Deposit Insurance

Presentation by

Thomas Mathew IV Sem. LL.M

JSSLC – Mysuru

Content Introduction Origin of Deposit Insurance in India Objectives of DICGC Legal Framework of DICGC Major Features of Deposit Insurance System Banks covered by Deposit Insurance Types of Deposits Covered Level of Deposit Insurance Coverage Premium Rates Interest Capital structure of the DICGC Management Inspection and Supervision Settlement of claims Withdrawal of deposit insurance coverage Liability of DIC to depositors Conclusion

What is insurance?

Insurance is a form of risk management in which the insured transfers the cost of potential loss to another entity in exchange for monetary compensation known as the premium.

Introduction Banks are allowed and usually encouraged to

lend or invest most of the money deposited with them instead of safe-keeping the full amounts.

If many of a bank's borrowers fail to repay their loans when due, the bank's creditors, including its depositors are at risk of loss.

Deposit insurance was formed to protect small unit banks in the United States when branching regulations existed. To protect local banks in poorer states, the federal government created deposit insurance.

Origin of Deposit Insurance in India

Deposit insurance was introduced in India in 1962. India was the second country in the world to introduce such a

scheme – (the first being the United States in 1933). Banking crises and bank failures in the 19th as well as the early

20th Century (1913-14) had highlighted the need for depositor protection in India.

After the setting up of the Reserve Bank of India, the issue came to the forefront in 1938 when the Travancore National and Quilon Bank, the largest bank in the Travancore region, failed.

As a result, interim measures relating to banking legislation and reform were instituted in the early 1940s.

The banking crisis in Bengal between 1946 and 1948, once again revived the issue of deposit insurance.

It was, however, felt that the measures were wavering till the Banking Companies Act, 1949 came into force and comprehensive arrangements were made for the supervision and inspection of banks by the Reserve Bank.

It was in 1960 that the failure of Laxmi Bank and the failure of the Palai Central Bank catalyzed the introduction of deposit insurance in India.

The Deposit Insurance Corporation (DIC) Bill was:◦ introduced in the Parliament on August 21,

1961.◦ received the assent of the President on

December 7, 1961. ◦The Deposit Insurance Corporation

commenced functioning on January 1, 1962.

Origin of DIC…..

Initially 287 banks registered with it as insured banks. By the end of 1967, this number was reduced to 100,

(largely as a result of the Reserve Bank of India’s policy of the reconstruction and amalgamation of small and financially weak banks so as to make the banking sector more viable.)

In 1968, the Deposit Insurance Corporation Act was amended to extend deposit insurance to 'eligible co-operative banks'.

In 1968 there were over 1000 cooperative banks as against the 83 commercial banks. As a result, the DIC had to expand its operations very considerably.

1971 The Credit Guarantee Corporation of India Ltd. (CGCI) was established. (The establishment of the Credit Guarantee Corporation was to ensure that the credit needs of the neglected sectors and weaker sections were met. The essential concern was to persuade banks to make available credit to not so creditworthy clients)

Origin of DIC…..

In 1978, the DIC and the CGCI were merged to form the Deposit Insurance and Credit Guarantee Corporation (DICGC).

Consequently, the title of Deposit Insurance Act, 1961 was changed to the Deposit Insurance and Credit Guarantee Corporation Act, 1961.

After the merger, the focus of the DICGC had shifted onto credit guarantees.

With the financial sector reforms undertaken in the 1990s, credit guarantees have been gradually phased out and the focus of the Corporation is back to its core function of Deposit Insurance with the objective of avoiding panics, reducing systemic risk, and ensuring financial stability.

Origin of DIC…..

Objectives of DIC Deposit Insurance had been

introduced in India out of concerns:◦To protect depositors, ◦To ensure financial stability, ◦To infuse confidence in the banking

system and ◦To help mobilise deposits

Major Features of Deposit Insurance System

The deposit insurance system is compulsory in India and no bank can remain unregistered with the Corporation except those co-operative banks where the State Governments/Union Territories are yet to pass the required legislation.

The deposits mobilised by the development financial institutions, mutual funds and non-banking financial/non-financial companies do not come under the purview of the deposit insurance.

 At present, DICGC provides full protection to around 93 per cent of accounts as against 78.5 per cent in 1961. In terms of amount of deposits, around 35 per cent of deposits are being covered, up from bout 23 per cent in 1961.

The Corporation operates on a forecasted deposit insurance fund, which is built out of surplus generated by the Corporation. Premium collected from insured banks is the main source of funds for the Corporation.

DICGC does not have prudential regulatory or supervisory responsibilities or intervention powers; these functions are performed by the RBI.

The Corporation provides financial assistance to facilitate restructuring and merger of weak banks with a sound bank.

Legal Framework of DICGCThe functions of the DICGC are

governed by the provisions of 'The Deposit Insurance and Credit Guarantee Corporation Act, 1961' (DICGC Act) and

'The Deposit Insurance and Credit Guarantee Corporation General Regulations, 1961' framed by the Reserve Bank of India in exercise of the powers conferred by sub-section (3) of Section 50 of the DICGC Act.

Banks covered by Deposit Insurance

All commercial banks including the branches of foreign banks functioning in India, Local Area Banks and Regional Rural Banks.

All Eligible Co-operative Banks ◦ All eligible co-operative means (as defined in Section 2(gg) of the

DICGC Act). All State, Central and Primary co-operative banks functioning in the

States/Union Territories which have amended their Co-operative Societies Act as required under the DICGC Act, 1961, empowering RBI to order the Registrar of Co-operative Societies to wind up a co-operative bank or to take over from its committee of management and requiring the Registrar not to take any action for winding up, amalgamation or reconstruction of a co-operative bank without prior sanction in writing from the RBI, are treated as eligible banks.

At present all Co-operative banks are covered by the Scheme. The Union Territories of Lakshadweep and Dadra and Nagar Haveli do not have Co-operative Banks.

Types of Deposits Covered

In India, at present, the DIC insures all deposits such as savings, fixed, current, recurring, Certificates of Deposits (CDs), foreign currency deposits etc… all deposits except the

Deposits of foreign Governments, Deposits of State/Central Governments, Inter-bank deposits, and Deposits held abroad

The Deposit Insurance Scheme, by and large, covers the Household Sectors, which is nearly two-third of the total bank deposits in the country.

Level of Deposit Insurance Coverage

Initially, the insurance cover was limited to Rs.1,500 only per depositor for deposits held by him in the " same right and capacity " in all the branches of a bank.

This insurance limit was enhanced from time to time as follows:

Coverage Effective from

Rs.5,000 1 January 1968

Rs.10,000 1 April 1970

Rs.20,000 1 January 1976

Rs.30,000 1 July 1980

Rs.1,00,000 1 May 1993

Premium Rates Per Deposit of Rs.1001-01-1962 0.051-10-1971 0.041-07-1993 0.051-04-2004 0.081-04-2005 0.10*

*1000/1

The premium paid by the insured banks to the Corporation is required to be absorbed by the banks themselves so that the benefit of deposit insurance protection is made available to the depositors free of cost.

InterestAn insured bank is required to remit

premium not later than the last day of May and November each year.

If it does not pay on or before the stipulated date the premium payable by it or any portion thereof, it is liable to pay interest at the rate of 8% from the beginning of the half-year till the date of payment.

Capital structure of the DIC

The DIC is functioning as a wholly-owned subsidiary of the Reserve Bank.

Its initial capital was Rs.1 crore It was subsequently enhanced to Rs.50

crore from the 1st May 1984, It has been meeting the operational

expenses out of the investments made from the capital.

In some years, this income was found to be inadequate to meet operating expenses, which forces it to seek grant from the Reserve Bank.

Management

The management of the Corporation vests with its Board of Directors,

A Deputy Governor of the RBI is the Chairman. One Officer (normally in the rank of Executive Director) of the

RBI, One Officer from the Central Government, Five Directors nominated by the Central Government in

consultation with the RBI,◦ three of whom are persons having special knowledge of commercial

banking, insurance, commerce, industry or finance and ◦ two of whom shall be persons having special knowledge of, or

experience in co-operative banking or co-operative movement and Four Directors, nominated by the Central Government in

consultation with the RBI,◦ having special knowledge or practical experience in respect of

accountancy, agriculture and rural economy, banking, co-operation, economics, finance, law or small scale industry or any other matter which may be considered to be useful to the Corporation.

Inspection and Supervision

Provisions of the DICGC Act, 1961, empowers the Corporation to have free access to records of the insured banks,

It is not having its own inspection machinery, but depends on the inspection reports of the Reserve Bank in the case of commercial and urban banks and NABARD for the RRBs and other co-operative banks.

This policy is being followed in the interest of administrative and financial convenience and to avoid the dual inspection machinery and duplication of staff.

Settlement of claims In the event of the winding up or liquidation of an insured bank,

every depositor of the bank is entitled to payment of an amount equal to his deposits held by him in the same right and in the same capacity in all the branches of that bank put together, standing as on the date of cancellation of registration subject to the set off of his dues to the bank.

When a scheme of compromise or arrangement or re-construction or amalgamation is sanctioned for a bank by a competent authority, and the scheme does not entitle the depositors to get credit for the full amount of the deposit on the date on which the scheme comes into force, the Corporation pays the difference between the full amount of deposit or the limit of insurance cover in force at the time, whichever is less, and the amount actually received by him under the scheme.

However, the payment to each depositor is subject to the limit of the insurance coverage fixed from time to time.

Withdrawal of deposit insurance coverage

The Corporation may cancel the registration of an insured bank if it fails to pay the premium for three consecutive periods.

In the event of the DICGC withdrawing its coverage from any bank for default in the payment of premium the public will be notified through newspapers.

Registration of an insured bank stands cancelled if: ◦ the bank is prohibited from receiving fresh deposits;◦ its licence is cancelled ◦ licence is refused to it by the RBI; ◦ it is wound up either voluntarily or compulsorily; ◦ it ceases to be a banking company or a co-operative bank within the

meaning of Section 36A(2) of the Banking Regulation Act, 1949; ◦ it has transferred all its deposit liabilities to any other institution; ◦ it is amalgamated with any other bank or a scheme of compromise or

arrangement or of reconstruction has been sanctioned by a competent authority and the said scheme does not permit acceptance of fresh deposits.

In the event of the cancellation of registration of a bank, deposits of the bank remain covered by the insurance till the date of the cancellation.

Liability of DIC to depositors

If a bank goes into liquidation: The DIC is liable to pay to each depositor through the liquidator, the amount of his deposit up to Rupees one lakh within two months from the date of receipt of claim list from the liquidator.

If a bank is reconstructed or amalgamated / merged with another bank: in respect of an insured bank the said scheme provides for each depositor being paid or credited with, an amount which is less than the original amount the Corporation shall be liable to pay an amount equivalent to the difference between the amount so paid or credited and the original amount

Conclusion The recent global financial crisis revealed the importance of effective

deposit insurance system as a key element of the global financial stability framework.

In response to the crisis that resulted in loss of confidence among the depositors, a number of authorities increased deposit insurance coverage levels with some even providing explicit blanket guarantee.

The role of deposit insurance is undergoing important changes in the light of the financial crisis, leading to a rethinking of the optimal design features of the deposit insurance system.

The close coordination between the bank supervisors, the bank resolution framework and effective prudential regulation and supervision of the financial sector can help lower moral hazard and reduce excessive risk taking by private sector. 

Traditionally, deposit insurance was limited to protecting those unable to understand or monitor risk in the system and the effectiveness of deposit insurance was seen as being limited to periods of financial stability.

Full creditor guarantees and public support are needed to maintain financial stability in banking sector and national development.

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