BANKING SYSTEM – ASSOCIATED ACTS
Economics
INTRODUCTION
The banking system in India is supported by a strong legal and institutional framework to ensure financial stability, recovery of bad loans, consumer protection, and orderly growth of credit. Over time, several Acts, regulatory mechanisms, and reform measures have been introduced to address challenges such as Non-Performing Assets (NPAs), credit discipline, financial frauds, and financial inclusion. These laws and schemes are highly important for OPSC examinations due to their static as well as current relevance.
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SARFAESI ACT, 2002
The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest (SARFAESI) Act, 2002 was enacted to empower banks and financial institutions to recover their dues without court intervention.
Key Provisions:
- Banks and financial institutions can seize and sell mortgaged assets of borrowers in case of loan default
- The borrower account must be classified as NPA
- Recovery cases are adjudicated by Debt Recovery Tribunal (DRT)
- Appeal against DRT orders lies with Debt Recovery Appellate Tribunal (DRAT)
Institutions having SARFAESI powers:
- Commercial Banks
- Housing Finance Companies
- NBFCs
- Cooperative Banks
Significance:
- Faster recovery of bad loans
- Reduces burden on civil courts
- Strengthens credit discipline
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INSOLVENCY AND BANKRUPTCY CODE (IBC), 2016
The Insolvency and Bankruptcy Code, 2016 is based on the recommendations of the Bankruptcy Law Reforms Committee headed by T K Viswanathan. It provides a time-bound and unified framework for insolvency resolution.
Unified Framework:
- Applicable to companies, LLPs, partnerships, individuals and other entities notified by the government
Types of Creditors:
Operational Creditors:
- Suppliers
- Contractors
- Employees
Financial Creditors:
- Banks
- NBFCs
- Bond holders
- Other debt security holders
- Home buyers
Insolvency Resolution Process:
- Cases admitted by National Company Law Tribunal (NCLT)
- Insolvency Professional appointed to manage the debtor’s assets
- Resolution plan prepared to revive the firm or find a new investor
Committee of Creditors (CoC):
- Consists only of financial creditors
- Voting power proportional to loan exposure
- Final decision on resolution or liquidation
Appeal Structure:
- Individual borrowers: Debt Recovery Tribunal → DRAT → Supreme Court
- Corporate borrowers: NCLAT → Supreme Court
Time Limit:
- Maximum 330 days including litigation and liquidation (after 2019 amendment)
Exclusions:
- Wilful defaulters and incapable defaulters are dealt with directly under SARFAESI
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INSTITUTIONAL INFRASTRUCTURE UNDER IBC
Insolvency and Bankruptcy Board of India (IBBI):
- Statutory regulator under IBC
- Oversees insolvency professionals and agencies
- Operates under Ministry of Corporate Affairs
- Composition: Chairman, RBI nominee, and government members
Insolvency Professionals and Agencies:
- Private specialised bodies
- Assist in insolvency resolution and liquidation
Adjudicating Authorities:
- NCLT: Corporate insolvency
- DRT: Individual insolvency
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CROSS-BORDER INSOLVENCY
- Provided under IBC but not yet operational
- Enables recovery from foreign assets of Indian corporates
- Allows foreign creditors to claim assets in India
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IMPORTANT BANKING SECTOR SCHEMES
DIFFERENTIAL INTEREST RATE SCHEME (DIRS), 1972
- Mandates Public Sector Banks to lend at least 1 percent of total advances to the poorest
- Interest rate fixed at 4 percent
- Eligible families income limit:
Rural: Rs 18,000 annually
Urban: Rs 24,000 annually
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LEAD BANK SCHEME, 1969
- Each district assigned to a lead bank
- Focus on district-level credit planning
- Known as Area Approach
- Aims at balanced regional development
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NON-BANKING FINANCIAL COMPANIES (NBFCs)
NBFCs are financial institutions engaged in lending and financial intermediation but do not perform full banking functions.
Regulation:
- Registered under Companies Act
- Regulated by RBI
Types:
- Deposit-taking NBFCs
- Non-deposit taking NBFCs
Features:
- Can accept only time deposits
- Cannot issue cheques or credit cards
- Deposits not insured by DICGC
- Must maintain CAR as prescribed by RBI
- Deposit tenure: 12 to 60 months
Minimum Net Owned Fund:
- Rs 100 crore
Consumer Protection:
- Separate RBI Ombudsman for NBFCs since 2018
Entities outside RBI regulation:
- Venture capital funds
- Merchant banks
- Stock brokers
- Insurance companies
- Housing finance companies
- Nidhi companies
- Chit fund companies
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SHADOW BANKING
- Operates outside traditional banking system
- Not fully regulated
- Borrows from banks and capital markets
- Issues commercial papers and bonds
- Can amplify systemic risk
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MUDRA BANK
Micro Units Development and Refinance Agency (MUDRA):
- Provides refinance for loans up to Rs 10 lakh
- Targets non-corporate small businesses
Loan Categories:
- Shishu: up to Rs 50,000
- Kishor: Rs 50,000 to Rs 5 lakh
- Tarun: Rs 5 lakh to Rs 10 lakh
Features:
- Covers small traders and service providers
- Does not refinance agriculture sector
- Interest rates depend on borrower risk profile
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MONEY MULTIPLIER
Money multiplier explains how initial money supply expands through banking operations.
Formula:
Money Multiplier = 1 / CRR
Example:
- CRR = 4 percent
- Money multiplier = 25
- Rs 100 printed can generate Rs 2500
Limitations:
- Presence of black money
- Lower loan demand
- Risk aversion by banks
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VELOCITY OF MONEY
- Refers to number of times money changes hands
- Higher in consumption-oriented economies
- Poor households have higher velocity than rich
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CURRENCY IN CIRCULATION (CIC)
- Measures cash usage in the economy
- Declines when digital payments rise
- High CIC indicates preference for cash
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OTHER IMPORTANT BANKING TERMS
Project Shakti:
- NPA resolution initiative
Project Sashakt:
- Market-based stressed asset resolution
RBI Financial Year:
- April to March
RBI Income Sources:
- Interest on government securities
- Interest on foreign securities
- Lending to banks
- Revaluation gains
- Penalties
RBI Expenditure:
- Staff salaries
- Contingency reserves
- Currency and Gold Revaluation Reserve
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CREDIT INFORMATION SYSTEMS
Credit Information Companies:
- CRISIL
- CARE
- ICRA
- Fitch India
CRILC:
- RBI database for loans above Rs 5 crore
NeSL:
- Information utility under IBC
Legal Entity Identifier (LEI):
- 20-digit global identification number
- Mandatory for large borrowers
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BANKING REFORMS
Indradhanush Plan:
- Capital infusion for PSBs
Bank Board Bureau:
- Appointments of top bank officials
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INVESTMENT AND ITS CONCEPTS
Investment:
- Addition to capital stock of an economy
Importance:
- Expands production capacity
- Creates employment
- Promotes economic growth
Factors Affecting Investment:
- Technological progress
- Government policies
- Resource discovery
- Political stability
- Population growth
- Availability of finance
Types of Investment:
Gross Investment:
- Total capital formation
Net Investment:
- Gross investment minus depreciation
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Subject: Economics
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