COMMERCIAL BANKS IN INDIA

INTRODUCTION
Commercial Banks are those profit seeking institutions which accept deposits from general public and advance money to individuals like household, entrepreneurs, businessmen etc. with the prime objective of earning profit in the form of interest, commission etc. Examples of commercial banks ICICI Bank, State Bank of India, Axis Bank, and HDFC Bank

Classification of banks
Scheduled banks :- Banks which have been included in the Second Schedule of RBI Act 1934. They are categorized as follows: Public Sector Banks :- E.g.. SBI, PNB, Syndicate Bank, Union Bank of India etc. Private Sector Banks :- E.g.. ICICI Bank, IDBI Bank, HDFC Bank, AXIS Bank etc. Foreign Banks :- E.g.. Citi Bank, Standard Chartered Bank, Bank of Tokyo Ltd. etc. Non scheduled banks :- Banks which are not included in the Second Schedule of RBI Act 1934.

Structure of Banking System in India

Banking System in India

Scheduled Banks

Non-Scheduled Banks

State Coop. Banks

Commercial Banks

Central Coop. Banks and primary credit societies

Commercial Banks
Commercial Banks

Public Sector Banks

Foreign Banks

Private Sector Banks

SBI & Associate Banks(7)

Other Nationalized Banks

Primary functions
A. Accepting deposits 1. Demand or current account deposits- a depositor can withdraw it in part or in full at any time he likes without notice. It carries no interest. 2. Fixed deposits- it can be done from 15 days to few years with high rate of interest which can be withdrawn at expiry of term. 3. Saving deposits- it is for the purpose of small saving deposits by salaried people. These deposits carry less rate of interest and money can be withdrawn through cheques.

B. Advancing loans 1. Overdraft facility- this facility is provided to the businessmen only even if the deposits are less, the transaction can be done . Banks charge interest on this facility. 2. Loans by creating deposits- it can be done in following ways Cash credit Demand loans Short term loans

Do Banks Create Credit?

The tendency of the commercial banks to make loans several
times of the excess cash reserves kept by the bank is called creation of credit. Creation of credit means that the commercial banks by taking in deposits and making loans expand the money supply. Credit creation is the multiple expansion of banks demand deposits.

Process of Credit Creation

The process of 'Credit Creation' begins with banks lending money out of primary deposits. Primary deposits are those deposits which are deposited in banks. In fact banks cannot lend the entire primary deposits as they are required to maintain a certain proportion of primary deposits in the form of reserves with the RBI under RBI & Banking Regulation Act.

CREDIT CREATION

Assumptions
Adjusts assets balance between deposit liability and cash reserves. Cash reserve ratio remains same.
Cash Reserve Ratio (CRR) 5.50% (w.e.f. 28/01/2012) announced on 24/01/2012 Decreased from 6.00% to 5.50% which was continuing since 24/04/2010

No credit control policy of central bank

EXAMPLE
Bank M receives a cash deposit of $2000. This is the cash in hand with the bank which is its assets and this amount is also the liability of the bank by way of deposits it holds. Given the reserve ratio of 10 % the bank holds $200 in reserves and lends $1800 to one of its customers. How is credit created?

CREDIT MULTIPLIER
The credit expansion in the banking system is influenced by the credit multiplier. The credit multiplier is the reciprocal of the required reserve ratio. Credit multiplier = 1/required reserve ratio If reserve ratio is 10% Then credit multiplier = 1/0.10 = 10

Demand deposit
The formula for change in deposits in the banking system is D = (1/r)(E)

D represent the change in the banking system as a whole r is the required reserve ratio E is the primary deposit If initial deposit is $2000 and required reserve ratio is 10% then change in deposits in the banking system as whole will be

Geometric progression
= = = = The multiple credit creation represented in the progression $2000 (1 + (9/10) + (9/10)^2 + (9/10)^3 + .+ (9/10)^n) $2000 (1/(1-9/10)) $2000 (1/(1/10)) $2000 x 10

= $20000

Bank m

ASSETS
Reserves $2000

LIABILITIES
Deposits $2000

Reserves Loans

$200 $1800

Deposits

$2000

This variation of $1800 is deposited by the customer in Bank N Bank n ASSETS Reserves $1800 LIABILITIES Deposits $1800

Reserves

$180

Deposits

$1800

Loans

$1620

This loan of $1620 is deposited by the customer of Bank N into Bank O.

Bank o

ASSETS
Reserves $1620

LIABILITIES
Deposits $1620

Reserves Loans

$162 $1458

Deposits

$1458

This procedure goes on to other banks. Each bank in the sequence gets surplus reserves, lends and creates new demand deposits equal to 90 % of the prior bank.

Bank
M N O All other Banks Total for the Banking System

Required Reserves
$200 $180 $162 $1458

New Loans
$1800 $1620 $1458 $13122

New Deposits
$2000 $1800 $1620 $14580

$2000

$18000

$20000

Limits to credit creation

1.Cash Drain 2.Transfer of deposit to non bank financial 3.Willingness to borrow 4.Different types of loan.

Conclusion
The multiple deposit creation model seems to indicate that the central bank of the country has complete control over the level of current deposits by setting the required reserve ratio. The fact is that all the four players i.e the central bank, commercial banks, depositors and borrowers are important in the determination of credit expansion.

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