Banking industry at a glance

Bank is the main confluence that maintains and controls the flow of money. Government
uses it to control the flow of money by managing Cash Reserve Ratio (CRR) and thereby
influencing the inflation level. The function of the bank include accepting the deposit from the
public and other institutions and then to direct as loans and advance to parties for growth and
development of industries. It extends loans for the purpose of education, housing etc and as a
part of social duty, some percentage of agricultural sectors as decided by the RBI. The bank takes
the deposit at the lower rate of interest and gives loan at the higher rate of interest. The difference
in the transaction constitutes the main source of the income for the bank. This is known as Net
Interest Margin.
Banking in India has undergone starling changes in terms of growth and structure. Organized
banking was active in India since the establishment of the General Bank of India in 1786. The
Reserve Bank of India (RBI) was established as a central bank in 1995. The imperial bank of
India, the biggest Bank at that time, was taken over by the Government to form State owned
STATE BANK OF INDIA (SBI). RBI under took an exercise to reduce the fragmentation in the
Indian Banking Industry post independence by merging weaker banks with stronger banks. The
total number of banks reduced from 566 in 1951 to 85 in 1969.
With the objective of reaching out to the masses and servicing credit needs of all sections of
people, the government nationalized 14 large banks in 1969. This period saw the enormous
growth in the number of branches and Banks branch network become wide enough to reach the
weaker section of the society in a vast country like INDIA.

Major Banking Operations

The main operations of a bank can be segregated into three main areas:
(i)

Balancing Profitability with Liquidity Management

(ii)

Management of Reserves

(iii)

Creation of Credit.

Main Operations of a Bank

Operations of
Bank

Balancing
Profitability with
Liquidity
Management

Management of
Reserves

Creation of
Credit

Balancing Profitability with Liquidity Management

Banks are commercial concerns which provide various financial services to customers in
return for payments in one form or another, such as interest, discount fees, commission etc.
Their objective is to make profits. However, what distinguishes them from other business
concerns is the degree to which they have to balance the principle of profit maximization
with certain other principles.
Banks in general have to pay much more attention in balancing the profitability with
liquidity. Therefore, they have to devote considerable attention to liquidity management.
Banks deal in other peoples money, a substantial part of which is repayable on demand. That
is why, for banks unlike other business concerns liquidity management is as important as
profitability management.

Management of Reserves
Banks are expected to hold voluntarily a part of their deposits in the form of ready cash
which is known as cash reserves and the ratio of cash reserves to deposits is known as Cash
Reserve Ratio (CRR). The Central Bank in every country is empowered to prescribe the reserve

ratio that all banks must maintain. The Central Bank also undertakes as the lender of last resort,
to supply reserves to banks in times of genuine difficulties. Since the banks are required to
maintain a fraction of their deposit liabilities as reserves, the modern banking system is also
known as the fractional reserve banking.

Creation of Credit
Unlike other financial institutions, banks are not merely financial intermediaries but they
can create as well as transfer money. Banks are set to create deposits or credit or money or it
can be said that every loan given by bank creates a deposit. This has given rose to the concept of
deposit multiplier or credit multiplier. The importance of this is that banks add to the money
supply in the economy and hence, banks become responsible in a major way for changes in the
economic activities.