Tag: Commercial Banks

Leasing and hire purchase are two major financing options that allow individuals or businesses to acquire assets without making full payments upfront. These financial mechanisms provide flexibility, especially when it comes to acquiring expensive equipment or property. Both leasing and hire purchase enable the lessee or purchaser to use the asset over a specified period, but there are key differences in their structure, ownership, and terms.

Leasing:

Leasing is a financial arrangement where the owner of an asset (the lessor) provides the right to use the asset to another party (the lessee) in exchange for regular rental payments. The lessee gets the asset for a predetermined period without owning it. At the end of the lease term, the lessee typically has the option to return the asset, renew the lease, or sometimes purchase it at a residual value.

Types of Leasing:

• Operating Lease:

An operating lease is a short-term lease that covers only a portion of the asset’s useful life. At the end of the lease period, the asset is returned to the lessor. This type of lease is commonly used for assets that may become obsolete or require frequent upgrades, such as computers or office equipment.

• Financial Lease (Capital Lease): 

Financial lease, also known as a capital lease, is a long-term lease where the lessee has the option to purchase the asset at the end of the lease term, typically at a predetermined residual value. The lessee is responsible for maintenance, insurance, and taxes, which makes it similar to ownership. This type of lease is typically used for assets that the lessee wants to use for most of the asset’s useful life, such as machinery or vehicles.

• Sale and Leaseback:

In a sale and leaseback arrangement, an asset is sold by the owner to a leasing company, and the original owner immediately leases back the asset for use. This allows the seller to raise capital while still maintaining possession and use of the asset.

Advantages of Leasing:

• Low Initial Payment:

Leasing allows businesses to acquire assets without the heavy upfront investment required for buying.

• Flexibility:

At the end of the lease term, businesses have the option to purchase, renew, or return the asset, providing flexibility based on their financial and operational needs.

• Tax Benefits:

Lease payments are generally considered tax-deductible expenses, reducing the business’s taxable income.

• Risk Mitigation:

Leasing helps businesses avoid the risks associated with owning assets, such as depreciation or technological obsolescence.

Hire Purchase

Hire purchase (HP) is a method of acquiring goods where the buyer takes possession of the asset immediately but pays for it in installments over a period of time. Unlike leasing, hire purchase involves an agreement where the buyer ultimately becomes the owner of the asset once all payments are made. The buyer makes an initial down payment, and the remaining amount is paid in regular installments, which includes interest. If the buyer fails to make payments, the seller may repossess the asset.

Features of Hire Purchase:

• Ownership Transfer:

The ownership of the asset is transferred to the buyer after the last installment is paid. Unlike leasing, where the asset remains with the lessor, in hire purchase, the buyer ultimately owns the asset.

• Down Payment:

A certain percentage of the asset’s price is paid upfront as a down payment. The remaining balance is paid through installments, including interest charges.

• Installment Payments:

The remaining balance is paid in regular installments, which include both principal and interest amounts. The total amount paid over the term of the hire purchase agreement will exceed the actual cost of the asset due to interest.

• Repossessability:

If the buyer fails to make payments, the seller or finance company has the right to repossess the asset. In some cases, the buyer may lose any amount already paid.

Advantages of Hire Purchase:

• Immediate Use of Asset:

The buyer gets immediate possession and use of the asset, even before full payment is made.

• Fixed Payment Structure:

The payment terms are fixed, making it easier for the buyer to budget over the repayment period.

• Ownership at End of Term:

The buyer owns the asset once all payments are made, which is advantageous if the asset is needed for the long term.

• No Need for Collateral:

In many cases, hire purchase agreements do not require additional collateral beyond the asset itself.

Key Differences Between Leasing and Hire Purchase:

If industrial peace is the backbone of a nation, strikes and lockouts are cancer for the same as they effect production and peace in the factories.

In the socioeconomic development of any country cordial and harmonious industrial relations have a very important and significant role to play. Industry belongs to the society and therefore good industrial relations are important from societys point of view.

Nowadays, industrial relations are not bipartite affair between the management and the work force or employees. Government is playing an active role in promoting industrial relations. The concept of industrial relations has therefore, become a tripartite affair between the employees, employers and the government concerned.

It is possible to settle the industrial disputes if timely steps are taken by the management. Such disputes can be prevented and settled amicably if there is equitable arrangement and adjustment between the management and the workers.

The following is the machinery for prevention and settlement of industrial disputes:

(i) Works Committees:

This committee represents of workers and employers. Under the Industrial Disputes Act 1947, works committees exist in industrial establishments in which one hundred or more workmen are employed during the previous year.

It is the duty of the Works Committee to promote measures for securing and preserving amity and good relations between the employers and workers. It also deals with certain matters viz. condition of work, amenities, safety and accident prevention, educational and recreational facilities.

(ii) Conciliation Officers:

Conciliation Officers are appointed by the government under the Industrial Disputes Act 1947.

The duties of conciliation officer are given below:

(i) He has to evolve a fair and amicable settlement of the dispute. In case of public utility service, he must hold conciliation proceedings in the prescribed manner.

(ii) He shall send a report to the government if a dispute is settled in the course of conciliation proceedings along with the charter of the settlement signed by the parties.

(iii) Where no settlement is reached, conciliation officer sends a report to the government indicating the steps taken by him for ascertaining the facts, circumstances relating to dispute and the reasons on account of which settlement within 14 days of the commencement of the conciliation proceedings.

Boards of Conciliation:

The government can also appoint a Board of Conciliation for promoting settlement of Industrial Disputes. The chairman of the board is an independent person and other members (may be two or four) are to be equally represented by the parties to the disputes.

The duties of the board include:

(a) To investigate the dispute and all matters affecting the merits and do everything fit for the purpose of inducing the parties to reach a fair and amicable settlement.

(b) A report has to be sent to the government by the board if a dispute has been settled or not within two months of the date on which the dispute was referred to it.

(iii) Court of Enquiry:

The government may appoint a court of enquiry for enquiring into any industrial dispute. A court may consist of one person or more than one person in and in that case one of the persons will be the chairman. The court shall be required to enquire into the matter and submit its report to the government within a period of six months.

(iv) Labour Courts:

As per the Second Schedule of the Industrial Dispute Act 1947.

The Government sets up Labour Courts to deal with matters such as:

(i) The propriety or legality of an order passed by an employer under the standing orders.

(ii) The application and interpretation of standing orders passed.

(iii) Discharge or dismissal of workmen including reinstatement, grant of relief to workers who are wrongfully dismissed.

(iv) Withdrawal of any customary concession of privilege.

(v) Illegality or otherwise of a strike or lockout, and all other matters not specified in the Third Schedule.

(v) Industrial Tribunals:

A Tribunal is appointed by the government for the adjudication of Industrial Disputes.

(vi) National Tribunal:

A National Tribunal is constituted by the Central Government for Industrial Disputes involving questions of national importance.

(vii) Arbitration:

The employer and employees may agree to settle the dispute by appointing an independent and impartial person called Arbitrator. Arbitration provides justice at minimum cost.

A third and an area of particular relevance to the Reserve Bank of India (RBI) relates to corporate governance in the financial sector. Today, therefore, the major focus of this presentation would relate to corporate governance in the financial sector itself.

It is possible to broadly identify different sets of players in the corporate governance system. For convenience they can be identified as law which is the legal system; regulators; the Board of Directors and Executive Directors on the Board; financial intermediaries; markets; and self regulatory organisations. There is a dynamic balance among them that determines the prevailing corporate governance system, and the balance varies from country to country. In some countries, self-regulatory organisations are well established and in others, as you are aware, the financial intermediaries play a greater part. These balances vary from country to country and, vary depending upon the stage of institutional development and the historical context. Since financial intermediaries are important players in corporate governance in India, special focus on the corporate governance in the financial sector itself becomes critical.

Secondly, the RBI, as regulator relevant to financial sector, has responsibility on the nature of corporate governance in the financial sector. Therefore, we, in the RBI, have to see how corporate governance is evolving, particularly in the context of the financial sector reforms that are being undertaken.

Third, banks are special and to the extent banks have systemic implications, corporate governance in the banks is of critical importance to the RBI.

Fourth, which is not peculiar, but certainly one of the important features of the Indian system, is the dominance of the Government or the public sector ownership in financial sector, whether it is the banking system or development financial institutions. In a way, Government, as a sole or significant owner of commercial, competitive, corporate entities in the financial sector would also set the standards for corporate governance in private sector.

Fifth, relates to the reform process initiated since 1991-92. In the pre-reform period, most decisions were externally, i.e., external to the financial intermediary determined including interest rates to be paid or charged and whom to lend. But recently, there has been a movement away from micro regulation by the RBI. There is thus, a shift from external regulation to the internal systems and therefore, the quality of the corporate governance within the bank or financial institution becomes critical in the performance of the financial sector and indeed the growth of financial sector.

In this perspective of the significance of corporate governance in the financial sector in India, the rest of the presentation is divided into three parts.

The first relates to corporate governance in Government owned financial intermediaries, i.e., the nature of the corporate governance in the context of the Government ownership.

The second set relates to corporate governance and regulatory issues in financial sector, especially relevant to the Reserve Bank of India.

The third part identifies the areas that require attention, taking into account not only the ownership and regulatory aspects but also the total systemic requirements. The areas requiring attention are simply listed for further attention.

Importance of Corporate Governance Under Government Ownership

The evolving corporate governance system in Government owned banks and financial institutions is very critical in India for a number of reasons.

First, public ownership is dominant in our financial sector and it is likely to be dominant for quite sometime in future in India. So, it sets a benchmark for the practices of corporate governance.

Second, the whole concept of competition in banking will have to be viewed in the light of the government ownership. If the regulator is trying to encourage competition, such encouragement of competition is possible if the market players i.e., banks concerned, are willing to respond to the competitive impulses that the regulator is trying to induce. It is possible that the nature of corporate arrangements and nature of incentive framework in the public sector banks are such the regulatory initiatives will not get the desired response or results. Consequently, the regulator’s inclination or pressure to create an incentive framework for introducing competition would also be determined by the extent to which the corporate governance in public sector financial intermediaries is conducive and responsive.

A third factor is diversified ownership in many public sector financial intermediaries, both the banks and financial institutions. The government is no longer 100 per cent owner in all public sector organisations. In organisations where there has been some divestment, it owns directly or indirectly about 55 to 70 per cent. The existence of private shareholders implies that issues like enhancing shareholders value, protecting shareholders value and protecting shareholders rights become extremely important. Such a situation did not exist in most of the public sector and financial sector until a few years back. The issue is whether this transformation in ownership pattern of the financial system has been captured in changing the framework of corporate governance.

A fourth factor is that if the financial sector, in particular banking system, has to develop in a healthy manner there is need for additional funding of these institutions. More so, when the central bank is justifiably prescribing better prudential requirements and capital adequacy norms. If some additional capital has to be raised by these institutions, they should be able to convince the capital market and shareholders that it is worth investing their money in. In the interest of ensuring that the institutions have adequate capital and that they continue to grow, they should be in a position to put in place and assure the market that their system of corporate governance is such that they can be trusted with shareholders money. The issue, therefore, is how our public sector financial institutions have been performing in terms of enhancing shareholder values. This is extremely important from system point of view because, additional funding has to be provided either by the Government or by the private shareholder. Given the fiscal position, the Government cannot be expected to invest significant funds in recapitalising public sector financial organisations. In brief, Government as an owner has to appreciate the importance of enhancing shareholder value, to reduce the possible fiscal burden of funding of banking or financial institutions in future and so attention to corporate governance in public sector is relevant from overall fiscal point of view also – whether for additional investment by Government or for successful divestment of its holdings.

Fifth, there is the issue of mixing up of regulatory, sovereign and, ownership functions and at the same time ensuring a viable system of corporate governance. A reference has been made to this in the Narasimham Committee Report on Banking Sector Reforms (Narasimham Committee II) Banking Sector Reforms and more recently in the Discussion Paper on Harmonising the Role and Operations of Development Financial Institutions and Banks (Discussion Paper on Universal Banking), circulated by the Reserve Bank of India. For instance, as the Narasimham Committee (II) has highlighted, in the case of the State Bank of India, the RBI is both regulator and owner. Also, ownership and regulatory functions are mixed up in the case of the Industrial Development Bank of India.

The Reserve Bank of India (RBI) is the central bank for India. The RBI handles many functions, from handling monetary policy to issuing currency. India has reported some of the best gross domestic product (GDP) growth rates in the world. It is also known as one of the four most powerful emerging market countries, collectively part of BRIC nations, which include Brazil, Russia, India, and China.

Prior to liberalization RBI used to regulate and control the financial sector that includes financial institutions like commercial banks investment banks stock exchange operations and foreign exchange market. With the economic liberalization and financial sector reforms RBI needed to shift its role from a controller to facilitator of the financial sector. This implies that the financial organisations were free to make their own decisions on many matters without consulting the RBI. This opened up the gates of financial sectors for the private players. The main objective behind the financial reforms was to encourage private sector participation increase competition and allowing market forces to operate in the financial sector. Thus it can be said that before liberalization RBI was controlling the financial sector operations whereas in the post-liberalization period the financial sector operations were mostly based on the market forces.

The International Monetary Fund (IMF) and World Bank have highlighted India in several reports showing its high rate of growth. In April 2019, the World Bank projected India’s GDP growth would expand by 7.5% in 2020.1 Also in April 2019, the IMF showed an expected GDP growth rate of 7.3% for 2019 and 7.5% for 2020.2 Both projections have India with the highest expected GDP growth in the world over the next two years.

As with all economies, the central bank plays a key role in managing and monitoring the monetary policies affecting both commercial and personal finance as well as the banking system. As GDP moves higher in the world rankings the RBI’s actions will become increasingly important.

In April 2019, the RBI made the monetary policy decision to lower its borrowing rate to 6%.3 The rate cut was the second for 2019 and is expected to help impact the borrowing rate across the credit market more substantially.4 Prior to April, credit rates in the country had remained relatively high, despite the central bank’s positioning, which has been limiting borrowing across the economy.

The central bank must also grapple with a slightly volatile inflation rate that is projected at 2.4% in 2019, 2.9% to 3% in the first half of 2020, and 3.5% to 3.8% in the second half of 2020.

The RBI also has control over certain decisions regarding the country’s currency. In 2016, it affected a demonetization of the currency, which removed Rs. 500 and Rs. 1000 notes from circulation, mainly in an effort to stop illegal activities. Post analysis of this decision shows some wins and losses. The demonetization of the specified currencies caused cash shortages and chaos while also requiring extra spending from the RBI for printing more money.

Quantitative measures:

It refers to those measures of RBI in which affects the overall money supply in the economy. Various instruments of quantitative measures are:

• Bank rate: it is the interest rate at which RBI provides long term loan to commercial banks. The present bank rate is 6.5%. It controls the money supply in long term lending through this instrument. When RBI increases bank rate the interest rate charged by commercial banks also increases. This, in turn, reduces demand for credit in the economy. The reverse happens when RBI reduces the bank rate.
• Liquidity adjustment facility: it allows banks to adjust their daily liquidity mismatches. It includes a Repo and reverse repo operations.
• Repo rate: Repo repurchase agreement rate is the interest rate at which the Reserve Bank provides short term loans to commercial banks against securities. At present, the repo rate is 6.25%.
• Reverse repo rate: It is the opposite of Repo, in which banks lend money to RBI by purchasing government securities and earn interest on that amount. Presently the reverse repo rate is 6%.
• Marginal Standing Facility (MSF): It was introduced in 2011-12 through which the commercial banks can borrow money from RBI by pledging government securities which are within the limits of the statutory liquidity ratio (SLR). Presently the Marginal Standing Facility rate is 6.5%.

Market stabilisation scheme (MSS): this instrument is used to absorb the surplus liquidity from the economy through the sale of short-dated government securities. The cash collected through this instrument is held in a separate account with the Reserve Bank. It was introduced in 2004. RBI had raised the ceiling of the market stabilisation scheme after demonetization in 2016.

Every Central Bank has to perform numerous promotional and development functions which vary from country to country. This is truer in a developing country like India where RBI has been performing the functions of the promoter of financial system along with several special functions and non-monetary functions.

• Promotion of Banking habits and expansion of banking system: It performs several functions to promote banking habits among different sections of the society and promotes the territorial and functional expansion of banking system. For this purpose, RBI has set several Institutions such as Deposit and Insurance Corporation 1962, the agricultural refinance Corporation in 1963, the IDBI in 1964, the UTI in 1964, the Investment Corporation of India in 1972, the NABARD in 1982, and national housing Bank in 1988 etc.
• Export promotion through refinance facility: RBI promotes export through the Export Credit and Guarantee Corporation (ECGC) and EXIM Bank. It provides refinance facility for export credit given by the scheduled commercial banks. The interest rate charged for this purpose is comparatively lower. ECGC provides insurance on export receivables whereas EXIM banks provide long-term finance to project exporters etc.
• Development of financial system: RBI promotes and encourages the development of Financial Institutions, financial markets and the financial instruments which is necessary for the faster economic development of the country. It encourages all the banking and non-banking financial institutions to maintain a sound and healthy financial system.
• Support for Industrial finance: RBI supports industrial development and has taken several initiatives for its promotion. It has played an important role in the establishment of industrial finance institutions such as ICICI Limited, IDBI, SIDBI etc. It supports small scale industries by ensuring increased credit supply. Reserve Bank of India directed the commercial banks to provide adequate financial and technical assistance through specialised Small-Scale Industries (SSI) branches.
• Support to the Cooperative sector: RBI supports the Cooperative sector by extending indirect finance to the state cooperative banks. It routes this finance mostly via the NABARD.
• Support for the agricultural sector: RBI provides financial facilities to the agricultural sector through NABARD and regional rural banks. NABARD provides short term and long-term credit facilities to the agricultural sector. RBI provides indirect financial assistance to NABARD by providing large amount of money through General Line of Credit at lower rates.
• Training provision to banking staff: RBI provides training to the staff of banking industry by setting up banker s training college at many places. Institutes like National Institute of Bank management (NIBM), Bank Staff College (BSC) etc. provide training to the Banking staff.
• Data collection and publication of reports: RBI collects data about interest rates, inflation, deflation, savings, investment etc. which is very helpful for researchers and policymakers. It publishes data on different sectors of the economy through its Publication division. It publishes weekly reports, annual reports, reports on trend and progress of commercial bank etc.

Before 1991, India’s financial sector was highly regulated, with the government maintaining tight control over interest rates, credit allocation, and foreign exchange transactions. However, the economic crisis of 1991, marked by a balance of payments problem and dwindling foreign exchange reserves, necessitated structural adjustments and economic reforms. To tackle these issues, the Indian government, under the guidance of then Finance Minister Dr. Manmohan Singh, initiated a series of liberalization measures that also extended to the financial sector.

Liberalization of the Financial Sector (1991-1997)

The initial phase of reforms focused on liberalizing the banking and financial markets, improving operational efficiency, and increasing competition in the sector. Some of the major reforms during this period:

• Introduction of the Narasimham Committee Report (1991):

The committee, chaired by M. Narasimham, was set up to recommend measures to reform the financial system. Its report laid the groundwork for liberalizing the banking sector, reducing government control, and increasing the role of market forces.

• Entry of Private Banks:

Reserve Bank of India (RBI) allowed the entry of private sector banks in 1993. This led to the establishment of institutions like HDFC Bank, ICICI Bank, and others, which enhanced competition and led to improved banking services.

• Capital Market Reforms:

The government introduced several reforms in the capital market to make it more transparent and efficient. The Securities and Exchange Board of India (SEBI) was empowered to regulate and supervise the securities market, bringing in measures like dematerialization of shares, electronic trading, and stricter disclosure norms.

• Privatization of Banks:

The government began reducing its stake in public sector banks, aiming for greater autonomy and improved performance. This was a move towards making public banks more competitive in the market.

• Interest Rate Deregulation:

RBI allowed market forces to determine interest rates on loans and deposits, which was a significant departure from the previous regime of administered interest rates.

Institutional Reforms (1997-2004)

During the late 1990s and early 2000s, the focus of financial sector reforms shifted to strengthening financial institutions and improving regulatory mechanisms. Key reforms in this period:

• Formation of the Financial Sector Legislative Reforms Commission (FSLRC) in 2009:

To address the growing need for a comprehensive legal and regulatory framework, the FSLRC was formed to recommend measures to modernize India’s financial sector laws and provide a cohesive regulatory framework for banks, securities markets, insurance, and pensions.

• Non-Banking Financial Companies (NBFCs):

RBI and the government began focusing on improving the regulation of NBFCs to bring them in line with the banking sector and prevent any systemic risks associated with their operation.

• Risk-based Supervision:

RBI shifted to a risk-based approach for supervising commercial banks, ensuring that they had sufficient capital buffers to absorb shocks and could weather financial instability. This approach was aimed at ensuring the health of the banking sector.

• Public Sector Bank Reforms:

The government continued to reduce its stake in public sector banks. The emphasis was on improving governance, transparency, and accountability within these banks. A series of reforms were introduced to modernize operations, improve customer service, and introduce new banking technologies.

Modernization and Technology Adoption (2004-2014):

In the period following 2004, India’s financial sector reforms focused heavily on technology adoption, financial inclusion, and strengthening the regulatory framework. Key reforms are:

• Introduction of the Goods and Services Tax (GST) in 2017:

Though the GST was not a part of the financial sector per se, it had a significant impact on the financial sector. The GST provided a single, unified tax regime, making the process of tax compliance more efficient and promoting a formal economy.

• Financial Inclusion:

Efforts to bring the unbanked population into the formal financial system were accelerated. The government launched several financial inclusion schemes like Pradhan Mantri Jan Dhan Yojana (PMJDY), which aimed to provide banking facilities to rural and remote areas.

• Insurance Reforms:

The Insurance Regulatory and Development Authority (IRDA) increased the foreign direct investment (FDI) cap in the insurance sector from 26% to 49%, allowing greater private and foreign sector participation. This helped in improving the insurance penetration and services in India.

• Capital Market Reforms:

SEBI continued its efforts to streamline capital market operations, improve transparency, and protect investor interests. The introduction of new regulations for mutual funds, equity derivatives, and greater focus on corporate governance helped improve investor confidence.

• Digital Banking and Payments:

The rise of mobile banking, UPI (Unified Payments Interface), and other fintech solutions revolutionized the Indian banking sector. This not only improved access to financial services but also helped streamline transactions, making them faster, cheaper, and more secure.

Recent Reforms and Current Developments (2014-Present)

In recent years, the Indian financial sector has seen several developments aimed at strengthening its resilience and making it more inclusive:

• Insolvency and Bankruptcy Code (IBC):

Enacted in 2016, the IBC aims to provide a time-bound process for the resolution of corporate insolvencies, enabling efficient recovery of defaulted loans and improving the health of the banking sector.

• Financial Technology (FinTech) Revolution:

The integration of artificial intelligence, machine learning, and blockchain into the financial services sector has led to rapid innovation, particularly in areas like digital payments, lending, and investment management.

• Banking Consolidation:

In 2019, the Indian government announced the merger of several public sector banks to create fewer but stronger and more competitive entities, aimed at improving efficiency and reducing operational costs.

• Implementation of the GST and Demonetization:

While GST helped streamline taxation in the economy, demonetization (2016) sought to reduce the informal economy and increase digital transactions, driving financial sector growth.