60328128 Project on Banking

8/2/2019 60328128 Project on Banking

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An Analytical Report On Indian Banking Sector With Special Reference To HDFC

This Is To Certify That The Management Thesis Titled AN ANALYTICAL

REPORT TO STUDY THE IMPACT OF PRESENT TROUBLES ON BANKING

SECTOR AND THE PROSPECTS Submitted During Semester IV Of The MBA

Program (The Class Of 2011)Embodies Original Work Done By Me.

Signature of the Student :

Name (in Capitals) : SUBHAS CHANDRA GUHA

Enroll Number :

Collage : EBS

University : EIILM U


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ACKNOWLEDGEMENT

cknowledging debt is not easy to us as we are indebted to manypeoplebut firstly towards my father and mother those who have given me

opportunity to be in such a professional course.My acknowledgement debt will be incomplete if I fail to give sincerethanks to my SM as without his suggestion the final report would not have

materialized of. I express my profound gratitude to her for making me the

fortunate one to get the opportunity to work under her supervision and

guidance. The keen interest, co-operation, inspiration, continuous

encouragement and motivation provided by him enabled me to complete

my research work in time. I would also take this opportunity to thank the

manager and bank personnel for given their valuable time and inputregarding the topic to furnish it in a complete manner. Last but not the

least I would like to thank all the faculty members of EBS for their kind

cooperation and guidance.

A


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LIST OF TABLES & CHARTS

Table No. Content Page No.

a industry profile 4

b origin of banks 5

c Categorization of Indian banking system 7d inflation 10

e KYC 12

f Basel Norms 16

g FDI in Bank 29

h UID Project On Banks 31

i Case study 32

j result and analysis

k terminologies 39

l references 44

m annexure 45


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INDUSTRY PROFILE

INTRODUCTION:

A bank is a financial institution that accepts deposits and channels those deposits into lending

activities. Banks primarily provide financial services to customers while enriching investors.

Government restrictions on financial activities by banks vary over time and location. Banks are

important players in financial markets and offer services such as investment funds and loans.

DEFINITION:According to Banking Regulation Act 1949, Sector 5 (b) 66 Banking means the

accepting for the purpose of deposits of money from the public, repayable on demand or otherwise

and withdrawal by cheque, drafts, order and otherwise.

-By Banking Regulation Act 1949

The concise oxford dictionary has defined a bank as "Establishment

for custody of money which it pays out on customers order." Infact this is

the function which the bank performed when banking originated.

"Banking in the most general sense, is meant the business of

receiving, conserving & utilizing the funds of community or of any special

section of it."

-By H.Wills & J. Bogan

"A banker of bank is a person, a firm, or a company having a place ofbusiness where credits are opened by deposits or collection of money or

currency or where money is advanced and waned.

-By Findlay Sheras

The main operations of the bank as the above definition states that

y Banks accepts deposits from the public.y Banks advances loans to needy businessman.


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Origin of bank:

Without a sound and effective banking system in India it cannot have a healthy economy. Thebanking system of India should not only be hassle free but it should be able to meet new challenges

posed by the technology and any other external and internal factors. For the past three decades

India's banking system has several outstanding achievements to its credit. The most striking is its

extensive reach. It is no longer confined to only metropolitans or cosmopolitans in India. In fact,

Indian banking system has reached even to the remote corners of the country. This is one of the

main reasons of India's growth process. new challenges posed by the technology and any other

external and internal factors. For the past three decades India's banking system has several

outstanding achievements to its credit. The most striking is its extensive reach. It is no longer

confined to only metropolitans or cosmopolitans in India. In fact, Indian banking system has

reached even to the remote corners of the country. This is one of the main reasons of India's growthprocess. The government's regular policy for Indian bank since 1969 has paid rich dividends with the

nationalization of 14 major private banks of India. Not long ago, an account holder had to wait for

hours at the bank counters for getting a draft or for withdrawing his own money. Today, he has a

choice. Gone are days when the most efficient bank transferred money from one branch to other in

two days. Now it is simple as instant messaging or dials a pizza. Money has become the order of the

day. The first bank in India, though conservative, was established in 1786. From 1786 till today, the

journey of Indian Banking System can be segregated into three distinct phases.

They are as mentioned below:

y Phase I (1786- 1969) - Initial phase of banking in India when many small.banks were set up

y Phase II (1969- 1991) - Nationalization, regularization and growth.y Phase III (1991 onwards) - Liberalization and its aftermath.

With the reforms in Phase III the Indian banking sector, as it stands today, is mature in supply,

product range and reach, with banks having clean, strong and transparent balance sheets. The

major growth drivers are increase in retail credit demand, proliferation of ATMs and debit-cards,

decreasing NPAs due to Securitization, improved macroeconomic conditions, diversification,

interest rate spreads, and regulatory and policy changes (e.g. amendments to the Banking

Regulation Act). Certain trends like growing competition, product innovation and branding, focus on

strengthening risk management systems, emphasis on technology have emerged in the recent past.

In addition, the impact of the BaselII norms is going to be expensive for Indian banks, with the need for additional capital requirement

and costly database creation and maintenance processes. Larger banks would have a relative

advantage with the incorporation of the norms.Types of bank

y Retail banking, dealing directly with individuals and small businesses;y business banking, providing services to mid-market business;y corporate banking, directed at large business entities;y private banking, providing wealth management services to high net worth

individuals and families;


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y Investment banking, relating to activities on the financial markets;Most banks are profit-making, private enterprises. However, some are owned by

government, or are non-profit organizations. Central banks are normally government owned and

charged with quasi-regulatory responsibilities, such as supervising commercial banks, or controlling

the cash interest rate. They generally provide liquidity to the banking system and act as the lender

of last resort in event of a crisis.

MAJOR PLAYER IN INDIA

1. HDFC BANK

2. ICICI BANK

3. STATE BANK OF INDIA LTD

4. PUNJAB NATOINAL BANK LTD

5. BANK OF BARODA LTD

6. FEDERAL BANK LTD

7. AXIS BANK LTD8. ING VYSYA BANK LTD

9. IDBI BANK LTD

10. INDUSIND BANK LTD

11. YES BANK


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Categorization of Indian banking system:

Chart of showing Indian banking system :

RESERVE BANK OF INDIA ( APEX BANKING INSTITUTIONS )

INDUSTRIAL

DEVOLOPE-

NT BANK OF

INDIA

SMALL

INDUSTRIES

DEVOLOP-

MENT

NABARD EXIM BANK

NATIONAL

HOUSING

BANK


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Classification of banking institution:

BANKING INSTITUTION

commercial bank

private

foreign bank indian

public

nationalisedbank

state bank group

state bankof india

subsidiary

banks

regionalruralbank

cooperativ

bank

state cooperativ

bank

district cooperative

bank

primarycredit

society


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Classification of development bank/investment institution /credit guarantee

corporation:

devolpoment bank

industrial devolopment bank

national level

IFCILTD ICICI LTD IIBI

state level

SFCs SIDCs

lqnddevolopment

bank

state level landdevolopment

bank

primary landdevolopment

bank

investment institution

LIC UTI GIC

credit guarantee corporation

ECGC DICGCI


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Inflation

The effects of inflation in banks :

Inflation in India is probably running at double digits, smashing hopes of a pause in interest rate increase by

the reserve bank of India even as dodgy industrial output numbers signal a slowing economy.

Inflation as measured by the wholesale price index rose 9.44%in June 2011, up from 9.06 %in may 2011 the

1.08 %percentage point upward revision in April wholesale price number had led economist to believe that

inflation is above 10 % now .we might cross double digit territory in June itself said indranil pan chief

economist , kotak group.

At the end the liquidity will hit the market, people spend lot because the price of the product was higher

and there is a shortage of product than their buyer. so they spend lot to meet their requirement but it has a

negative impact in the economy so RBI tightening the money supply in the market, on the other hand bank

need money to meet the supply of the customer so they sell the government security in repo window. repo

rate was calculated on the basis on the Liquidity Adjustment Facility (LAF).it was calculate based on the

requirement of money in market and need of RBI for tightening liquidity in the market. the statutory liquidity

ratio at present SLR in India is 24 %.SLR means the liquid money in hand compared to the government

security in hand of the bank . if bank need much more liquid money they sell the government security and

buy the liquid money. Repo means repurchase agreement it mean that when the inflation is normalize Bankbuyback those security .

Calculating wholesale price index:

In India, inflation is calculated on a weekly basis. India uses the Wholesale Price Index (WPI) to calculate and

then decide the inflation rate in the economy.

WPI was first published in 1902, and was one of the more economic indicators available to policy makers

until it was replaced by most developed countries by the Consumer Price Index in the 1970s.

WPI is the index that is used to measure the change in the average price level of goods traded in wholesalemarket. In India, a total of 435 commodities data on price level is tracked through WPI which is an indicator

of movement in prices of commodities in all trade and transactions. It is also the price index which is

available on a weekly basis with the shortest possible time lag only two weeks. The Indian government has

taken WPI as an indicator of the rate of inflation in the economy.

The new WPI series now measures a total of 676 items, an improvement by 241 items from the previous list

comprising of 435 items only. The basket of manufactured products has surged from earlier 318 items to 555

items now. The list under primary article group has gone up from 98 to 102.

The Department of Industrial Policy and Promotion has also said that it would tinker with the Services Price

Index by the end of 2010-11 for services such as banking and finance and trade and transport. Other

services which could be taken up at a later date could include ports, aviation, telecom and post and

telegraphy among others.

So, at last, we have an updated inflationary index something that financial analysts keenly track, to keep a

tab on, to make comparative analysis of the investment instruments to fetch inflation-adjusted returns.


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How do developed countries calculate inflation?Most developed countries use the Consumer Price Index (CPI) to calculate inflation. CPI is a statistical time-

series measure of a weighted average of prices of a specified set of goods and services purchased by

consumers. It is a price index that tracks the prices of a specified basket of consumer goods and services,

providing a measure of inflation.

CPI is a fixed quantity price index and considered by some a cost of living index. Under CPI, an index is scaled

so that it is equal to 100 at a chosen point in time, so that all other values of the index are a percentage

relative to this one.

Economists however say that it is high time India abandoned WPI and adopted CPI to calculate inflation.

India is the only major country that uses a wholesale index to measure inflation. Most countries use the CPI

as a measure of inflation, as this actually measures the increase in price that a consumer will ultimately have

to pay for.

A research paper of prominent economists V Shunmugam and D G Prasad says that CPI is the official

barometer of inflation in many countries such as the United States, the United Kingdom, Japan, France,

Canada, Singapore and China. The governments there review the commodity basket of CPI every 4-5 years to

factor in changes in consumption pattern.

It pointed out that WPI does not properly measure the exact price rise an end-consumer will experience

because, as the same suggests, it is at the wholesale level.

The paper says the main problem with WPI calculation is that more than 100 out of the 435 commodities

included in the Index have ceased to be important from the consumption point of view.

Take, for example, a commodity like coarse grains that go into making of livestock feed. This commodity is

insignificant, but continues to be considered while measuring inflation.

India constituted the last WPI series of commodities in 1993-94; but has not updated it till now that

economists argue the Index has lost relevance and can not be the barometer to calculate inflation.

WPI is supposed to measure impact of prices on business. But India uses it to measure the impact on

consumers. Many commodities not consumed by consumers get calculated in the index. And it does not

factor in services which have assumed so much importance in the economy.


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KYC

Gist of Know Your Customer[KYC] Norms:

1. Objectives of KYC Norms

1.1 Banking operations are susceptible to the risks of money laundering and terrorist financing. In order toarrest money

laundering, where banks are mostly used in the process, it is imperative that they know their customers well.

1.2 On combating financing of terrorism, RBI has specified certain standards based on which our Bank has

formulated a

policy on identification and acceptance of customers to have a business relationship with us. Our branches

are required to

prepare and maintain documentation on their customer relationships and transactions to meet the

provisions of the Prevention

of Money Laundering Act and other laws and regulations.

1.3 RBI has issued the KYC guidelines under Section 35 (A) of the Banking Regulation Act, 1949 and any

contravention of

the same will attract penalties under the relevant provisions of the Act. Thus, the Bank has to be fully

compliant with the

provisions of the KYC procedures.

1.4 The due diligence expected under KYC involves going into the purpose and reasons for opening an

account,

anticipated turnover in the account, sources of wealth (net worth) of the person opening the account and

sources of funds

flowing into the account.

2. Customer Acceptance

2.1 Before commencing a business relationship with a prospective customer, the Bank has to ensure that

such a

relationship does not, in any way, go against its Customer Acceptance principles viz.,i. No account is opened in anonymous or fictitious/ benami name(s) and

ii. Customers are categorized based on risk perceptions in terms of the nature of business activity, location of

customer and his clients, mode of payments, volume of turnover, social and financial status, etc.

2.2 A Customer Profile (in the prescribed format) containing information relating to the customer's social/

financial status,

nature of business activity, information about his clients' business and their location, Sources of funds,

Annual Income, etc.

shall be obtained from/prepared for all the applicants for opening SB/CA/ Term deposits accounts.

2.3 The customer profile shall be updated, on a periodical basis, as under:

For low risk customers Once in three years

For medium risk customers Every yearFor high risk customers Every year

Note: However, these periodicities are only indicative and wherever warranted, the updation exercise may

be done even at lesser

frequencies taking into account the activities, conduct of operations, etc.

3. Customer identification

3.1 Customer identification means identifying the customer and verifying his/her/its identity by using

reliable,

independent source documents, data or information.

3.2 Customer Identification is carried out at different stages i.e., while establishing a banking relationship,

carrying out


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a financial transaction or when the branch has a doubt about the authenticity/veracity or the adequacy of

the previously

obtained customer identification data.

2

3.3 For opening an account, normally, the customer should come to the Bank in person. An account shall not,

normally, be opened without a meeting between the bank official and the customer.

3.4 Branches need to obtain sufficient information to their satisfaction, to establish the identity of each new

customer,

whether regular or occasional and the purpose of the intended nature of banking relationship.

3.5 The process of enquiry/verification of the documents shall be a thorough one by having a dialogue withthe

prospective depositor, introducer, borrower and guarantor and confirmation through other channels, if

necessary. Wherever it

is necessary, a discreet verification shall also be made about the credentials of the parties, their business

potential etc.

3.6 The process of verifying a customer's identity and his/her credentials is not a faultfinding exercise but to

create a

better customer relationship that may safeguard the mutual interests of the Bank as well as the customer.

4. Identification Documents to be submitted by customers for opening of accounts

4.1 Branches shall ask for documents to verify

a. the identity of the customer, his/her address, location andb. his/her recent photograph.

4.2 For accounts of Individuals under Low Risk Category, the following documents are accepted:

a. Passport alone where the address on the passport is the same as the address on the account opening

form (OR)

b. Any one document (latest/recent) from each of the lists given below, for a photo identity and a proof of

residence/address

Towards Name proof Photo Identification Towards address proof

1. Passport where the address differs 1. Telephone Bill

2. Voters Identity Card 2. Bank account statement

3. PAN Card 3. Income/Wealth tax assessment order

4. Driving License 4. Credit Card Statement

5. Govt. /Defense ID card 5. Electricity Bill

6. ID cards of reputed employers * 6. Ration Card

7. Letter from a recognized public authority or public servant 7. Letter from employer*

verifying the identity and residence of the customer*

* Subject to the satisfaction of the officer authorizing the opening of the account

Note: Original should be produced for verification and copy, duly attested by the verifying official, shall be

kept along with the account

opening form.

4.3 In case of joint accounts, applicants are required to independently establish their identity and address.

4.4 Care of .' or incomplete address should not be accepted.

4.5 In respect of Medium/High risk customers, besides the normal documents prescribed above for low riskcustomers, branches shall call for additional information and documentary evidence as under:

3

Type of Customers/accounts Additional Information/Documents

i. For opening Non-Resident accounts Introduction in the form of passport and/or by another

bank/Indian Embassy/ Notary Public/ Person known to the

account opening branch.

ii. For opening accounts of other than NRIs under

Medium and High Risk categories

iii. For current accounts in all risk categories


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iv. For accounts of other than individuals in all risk

Introduction by an existing account holder or by a person

known to the Bank

4.6 For customers who are legal persons or entities (i.e., other than individuals), branches shall verify the

legal status

of the legal person/entity through proper and relevant documents

a. verify that any person(s) purporting to act on behalf of the legal person/entity is duly authorised and such

person(s) is/are properly identified by calling for documents (as listed above for individual low risk

customers)

and verify the identity of that person(s)b. understand the ownership and control structure of the customer and determine those natural persons

who

ultimately control the legal person.

5. Quoting of PAN

5.1 As per clause (C) of rule 114B of the Income Tax Rules 1962, it is mandatory for the customers to quote

the PAN

(Permanent Account Number) or GIR (General Index Register) Number, in the account opening forms

pertaining to Term

deposits exceeding Rs.50,000 and for opening an account of all other types.

5.2 In case PAN or GIR Number has not been allotted or the person is not an Income Tax assessee, a

declaration inForm No.60 or 61, as the case may be, should be given to the Bank.

6. Furnishing of Photographs

6.1 While tendering applications for opening SB/Current accounts in the names of Individuals/Sole

Proprietary

concerns, two copies of latest passport size photographs should be furnished.

6.2 In case of joint accounts, Accounts of Partnerships, Limited Companies, Clubs, Associations, Societies,

Trust,

Institutions, etc. the photographs of person(s)/official(s) who are authorized to operate the account and in

case of HUF, the

photograph of the Karta should be provided.

6.3 In case of Term Deposits, one copy of photograph shall be obtained provided the depositor does not have

a

Savings or Current account with the branch.

6.4 The above provisions cover all categories of depositors including non-residents.

7. Introduction of accounts to the Bank

7.1 It is essential that the introducer should know fully well the prospective account holder whom he/she is

introducing

for a sufficiently long time. The introducer should be in a position to identify or be able to give more

particulars about the

account holder from his personal knowledge, when there arises any occasion at a later date.

7.2 A dialogue or enquiry with the introducer is had so that he/she could be informed of his responsibility

and the

implications of introducing an account.4

7.3 In respect of accounts introduced by employees of other branches or where the introducer was not

present while

introducing the customer at the time of opening the account, no cheque/draft shall be collected till a

confirmation of being

introduced the account is received.

8. Rejection of applications for opening accounts

8.1 Where the Bank is unable to apply appropriate customer due diligence measures i.e. unable to verify the

identity


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and/or obtain documents required as per the risk categorization due to non-cooperation of the customer or

the

data/information furnished to the bank is not reliable, it may take a decision not to open the account.

9. Relaxed KYC Procedure

9.1 Relaxed KYC procedure refers to acceptance of an introduction in lieu of full KYC procedure subject to

certain conditions prescribed.

9.2 This relaxation is applicable for Low Income Group customers, individuals falling under the 'No frill'

category, persons affected by natural calamities like floods, cyclone, tsunami, etc.

9.3 Low Income group customers are those who keep balances not exceeding Rs.50000/- in all their accounts

(FDR/CA/SB) taken together and the total credit summation in all the accounts taken together is notexpected to exceed

Rupees One Lakh (Rs.100000/-) in a year.

9.4 For these customers, branches are permitted to open accounts subject to the following conditions:

i. An introduction (in lieu of the KYC documents) from another account holder who has been subjected to full

KYC procedure should be given.

ii. The introducer's account with the Bank should be at least six month's old and should show satisfactory

transactions.

iii. The photograph of the customer who proposes to open the account and his address need to be certified

by the

introducer.

9.5 When, at any point of time, the total balance in all his/her accounts (FDR/SB/CA) with the Bank takentogether

exceeds Rupees Fifty thousands (Rs.50000/-) or total credit summation in all the accounts exceeds Rupees

one lakh

(Rs.100000/-) in a year, no further transactions will be permitted until the full KYC procedure is completed.

10. KYC norms for Remittances within India

10.1 Issue and payment of travelers cheques, demand drafts, mail transfers, telegraphic transfers, electronic

funds

transfers and other remittances of Rs.50,000 and above could be made only by debit/credit to customers'

accounts or against

cheques and not against cash.

10.2 Further, the applicants (whether customers or not) for the above transactions for amount of Rs.50,000

and above

should furnish PAN (Permanent Account Number allotted by Income Tax Authorities) on the applications.

11. Closure of accounts on account of non-cooperation from the customer

11.1.1 If the Bank is not able to adhere to the KYC norms in a particular account due to non co-operation by

the

customer or non-reliability of the data/ information furnished to the Bank, it may close the account, after

giving due notice to

the customer explaining the reasons for such a decision.


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Basel Norms

Basel rules on banks :

AMA - Advanced Measurement ApproachBCBS - Basel Committee on Banking Supervision

BIA - Basic Indicator Approach

BIS Bank for International Settlements

CDO Collateralized Debt Obligations

CRAR - Capital to Risk Weighted Assets Ratio

EAD - Exposure at Default

ICAAP - Internal Capital Adequacy Assessment Process

IMA - Internal Measurement Approach

IRB Internal Ratings Based Approach

LDA - Loss Distribution Approach

LGD - Loss Given Default

MCR - Minimum Capital Requirements

NIBM - National Institute of Bank Management

NPA - Non Performing Assets

PD - Probability of Default

SA - Standardized Approach

SRP - Supervisory Review Process

Var Value at Risk

Basel I

Basel I is a framework for calculating Capital to Risk-weighted Asset Ratio

(CRAR). It defines a banks capital as two types: core (or tier I) capitalcomprising equity capital and disclosed reserves; and supplementary (or

tier II) capital comprising items such as undisclosed reserves, evaluation

reserves, general provisions/general loan loss

reserves, hybrid debt capital instruments and subordinated term debt.

Under Basel I, at least 50 per cent of a banks capital base should consist

of core capital. In order to calculate CRAR, the banks assets should be


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weighted by five categories of credit risk 0, 10, 20, 50 and 100 per cent.

In 1996, an amendment was made to Basel I to incorporate market risk, in

addition to credit risk, in the calculation of CRAR. To measure market risk,

banks were given the choice of two options:

a. A standardized approach using a building block methodology

b. An in-house approach allowing banks to develop their own proprietary

models to calculate capital charge for market risk by using the notion ofValue-at-Risk (VaR).

Adopting the general approach of gradualism, India implemented the

Basel I frame work with effect from 1992-93 which was, however, spread

over 3 years banks with branches abroad were required to comply fully

by end March 1994 and the other banks were required to comply by end

March 1996. Further, India responded to the 1996 amendment to the Basel

I framework which required banks to maintain capital for market risk

exposures, by initially prescribing various surrogate capital charges forthese risks between 2000 and 2002.

LOOPHOLES OF BASEL I:

Because of a flat 8% charge for claims on the private sector, banks

have an incentive to move high quality assets off the balance sheet

(capital arbitrage) through securitization thus reducing the average

quality of bank loan portfolio.

It does not take into consideration the operational risks of banks, which

become increasingly important with the increase in the complexity of

banks.

Also, the 1988 Accord does not sufficiently recognize credit risk mitigation

techniques, such as collateral and guarantees.

The regulatory Capital requirement has been in conflict with increasingly

sophisticated internal measures of economic Capital.

It was concentrating on only on credit risk

Basel II

Basel II aims to encourage the use of modern risk management techniques;

and to encourage banks to ensure that their risk management capabilities

are commensurate with the risks of their business. Previously, regulators'

main focus was on credit risk and market risk. Basel II takes a more


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sophisticated approach to credit risk, in that it allows banks to make use of

internal ratings based

Approach - or "IRB Approach" as they have become known - to calculate

their capital requirement for credit risk. It also introduces, in addition to

the market risk capital charge, an explicit capital charge for operational

risk. Together, these three risks - credit, market, and operational risk - are

the so-called "Pillar 1" risks.Banks' risk management functions need to look at a much wider range of

risks than this - interest rate risk in the banking book, foreign exchange

risk, liquidity risk, business cycle risk, reputation risk, strategic risk. The

risk management role of helping identify, evaluate, monitor, manage and

control or mitigate these risks has become a crucial role in modern-day

banking. Indeed, it is probably not

exaggerating the importance of this to say that the quality of a bank's risk

management has become one of the key determinants of a success of abank.

The policy approach to Basel II in India is to conform to best international

standards and in the process emphasis is on harmonization with the

international best practices. Commercial banks in India will start

implementing Basel II with effect from March 31, 2007 though, as

indicated by Governor, a marginal stretching beyond this date cannot be

ruled out in view of latest indications of the

state of preparedness. Though the Basel II framework provides various

options for implementation, special attention was given to the differences

in degrees of sophistication and development of the banking system while

considering these options and it was decided that banks in India will

initially adopt the Standardized Approach (SA) for credit risk and the Basic

Indicator Approach (BIA) for operational risk. The prime considerations

while deciding on the likely approach

included the cost of implementation and the cost of compliance.

Before coming to specifics I may like to mention that overall capital is what

makes financial systems stable. In general, expected losses are to be

covered by earnings and provision and hence the need to price risk

appropriately.


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Unexpected losses or losses beyond the normal range of expectations

need have to be met by capital. Let me briefly review the steps taken for

implementation of Basel II and the emerging issues.

The RBI had announced in its annual policy statement in May 2004

that banks in India should examine in depth the options available

under Basel II and draw a road-map by end-December 2004 for

migration to Basel II and review the progress made at quarterlyintervals.

The Reserve Bank organized a two-day seminar in July 2004

mainly to sensitize the Chief Executive Officers of banks to the

opportunities and challenges emerging from the Basel II norms.

Soon thereafter all banks were advised in August 2004 to

undertake a self-assessment of the various risk management

systems in place, with specific reference to the three major risks

covered under the Basel II and initiate necessary remedial measures toupdate the systems to match up to the minimum

standards prescribed under the New Framework.

Banks were also advised to formulate and operationalise the

Capital Adequacy Assessment Process (CAAP) as required under

Pillar II of the New Framework.

Reserve Bank issued a Guidance Note on operational risk

management in November 2005, which serves as a benchmark for

banks to establish a scientific operational risk management

framework.

We have tried to ensure that the banks have suitable risk

management framework oriented towards their requirements

dictated by the size and complexity of business, risk philosophy,

market perceptions and the expected level of capital.

Risk Based Supervision (RBS) in 23 banks has been introduced on

a pilot basis.

As per normal practice, and with a view to ensuring migration to

Basel II in a non-disruptive manner, a consultative and participative

approach had been adopted for both designing and implementing

Basel II. A Steering Committee comprising senior officials from 14

banks (public, private and foreign) had been constituted wherein

representation from the Indian Banks Association and the RBI was


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ensured. The Steering Committee had formed sub-groups to

address specific issues. On the basis of recommendations of the

Steering Committee, draft guidelines to the banks on

implementation of the New Capital Adequacy Framework have

been issued.

The Reserve Bank has constituted a sub group of the Steering

Committee for making recommendations on the guidelines that maybe required to be issued to banks with regard to the Pillar 2

aspects. The guidelines with regard to Pillar 2 aspects proposed to be

issued would cover the bank level initiatives that may be

required under Pillar 2.

The underlying philosophy while prescribing the Basel II principles for the

Indian banking sector was that this must not result in further

segmentation of the sector. Accordingly, it was decided that all scheduled

commercial banks in India, both big and small, shall implement thestandardized approach for credit risk and the

basic indicator approach for operational risk with effect from March 31,

2007. However, the existing three-tier structure in respect of SCBs, the

cooperative banks and RRBs may continue. Currently, the commercial

banks are required to maintain capital for both credit and market risks as

per Basel I framework; the cooperative banks, on the second track, are

required to maintain capital for credit risk as per Basel I framework and

through surrogates for market risk; the

Regional Rural Banks, on the third track, have a minimum capital

requirement which is, however, not on par with the Basel I framework. By

opting to migrate to Basel II at the basic level, the Reserve Bank has

considerably reduced the Basel II compliance costs for the system. In a

way, the elementary approaches which have been identified for the Indian

banking system are very similar to the Basel I methodology. For instance,

a) there is no change in the methodology for computing capital charge for

market risks between Basel I and Basel II;

b) the computation of capital charge for operational risk under the BIA is

very simple and will not involve any compliance cost;

c) the computation of capital charge for credit risk will involve compilation

of information in a marginally more granular level, which is expected to be

achieved with a slight re-orientation of the existing MIS. In the above


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circumstances, it might not be an entirely correct assessment that

implementation of the elementary levels of Basel II significantly increases

the cost of regulatory compliance. No doubt some additional capital would

be required, but the cushion available in the system, which at present has

a Capital to Risk Assets Ratio (CRAR) of over 12 per cent, provides for some

comfort. The banks have also started exploring various avenues for

meeting the capitalRequirements. The Reserve Bank has, for its part, issued policy guidelines

enabling issuance of several instruments by the banks viz., innovative

perpetual debt instruments, perpetual non-cumulative preference shares,

redeemable cumulative preference shares and hybrid debt instruments so

as to enhance their capital raising options. With a view to have an

objective assessment of the true cost of implementation of Basel II, banks

would be well advised to institute an internal study to make a true

assessment of the costs involved exclusively for the elementaryapproaches. The informal feedback that we have from banks reflects that

they do not see Basel II implementation as a costly proposition. However,

banks need to ensure that expenditure incurred by them to improve

their risk management systems, IT infrastructure, core banking solutions,

risk models etc. should not be included as Basel II compliance costs, since

these are expenses which a bank would incur even in the normal course of

business to improve their efficiencies.

Operational RiskOperational risk was one area which was expected to increase capital

requirement for the banks. The Reserve Bank had announced in July 2004

that banks in India will be adopting the Basic Indicator Approach for

operational risk. This was followed up with the draft guidelines for the

Basel II framework in February 2005 where the methodology for

computing the capital requirement under the Basic Indicator Approach

was explained to banks. Even at the system level, we find that the CRAR ofbanks is at present well over 12 per cent. This

reflects adequate cushion in the system to meet the capital requirement

for operational risks, without breaching the minimum CRAR. There is also a

perception that the capital requirement for operational risk will be lowers

under the advanced approaches rather than under the Basic Indicator

Approach. I feel that, in the absence of details of the quality of operational


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risk management systems in banks and their operational risk loss

experience, it may

not be correct for the banks to assume that adoption of the advanced

approaches would result in lesser capital than under the BIA.

Having addressed the specific issues on which I was supposed to 'brief', let

me now turn to some other important issues.

Rating agencies In terms of Basel II requirements, national supervisors areresponsible in determining whether the rating agencies meet the eligibility

criteria. The criteria specified are objectivity in assessment methodology,

independence from pressures, transparency, adequate disclosures,

sufficient resources for high quality credit assessments and credibility.

India has four rating agencies of which three are owned partly/wholly by

international rating agencies. Compared to developing countries, the

extent of rating penetration has been increasing every year and a large

number of capital issues of companies has been rated. However, sincerating is of issues and not

of issuers, it is likely to result, in effect, in application of only Basel I

standards for credit risks in respect of non-retail exposures. While Basel II

provides some scope to extend the rating of issues to issuers, this would

only be an approximation and it would be necessary for the system to

move to rating of issuers. Encouraging rating of issuers would be essential

in this regard. An internal working group is examining the process for

identification of the domestic credit rating agencies which would be

meeting the eligibility criteria prescribed under Basel II. It is expected that

by this process would be over soon

and banks would be informed the details of the rating agencies which

qualify.

Thereafter, the borrowers are expected to approach the rating agencies for

getting themselves rated, failing which banks would be constrained to

assign 100% risk weight at the minimum for unrated borrowers. The

Reserve Bank had invited all the four rating agencies to make a

presentation on the eligibility criteria and a self assessment with regard to

these criteria. The rating agencies have since made their presentations and

these are under examination vis--vis the eligibility criteria for recognising

the rating agencies, whose ratings can be used by banks for risk weighting

purposes.


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Migration to advanced approaches

After adequate skills are developed, both by the banks and also by the

supervisors, some banks may be allowed to migrate to the Internal Rating

Based (IRB) Approach. The obvious corollary is that only a few banks are

expected to migrate to the advanced approaches though after some

time, and not immediately. Hence, the small banks would be well advised

to focus their resources on understanding the mechanics of the functioningof the elementary approaches and identify the minimum requirements

that these approaches

demand. It would be in their interests to take the necessary initiatives

which make the implementation of the elementary approaches effective

and meaningful.

As a well established risk management system is a pre-requisite for

implementation of advanced approaches under the New Capital Adequacy

Framework, banks were required to examine the various options availableunder the Framework and lay a road-map for migration to Basel II. The

feedback received from banks suggests that a few banks may be keen on

implementing the advanced approaches but all are not fully equipped to

do so straightaway and

are, therefore, looking forward to migrate to the advanced approaches at

a later date. Basel II provides that banks should be allowed to adopt /

migrate to advanced approaches only with the specific approval of the

supervisor, after ensuring that they meet / satisfy the minimum

requirements specified in the Framework, not only at the time of adoption

/ migration, but on a continuing

basis. [The minimum requirements to be met by banks relate to (a)

internal rating system design, (b) risk rating system operations, (c)

corporate governance and oversight, (d) use of internal ratings, (e) risk

quantification, (f) validation of internal estimates, (g) requirements for

recognition of leasing, (h) calculation of capital charges for equity

exposures and (i) disclosure requirements.] Hence, it is necessary that

banks desirous of adopting the advanced approaches do a stringent

assessment of their compliance with the minimum requirements before

they shift gears to migrate to these approaches. In this context, current

non availability of acceptable and qualitative historical data relevant to

ratings, along with the related costs involved in building up and


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maintaining the requisite database, does influence the pace of migration

to the advanced approaches

available under Basel II.

Banks which are internationally active should look to significantly improve

their risk management systems and migrate to the advanced approaches

under Basel II since they will be required to compete with the internationa

banks which are adopting the advanced approaches. This strategy wouldalso be relevant to other banks which are looking at adoption of the

advanced approaches. As you are aware adoption of the advanced

approaches might help these banks to maintain

lower capital. However, it would be relevant to refer here to the inverse

relationship between the capital requirements and information needs.

Adoption of the advanced approaches will require adoption of superior

technology and information systems which aid the banks in better data

collection, support high quality data and provide scope for detailedtechnical analysis - which are

essential for the advanced approaches. Hence, banks aiming at

maintaining lower capital by adopting the advanced approaches would

also have to be prepared to meet the higher information needs.

While migration to the advanced approaches will basically be a business

decision, I would like to mention a few things which may perhaps influence

those

decisions:

Implementation of advanced approaches under Basel II will not be

mandatory for small banks which are undertaking traditional

banking business and have a regional or limited presence.

Implementation of advanced approaches under Basel II should not

be considered as fashionable and implementation of elementary

approaches should not be considered as inferior.

Any decision to migrate to the advanced approaches should be a

well deliberated, conscious decision of the banks Board, after

taking into account, not only their capacity to compute the capital

requirement under those approaches but also their capacities to

sustain the banks risk profile and the consequent capital levels

under various scenarios, especially stress scenarios.

The preconditions for migration to the advanced approaches would


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include (a) well established, efficient and independent risk

management framework; (b) supported by well established, efficient

IT and MIS infrastructure; (c) cost benefit analysis of adoption of

advanced approaches; (d) availability of appropriate skills and

capacity to retain / attract such skills at all points in time; and (e) a

well established, effective and independent internal control

mechanism for supplementing the risk management systems.I hope the subsequent sessions would discuss in greater detail some of

these issues. It is important for the sector as a whole to appreciate and

internalize the basic philosophy of the Basel II, with all attendant costs and

benefits. Undoubtedly the discipline of risk management has significantly

altered the ethos of the banking as an economic activity. But one point I

would like to stress in conclusion is that banks should view the

opportunities opened up by these complex financial instruments in the

perspective of larger systemic interest.Today internationally, when market discipline is being considered an

integral part of the regulatory framework, it is imperative for banks to

realize that they are equal partners in ensuring financial stability; and this

involves helping build up a risk management culture across all

stakeholders. Any distortions brought about by misalignment of risk needs

and the product being offered to address the risk can only harm and arrest

the development of a healthy market.

REVIEW OF LITERATURE: Daniel Tabbush, Head of CLSA Banking Research (2008) in his report

stated Mortgageloan risk weightings drop from 50% to 35% under Basel

II, making them much more profitable in terms of regulatory capital

required, while small and medium-sizedenterprise (SME) lending can move

from 100% to 75%.

Anand Wadadekar (2008) in his study Basel Norms & Indian Banking

System revealed that Basel II Norms offers a variety of options in addition

to the standard approach to measuring risk. Paves the way for financial

institutions to proactively control risk in their

own interest and keep capital requirement low.


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C.P.Chandrasekhar & Jayati Ghosh(2007) in their study Basel II and

India's banking structure examined what the guidelines involve, their

effects on the banking structure and behavior and some likely outcomes of

implementing them.

Rana Kapoor, managing director, YES Bank (the latest entrant to new

generation private banks in India), holds Most (Indian) banks are likely tostart with simpler, elementary approaches, just adequate to ensure

compliance to Basel II norms and gradually adopt

more sophisticated approaches. The continued regulatory challenge will be

to migrate to Basel II in a non-disruptive manner.

P.S. Shenoy, chairman and managing director, Bank of Baroda, believes

Basel II compliance will eventually result in banks acquiring a competitive

edge, stating `Banks that move proactively in the broad direction outlinedby the Basel Committee will have acquired a definite edge over their

competitors when the new accord enters the

implementation phase.

Niall S.K. Booker, chief executive officer, HSBC India and chairman of the

IBA Committee on Basel II states There is the possibility that in

international markets access may be easier and costs less for banks

adopting a more sophisticated approach.however in a market like India it

seems likely that the large domestic players will continue to play a very

significant role regardless of the model used.

Mandira Sharma & Yuko Nikaido (2007) in their study onCapital

Adequacy Regime in India examined issues and challenges with regard to

the implementation of CRAR norms under Basel II regime in India. They

also tried to identify limitations, gaps and inadequacies in the Indian

banking system which may hamper the realization of the

potential benefits of the new regime.

Ernst & Young in their survey in 2008 revealed that Basel II has changed

the competitive landscape for banking. Those organizations with better

risk systems are expected to benefit at the expense of those which have

been slower to absorb change due to increased use of risk transfer


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instruments. It also concluded that portfolio risk management would

become more active, driven by the availability of better and more timely

risk information as well as the differential capital requirements resulting

from Basel II. This could improve the profitability of some banks relative to

others, and encourage the trend towards consolidation in the sector.

COMPARATIVE ANALYSIS OF CAR OF BANKS DURING GLOBAL FINANCIAL

CRISISName of the Bank CAR (%) in 2008Federal Bank of America 22.5Barclays Bank 21.1J P Morgan Chase Bank 17.7Kotak Mahindra Bank 18.7Brazil Bank 18.1Indonesian Bank 19.5Singapore Bank 16.1Hong Kong Bank 15.2Citibank 16.6UBS Bank 16.7State Bank of India 12.6HDFC Bank 13.6ICICI Bank 14.0Axis Bank 13.5IDBI Bank 12.0ING Vyasya Bank 10.2Punjab National Bank 13.0Bank of Baroda 12.7Indian Overseas Bank 12.0


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Allahabad Bank 12.0Union Bank of India 12.0Bank of India 12.0

RESEARCH METHODOLOGYRESEARCH DESIGN

The project is carried out, keeping in mind the main objectives of the

research. The research design is the conceptual framework within whichthe research is conducted. It contains the blueprint for the collection,

measurement and analysis of the data. So research

designs include an online of everything done, from defining the problem in

terms of predefined objectives till the final analysis of data.

METHODOLOGY

In order to get a first hand knowledge of the impact and challenges faced

by State Bank of India while implementing Basel II norms, I found, in

consultation with my MT Guide that Expert Interview would be the best

way to get an detailed insight and appropriate results on my thesis. The

project has been limited to SBI Bank in Allahabad City, hence I had chosen

expert interview as my research methodology.

DATA COLLECTION

1. Primary data : Primary data is collected from Expert Interview conducted

through systematic & structured set of questions.

2. Secondary data : Secondary data is obtained from Indian BankingAssociation Journal, Banks Website, and Internet & Articles.


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FDI in Bank

Foreign direct investment in bank is one of the major reforms in banking

sector which can bring lots of money in Indian banking sector :

This article provides a preview on the Guidelines for FDI in Banking. Limits to FDI in the banking sector have

been increased to 74%. FDI in the banking sector is allowed under the automatic route in India.

Guidelines for FDI in Banking at a Glance-

In the private banking sector of India, FDI is allowed up to a maximum limit of 74 % of the paid-up capital of

the bank. On the other hand, Foreign Direct Investment and Portfolio Investment in the public or

nationalized banks in India are subjected to a limit of 20 % in totality. This ceiling is also applicable to the

investments in the State Bank of India and its associate banks. FDI limits in the banking sector of India were

increased with the aim to bring in more FDI inflows in the country along with the incorporation of advanced

technology and management practices. The objective was to make the Indian banking sector more

competitive. The Reserve Bank of India governs the investment matters in the banking sector.

According to the guidelines for FDI in the banking sector, Indian operations by foreign banks can be executed

by any one of the following three channels

Branches in India

Wholly owned subsidiaries.

Other subsidiaries.

In case of wholly owned subsidiaries (WOS), the guidelines for FDI in the banking sector specified that the

WOS must involve a capital of minimum Rs. 300 crores and should ensure proper corporate governance.

Problems Faced by the Indian Banking Sector-

FDI in Indian banking sector resolves the following problems often faced by various banks in the country:

Inefficiency in management

Instability in financial matters

Innovativeness in financial products or schemes

Technical developments happening across various foreign markets

Non-performing areas or properties

Poor marketing strategies

Changing financial market conditions

Benefits of FDI in Banking Sector in India-

Transfer of technology from overseas countries to the domestic market

Ensure better and improved risk management in the banking sector

Assures better capitalization

Offers financial stability in the banking sector in India


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A foreign bank or its wholly owned subsidiary regulated by a financial sector regulator in the host country

can now invest up to 100% in an Indian private sector bank. This option of 100% FDI will be only available to

a regulated wholly owned subsidiary of a foreign bank and not any investment companies. Other foreign

investors can invest up to 74% in an Indian private sector bank, through direct or portfolio investment.

The Government has also permitted foreign banks to set up wholly owned subsidiaries in India. The

government, however, has not taken any decision on raising voting rights beyond the present 10% cap to the

extent of shareholding.

The new FDI norms will not apply to PSU banks, where the FDI ceiling is still capped at 20%. Foreign

investment in private banks with a joint venture or subsidiary in the insurance sector will be monitored by

RBI and the IRDA to ensure that the 26 per cent equity cap applicable for the insurance sector is not

breached.

All entities making FDI in private sector banks will be mandatorily required to have credit rating. The increase

in foreign investment limit in the banking sector to 74% includes portfolio investment [ie, foreign

institutional investors (FIIs) and non-resident Indians (NRIs)], IPOs, private placement, ADRs or GDRs and

acquisition of shares from the existing shareholders. This will be the cap for any increase through an

investment subsidiary route as in the case of HSBC-UTI deal.

In real terms, the sectoral cap has come down from 98% to 74% as the earlier limit of 49% did not include the

49% stake that FII investors are allowed to hold. That was allowed through the portfolio route as the sectorcap for FII investment in the banking sector was 49%.

The decision on foreign investment in the banking sector, the most radical since the one in 1991 to allow new

private sector banks, is likely to open the doors to a host of mergers and acquisitions. The move is expected

to also augment the capital needs of the private banks.


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UID Project On Banks

UID project of bank a new vision of life :

The UID project will issue a unique 12-digit identity number, called Aadhaar, to every resident of India. It

will be issued to all permanent residents irrespective of their age, gender or citizenship. However, the

scope could later be extended to include persons of Indian origin and non-resident indians, if necessary.

Aadhaar will have both biometric and demographic information and hence will be backed by reliable andverified identity checks, residential checks, age proofs and biometric identities that would satisfy know-

your-customer (KYC) checks put in place by various financial and utility service providers.

As per notifications from the ministry of communications and information technology and the ministry of

finance, Aadhaar will be treated as valid proof of identity and address and accepted as an officially valid

document to satisfy KYC norms for obtaining new phone connections and opening bank accounts.

However, as per a recent Reserve Bank of India circular, all bank accounts opened only on the basis of

Aadhaar will be treated as small accounts, i.e. accounts which have certain transaction restrictions.

Individuals will not have the choice of opting for Aadhaar minus the biometric details. The basic

principle underlining the number is uniqueness and we can ensure this only if the biometrics are taken

into account as it is the only factor distinctive to every individual, says R.S. Sharma, director general and

mission director, Unique Identity Authority of India (UIDAI).

The number will not be in the form of a card. Instead, residents will receive a letter from the UIDAI giving

them their UID number and the information registered against it. The letter will have a tear away portion

that can double up as a card for reference.

Impact of UID in BANKING:

social impact 25 % reduction in usury . 25% reduction in black money .($54 BN tax losses per year from black

money. 10% reduction in unofficial savings( $ 100- 110 BN subsidy leakage in last 5 year ) 500 M peopleexcluded in bank network. Inclusion 125 Million Indians can join the banking network over the next four year

. india;s largest social inclusion program riding on information technology is now expected to stand against

subsidy leakage and theft , the exclusion of million from the banking system ,the subsidy management

system will be linked with UID number to ensure fair distribution ,.upto $20 BN of commercial opportunity

for the IT industry.

As example Allahabad bank:

Public sector leader, Allahabad Bank has started the registration work for the Unique Identification Number

(UID) project, Aadhaar:So far enrolment forms for 100 UID customers have been obtained by the bank.After

registration with Aadhaar, Know Your Customer (KYC) norms will become a lot more relaxed for the

underprivileged segment as the UID number will then fulfill KYC requirements.

Through its registration process, the bank aims to cover 3 crore residents comprising 2.48 crore customers,

22,000 staff members and other residents. Also under the financial inclusion plan, the bank aims to reach out

to 18,167 villages by 2014.


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Case study

Case study on (a)Lehman Brother/(b)Eight banks onEurope stress test

Case study on Lehman Brothers:On January 29, 2008, Lehman Brothers Holdings Inc. (LBHI) reported record

revenues of nearly $60 billion and record earnings in excess of $4 billion for its fiscalyear ending November 30, 2007.During January 2008, Lehmans stock traded as high

as $65.73 per share and averaged in the high to mid-fifties,implying a market

capitalization of over $30 billion.Less than eight months later, on September 12, 2008,

Lehmans stock closed under $4, a decline of nearly 95% from its January 2008 value.

On September 15, 2008, LBHI sought Chapter 11 protection,in the largest bankruptcy

proceeding ever filed.

There are many reasons Lehman failed, and the responsibility is shared. Lehman

was more the consequence than the cause of a deteriorating economic climate.

Lehmans financial plight, and the consequences to Lehmans creditors andshareholders, was exacerbated by Lehman executives, whose conduct ranged from

serious but non-culpable errors of business judgment to actionable balance sheet

manipulation; by the investment bank business model, which rewarded excessive risk

taking and leverage; and by Government agencies, who by their own admission might

better have anticipated or mitigated the outcome.

Lehmans business model was not unique; all of the major investment banks that

existed at the time followed some variation of a high-risk, high-leverage model that

required the confidence of counterparties to sustain. Lehman maintained

approximately $700 billion of assets, and corresponding liabilities, on capital of

approximately $25 billion.But the assets were predominantly long-term, while the

liabilities were largely short-term.Lehman funded itself through the short-term repo

markets and had to borrow tens or hundreds of billions of dollars in those markets each

day from counterparties to be able to open for business.Confidence was critical. The

moment that repo counterparties were to lose confidence in Lehman and decline to roll

over its daily funding, Lehman would be unable to fund itself and continue to operate.

So too with the other investment banks, had they continued business as usual. It is no

coincidence that no major investment bank still exists with that model.

In 2006, Lehman made the deliberate decision to embark upon an aggressive

growth strategy, to take on significantly greater risk, and to substantially increase

leverage on its capital.In 2007, as the sub-prime residential mortgage businessprogressed from problem to crisis, Lehman was slow to recognize the developing storm

and its spillover effect upon commercial real estate and other business lines. Rather

than pull back, Lehman made the conscious decision to double down, hoping to

profit from a counter-cyclical strategy.As it did so, Lehman significantly and

repeatedly exceeded its own internal risk limits and controls.14

With the implosion and near collapse of Bear Stearns in March 2008, it became

clear that Lehmans growth strategy had been flawed, so much so that its very survival


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was in jeopardy.The markets were shaken by Bears demise, and Lehman was widely

considered to be the next bank that might fail.Confidence was eroding. Lehman

pursued a number of strategies to avoid demise.

But to buy itself more time, to maintain that critical confidence, Lehman painted

a misleading picture of its financial condition.

Lehman required favorable ratings from the principal rating agencies to maintain

investor and counterparty confidence; and while the rating agencies looked at many

things in arriving at their conclusions, it was clear and clear to Lehman that its net

leverage and liquidity numbers were of critical importance.Indeed, Lehmans CEORichard S. Fuld, Jr., told the Examiner that the rating agencies were particularly focused

on net leverage;Lehman knew it had to report favorable net leverage numbers to maintain its

ratings and confidence. So at the end of the second quarter of 2008, as

Lehman was forced to announce a quarterly loss of $2.8 billion resulting from a

combination of write-downs on assets, sales of assets at losses, decreasing revenues, and

losses on hedges it sought to cushion the bad news by trumpeting that it had

significantly reduced its net leverage ratio to less than 12.5, that it had reduced the net

assets on its balance sheet by $60 billion, and that it had a strong and robust liquidity

pool.

Lehman did not disclose, however, that it had been using an accounting device

(known within Lehman as Repo 105) to manage its balance sheet by temporarily

removing approximately $50 billion of assets from the balance sheet at the end of the

first and second quarters of 2008.In an ordinary repo, Lehman raised cash by selling

assets with a simultaneous obligation to repurchase them the next day or several days

later; such transactions were accounted for as financings, and the assets remained on

Lehmans balance sheet. In a Repo 105 transaction, Lehman did exactly the same thing,

but because the assets were 105% or more of the cash received, accounting rules

permitted the transactions to be treated as sales rather than financings, so that the assets could be

removed from the balance sheet.With Repo 105 transactions, Lehmans

reported net leverage was 12.1 at the end of the second quarter of 2008; but if Lehmanhad used ordinary repos, net leverage would have to have been reported at 13.9.

Contemporaneous Lehman e-mails describe the function called repo 105

Where by you can repo a position for a week and it is regarded as a true sale to get rid of

net balance sheet.Lehman used Repo 105 for no articulated business purpose except

to reduce balance sheet at the quarter-end.Rather than sell assets at a loss, [a]

Repo 105 increase would help avoid this without negatively impacting our leverage

ratios.25 Lehmans Global Financial Controller confirmed that the only purpose or

motive for [Repo 105] transactions was reduction in the balance sheet and that there

was no substance to the transactions.

Lehman did not disclose its use or the significant magnitude of its use of

Repo 105 to the Government, to the rating agencies, to its investors, or to its own Board of

Directors.27 Lehmans auditors, Ernst & Young, were aware of but did not question

Lehmans use and nondisclosure of the Repo 105 accounting transactions.28

In mid-March 2008, after the Bear Stearns near collapse, teams of Government

monitors from the Securities and Exchange Commission (SEC) and the Federal

Reserve Bank of New York (FRBNY) were dispatched to and took up residence at

Lehman,to monitor Lehmans financial condition with particular focus on liquidity. Lehman publicly

asserted throughout 2008 that it had a liquidity pool sufficient to


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weather any foreseeable economic downturn.

But Lehman did not publicly disclose that by June 2008 significant components

of its reported liquidity pool had become difficult to monetize.As late as September

10, 2008, Lehman publicly announced that its liquidity pool was approximately $40

billion; but a substantial portion of that total was in fact encumbered or otherwise

illiquid.From June on, Lehman continued to include in its reported liquidity

substantial amounts of cash and securities it had placed as comfort deposits with

various clearing banks; Lehman had a technical right to recall those deposits, but its

ability to continue its usual clearing business with those banks had it done so was farfrom clear.By August, substantial amounts of comfort deposits had become actual pledges.36 By

September 12, two days after it publicly reported a $41 billion liquidity

pool, the pool actually contained less than $2 billion of readily monetizable assets.

Months earlier, on June 9, 2008, Lehman pre-announced its second quarter

results and reported a loss of $2.8 billion, its first ever loss since going public in 1994.

Despite that announcement, Lehman was able to raise $6 billion of new capital in a

public offering on June 12, 2008.But Lehman knew that new capital was not enough.

Treasury Secretary Henry M. Paulson, Jr., privately told Fund that if Lehman was forced

to report further losses in the third quarter without having a buyer or a definitive

survival plan in place, Lehmans existence would be in jeopardy.

On September 10, 2008, Lehman announced that it was projecting a $3.9 billion

loss for the third quarter of 2008.Although Lehman had explored options over the

summer, it had no buyer in place; its only announced survival plan was to spin off troubled assets

into a separate entity. Secretary Paulsons prediction turned out to be

right it was not enough.

By the close of trading on September 12, 2008, Lehmans stock price had declined

to $3.65 per share, a 94% drop from the $62.19 January 2, 2008 price.

Over the weekend of September 12-14, an intensive series of meetings was

conducted by and among Treasury Secretary Paulson, FRBNY President Timothy F.Geithner, SEC Chairman Christopher Cox, and the chief executives of leading financial

institutions.Secretary Paulson began the meetings by stating the Government was

there to do all it could but that it could not fund a solution.The Governments analysis was that it

did not have the legal authority to make a direct capital investment

in Lehman, and Lehmans assets were insufficient to support a loan large enough to

avoid Lehmans collapse.

It appeared by early September 14 that a deal had been reached with Barclays

which would save Lehman from collapse.But later that day, the deal fell apart when

the parties learned that the Financial Services Authority (FSA), the United Kingdoms

bank regulator, refused to waive U.K. shareholder-approval requirements.

Lehman no longer had sufficient liquidity to fund its daily operations.On the

evening of September 14, SEC Chairman Cox phoned the Lehman Board and conveyed

the Governments strong suggestion that Lehman act before the markets opened in Asia.On

September 15, 2008, at 1:45 a.m., LBHI filed for Chapter 11 bankruptcy

protection.

Sorting out whether and the extent to which the financial upheaval that followed

was the direct result of the Lehman bankruptcy filing is beyond the scope of the

Examiners investigation. But those events help put into context the significance of the

Lehman filing. The Dow Jones index plunged 504 points on September 15.On


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September 16, AIG was on the verge of collapse; the Government intervened with a

financial bailout package that ultimately cost about $182 billion.On September 16,

2008, the Primary Fund, a $62 billion money market fund, announced that because of

the loss it suffered on its exposure to Lehman it had broken the buck, i.e., its share price had

fallen to less than $1 per share.On October 3, 2008, Congress passed a $700

billion Troubled Asset Relief Program (TARP) rescue package.

In his recent reconfirmation hearings, Federal Reserve Chairman Ben Bernanke,

speaking of the overall economic crisis, candidly conceded that there were mistakes

made all around and we should have done more.Lehman should have done more,done better. Some of these failings were simply errors of judgment which do not give

rise to colorable causes of action; some go beyond and are indeed colorable.

latest position of lehman brothers bankruptcy case :

(Reuters) - The Centerbridge hedge fund does not think Lehman Brothers Holding Inc's

(LEHMQ.PK) plan to exit bankruptcy can be confirmed by a judge and it plans to mount a fight

against it, according to court documents.

Lehman Brothers said recently that creditors holding more than $100 billion of claims now

support its reorganization plan, moving the company closer to emerging from the largest-ever

U.S. bankruptcy. A Lehman lawyer, Lori Fife, said earlier this month the company had enough

creditor support to win confirmation of its reorganization.

Centerbridge Credit Advisors LLC, a major investor in bankrupt companies, disputed that in a

Friday court filing and said it and other creditors would oppose Lehman's confirmation.

The hedge fund dismissed the support for Lehman's plan as the result of "horse trading" that

was "siphoning value away from other creditors," according to the filing in U.S. Bankruptcy

Court in Manhattan.

Centerbridge said it intended to undertake discovery to build its case against the plan.

A Lehman spokeswoman declined to comment.

Thirty banks and hedge funds such as Paulson & Co agreed in writing to support the Chapter 11

plan filed last month by what remains of the fourth-largest U.S. investment bank.

These supporters agreed not to pursue their opposing plans so long as Lehman's plan retains

enough creditor support and Lehman emerges from bankruptcy by March 31, 2012.

The case is In re: Lehman Brothers Holdings Inc, U.S. Bankruptcy Court, Southern District of

New York, No. 08-13555.

Why Did Lehman Fail? Are There Colorable Causes of Action That Arise

From Its Financial Condition and Failure?


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Lehman failed because it was unable to retain the confidence of its lenders and

counterparties and because it did not have sufficient liquidity to meet its current

obligations. Lehman was unable to maintain confidence because a series of business

decisions had left it with heavy concentrations of illiquid assets with deteriorating

values such as residential and commercial real estate. Confidence was further eroded

when it became public that attempts to form strategic partnerships to bolster its stability

had failed.And confidence plummeted on two consecutive quarters with huge

reported losses, $2.8 billion in second quarter 2008and $3.9 billion in third quarter

2008,without news of any definitive survival plan.The business decisions that brought Lehman to its crisis of confidence may have

been in error but were largely within the business judgment rule. But the decision not

to disclose the effects of those judgments does give rise to colorable claims against the senior

officers who oversaw and certified misleading financial statements Lehmans

CEO Richard S. Fuld, Jr., and its CFOs Christopher OMeara, Erin M. Callan and Ian T.

Lowitt. There are colorable claims against Lehmans external auditor Ernst & Young

for, among other things, its failure to question and challenge improper or inadequate

disclosures in those financial statements.

Eight banks fail Europe stress test:

Only eight out of 90 European banks failed so-called stress tests that assessed their ability to

weather another economic downturn, while an additional 16 barely squeaked by and will have to

bolster capital, according to results released Friday by the European Banking Authority.

The eight failing banks, all relatively small ones, included five from Spain, two from Greece and onefrom Austria, according to the Wall Street Journal. They fell short of the amount of capital

considered necessary for them to survive in a two-year economic downturn.

A ninth bank, Helaba of Germany, would have failed but refused to provide the data necessary to

do the analysis, according to the New York Times.

The 16 banks that just barely passed, as well as the eight that failed, will be required to shore up

their finances, in most cases by bolstering reserves. The EBA can't force the banks to raise enough

capital or take other steps to shore up their condition; that responsibility lies with each individual

country's government, according to the Associated Press.

The test of the system, and a step toward restoring confidence in the European banks, many say,

lies in whether the individual governments will enforce the requirements that the EBA results

dictate.

The tests simulated what would happen to the finances of the banks in a recession, where growth

falls more than 4 percentage points below EU forecasts, while at the same time housing prices drop

and unemployment rises, according to the Associated Press.


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The small number of failing banks was met with skepticism, and criticism that the test had been lax.

The strongest critique of the process was that it didn't factor in the possibility of a default by Greece

in a worst-case scenario assessment of the banks' health, according to the New York Times:

The test results come amid rising anxiety that Greece is on the verge of defaulting on its debt, an

event that could provoke a banking crisis because so much of those bonds are parked on the

balance sheets of European financial institutions. As a result, the stress tests have clear implications

for the overall health of the euro zone.

The EBA's explanation on Friday for so few banks failing the test was that it had given them the

opportunity to raise capital between the time the test began, in early March, and the release of the

results on Friday, the Associated Press said.

The European regulator tried to make the test this year more rigorous after a problem last year

when stress tests failed to discover problems with Irish banks, which collapsed shortly afterward,

the Associated Press said.

According to the New York Times:

Analysts had been skeptical that the tests this year were rigorous enough to clear up doubts about

the European banking system and to encourage institutions to begin lending to each other again

rather than relying on the European Central Bank for funds.


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RESULTS & ANALYSIS

My analytical report start with inflation on banking sector the reason behind this is inflation always hit

the market badly and the major effects it makes in bank .so in banking inflation is major part to be take

care of , inflation related with liquidity and if the demand of product is higher and value of price is lower

then bank need to borrow money from the repo window to meet the peoples need of liquid money .they

borrow this money from repo window or we repurchase agreement of security with reserve bank.

The next one is KYC norm which is nothing but to stop illegal money laundering and black money which

is again one of the major worries in banks .in KYC norm or KNOW YOUR CUSTOMER NORM bankers

need to do a CPV which is called as CUSTOMER POINT VERIFICATION to know properly about customer.

Basel is a place in Europe Basel norm is basically start because of moderating risk in a bank and ensures a

smart and smooth banking activity. In Basel norm the main concern/objective is to identify risk like

,credit, market, and operational risk and minimize those risk .as we all know it is not possible to

eliminate risk but possible to but to avoid or minimize .so in Basel the guideline is how to avoid or

minimize risk .

Now foreign direct investment is one of major reform in banking sector after the 1991 economic reform

in India . this was bring more fund in Indian banking sector .the major barrier in FDI in bank is regulatory

is declared by RBI regarding voting rights and ownership issue in foreign bank as well as in domestic

private and public banks .

The UID project is one of the major project regarding direct cash subsidy issue of the government as well

as spread banking in the root level across India . UID project is to bring each and every Indians into the

banking channels . and govt start many kind of activity to make it successful . if it works then huge

money will came in the banking sector.

In my report I try to project some of those things which create troubles like inflation and interest rate in

repo market liquidity crisis , some of those regulation like KYC for minimize illegal activity and money

laundering as well as BASEL norms for minimize risk and secured better position for banks in present as

well as in future . on the other hand UID project and FDI in banking bring some new life in banking

which still are in processing but successfully if it works then there is a ultimate change can be possible in

banking .


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Terminologies

Apr

annual percentage rate: the percentage that a bank makes you pay in interest when you borrow

money from it, calculated over a period of one year

Balance

the amount of money you have in your bank account

Bank

belonging to or connected with a bank

Bank balance

the amount of money that you have in your bank account

Bank draft

an order to pay someone that is sent from one bank to another bank, usually in a different countryBankers draft

a bank draft

Bankers order

a standing order

Banking

the work done by banks and other financial institutions

Banking

the activity of paying money into or taking money out of a bank account

Bank rate

the rate of interest that banks use to calculate how much interest to charge on money they lend to

each other rather than to their customers

Bank statement

a document that shows all the money that went into or out of your bank account during a particular

period of time

Base rate

the rate of interest that banks use to calculate how much interest to charge on money they lend to

their customersBips

bank internet payment system: an electronic system for making payments by moving money

directly into a bank account over the internet

Borrower

someone who borrows money from a bank

Cardholder

someone who owns a credit card or debit card for buying things with


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Cash back

money from your bank account that you can get from a shop when you pay for goods with a debit

card

Chips

clearing house interbank payment system: an electronic system for making international payments

in dollars and for changing money from one currency to another

Collateral

property that you agree to give to a bank if you fail to pay back money that you have borrowed

Commission

an extra amount of money that you have to pay to a bank or other organization when they provide

a service for you

Credit

an arrangement to receive goods from a shop or money from a bank and pay for it later

Credit

an amount of money that you add to an account An amount of money that you take out of an

account is a debitCredit limit

the maximum amount of money that a customer can borrow using a particular credit card account

Credit rating

financial information about someone that a bank or shop uses for deciding whether to lend them

money or to give them credit

Credit transfer

a payment made directly from one bank account to another

Debit

an amount of money taken from a bank account

Deposit

an amount of money that you pay into a bank account

Depositor

someone who pays money into a bank

Direct debit

an order to a bank to regularly pay money from your account to a person or organization