Overview of Banking Industry

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Overview of Banking Industry

This article provides an quick overview of banking and its functions. This article

discusses the basic defintion of banking, why banking is under strict regulations and what are

some of the contractual obligations between banks and its customers.

Banking & Opportunities for IT Professionals:

In modern times, banks play an important role in the global economies. During the recent times,

increases in telecommunications and other financial technologies, have allowed banks to extend

their reach all over the world, and there is no longer a need for customers to visit banks

branches for every transaction, as most of the transactions can happen online. The growth in

cross-border activities has also increased the demand for banks that can provide various services

across borders to different nationalities. Despite these advances in cross-border activities, the

banking industry is nowhere near as globalized as some other industries. There exists huge

growth potential for IT professionals to work on banking domain as it will gear itself for more

and more growth and automation in the coming years. There is no doubt that Technology is

going to be catalyst in that growth, creating huge opportunities for professionals with good

understanding of banking domain.

Banking Defined:

A bank is a financial institution that provides banking and other financial services to their

customers. A bank is generally understood as an institution which provides fundamental banking

services such as accepting deposits and providing loans. There are also non- banking institutions

that provide certain banking services without meeting the legal definition of a bank. Banks are a

subset of the financial services industry.

Need for Banking:
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Banks are large and complex organizations. Their clients range from individuals and institutions,

all the way up to the governments and central banks of entire countries. The Banking sector

offers several facilities to their customers including safeguarding their money and valuables and

providing them with various types of credit loans to meet their various needs like home loans,

consumer loans, personal loans etc. Banks also provide additional services like credit, and

payment services, such as checking accounts, money orders, and cashier's cheques.

The banks also offer investment and insurance products. As a variety of models for cooperation

and integration among finance industries have emerged, some of the traditional distinctions

between banks, insurance companies, and securities firms are fast diminishing. In spite of all

these developments, banks continue to maintain and perform their primary roleaccepting

deposits and lending funds from these deposits. Banking is an important undertaking. The

movement of capital handled by banks allows economies to grow and prosper. Businesses and

governments need money to operate, and banks act as intermediaries between the suppliers of

funds and users of funds.

Functions of the Bank:

Bank provides various services and offer many products. The following discussion explainsvarious functions of the bank:

Provide security to the savings of customers by safeguarding it and offering interest on thedeposits kept with it.

Control the supply of money and credit and arrange funds to the parties who need them byborrowing from parties who have surplus.

Encourage public confidence in the working of the financial system Increase savings speedily and efficiently. Avoid focus of financial powers in the hands of a few individuals and institutions. Set equal norms and conditions to all types of customers

Banking Regulations:

Banks operating in most of the countries are exposed to various stringent regulations. Most

governments enforce rules and procedures to govern their operations and service offerings, and


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the manner in which they grow and expand their facilities to better serve the public. A banker

works within the financial system to provide loans, accept deposits, and provide other services to

their customers. They must do so within a climate of extensive regulation, designed primarily to

protect the public interests. The main reasons why the banks are heavily regulated are as follows:

To protect the safety of the public's savings. To control the supply of money and credit in order to achieve a nation's broad economic goal. To ensure equal opportunity and fairness in the public's access to credit and other vital financial

services.

To promote public confidence in the financial system, so that savings are made speedily andefficiently.

To avoid concentrations of financial power in the hands of a few individuals and institutions.

Provide the Government with credit, tax revenues and other services. To help sectors of the economy that they have special credit needs for example Housing, small

business and agricultural loans etc.

Law of banking:

Banking law is based on a contractual agreement between the bank and customer. The customer

is any entity for which the bank agrees to conduct an account or business. The law implies rights

and obligations into this relationship as follows:

The bank account balance is the financial position between the bank and the customer: when theaccount is in credit, the bank owes the balance to the customer; when the account is overdrawn,

the customer owes the balance to the bank.

The bank agrees to pay the customer's cheques up to the amount standing to the credit of thecustomer's account, plus any agreed overdraft limit.

The bank may not pay from the customer's account without a mandate from the customer,example cheques drawn by the customer.

The bank agrees to promptly collect the cheques deposited to the customer's account as thecustomer's agent, and to credit the proceeds to the customer's account.

The bank has a right to combine the customer's accounts, since each account is just an aspect ofthe same credit relationship.


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The bank has a lien on cheques deposited to the customer's account, to the extent that thecustomer is indebted to the bank.

The bank must not disclose details of transactions through the customer's accountunless thecustomer consents, there is a public duty to disclose, the bank's interests require it, or the law

demands it.

The bank must not close a customer's account without reasonable notice, since cheques areoutstanding in the ordinary course of business for several days.

These implied contractual terms may be modified by express agreement between the customer

and the bank. The statutes and regulations in force within a particular jurisdiction may also

modify the above terms and/or create new rights, obligations or limitations relevant to the bank-

customer relationship.

Type of Banks: Different Types of Banks & their Functions

The focus of banking is varied, the needs diverse and methods different. Thus,

we need distinctive kinds of banks to cater to the above-mentioned complexities. This article

discusses the broad classification of banks and explains each type of banks with their

distinctions.

The focus of banking is varied, the needs diverse and methods different. Thus, we need

distinctive kinds of banks to cater to the above-mentioned complexities. Deposit-taking

institutions take the form of commercial banks, which accept deposits and make commercial,

real estate, and other loans. There are also mutual savings banks, which accept deposits and

make mortgage and other types of loans. Another type is credit unions, which are cooperative

organizations that issue share certificates and make member (consumer) and other loans.

The banking industry can be divided into following sectors, based on the clientele served and

products and services offered:

1. Retail Banks
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2. Commercial banks3. Cooperative banks4. Investment Banks5. Specialized banks6. Central banks

Retail Banks:

Retail banks provide basic banking services to individual consumers. Examples include savings

banks, savings and loan associations, and recurring and fixed deposits. Products and services

include safe deposit boxes, checking and savings accounting, certificates of deposit (CDs),

mortgages, personal, consumer and car loans.

Commercial Banks:

Banking means accepting deposits of money from the public for the purpose of lending or

investment. Commercial Banks provide financial services to businesses, including credit and

debit cards, bank accounts, deposits and loans, and secured and unsecured loans. Due to

deregulation, commercial banks are also competing more with investment banks in money

market operations, bond underwriting, and financial advisory work. Commercial banks in

modern capitalist societies act as financial intermediaries, raising funds from depositors andlending the same funds to borrowers. The depositors claims against the bank, their deposits, are

liquid, meaning banks are expected to redeem deposits on demand, instantly.

Banks claims against their borrowers are much less liquid, giving borrowers a much longer span

of time to repay money owed banks. Because a bank cannot immediately reclaim money lent to

borrowers, it may face bankruptcy if all its depositors show up on a given day to withdraw all

their money.

There are two types of commercial banks, public sector and private sector banks.

Public Sector Banks:

Public sectors banks are those in which the government has a major stake and they usually need

to emphasize on social objectives than on profitability.


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Private sector banks:

Private sector banks are owned, managed and controlled by private promoters and they are free

to operate as per market forces.

Investment Banks:

An investment bank is a financial institution that assists individuals, corporations and

governments in raising capital by underwriting and/or acting as the client's agent in the issuance

of securities. An investment bank may also assist companies involved in mergers and

acquisitions, and provide ancillary services such as market making, trading of derivatives, fixed

income instruments, foreign exchange, commodities, and equity securities.

Investment banks aid companies in acquiring funds and they provide advice for a wide range of

transactions. These banks also offer financial consulting services to companies and give advice

on mergers and acquisitions and management of public assets.

Cooperative Banks:

Cooperative Banks are governed by the provisions of State Cooperative Societies Act and meant

essentially for providing cheap credit to their members. It is an important source of rural credit

i.e., agricultural financing in India.

Specialized Banks:

Specialized banks are foreign exchange banks, industrial banks, development banks, export-

import banks catering to specific needs of these unique activities. These banks provide financial

aid to industries, heavy turnkey projects and foreign trade.

Central Banks:

Central banks are bankers banks, and these banks trace their his tory from the Bank of England.

They guarantee stable monetary and financial policy from country to country and play an

important role in the economy of the country. Typical functions include implementing monetary

policy, managing foreign exchange and gold reserves, making decisions regarding official


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interest rates, acting as banker to the government and other banks, and regulating and supervising

the banking industry.

These banks buy government debt, have a monopoly on the issuance of paper money, and often

act as a lender of last resort to commercial banks. The term bank nowadays refers to these

commercial banks. The Central bank of any country supervises controls and regulates the

activities of all the commercial banks of that country. It also acts as a government banker. It

controls and coordinates currency and credit policies of any country. The Reserve Bank of India

is the central bank of India.

Banking Sector & Its Segments

Banking sector has witnessed enormous growth in the past decades. The banks

have transformed themselves from traditional deposit and borrowing institutes to large

organizations offering a variety of services. Discussion about various classifications of banks.

The banking industry can be divided into two categories commercial banking and investment

banking.

Commercial Banking:

This category represents consumer and business banking and includes commercial and foreign

banks, savings and loan associations, credit unions, thrifts, and other savings banks. Commercial

banks in modern capitalist societies act as financial intermediaries, raising funds from depositors

and lending the same funds to borrowers. The depositors claims against the bank, their deposits,

are liquid, meaning banks are expected to redeem deposits on demand, instantly. Banks claims

against their borrowers are much less liquid, giving borrowers a much longer span of time to

repay money owed banks. Because a bank cannot immediately reclaim money lent to borrowers,

it may face bankruptcy if all its depositors show up on a given day to withdraw all their money.
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Products and services include consumer and commercial deposits, consumer loans, mortgage and

real estate loans, overseas operations, investment in high-grade securities, and commercial and

industrial loans.

Investment Banking:

The products and services of this category include managing portfolios of financial assets,

trading in securities, fixed income, commodity and currency, corporate advisory services for

mergers and acquisitions, corporate finance, and debt and equity underwriting. Trading activities

include trading both on behalf of clients or on the banks own account.

Other Classifications:

Banking products can be further classified as Retail Banking, Corporate Banking and Risk and

Capital Management. In modern world banks perform and manage all the following functions

and different classifications exist based on the need:

Retail Banking Corporate Banking Banking Operations Risk Management Asset Management Wealth Management Treasury Management Cards Issuance and Management Trading Intermediary acting as Depository Participant, Registry, Exchanges, Trading or Broker

Dealer

Banking Functions:

The banking industry is growing rapidly. It's estimated that the assets of the 1,000 largest banks

are worth almost $100 trillion USD. With the growth in the industry banks manages a diverse

portfolio of functions. Apart from the segments discussed above banks also need to manage

following functions and can also be classified based on functions:


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Banking Technology Internal and External Reconciliations Internal and External Clearing Surveillance Human Resources Finance Legal and Compliance Sales and Trading Transaction Banking

Banking sector in India has witnessed unparalled growth in the last decade.

Banking Operations
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The banking industry caters to a diverse clientele, which includes, individual

customers, small businesses, farmers, corporates and corporations, banks, governments,

institutional investors, non profit organizations and international clients. Learn about the banking

products and services for these customers.

Let us try to understand what is the scale of banking in modern globalized world? Two major

components of banking are Deposits and Loans. The banking industry caters to a diverse

clientele, which includes:

Individual Customers Small Businesses Farmers Corporates and Corporations Banks Governments Institutional Investors Non Profit Organizations International Clients

Individual Customers:

First are Individuals like you and me. We earn money and spend money. We keep our surplus

with banks and take loans from banks when we need money. Bank provides various services and

products for this sector including savings account, fixed and recurring deposits, car loans, home

loans, personal loans, credit and debit cards and salary disbursement accounts.

Small Businesses:


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Small business houses and traders need banking services to manage their day to day operations.

Banking Industry offer various products tailored to the specific needs of small business men and

traders. Some examples are cash credit accounts, current accounts, pay orders, demand draft,

payable at cash cheque books, credit and debit card, loans for fixed assets and machinery etc.

Farmers:

Banking plays a very important role for farmers. Apart from offering products which are

available to individual customers, it also offers many products and services specifically tailored

for agriculturists and farmers. Banking sector plays an important role in agriculture based

economies like India. They are one of the preferred mediums for governments to disburse

various subsidies and concessional loans for farmers. Banks finance loans to buy equipment forfarmers, provide financial planning and investment advice through Agriculture Banking

Specialists, provide crop loans and production or season based loan products.

Corporates & Corporations

Banking industry is very important for Corporate or institutional clients. Companies generally

have huge surpluses of money or need money to invest. Banks help them keep their surplus

money or provide them with funds when they are in need of it.

Funded Products provide short and medium term funding facilities to overcome challenges and

complexities faced by corporations in managing cash flows. Banking channels provide finance to

manage working capital needs of businesses. Treasury Products help to manage and mitigate

business risks by providing money market and foreign exchange facilities. Foreign Exchange

products deal with money market and various investment products help organizations achieve

their financial goals. Some examples of investment products are term deposit and mutual funds.They may include a range of debt and fixed income products to suit the dynamic and varied

needs of customers across segments.

Banks:


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Banks make lot of transactions with other banks. Many countries have Central Banks that are

owned and managed by Governments. Banks borrow and lend money to each other. They get

into consortium advances where two or more banks join together to offer credit to a large

borrower. They enter into various agreements with each other to provide services in the regions

where they dont have branches.

Governments:

Businesses and governments cannot be completely self-sufficient when it comes to availability of

funds they need. They need money to operate, and banks act as intermediaries between the

suppliers of funds and users of funds. Over the period of time banking has transformed itself into

an important and powerful undertaking. Today the movement of capital handled by banks allowseconomies to grow and prosper. They maintain the delicate balance between the supply and

demand of money by controlling borrowing and lending interest rates.

Institutional Investors:

Institutional investors are organizations which pool large sums of money and invest those sums

in securities, real property and other investment assets. They can also include operating

companies which decide to invest their profits to some degree in these types of assets. Types of

typical investors include banks, insurance companies, retirement or pension funds, hedge funds,

investment advisors and mutual funds. Their role in the economy is to act as highly specialized

investors on behalf of others. Many banks act as institutional investors and most of them provide

wide range of services to such investment bodies.

Wide range of services are provided under this umbrella and may include assessment of

investment needs, evaluation of asset structure and the liability-management requirements, cash-flow analysis, development of investment policy, portfolio-construction, custody services,

portfolio rebalancing, fundraising and philanthropic services.

Non Profit Organizations:


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A nonprofit organization are organizations pursuing a special cause, generally philanthropic in

nature, and which uses surplus revenues to achieve its goals rather than distributing them as

profit or dividends. Some NPOs may also be a charity or a service organization.

Banks serve not-for-profit customers in variety of ways and generally have specialized products

and services for such organizations. Most common service is the collect membership and other

fees on behalf of them at various locations. Many banks offer Not-For-Profit Accounts which

offers convenience of current account and also collected balances accumulated in the account

earn interest like a saving back account. Many banks provide these banking services to nonprofit

organizations at concessional or nominal cost. Specialized banking products could be available

for organizations like churches, executors and administrators and trustees.

International Clients:

Banks offer financial services, such as payment accounts and lending opportunities, to foreign

clients. These foreign clients can be individuals and companies, though every international bank

has its own policies, most of them offer various products and services to cater to the needs of

their international clientele.

Banking products for this sector includes offshore banking, savings, investments, and mortgages

clubbed with a broad range of FX services including forward and spot transactions. International

clients generally require offshore banking facilities to secure their money outside their country of

residence or to facilitate the business activities in another country. Many banks offer accounts in

all major currencies and that helps international clients protect their money against local and

international volatile economic and political environments. Banking channels facilitate easier

trading across international borders and provide electronic banking with access to SWIFT.

History of Banking
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The banking industry has evolved from barter system and gift economies of

earlier times to modern globalized and technology savy internet and e-banking. A overview of

history of banking detailing the major events of banking industry.

Origin of the term Bank:

The term bank apparently owes its origin to the bank or bench used by the moneychangers

during the middle ages. Historically, some banks were called banks of deposit, and mainly held -

deposits of foreign and domestic currencies and arranged payment in foreign trade transactions.

Other banks created deposits that acted as a circulating medium of money in a society. One of

the earliest banks in this category, the Bank of Venice, was formed when a group of the

governments creditors combined and began using government debt as a means of payment in

trade.

Banking in the modern sense of the word can be traced to medieval and early Renaissance Italy,

to the rich cities in the north like Florence, Venice and Genoa. The word bank was borrowed in

Middle English from Middle French banque, from Old Italian banca, from Old High German

banc, bank "bench, counter". Benches were used as desks or exchange counters during the

Renaissance by Florentine bankers, who used to make their transactions atop desks covered by

green tablecloths.

The Beginning of Banking Industry:

The History of Banking began at about 2000BC of the ancient world when merchants made grain

loans to farmers and traders started carrying goods between cities within the areas of Assyria and

Babylonia. The Code of Hammurabi, dating back to about 1772 BC, is one of the oldest

deciphered writings of significant length in the world that deals with matters of contract and set

the terms of a transaction. This code also included standardized procedures for handling loans,

interest, and guarantees.


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Later on, in ancient Greece and during the Roman Empire, lenders based in temples made loans

and started accepting of deposits. Banking activities in Greece are more varied and sophisticated

than in any previous society. They took deposits, made loans, changed money from one currency

to another and tested coins for weight and purity. They even engaged in book transactions.

Moneylenders can be found who will accept payment in one Greek city and arrange for credit in

another, avoiding the need for the customer to transport or transfer large numbers of coins.

Banking, in the modern sense of the word, can be traced to medieval and early Renaissance Italy,

to the rich cities in the north such as Florence, Venice and Genoa. The development of banking

spread through Europe and a number of important innovations took place in Amsterdam during

the Dutch Republic in the 16th century and in London in the 17th century. Some of the earlier

systems that facilitated trading/exchange of goods were barter system and gift economies.

Barter System:

Barter system is an age-old method that was adopted by people to exchange their services and

goods. This system was used for centuries, before the invention of money. People used to

exchange the goods or services for other goods or services in return.

The advantage of bartering is that it does not involve money. You can buy an item in exchange

for some other thing you currently have, but don't want. The barter system was one of theearliest forms of trading. It facilitated exchange of goods and services, as money was not

invented in those times. Barter system has been in use throughout the world for centuries. The

invention of money did not result in the end of bartering services.

Gift Economy:

A gift economy (or gift culture) is a society where valuable goods and services are regularly

given without any explicit agreement for immediate or future rewards. The gifts are exchanged

as per the prevailing informal customs, rather than an explicit exchange of goods or services for

money or some other commodity. Gift economies were prevalent before the advent of market

economies, but gradually disappeared as societies became more complex. Contrary to popular

conception, there is no evidence that societies relied primarily on barter before using money for


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trade, Instead, non-monetary societies operated largely along the principles of gift economics and

debt. When barter did in fact occur, it was usually between complete strangers.

Banking in 20th

Century:

During the 20th century, developments in telecommunications and computing resulting in major

changes to the way banks operated and allowed them to dramatically increase in size and

geographic spread. The Late-2000s financial crisis saw significant number of bank failures,

including some of the world's largest banks. Following paragraph provides a snapshot of some

developments in the banking industry over the last century:

1930s-1960s The Great Depression:

During the Crash of 1929 preceding the Great Depression, banking and brokerage firms were

operating with margin requirements of mere ~10%. It meant that the brokerage firms would lend

$9 for every $1 an investor had deposited. When the market fell, brokers called in these loans,

which could not be paid back. Banks began to fail as debtors defaulted on debt and depositors

attempted to withdraw their deposits en masse, triggering multiple bank runs.

Government guarantees and Federal Reserve banking regulations to prevent such panics were

ineffective or not used. Bank failures led to the loss of billions of dollars in assets. After the

panic of 1929, and during the first 10 months of 1930, 744 US banks failed and in all, over 9,000

banks failed during the 1930s. The depression is said to be one of the factors leading to World

War II and post-war recovery period saw governments taking on a more active and larger role in

banking, leading to increased regulation. In response to this many countries significantly

increased financial regulation and established regulatory agencies to oversee banking operations

and during the post Second World War period two organizations were created: The International

Monetary Fund (IMF) and the World Bank.

1970s-2000s - Deregulation & Globalization:

During the 1970s, there was a number of small stock market crashes tied to the regulations put in

place after the Great Depression. These crashes led to the deregulation of banking restrictions

and privatization of government-owned financial institutions. Global banking and capital market


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services proliferated during the 1980s after deregulation of financial markets in a number of

countries. The 1986 'Big Bang' in London allowing banks to access capital markets in new ways,

which led to significant changes to the way banks operated and accessed capital.

This period saw a significant internationalization of financial markets. American corporations

and banks started seeking investment opportunities abroad, prompting the development in the

U.S. of mutual funds specializing in trading of foreign stock markets. Growing

internationalization changed the competitive landscape, as now many banks would function as

much as possible as a one-stop supplier of both retail and wholesale financial services.

Financial services continued to grow through the 1980s and 1990s as a result of a great increase

in demand from companies, governments, and financial institutions.

Beginning of 21st Century - The Decade of Internet Banking:

The early 2000s were marked by consolidation of existing banks and entrance into the market of

other financial intermediaries: non-bank financial institution. Large corporate players ventured

into the financial service community, offering competition to established banks. The main

services offered included insurances, pension, mutual, money market and hedge funds, loans and

credits and securities.

The process of financial innovation advanced enormously in the first decade of the 21 century,and banks explored other profitable financial instruments, diversifying banks' business and this

had a positive impact on the economic wellness of the banking industry. This decade marked the

beginning of the era in which the distinction between different financial institutions, banking and

non-banking is gradually vanishing. Technological advances during the decade shifted the way

banks operate from traditional branch banking to internet and e-banking.

Late-2000s Financial Crisis:

Subprime mortgage lending to borrowers with poor credit led to a financial crisis in 2007. The

crisis originated in the United States, but financial institutions around the world were affected as

banking industry was truly globalized at that point. Many institutions failed worldwide forcing

central banks to take substantial recovery measures to stabilize the banking system.


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The Late-2000s financial crisis caused significant stress on banks around the world. The failure

of a large number of major banks resulted in government bail-outs. The global financial crisis

forced governments around the world to re-evaluate their financial regulations.

Overview of Banking Industry

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