a tie-up arrangement with New India Assurance for providing personal accident insurance

cover to its retail-lending customers. Further, a tie-up arrangement has been made recently with

MetLife India for providing insurance cover to all savings and individual current account holders

in the age group of 18 to 64. On payment of nominal premium. Bank of Baroda has an alliance

with -National Insurance Company for selling general insurance products.

Canara Bank has been retailing Aviva Life Insurance products since February 2003 and

has also tied up with a non-life insurer United India's Insurance Company (UIICL) as a part of its

bank assurance arrangements in February 2005.

Section -III

Regulatory challenges in Universal Banking

Universal banks are more complex to supervise than narrow commercial banks. Large

universal banks are generally not allowed to fail due to the social cost' dimension of such failures

and this acts an advantage for them in competing with smaller institutions, This also encourages

some "moral hazard" or excessive risk taking on their part In any process of competition size is

always seed as a weapon, and since the road to universal banking is confirmed by the need of a

large scale. Universal banking model ultimately gives rise to local monopolies.

2. www.business-standard.com/India/news/life-insurance-arm-pushes-icici-bank92-

rofit/43/454152/-



In universal banks, the probability of conflicts of interest the arise from serving various

clients increases substantially given the breadth of their activities. Moreover Universal banks by

holding large blocks of stocks in industrial companies may be able to influence the structure of

the national economy in ways that run counter to national interest. Also, such concentration of

economic power in their hands may give them an additional ability to influence political

decisions and shift the balance of risks and returns in their favour.

Luckily in India financial regulators have carefully designed the regulatory framework

with much improved coordination among the Reserve Bank of India, the Securities Exchange

Commission of India (SEBI-the capital markets regulator) and the Insurance Regulatory

Authority of India (IRDA. the insurance regulator).

Only an "arms-length" relationship between a bank and an insurance entity has been

allowed by India's insurance regulator. This means that commercial banks' can enter insurance

business either by acting as agents or by setting up joint ventures with insurance companies.Also, the RBI allows banks to only marginally invest in equity (5 per cent of their outstanding

credit) thus restricting their exposure to this sensitive sector.

Similarly, once a FI gets converted into a bank it is subjected to the same resource pre-

emption norms as commercial banks so that it will not have opportunities for regulatory

arbitrage. But it is necessary to remember that broader range of activities by universal banks

increases their inherent stability and. therefore decreases the probability of a serious failure. Also

an answer to the problem of moral hazard lies not in prohibiting universal banking but in

designing a safety net in order to punish and not to protect excessive risk-taking behavior.

The emergence of monopolies due to universal banking could be countered by promoting

competition both in the domestic and global marketplace. In India, it is healthy competition,

which has eventually brought down the corporate financing costs for the clients of major

universal banks in last three years.

So, the adversities of conflicts of interests can be easily checked by creating reputational

risks and legal sanctions. Similarly, the problems of concentration of economic and political

power can be controlled through the vigorous application of sophisticated regulatory regime.

Section-VI

Conclusion



As revealed by the rich cross-country experience (including that of India for last few

years) universal banking model enables financial players to offer different products and services

- more or less interrelated depending on the internal resources available and the competitive

dynamics in each financial market. A universal banking character would offer them more options

for penetrating more quickly, new segments within the financial services sector. As guided by

the customer demands and for generating revenue synergies through the provision of multiple

services.

The concerns relating to regulatory issues could be effectively tackled through improved

coordination among multiple regulators. In an emerging economy like India where volatility is

large, emergence of universal banks can contribute to faster economic growth. This is because

universal banking aids in strengthening the alliance between companies and banks. As the

companies can access both capital market services and credit facilities from the same institutions.

Also Universal banks have an advantage of accessing more information about the companies thatcould offset higher volatility. Due to this advantage today many banks have begun to migrate to

the universal Banking model, which has opened up new avenues of growth for them. Several

banks are now foraying into areas such as credit cards, insurance, DEMAT services, mortgage

financing, investment banking, securitization, mutual funds, insurance, etc. , thereby offering

different services to their customers under one roof. This is also fueling the growth of these

banks. As the competition increases, it will make consolidation in the sector inevitable. With the

highly fragmented nature of the sector, it is not unlikely that many banks especially PSBs will

find some of their branches unproductive and unsustainable. The greater cost competitiveness of

private banks will also force PSBs with inefficient operations and high costs to either close those

branches of merge with other banks to bring down the costs. In the case of Indians PSB's which

has rich experience in social banking and cash flow analysis, have long term contractual

relationships with both urban and rural entireness and also have made investment in upgrading

technology into universal banks seems to be the appropriate strategic response to heightened

competition.

The experience of ICICI and SBI with universal model banking model have proved

beyond doubt that "size" matters. There is a tremendous scope for small sized Indian banks to

consolidate with in the domestic economy and increase the "size" through merger and

acquisition. Signs of consolidation have already begun to emerge. The high profile merger of

Times Bank with HDFC Bank five years ago marked the arrival of Mergers and Acquisitions

(M&A) in the banking sector in the country. A couple of (recent mergers clearly send a signal

that consolidation is inevitable. The merger between ICICI Bank and Bank of Madura,



Nidungadi Bank's merger with Punjab National Bank, and more recently, the merger of the

beleaguered Global Trust Bank with the government-owned Oriental Bank of Commerce

vindicate the argument. Industry experts opine that there may be many more mergers on the

cards. The Union Finance Minister has also hinted that he is favorable to mergers between banks,

especially government-owned ones. He recently quoted saying, "Consolidation alone will give

banks the muscle, size and scale to act local and seek new markets. New classes of borrowers."

This gives enough indication as to what lies in store for the banks, particularly the PSBs, as far as

consolidation is concerned. Further as banks in India look forward to expanding their presence

outside the country and have a global reach they will be competing with global behemoths like

the Citigroup, HSBC Bank, etc. in terms of strong balance sheet, and economies of scale and

size. Thus in all measures the spread of universal banking in India likely to promote

consolidation in healthier manner - a major prerequisite for the banking system stability.

References:-

www. banknetindia.com/banking/ubfeature.htm:Universal Banking: introduction, RBI

rules and regulations, Universal Banking in India

www. answers.com/topic/universal-banking:Universal Banking:definition

www.investopedia.com/terms/u/universalbanking.asp Universal Bankin: definition

www.cato.org/pubs/journal/cj13n2-8.pdf Universal Banking:future

IBEF(2005):' India's Emerging Universal Banks: Size Does matter

http://banknetindia.com/universalbanking

http://www.valuenotes.com/krc/krc_weekender_08jan05.pdf/ ArtCd=34618&Cat=&id=

Chaitanya, Krishna V"Universal Banking the Indian Perspective"- Regional and sectoral

Economic Studies, AEEADE Vol.5-1 (2005)

Article Dr. Savita

Documents

Transcript of Article Dr. Savita