Banking regulations in India.

Author : Sakshi Singh

Faculty of Law, BHU

The banking sector in India as we see today developed and evolved in the last decade of the 18^th Century. It was in the post-independence period that the government started to get involved in the economic matters of the nation, be it, private individual. India’s independence marked the end of the Laissez-Faire economy and we marched toward a mixed economic system as stipulated in the Industrial Policy Resolution of 1948, where the government could regulate the economic matters. This resulted in a greater involvement of the government in different economic segments including the finance and the banking sector.

THE ESTABLISHMENT OF RBI

• The establishment of RBI was based on the recommendations of a Royal Commission on Indian Currency and Finance known as the Hilton Young Commission after which it was on 1^st  April  1935 that the Reserve Bank of India was established as the central banking authority in India and was nationalized on 1^st  January 1948.
• Subsequently, in 1949, the Banking Regulations Act was passed which empowered the Reserve Bank to regulate, control and inspects the banks in India.
• The outlook and guidelines of the RBI were conceptualized by Dr B.R. Ambedkar in his book “ The Problem of the Rupee- Its origin and its solutions “
• RBI was established with the aim to regulate the issue of bank notes, to maintain reserves, secure monetary stability and to operate the credit and currency system of the country. The RBI actually took over from the government the functions so far being performed by the Controller of Currency and Imperial Bank of India.
• Currently, the Governor of RBI is Mr Urjit Patel and is headquartered at Mumbai. It has four zonal offices at Chennai, Delhi, Kolkata and Mumbai.

THE NEED TO NATIONALIZE BANKS IN INDIA

Despite the presence of a central regulatory authority i.e., the RBI which could control the banks, except for the State Bank Of India, other banks were owned by private individuals. It was in the 1960s that Mrs Indira Gandhi; the then Prime Minister initiated the process of Bank Nationalization. She summed up the objectives of nationalization as “The present decision to nationalize major banks is to accelerate the achievements of our objectives “

Some of the objectives were:

•  Controlling private monopolies of the banks that were owned by private business houses and corporate families and to ensure supply of credit to socially desirable sections.

•  Reducing regional imbalance as there was a large rural-urban divide it was necessary for banking to seep into rural areas also.

•  Lending credit to priority sectors like agriculture, which was the largest contributor to national income.

•   Developing banking habits in India as the maximum population lived in rural areas and for the development of the national banking, habits were necessary among such a huge population.

THE REGULATIONS OVER BANKS IN INDIA

The Banking Regulation Act of 1949 and the RBI Act 1953 has given the RBI the power to regulate the banking system. The Indian banking sector is broadly classified into scheduled banks and non-scheduled banks. All banks included in the Second Schedule to the Reserve Bank of India Act, 1934 are Scheduled Banks. Some of the regulatory functions of RBI are :

•  RBI issues license to commence new banking operations or to open new branches of the existing banks through the power given to the RBI under the Banking Regulation Act 1949.

• RBI controls the appointment of the chairman, directors and additional directors of banks in India.

• RBI ensures banks maintain transparency in disclosing any charges that they levy on their customers and also ensures that money laundering is curbed through its KNOW YOUR CUSTOMER guidelines that need to be ensured when anyone opens an account with them.

• RBI has its own monitoring procedure and system for audit and inspection on the basis of “CAMELS” that stands for Capital adequacy, Asset quality, Management, Earning, Liquidity, System and Control.

The BANKING REGULATIONS ACT 1949 was passed with the aim of having a specific Act for Banking companies. Prior to this act, the banking companies were regulated by the Indian Companies Act, 1913. This comprehensive legislation ensured a minimum capital requirement to prevent bank failures and it also eliminated cut-throat competition by regulation the opening of branches and deciding the location of banks. The BR Act has thus helped in the balanced growth of banks in India and their working also. It has ensured that the interests of the depositors are safeguarded.

Some of the important provisions of the Banking Regulations act are :

• Section 6 of the Banking Regulations Act describes the business allowed for a banking company which includes lending, borrowing of money, bonds, etc, transacting and carrying on every kind of guarantee and indemnity business, etc while section 8 of the said Act prohibits it to directly or indirectly be a party to any contract in relation to buying, selling or exchange of goods.

• Section 9 stipulates that a bank cannot hold any property for more than 7 years for the purpose of settlements of debts or obligations and the power to change this limitation period is in the hands of RBI.
• According to section 17 and 18, every banking company must generate a reserve fund out of its earnings after tax and interest. Such reserve amount should be 20 per cent of such profits mandatorily and at least 3 per cent of the total demand & time liabilities should be kept as cash reserve or should be secured in current account with Reserve Bank of India. Such amount should be deposited/ kept on last Friday of every 2nd fortnight of every month. The return should be deposited before the twentieth day of every month stating the particulars of the amount deposited to Reserve Bank of India.As of June 6th, 2018, the Cash reserve ratio ( CRR) was 4% and Reverse Repo Rate was 6.00%.
• Section 29 describes the plan balance sheet and profit & loss account that should be complete on last working day of every accounting year in the forms set out in the third schedule. Accounts must be signed by at least three directors where a number of directors exceed three. If a number of directors’ fall short of three, then all directors must sign the accounts. In case of a banking company incorporated outside the nation, accounts must be signed by a principal officer or manager of the company in India.
• Auditing of Banking Company is described in section 30, which must be done by a person qualified under law to discharge his duties as an auditor who can only be removed after the approval of RBI. If not satisfied, it can give orders for carrying out a special audit at the cost of the bank itself.

ARE THERE BANKS WHICH DO NOT COME UNDER RBI?

Yes. There are some banks which do not come under the regulations of the RBI. They are :

• PRIMARY AGRICULTURE SERVICE CO-OPERATIVE BANKS:
  These banks accept deposits and lend loans to members only.
• LAND DEVELOPMENTS BANKS:
  These banks give long-term loans and are exempted by RBI

• REPCO BANK LTD:
  Formed under Govt. Act for Repatriates is not regulated by RBI
• STATE BANK OF SIKKIM:
  Deemed as treasury bank of Sikkim is also exempted from RBI

HOW DOES RBI ENSURE COMPLIANCE BY BANKS?

Every bank in India has to comply with the norms set by the RBI which are legal obligations that have to be abided. To ensure the compliance RBI has various departments which work in their specific fields and ensure the proper functioning of the economic activities.

1. BFS (Board of Financial Supervision) which suggests new reforms and is the main guiding force behind RBIs regulatory and supervisory initiatives since 1994.
2. DBOD (Department of Banking Operations and Development) frames regulations for commercial banks in India.
3. DBS (Department of Banking Supervision) supervises commercial banks including local area banks and all India financial institutions. It controls the audit and inspection of banks.
4. DNBS (Department of Non-Banking Supervision) regulates and supervises the Non-Banking Financial Companies and their audit.
5. UBD (Urban Banks Department) to regulate urban cooperative banks.
6. RPCD (Rural Planning and Credit Department) regulates regional rural banks and they are supervised by NABARD.

RBI appoints Senior Chartered Accountants as statutory auditors to audit Annual Returns. Besides RBI officers audit various commercial Bank branches once a year as well as their controlling offices.

WHAT IF BANKS FAIL TO COMPLY?

• It is very difficult for commercial banks for non-complying guidelines of the regulator. RBI ensures control over banks through its quantitative (policy rate) and its qualitative (moral persuasion) measures.
• RBI has the power to impose a penalty, revoke license and monitor frauds in banks. Banks submit control returns and reports to RBI on weekly, fortnightly, monthly, quarterly, half-yearly and annual basis regularly.
• Banks submit their annual reports to the Central Government complying with various RBI guidelines. Control of Non-Profitable Assets and maintaining adequate capital in banks are ensured on the basis of RBI guidelines.
• If any bank seriously fails in maintaining the standard, banks can be merged, amalgamated with bigger banks or even closed by RBI. Apart from this, any big or small default attracts fine or even cancellation of the license.

CONCLUSION

The importance of banking in modern economy of any country is sufficiently great to justify a special banking law for its regulation and a special central authority. Banks are custodians of public’s savings and no government can look upon with equanimity, the misdirected activities of such banking institutions which exercise a very powerful influence on the economic activities of the country. Along with the deposit function of the banks, they have a unique power to create credit which makes the banking sector such a formidable sector that it is subject to formal control and banking regulations.

Mr. B.T. Thakur , in his book “ Organization of Indian Banking “ clearly mentions the fact that the total effect of wide range of activities that Reserve Bank of India took since independence was generally to bring about expansion in the scope of operations of credit institutions, expansion in scale of financing, expansion of the services and flexibility in procedures and techniques. In the long run Expansion of developmental activities adversely affected the regular activities of the Reserve Bank. Therefore, it would have been better if the bank was not burdened with far too many functions so that it could have time as well as the independence for dealing with the basic monetary problems of the country.

Though RBI’s policies were never above criticism its role in the post-independence period is commendable in uplifting the Indian economy by helping the government of the day with funds to meet the plan need and also expanding and strengthening the banking system as an institution providing agricultural credit or credit for any other purpose.