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Role of Foreign Commercial

Banks in Indian Economy

Presentation By-
Santosh Parashar

Program Co-ordinator (Finance)


Institute of Advanced Management &
Research, Ghaziabad
E-mail: sk_parashar@rediffmail.com

SANTOSH PARASHAR
Topics Covered
 Introduction
 Pre-requisites for banking business in India
 Licensing to Foreign Banks in India
 Policies adopted by RBI for Foreign banks ; Road Map
 Foreign Banks’ Operation in India; Financial Performance of Foreign Banks
 Conclusion
 References

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Introduction
 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.
 Thus, Growing Indian economy is the result of
effective Indian banking system amongst
many other responsible internal and external
factors, in which the role played by foreign
commercial banks in the country is also a
crucial one.
 Foreign banks like Citibank, HSBC, Standard
Chartered Bank, etc are the branches of those
banks which are incorporated in foreign
countries. Most of them perform essentially
the same range of services as local banks,
except that their focus in terms of product and
customers may be different due to their limited
branch network.
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 They bring in new technology and facilitate in
the introduction as well as assimilation of
international products into the domestic
markets.
 They help the local banking industry keep
pace with developments in the financial
centres abroad. They also help provide
Indian corporations access to foreign capital
markets.
 In keeping with the general trend towards
liberalization, the Government has
introduced several measures for widening
the scope for foreign banks to enter and
operate in India.
 On the one hand if they always brought an
explanation about the prompt services to
customers then on the other hand they offer
biggest competition to the domestic banks in
India.
 This paper focuses on RBI regulation
(licensing requirement) for foreign banks,
economic contribution and prospects of
foreign Banks in Indian economy.

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 A foreign bank is a bank organized under foreign law and located outside the
country of its origin. A foreign bank includes offices, branches, and agencies
of commercial banks or trust companies, private banks, national banks, thrift
institutions, credit unions, and other organizations chartered under banking
laws and supervised by banking supervisors of country of operation.

 A "foreign bank" does not include any foreign central bank or monetary
authority that functions as a central bank, or any international financial
institution or regional development bank formed by treaty or international
agreement.

 On the basis of purpose to operate, there are two main types of foreign banks
-those that come into developing countries primarily to serve their home
clients, the so–called traditional or classical banks, and the opportunist, who
come looking for profit (short or long-run) opportunities in developing
countries.

 On the basis of channel to operate /mode of presence, there are three types of
foreign Banks- first –Branches, second -A wholly owned subsidiary (WOS)
and A subsidiary with maximum foreign investment of 74% in a private bank.

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Pre-requisites of banking business in India
In terms of Sec 22 of the B.R. Act-1949, no company shall carry on
banking business in India, unless it holds a license issued in that behalf by
Reserve Bank and any such license may be issued subject to such
conditions as the Reserve Bank may think fit to impose. Before granting
any license, RBI may require to be satisfied that the following conditions
are fulfilled:
 that the company is or will be in a position to pay its present or future depositors
in full as their claims accrue;
 that the affairs of the company are not being , or are not likely to be, conducted in
a manner detrimental to the interests of its present or future depositors;
 that the general character of the proposed management of the proposed bank will
not be prejudicial to the public interest or the interest of its depositors;
 that the company has adequate capital structure and earning prospects;
 that having regard to the banking facilities available in the proposed principal
area of operations of the company, the potential scope for expansion of banks
already in existence in the area and other relevant factors the grant of the license
would not be prejudicial to the operation and consolidation of the banking system
consistent with monetary stability and economic growth.

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Licensing to Foreign Banks in India
 Procedurally, foreign banks are required to apply to RBI for opening their
branches in India. Foreign banks’ application for opening their maiden
branch is considered under the provisions of Sec 22 of the BR Act, 1949.
 Before granting any license under this section, RBI may require to be
satisfied that the Government or the law of the country in which it is
incorporated does not discriminate in any way against banks from India.
 Unlike the restrictive practices of certain foreign countries, India is liberal in
respect of the licensing and operation of the foreign bank branches as
illustrated by the following:
 India issues a single class of banking license to banks and hence
does not place any undue restrictions on their operations merely on
the ground that in some countries there are requirements of multiple
licenses for dealing in local currency and foreign currencies with
different categories of clientele.
 Banks in India, both Indian and foreign, enjoy full and equal access
to the payments and settlement systems and are full members of the
clearing houses and payments system.
 All banks can carry on both retail and wholesale banking.
 Deposit insurance cover is uniformly available to all foreign banks at
a non-discriminatory rate of premium.
 The norms for capital adequacy, income recognition and asset
classification are by and large the same. Other prudential norms
such as exposure limits are the same as those applicable to Indian
banks.
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Policies adopted by RBI for Foreign banks

 The policy for approving foreign banks applications to open


maiden branch and further expand their branch presence
has been incorporated by RBI in the ‘Roadmap for
presence of Foreign banks in India’ indicated in the Press
Release dated February 28, 2005 as well as in the
liberalized branch authorization policy issued on
September 8, 2005.

 The branch authorization policy for Indian banks has been


made applicable to foreign banks subject to the following
steps specified in the roadmap:

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Road MAP:
Phase I: March 2005 to March 2009
 Foreign banks are required to bring an assigned capital of US $25
million up front at the time of opening the first branch in India.
 Existing foreign banks having only one branch have to comply with the
above requirement before their request for opening of second branch
are considered. Foreign banks may submit their branch expansion plan
on an annual basis.
 Foreign bank’s and its group’s track record of compliance and
functioning in the global markets is considered. Reports from home
country supervisors are sought, wherever necessary.
 Weightage is given to even distribution of home countries of foreign
banks having presence in India. The treatment extended to Indian banks
in the home country of the applicant foreign bank is considered .
 Due consideration is given to the bilateral and diplomatic relations
between India and the home country.
 The branch expansion of foreign banks is considered keeping in view
India’s commitments at World Trade Organization (WTO). As a part of
market access, India is committed to permit opening of 12 branches of
foreign banks every year. As against these commitments, Reserve Bank
of India has permitted up to 17- 18 branches in the past .
 Licenses issued for off-site ATMs installed by foreign banks are not
included in the ceiling of 12.

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 The Reserve Bank follows a liberal policy where the branches are
sought to be opened in unbanked/under-banked areas.
 Permission for conversion of existing branches of a foreign bank
into a WOS will be guided by the manner in which the affairs of the
branches of the bank are conducted, compliance with the statutory
requirements and the overall supervisory comfort of RBI. Also, for
reckoning the minimum net worth the local available capital
including the remittable surplus retained in India will qualify.
 In order to allow Indian banks sufficient time to prepare themselves
for global competition, initially entry of foreign banks will be
permitted only in the private sector banks that are identified by the
RBI for restructuring. In such banks, foreign banks would be
allowed to acquire a controlling stake in a phased manner.
 RBI will consider the application for acquisition of 5% or more
stakes in a foreign bank depending upon the reputation of the
foreign bank, its desired level of presence in the country and the
interest of the shareholders of the investee bank.
 RBI may also specify, if necessary, that the investor bank shall
make a minimum acquisition of 15% or more and the period of time
for such acquisition. The overall limit of 74% will continue to be
applicable.

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Phase II: April 2009 onwards

 In the second phase, the removal of limitations on the operations of


the WOS and treating them on par with domestic banks to the extent
appropriate will be designed and implemented after reviewing the
success of Phase I.
 The WOS of foreign banks on completion of a minimum prescribed
period of operation will be allowed to list and dilute their stake (by way
of IPO or offer for sale) so that at least 26% of the paid up capital of
the subsidiary is held by resident Indians.
 After a review is made with regard to the extent of penetration of
foreign banks in India and their functioning, foreign banks may be
permitted, to enter into merger and acquisition transactions with any
private sector bank in India subject to the overall investment limit of
74%.

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Foreign Banks’ Operation in India
 As at June 2009, 32 foreign banks were operating in India with 295
branches as compared with 30 foreign banks with 279 branches as at
end –June 2008.
 These banks originated from 23 different countries. In addition, 43
foreign banks operated in India through representative offices.
 During the period from July 2008 to June 2009 , permission has been
granted to the four existing foreign banks to open 12 branches and to
three new banks, (viz., CIMB Bank Berhad, Malaysia, Commonwealth
Bank of Australia and FirstRand Bank Ltd. of south Africa) to open one
maiden branch each in India.
 During the same period, permission was granted to three foreign
banks (viz., Kfw-IPEX Bank GmbH, Toronto Dominion Bank and
Duncan Lawrie Ltd.) to open a representative office each in India.
 Three foreign banks viz., DBS Bank ltd., Deutsche Bank AG and
FirstRand Bank Ltd. together set up 12 branches during July 2008 to
June 2009. Besides, two foreign viz., DnB NOR Bank and KfW IPEX
Bank GmbH opened a representative office each in India during the
same period.

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Offices of Commercial Banks in India-2005-09

Bank Group As on March 31

2005 2006 2007 2008 2009


(1) (2) (3) (4) (5)

State Bank of India and its Associates 14006 14294 14651 15814 16731

Nationalized Banks$ 35096 35848 37413 39204 40766

Foreign Banks 242 259 272 279 295

Regional Rural Banks 14763 14776 14812 15029 15384

Other Scheduled commercial Banks 6462 6828 7415 8294 9186

Non-Scheduled Commercial Banks 37 41 46 46 46

Total 70606 72046 74609 78666 82408

Notes : No. of offices includes administrative offices.


$ Includes IDBI Bank Ltd.
Data for 2005 to 2008 have been revised and data for 2009 are provisional.
Source: Master Office File (latest updated version) on commercial banks, Department of Statistics and Information Management, RBI.

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Offices of C ommercial B anks in India 2009
Non-Sch e dule d
Co m m e r cial SBI & its As s ociate s
Othe r Sche d ule d
Ban k s , 46
Com m e r cial
Nationaliz e d Ban k s
Bank s , 9186 SBI & its
As s ociate s , 16731
For e ig n Ban k s

Re g ional Ru r al
Bank s , 15384 Re gio nal Rur al Bank s

Othe r Sche du le d
For e ig n Bank s , Co m m e r cial Bank s
295 No n-Sche dule d Com m e r cial
Ban k s
Natio naliz e d
Bank s , 40766

Source: Master Office File (latest updated version) on commercial banks, Department of Statistics and Information Management, RBI

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Fig- OCCUPATION –WISE DISTRIBUTION OF CREDIT BY FOREIGN BANKS-2008
(AS ON 31ST MARCH)

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Financial Performance of Foreign Banks in India (As on 31st March)

Statement I: Foreign Banks in India: Deposits/Investments/Advances (Rs. Crore)

Investment Advances
Deposit
2007 2008 2009 2007 2008 2009 2007 2008 2009
150,750 191,443 214,077 71,471 99,092 130,353 126,339 161,959 165,415

Statement II: Foreign Banks in India: Total Assets/Gross NPAs/Net NPAs (Rs. Crore)
Gross NPA Net NPA
Total Assets
2007 2008 2009 2007 2008 2009 2007 2008 2009
274,392 365,255 447,070 2,263 2,872 6,807 927 1,254 2,973

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Financial Performance of Foreign Banks in India (As on 31st March)

Statement III: Foreign Banks in India: Income (Rs. Crore)

Other Income Total Income


Interest Income
2007 2008 2009 2007 2008 2009 2007 2008 2009
17,924 24,422 30,322 7,044 10,616 14,890 24,968 35,037 45,211

Statement IV: Foreign Banks in India: Expenditure (Rs. Crore)

Operating Expenses Total Expenditure#


Interest Expended
2007 2008 2009 2007 2008 2009 2007 2008 2009
7,603 10,609 12,817 7,745 10,374 12,298 15,348 20,983 25,114
# excludes provisions and contingencies

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Financial Performance of Foreign Banks in India (As on 31st March)

Statement V: Foreign Banks in India: Profit (Rs. Crore)

Provisions Net Profit


Operating Profits &Contingencies

2007 2008 2009 2007 2008 2009 2007 2008 2009

9,619 14,054 20,097 5,034 7,441 12,588 4,585 6,613 7,509

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Net Profit Trend of Foreign Banks (as on 31st March 2007 to 2009 )
(Rs, in Crores)
Net Profit Trend of Foreign Banks
(As on 31st March)
8000
7509
7000
6613
6000
Net profit

5000 years
4585
4000
13.54% net profit
3000 Growth
44.23%
2000 Growth
1000
0
1 2 3
years

By having look on performance of foreign banks in India mentioned in


statement I to V it is very clear that their Deposits/Investments/Advances
have increased altogether from year 2007 to 2009
But with the increase in net NPA’s (Proportionately more in year 2009)
over the years their net profits has declined in year 2009, as the
percentage increase in net profits in year 2008 was 44.23% whereas in
year 2009 it was only 13.54%.
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 Rising non-performing assets, or NPAs, and constraints on capital
flows following the global financial turmoil have taken their toll on
foreign banks’ operations in India.
 Banks need capital to expand loan assets, but in many cases,
parents of foreign banks operating in India are not in a position to
infuse capital.
 Rising NPAs are also discouraging foreign banks from the
aggressive asset creation they pursued in the past few years when
the Indian economy was growing at an average pace of 8.5% and
consumers were buying homes and cars and spending more on
their credit cards.
 Banks have to set aside money to cover NPAs, for which they
require more capital.

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 However, by the year 2010, the list of foreign banks in India may become
more quantitative as numbers of foreign banks are still waiting with
baggage to start business in India despite of liquidation decision
discouraging foreign players- like, RBS which has 31 branches in India
and employs about 10,000 people has already approached the Indian
central bank for approval of liquidation deal and The Reserve Bank of
India has confirmed that it will require foreign banks to undergo a full audit
of their Indian operations prior to be allowed to establish new branches.
 The requirement to audit foreign banks before further expansion is to
preserve risk management capabilities over concerns that any failure
could create risks for Indian financial markets.

SANTOSH PARASHAR
 Conclusion
 The move to audit foreign banks expansion in India is seen as a
sensible precaution in light of the current global crisis.
 Foreign banks committed to making a play in India will need to
adopt alternative approaches to win the “race for the customer” and
build a value-creating customer franchise in advance of regulations
potentially in 2010.
 At the same time, they should stay in the game for potential
acquisition opportunities as and when they appear in the near term.
 Maintaining a fundamentally long-term value-creation mindset will
be their greatest challenge.
 The extent to which Indian policy makers and bank managements
develop and execute such a clear and complementary agenda to
tackle emerging discontinuities will lay the foundations for a high-
performing sector in 2010.

SANTOSH PARASHAR
References:
1. Report on Trend and Progress of Banking in India (2008-09),RBI
Bulletin; Nov.09.
2. Principles and practices of Banking; IIBF, McMillan reprinted, 2009
3. http://www.rbi.org.in/scripts/statistics.aspx
4. www.legalhelpindia.com/bareACTS/BANKING%20REGULATION
%20ACT%201949.doc
5. http://www.idlo.int/microfinance/DOCUMENTS/REGULATIONS/INDIA2.
pdf
6. http://www.mckinsey.com/locations/india/mckinseyonindia/pdf/india_ban
king_2010.pdf
7. http://www.rupeetimes.com/news/personal_loan/foreign_banks_to_reco
nsider_growth_plans_for_india_2390.html
8. http://www.livemint.com/2009/08/02205613/Capital-constraints-rising-
ba.html?d=1

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THANK YOU

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