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Impact of Globalization on Indian Banking System

Sparshy Saxena and Satbir Samra

The Indian Banking scene in under a constant cycle of change. The number of banks and their customer-
orientation, technology, diversification, competition and the resultant factors have changed the take on
the perception of a bank as merely being a financial institution. Through its take on globalization, the
Indian Banking sector has undergone varied changes in terms of reforms and nationalization. The
reforms that have been brought into force have changed the market of Indian banking, increasing the
players (both foreign as well as private) and, most importantly, supporting the banking framework with
financial stability and risk absorption capacity. The paper maps the trend of the banking sector across an
expanse stretching from 1985 to 2008, the change in the working of the sector pre- and post events like
nationalization and globalization. It also analyses the impact of reform implementation on the sector as
well as the challenges faced by the Indian banks.

1|I mp a ct o f Gl ob alisa ti o n o n The In di an B an king Se cto r

INTRODUCTION its sleeve. One of them is its extensive reach.
Not confining itself to only the
A bank is a financial institution which
metropolitans, it has shown a reach to even
engages in the business of keeping money
the remote areas of the country.
for savings and checking accounts or for
exchange or for issuing loans and credit etc. The first conservative bank was set up in
(http://wordnet.princeton.edu/perl/webwn, 1786. The banking system has been
retrieved Jan 20, 2009). The banking section differentiated under various categories with
is vital to any nation’s economy. It is of each section comprising of branches. The
prime importance as it has a multiplier effect entire history of the banking industry can be
on the economy. It also leverages on the classified under three phases.
funds by issuing credit creation. The
Phase I extends from the earlier time period
banking institution in India can be broadly
till 1969. Phase II covers the period from
divided into Scheduled and Non-Scheduled
the nationalization of the banks till before
Banks. (For the hierarchical display of the
the implication of economic reforms. The
banking structure, refer Exhibit 1.1)
Phase III covers the period from after the
implication till present date.(for data
regarding the number of banks under various
A bank is a financial
categories on a scale from 1985 to 2005,
institution which engages
refer Exhibit 1.2).
in the business of keeping
money for savings and
The banking sector before the economic
checking accounts or for
exchange or for issuing reforms assumed a very traditional method
loans and credit. of working. Phase III paved way for the
advent of globalization, thereby changing
the Indian banking scene.



For the past three decades, the Indian

banking sector has had many credits under

2|I mp a ct o f Gl ob alisa ti o n o n The In di an B an king Se cto r



Prior to the nationalization of banks, the

banking sector, in the year 1991. The
services were enjoyed by only the industrial
reforms reviewed the system conforming
urban group. 14 banks saw the
to the expanding and emerging need of
nationalization in the year 1969 and six in
the Indian economy. The capital
1980. Thus this led to a monopoly of
adequacy norms, which required banks
government owned banks till the start of the
to have a risk-adjusted capital adequacy
1990s. The banks faced a risk form factors
ratio to absorb risks, as per Basel I
accord was also implemented at this
Need to maintain reserve, time. The regulations that were brought

Interest rates into effect are represented in Exhibit 1.3.

Lack of Competition A second committee was appointed to

Political influence suggest remedial measures for the sector

(Ramasastri A.S & Achamma in the year 1998. The resultant reforms

Samuel (2006), RBI Occasional are shown in Exhibit 1.4. Accordingly,

papers) Basel II was also implemented in effect

from March 31, 2007.
During the early 1990s, the government,
under Narasimha Rao, adopted a policy of The reforms have the reduced the

liberalization which paved the way for amount of equity holdings in banks, but

private participation (mergers and in turn allowing them to access the

acquisitions) and foreign investors. The capital market to raise funds.

phase of Indian banking from 1991 onwards Recruitment policies have become more

was essentially a period of prudential flexible with time allowing banks to

banking. The union government appointed a access a talent pool of staff. In terms of

committee headed by Mr. Narasimha Rao to operations, opening of branches has

study and formulate reforms within the

3| I mp a ct of Glo bali sa ti on o n The I ndi an Ba nki ng Se ctor

become much more feasible. The reforms compared to the traditional security-based
have increased the participation of private as lending. They are more development
well as foreign entities in terms of expansion oriented rather than being commercially
of their operations oriented

However, as an implication of the

implementation of the reforms, the banks
Risk Management along
experience a think spread as compared to an
with the Capital
earlier healthy spread.
Adequacy requirement
has been one of the
Globalization created the ground for the
major effects of the
Globalization which has creation of institutions like Credit
lead to financial stability Information Bureau India Ltd., National
within the Indian banking Securities Depositaries Ltd., Clearing
Sector Corporation of India Ltd., Central
Depositaries Services Ltd. The extent of
within the country. This has increased the investment within banks by foreign entities
level of competition faced by the public and NRI deposits has been relaxed. The
banks, thereby pushing them to become overseas investment limit for corporate has
more customer-oriented and thus offer been extended to up to 100% of the net
services comparable to those of the private profit. Maintenance of foreign currency
and foreign players. The post-globalisation accounts is possible under the implication of
banking sector has diversified their the new reforms.
businesses into various fields like insurance,
Risk management in terms of capital
credit cards, infrastructure financing, gold
adequacy has been of the most vital effects
banking and leasing of assets. This product
of globalization and reform implementation
mix is offered on a customized basis to the
on the Indian banking sector. The capital
consumers of the bank. The introduction of
adequacy ratio has been increased to 9% of
hi-tech technology has further enhanced the
risked assets. This has insured the fiscal
operations and made the whole process more
stability within the banking system as it has
accurate and faster. The banking sector is
increased the ability to face risks with
now more purpose and viability based as

4| I mp a ct of Glo bali sa ti on o n The I ndi an Ba nki ng Se ctor

Overall, the deregulation has thrown open provided incentives for going international.
the banking sector to face not only internal Foreign ventures are invited alongwith they
competition but also competition from other getting a substantial investor’s share in the
financial market entities like mutual funds, Indian banks. Mergers and acquisitions and
NBFCs and post office. mergers face a favorable environment.
(Necessary reforms mentioned in Exhibits
There would be a greater presence of
1.4 and 1.5). The existing market has been
international players in the Indian financial
thrown open for competition and has
system and some of the Indian banks would
become more of a buyers’ market rather
become global players in the coming years
than being a sellers’ market.
(Indian Banks’ Association, “Banking
Industry Vision 2010,” n.d). With the advent A supportive regulatory framework provides
of the globalization, the banks not only face aids for the banks to tap the global market.
competition from the external market but V Leeladhar (2005) states certain steps
also from the internal environment, on which have been undertaken to improve the
account of increased private players. global opportunities. Prudential accounting
norms in relation to the asset classification,
Even with the prospects of a bright global
income recognition and loan loss
future, the present stance of the Indian banks
provisioning have already been
is not very rosy amidst the top banks of the
implemented. The core principles of
world. This weakens the proposition that the
Effective Banking Supervision, Basel
home banks can compete on an international
Committee have been complied with by
India. Accounts are being presented as per
As compared to the old 4-6-4 (Borrow at the U.S GAAP. The government stake in
4%- Lend a 6%- Go Home at 4) ideology certain public sector banks has been
(http://en.wikipedia.org/wiki/Bank, reduced, thereby enhancing public equity..
Retrieved January 20, 2009), a globalised These implementations have increased the
working has improved the way Indian banks scope of overseas operations by the Indian
used to work. The government has Banks.
encouraged Private and Foreign
participation. Private banks have been

5| I mp a ct of Glo bali sa ti on o n The I ndi an Ba nki ng Se ctor

Universal Banking with Mergers and Institution, IDBI has also adopted the same
Acquisitions strategy, and has already transformed
itself into a universal bank.
Banking industry is developing slowly and Now the process of its progeny IDBI Bank
steadily and development of “large number merging itself with the parent IDBI is
of small banks” to “small number of large underway, and is likely to be completed
banks .” proves it. This new era is going to soon. All these mergers and acquisitions
be one of consolidation around identified may lead to promote the concept of financial
core competencies. Mergers and acquisitions super market chain, making available all
in the banking sector are going to be the types of credit and non fund facilities under
order of the day. under one roof, i.e.under same organization.
Three years ago we saw the successful Consolidated accounting and supervisory
merger of HDFC Bank and Times Bank and techniques would have to evolve as there are
Stanchart and ANZ Grindlays. It many risks in mergers and acquisition as
demonstrated that trend towards good will is also calculated
consolidation is almost an accepted fact. We
can see such signs in respect of a number of
old private sector banks, many of banks are
unable to manage non performing assets
which is main hindrance for development
Coming times may usher in large banking
institutions, if the development financial
institutions go for conversion into
commercial banking by following
recommendation of Narasimhan (II). In
India, one of the largest financial
institutions, ICICI, took the lead towards
universal banking with its reverse merger
with ICICI Bank coming through a couple
of years ago. Another mega financial

6| I mp a ct of Glo bali sa ti on o n The I ndi an Ba nki ng Se ctor


(i) Improving profitability:

(iv) Sharpening skills:
In order to increase profitability, banks are
To meet the increased competition and to
required to take many decisions like strategy
manage risks, the demand for specialised
to compete with international players. The
banking functions, using IT as a competitive
challenge for banks is management of
tool, is set to go up. Special skills in retail
thinning margins while, at the same time
banking, treasury, risk management, foreign
working to improve productivity which
exchange, development banking, etc., will
remains low in relation to global standards.
need to be carefully nurtured and built.
(ii) Reinforcing technology :
(v) Greater customer orientation: In
Now a days technology has become an today’s competitive environment, banks will
integral part of banking. So, advancement in have to strive to attract and retain customers
technology is mandatory for the by introducing innovative products,
development of banking sector. Customers enhancing the quality of customer service
have become very demanding and banks and marketing a variety of products through
have to deliver customised products through diverse channels targeted at specific
multiple channels, allowing customers customer groups.
access to the bank round the clock.
(vi) Corporate governance:
(iii) Risk management:
Besides using their strengths and strategic
In banking, extensive business gives rise to initiatives for creating shareholder value,
more risk and to avoid all risks like credit banks are required to be conscious of their
risk, market risk, and operational risk, banks responsibilities towards corporate
need to adopt technology-driven governance.
management and information system.

7| I mp a ct of Glo bali sa ti on o n The I ndi an Ba nki ng Se ctor

(vii) International standards: capabilities and products, but yet with this
back-up, banks need to review their working
Introduction of internationally followed
and basic principles in order to reach a
best practices and observing universally
global or an international platform
acceptable standards and codes is necessary
sucessfully. In times of economic instability,
for strengthening the domestic financial
factors like dollar volatility, lowering of
architecture. In today’s globalised world,
reserve limits, flattening of a consumer
focusing on the observance of standards will
boom, it would indeed be a challenge to the
help smoother integration with world
Indian banking sector to co-manage
financial markets.
profitability and achieving a global standard.


With the entry of foreign players and

increased competition, the banks have been
pushed into a phase of self-realisation in
order to improve profitability as well as their
position in the market. This has lead to a
diversification of the services to activities
that are not traditionally institutional in
nature. In light of the necessary need for the
banks to go global, the possibility of their
extension is difficult. Some of the potential
banks do have the required human resource

8| I mp a ct of Glo bali sa ti on o n The I ndi an Ba nki ng Se ctor


Exhibit 1.1

Source : www.wikipedia.org

Exhibit 1.2

Source : Ramasastri A.S & Achamma Samuel (2006), RBI Occasional papers

9| I mp a ct of Glo bali sa ti on o n The I ndi an Ba nki ng Se ctor

Exhibit 1.3 Exhibit 1.4
The Narsimha Committee Report (1991) The Narsimha Committee Report (1998)

Reforms Listed Reforms Listed

Lowering of SLR to 25% over a period of Consideration of the Market and credit
5 years. ratio
CRR operational flexibility by RBI Increase in Capital to Risk assets to 10%
Phasing out of Directed credit program. from 8%.
Regulation of Interest rate. Tapping of capital markets or Central
Minimum Capital Adequacy Ratio for banks. government for bank funding.
Asset valuation at realizable value. No further recapitalization of banks
Uniform following of the accounting from Government budget.
principles. Target level of NPA for 2003 as below
No income recognition in terms of 3.1%.
Non-Performing Assets. International recognition of 96 days for
Asset classification to be followed as Income recognition
prescribed. Public availability to full disclosure
Pre-Payment of the balance sheet according Adaptation of risk management
to the International Accounting standards. techniques
Tribunals for speedy recovery of debts. Inception of new technology
Establishing of Asset Reconstruction Funds. Close scrutiny of computer credit.
Encouragement of Mergers and Appointment of statutory auditor by the
Acquisitions. bank auditor.
No further Nationalisation of Banks. Conversion of financial institutions into
Abolishment of licensing. banks over a period of time.
Rationalizing of foreign operations of the Scope definition in terms of external and
Indian banks regional possibilities.
Organizational control over the internal Allowing the set-up of subsidiary joint
management ventures by foreign banks in India.
Encouragement of foreign banks Reform of the deposit insurance scheme.
Computerization of activities Review of the financial institutions.
Provision of internal autonomy
Avoidance of over-regulation

Source: RBI (1991): Narasimha Committee Report Source: RBI (1998): Narasimha Committee Report

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Ramasastri A.S & Samuel Achamma (2006) : “Banking sector Developments In India, 1980-
2005:What the Annual Accounts Speak?”, Reserve Bank of India Occasional Papers,
Summer and Monsoon 2006

V Leeladhar (2005) : “Contemporary and Future Issues in Indian banking”, Speech in

Kanara Chamber of Commerce and Industry, March 11

Reddy Y.V. (2005) : “Banking sector reforms in India : An Overview”, Reserve Bank of
India Bulletin,June

Reserve Bank of India (1991) : Report on the Financial System (Narasimha Committee

Dr. K Sabrinath & Mrs. Sethu Ravi (n.d) : “Challenges and Opportunities Surging in the
Recent Banking Scenario”

Kapila Raj & Kapila Uma (1992) Banking, Financial Sector Reforms in India, Delhi
Academic Foundation

http://wordnetweb.princeton.edu/perl/webwn?s=banking, Retrieved January 20, 2009

11 | I m p a c t o f G l o b a l i s a t i o n o n T h e I n d i a n B a n k i n g S e c t o r