Banking System

Basel Committee was developed by BIS (Bank for International Settlements), Switzerland to prescribe the guidelines and general norms to all the International Banks. It is the first organized committee by BIS in 1960’s in order to handle financial imbalances in the banking sector. Basel Committee formulated accords for best practice of banking sector.

History of Basel Committee:

The name Basel was given to the committee on behalf of the place where BIS is located in Switzerland i.e., Basel. Basel Committee came into existence due to the financial imbalances occurred due to the following events –

  • Financial Imbalances occurred due to the Arab-Israeli Yom Kippur War which lead to the stoppage of crude oil production.
  • The collapse of the Germany’s Bankhaus Herstatt Bank which have a lot of dealings with foreign exchange created a lot financial imbalance.
  • Franklin National Bank shut down due to the huge loss in foreign exchange.

To come out of these types of unexpected financial imbalances all the  G10 countries and Central Banks established Basel Committee. Basel Committee consists of members from state central banks. It is headed by one of the supervisors or central bankers.

Basel committee  formulated all the rules and regulations to be followed by all the central banks. Basel committee set up the rules to withstand banks from unexpected losses and protect the investment kept by customers in the banks under any circumstances. Basel Committee developed Basel Accords (Agreements) in regards of the risks faced by the banks.

Basel Accords:

Basel Accords are the agreements set up by the Basel Committee on Bank Supervision. This provides the regulation in regards of Capital Risk (risk of customer loosing the money invested in the bank/ bank losing the value of it), Market Risk (risk of decrease in the value of investment due to the instability in market factors) and Operational Risk (Risk due to fault of internal procedures, people & systems). BCBS issues 3 Basel Accords – Basel 1, Basel 2, Basel 3.

Basel 1:

Basel 1 also known as 1988 Basel Accord was issued in 1988. It mainly focuses on Capital Adequacy of financial institutions. In 1987, Latin Debt Crises made committee to know that Capital Adequacy Ratios (CAR) of international banks were deteriorating. Taking this into consideration Basel Committee to resolve this type of risk developed Basel 1 in 1988.

Basel 1 was developed based on the risk posed to the stability of the global financial system by low capital levels of active banks (international) and the competitive advantages of banks subject to lower capital requirements. Basel 1 constitutes on 4 pillars:

  • Constituents of Capital
  • Risk Weighing System
  • Target Standard Ratio
  • Transitional & Implementation Agreements

Basel Committee categorized the Capital Adequacy risk (risk faced by the financial institution due to the unexpected loss) into five categories: 0%, 10%, 20%, 50%, 100%. This accord called for all international Banks to maintain tier one core capital CAR as less than 4% and tier 2 core capital less than 8%. The committee also refined the framework to address the risks other than credit risk.

Pros of Basel 1:

  • It is so simple.
  • It lead to the transformations in the structure of the capital requirements in the banks.
  • It is unique in including off-balance sheet commitments.

Cons of Basel 1:

  • Capital requirements are moderately related to banks risk taking.
  • It is static and not adaptable to new banking activities and risk management techniques.
  • Its capital rules fails to pick up important differences between risk exposures from bank to bank.
  • Its capital rules fail to follow the innovations in banking industry.
  • Its unsophisticated measurement of bank’s credit exposure.

Basel 2:

Basel 2 was initially proposed in June 2004 to make an international standard to banking regulators about how much capital banks need to keep aside in order to face the unexpected risks. It includes BCBS recommendations on banking laws and regulations. The objective of this accord is to strengthen, supervise and enhance international banking requirements Basel 2 is about to be implemented completely by 2015.

Basel 2 uses the concept of three pillars.

  • Minimum Capital Requirements (Develop and expand the standardized rules of Basel 1)
  • Supervisory Review (Review on Financial Institution’s Capital Adequacy and Internal Assessment process)
  • Market Discipline (Encourage sound banking practices)


The main focus of Basel 2 is on these 3 pillars. Basel 1 deals with only parts of these concepts where as Basel 2 accord is made this as main objective. The major changes imposed by Basel 2 include refining the risk levels of capital adequacy calculations in small banks and to make their minimum capital requirements on inputs from their own internal credit risk models.

Basel 3:

Basel 3 was published in December, 2010 to come out of all the short comings of Basel 1 & Basel 2. The Financial crises occurred in 2007 – 2009 pressured Basel Committee to make a new accord to come out this type of crises. This made BCBS to develop Basel 3 with new capital and liquidity standards. Basel 3 made innovations on

  • Common equity
  • Capital Buffer
  • Leverage Ratio
  • Liquidity Requirements

Pillars of Basel 3:


Basel 3 was developed to make a global regulatory standard i.e., to enhance banking sector ability to deal with financial and economical stress, improve risk management and to improve bank’s transparency. Thus Basel 3 is only the continuation of efforts initiated by BCBS under the regulatory of Basel 1 and Basel 2.

Basel 3 established the toughest capital standards and strictly introduced the liquidity requirements. This accord will be phased in by national government banks by 2019. It will raise the capital from 2% to 4.5% further adding a new buffer of 2.5%.

Impact of Basel 3 on Indian Banks:

Basel 3 removes all the loop holes because of Basel 2. Basel 3 norms are based on high capital requirements for the banks. The impact of Basel 3 on Indian Banks are mentioned below –

High Capital Requirement:

Banks need to have high capital in order to follow Basel 3 norms. Banks Common equity ratio will increase with the previous CER of 6- 10 percent. However increase in the minimum capital ratio in government banks will lead to he decrease in capital. The capital requirements will be comparatively less for private banks due to their high profits and high capital ratios.

Pressure on Return Equity:

To meet the norms of Basel 3 without  the support of government banks in order to increase the capital need to increase the rate of interests for loans. This results in the decrease of return of equity. To compensate return of equity lending rates should be increased. This results in the decrease of loans indirectly the income of the banks. This will adversely effect the profit of the banks.

Pressure on Assets:

Deployment of funds on liquid assets results in the decrease in the assets and returns of the banks.

Change in Customer Mix:

As per the new norms Retail Banking have less risk compared to corporate banking. In order to earn profits banks need to shift to short term/ retail loans.

Improvement in Systems and Procedures:

In order to handle the higher capital requirements banks need to modernize and improve the practices using in the banks.

Low Cost Funding:

Low- cost deposit is the main factor to be followed  by the banks. To follow this banks need to focus on how to reach customers efficiently instead of thinking of new branches.

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Mobile payment is completely a different domain and generally refers to payment of services operated under financial regulation and performed from or via a mobile device. It is also referred to as mobile money, mobile banking, mobile money transfer and mobile wallet.

Mobile payment is an alternative payment method. Instead of paying with cash, check, or credit cards, a consumer can use a mobile phone to pay for a wide range of services and digital or hard goods such as:

  • Music, videos, ringtones, online game subscription or items, wallpapers and other digital goods.
  • Transportation fare (bus, subway or train), parking meters and other services
  • Books, magazines, tickets and other hard goods.

The primary benefit of mobile money is the empowerment of such segments of people who doesn’t have their bank accounts. They can start using this facility by registering with the entity by fulfilling the KYC (Know your customer) norms.

This service has been already successful in Indonesia, Kenya, Japan, Africa etc. but in India this system has not yet received encouraging response because of many reasons, some of them are:

  • The key obstacles faced for full deployment of mobile money in India is the Consumer awareness.
  • Because of adjustment with the current ecosystem as it is not ready to accept such changes.
  • Also mainly due to the Regulatory restrictions of the Government. Though these restrictions has been removed to some extent but that too on conditional basis.
  • There is one more hurdle that the other party to whom the payment is to be made doesn’t have this mobile facility.

According to current figures, around 90% of people in India make cash payments for their purchases. All business and finance people is looking it as a positive sign because they believe these transactions can be made with the help of mobile phones as many people don’t have debit cards, credit cards or even bank accounts. Current figures also reveal that 240 million people in India have bank accounts and on the other hand 990 million people have mobile phones. So, it’s a good opportunity for the business and finance people.

Nowadays approximately around 3% of the population of India uses mobile as a wallet but it is expected that this percentage of people using mobile as a wallet facility will grow to 20-25% in next 2-3 years.

Current trends in Mobile money:

In India, a partnership model is evolving where banks, telecom operators and other service providers are expected to work together that will help in proliferation of mobile money services. This model is expected to tie in technology, distribution, and other pieces and enable the ecosystem to grow that will ultimately benefit the consumer.

Further, from a technology standpoint, Near Field Communication (NFC) in which a mobile and a merchant (where the customer has to pay) device can talk in a closed area of network where there is no need for internet facility. This NFC is expected to revolutionize the way proximity payments are conducted. Consumers can make payments with the simple tap of their mobile phones, very much like a credit/debit card. Consumers will no longer be required to carry their wallet for making payments. Another way is that this facility can be used with the help of SMS (short messaging service) so here also there is no need for internet facility.


Airtel has launched a new service – Airtel Money. With the help of Airtel Money one can easily get money into your mobile. To use Airtel Money you have to register for it. One will be asked to choose a mPin which will be needed to make the transfer of money. This facility is available across 300 key cities in India, ‘airtel money’ is a fast, simple and secure service that allows its users to load cash on their mobile devices and spend it to pay utility bills and recharges, shop at 7,000-plus merchant outlets and transact online,
One should not set mPin’s which can be guessed easily (like your house number/ year of birth/ 1111 etc) since every transaction in one’s account is authenticated by this mPin.
Best part of recharging mobile by Airtel money is that one gets 5% cash back. Many other companies are offering discount on paying bills by Airtel Money.
One can easily pay Airtel Bill, recharge the friend’s airtel mobile, and pay BSNL and MTNL bills and purchase tickets for movies. Also one can even deposit money to any bank account. It takes only 1 business day to get cash into Bank account for which money is deposited.
To register a account for Airtel Money one should be 18 years old .One person can have only one Airtel Money account.
There are three types of accounts under the Airtel Money service –

Express account;

Under the Express service, pay for all utilities including:

a) Airtel prepaid mobile and digital TV recharge.
b) Airtel mobile and fixed line bills.
c) Electricity, gas, insurance etc.

Load cash and spend up to Rs 10000 daily*

*Airtel customers all over India except Jammu and Kashmir can register for express account.

Power account;

Under Power Account, pay for all airtel money services including:

a) Utilities (all express account features)
b) Movie tickets
c) Restaurants, spas and shopping.

Load Cash and spend up to Rs. 50,000 daily*
*Transactions done by dialing *400# have a limit of Rs 5,000 per transaction.

*Airtel customers all over India (except Jammu and Kashmir) can register for power account.

Super account:

Under Super Account:

a) Send and receive money from other airtel money super account customers.
b) Withdraw money from any airtel money- super account outlet.
c) Earn interest on balance amount @ 4% p.a.

Load cash, send and withdraw upto Rs. 25000 daily*

This account will be available only in Mumbai, Delhi, Bihar and Uttar Pradesh.

It is important to understand about the priority sector for all bank aspirants as you can always expect some questions in the exams and interview. Here is a small FAQ on lending in priority sector.

1. What is meant by Priority Sector?

Priority sector refers to those sectors of the economy which may not get timely and adequate credit in the absence of this special dispensation. Typically, these are small value loans to farmers for agriculture and allied activities, micro and small enterprises, poor people for housing, students for education and other low income groups and weaker sections.

2. What are the different categories under priority sector?

Priority Sector includes the following categories:

(i) Agriculture
(ii) Micro and Small Enterprises
(iii) Education
(iv) Housing
(v) Export Credit
(vi) Others

3. What are the Targets and Sub-targets for banks under priority sector?


Domestic commercial banks / Foreign banks with 20 and above branches

Foreign banks with less than 20 branches

Total Priority Sector



Total agriculture


No specific target.

Advances to Weaker Sections


No specific target.

(As percent of ANBC or Credit Equivalent of Off-Balance Sheet Exposure, whichever is higher)

4. What constitutes ‘Direct Finance’ for Agricultural Purposes?

(i) Loans to individual farmers [including Self Help Groups (SHGs) or Joint Liability Groups (JLGs), i.e. groups of individual farmers] engaged in Agriculture and Allied Activities, viz., dairy, fishery, animal husbandry, poultry, bee-keeping and sericulture.

(ii) Loans to corporates including farmers’ producer companies of individual farmers, partnership firms and co-operatives of farmers directly engaged in Agriculture and Allied Activities, viz., dairy, fishery, animal husbandry, poultry, bee-keeping and sericultureup to an aggregate limit of 2 crore per borrower.

(iii) Loans to small and marginal farmers for purchase of land for agricultural purposes.

(iv) Loans to distressed farmers indebted to non-institutional lenders.

(v) Bank loans to Primary Agricultural Credit Societies (PACS), Farmers’ Service Societies (FSS) and Large-sized Adivasi Multi Purpose Societies (LAMPS) ceded to or managed/ controlled by such banks for on lending to farmers for agricultural and allied activities.

5. What constitutes ‘Indirect Finance’ to Agriculture?

(i) If the aggregate loan limit per borrower is more than 2 crore in respect of para. (4) (ii) above, the entire loan will be treated as indirect finance to agriculture.

(ii) Loans upto 5 crore to Producer Companies set up exclusively by only small and marginal farmers under Part IX-A of Companies Act, 1956 for agricultural and allied activities.

(iii) Bank loans to Primary Agricultural Credit Societies (PACS), Farmers’ Service Societies (FSS) and Large-sized Adivasi Multi Purpose Societies (LAMPS).

6. What constitutes Micro and Small Enterprises under priority sector?

Bank loans to Micro and Small Manufacturing and Service Enterprises, provided these units satisfy the criteria for investment in plant machinery/equipment as per MSMED Act 2006.

Manufacturing sector


Investment in plant and machinery

Micro EnterprisesDo not exceed twenty five lakh rupees
Small EnterprisesMore than twenty five lakh rupees but does not exceed five crore rupees


Investment in equipment

Micro EnterprisesDoes not exceed ten lakh rupees
Small EnterprisesMore than ten lakh rupees but does not exceed two crore rupees

7. What is the loan limit for education under priority sector?

Loans to individuals for educational purposes including vocational courses upto 10 lakh for studies in India and 20 lakh for studies abroad are included under priority sector.

8. What is the limit for housing loans under priority sector?

Loans to individuals up to 25 lakh in metropolitan centres with population above 10 lakh and 15 lakh in other centres for purchase/construction of a dwelling unit per family excluding loans sanctioned to bank’s own employees.

9. What is included under Weaker Sections under priority sector?

Priority sector loans to the following borrowers are considered under Weaker Sections category:-

(a) Small and marginal farmers;

(b) Artisans, village and cottage industries where individual credit limits do not exceed 50,000;

(c) Beneficiaries of Swarnjayanti Gram Swarozgar Yojana (SGSY), now National Rural Livelihood Mission (NRLM);

(d) Scheduled Castes and Scheduled Tribes;

(e) Beneficiaries of Differential Rate of Interest (DRI) scheme;

(f) Beneficiaries under Swarna Jayanti Shahari Rozgar Yojana (SJSRY);

(g) Beneficiaries under the Scheme for Rehabilitation of Manual Scavengers (SRMS);

(h) Loans to Self Help Groups;

(i) Loans to distressed farmers indebted to non-institutional lenders;

(j) Loans to distressed persons other than farmers not exceeding 50,000 per borrower to prepay their debt to non-institutional lenders;

(k) Loans to individual women beneficiaries upto 50,000 per borrower;

10. What is the rate of interest for loans under priority sector?

The rate of interest on various priority sector loans will be as per RBI’s directives issued from time to time, which is linked to Base Rate of banks at present. Priority sector guidelines do not lay down any preferential rate of interest for priority sector loans.

Source: RBI

A MUTUAL FUND is an investment vehicle that is made up of a pool of funds collected from many investors for the purpose of investing in securities such as stocks, bonds, money market instruments and similar assets whereas a FIXED DEPOSIT (FD) is a financial instrument provided by banks which provides investors with a higher rate of interest than a regular savings account, until the given maturity date. It may or may not require the creation of a separate account. It is known as a term deposit or time deposit in Canada, Australia, New Zealand, and the US, and as a bond in the United Kingdom. They are considered to be very safe investments.

What are Mutual Funds?

  •  A mutual fund is a group of investors operating through a fund manager to purchase a diverse portfolio of stocks or bonds. There are myriad kinds of mutual funds, each with its own goals and methodologies. Whether or not a mutual fund is a good investment is a matter of much public debate, with many claiming they are excellent for the average person, and others saying they are simply a poor way to invest.
  • A mutual fund may be either an actively managed fund or an indexed mutual fund. Actively managed funds are changed on a regular basis by a fund manager in the attempt to maximize their profitability. The fund manager looks at the market and the sectors a fund invests in and redistributes the fund accordingly. An indexed fund simply takes one of the major indexes and buys according to that index. Indexed funds change much less frequently than actively managed funds, but in theory an active fund has more potential for profit.
  • Many critics of mutual funds point out that scarcely over 20% of mutual funds outperform the Standard and Poor’s 500 Index. This means that nearly 80% of the time, an investor would have been more profitable by simply buying equal shares in all 500 of the companies currently on the S&P 500.
  • Supporters point out that for most people the complications involved in traditional investment are simply not worth the effort. A mutual fund offers an easy way to invest in something with a higher return than, say, interest earned at the bank, while keeping funds somewhat fluid. It also eliminates the need to track the market oneself.

There are more types of mutual fund available than there are publicly traded stocks, making the process of choosing one a somewhat daunting prospect for most people. In general, it is good to look at a few types of mutual fund that catch your eye and investigate them to see if they fit your needs. The length of time you want to remain invested, associated costs, tax status, and whether a fund is closed- or open-ended may all prove important. The sector of investment for a mutual fund may also be something one want to look at. Many sector funds exist, and they are most often the top-performing mutual funds in a given year. The problem, of course, is guessing which sector will next see uniform growth, and avoiding sectors that can be hard-hit by single events, such as transportation.

Many people may also want to consider mutual funds which have specific social agendas, in addition to making a profit. A number of environmentally-friendly mutual funds exist which only invest in companies that meet certain best-practices criteria. Mutual funds based on other social views, political slants, and religious inclinations also exist.

Whichever mutual fund you ultimately wind up using, it is important to stay diversified. Having some money in long-term funds and stocks, with some in money-market funds and bonds, is always a smart way to plan for the future and any bumps that may occur in the market.

What are Fixed Deposits?

Fixed deposits are loan arrangements where a specific amount of funds is placed on deposit under the name of the account holder. The money placed on deposit earns a fixed rate of interest, according to the terms and conditions that govern the account. The actual amount of the fixed rate can be influenced by such factors at the type of currency involved in the deposit, the duration set in place for the deposit, and the location where the deposit is made.

The most unusual characteristic of a fixed deposit is that the funds cannot be withdrawn for a specified period of time. In most cases, fixed deposits carry a duration of five years. During that time, the money remains in the account and cannot be withdrawn for any reason. Individuals, corporate entities, and even non-profit organizations that wish to set aside funds and limit their access to the funds for a period of time often find that fixed deposits are a simple way to accomplish this goal. As an added benefit, the monies in the account will earn a fixed rate of interest regardless of any fluctuations in interest rates that apply to other types of accounts.

However, both these benefits can also turn into disadvantages under certain circumstances. Because the money cannot be withdrawn until the duration is complete, the funds cannot be used even in emergency situations. Changes in the going interest rate may also rise to a point above and beyond the interest rate applied to existing deposits. This means account holders are actually earning less interest with fixed deposits than with other types of loans and accounts.

While the interest rate on fixed deposits cannot be changed, there is sometimes a way to work around the issue of obtaining use of funds in an emergency situation. At times, the lending institution where the fixed deposit is placed may be willing to extend a separate loan to the account holder, using the fixed account as collateral. While not ideal, this can at least make it possible to deal with the current financial crunch.

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Asset reconstruction is the handling of distressed assets to attempt to recover their value and clear them from the books. The problem of non performing loan/assets is a global one and has been receiving attention of banks, economist, regulators and public, alike. Internationally Asset Reconstruction Companies (ARCs) have been created to bring about a system for cleaning up Non Performing Assets (NPAs) from the books of secured lenders and bring the locked assets in circulation into the economy.

The word asset reconstruction company is a typical used in India.  Globally  the equivalent phrase used is “asset management companies”. The word “asset reconstruction” in India were used in Narsimham I report where it was  envisaged for  the setting up of a central Asset Reconstruction Fund with money contributed by the Central Government, which was to be used by banks to shore up their balance sheets to clean up their non-performing loans.   However, this never saw the light of the day and later on  Narsimham II floated the idea  asset reconstruction companies..

In last 15 years or so the a number of economies around the world have witnessed the problem of non performing assets.  A high level of NPAs in the banking system can severely affect the economy in many ways. The high level of NPAs leads to diversion of banking resources towards  resolution of this problems.  This causes an opportunity loss for more productive use of resources.  The banks tend to become risk averse in making new loans, particularly to small and medium sized companies. Thus, large scale NPAs when left unattended, cause continued economic and financial degradation of the country.  The realization of these problems has lead to greater attention to resolve the NPAs.  ARCs have been used world-wide, particularly in Asia, to resolve bad-loan problems. However, these  had a varying degree of success in different countries.   ARCs focus on  NPAs and allows the banking system  to act as “clean bank”.

ARC in India :

In India the problem of recovery from NPAs was recognized in 1997 by Government of India.  The Narasimhan Committee Report mentioned that an important aspect of the continuing reform process was to reduce the high level of NPAs as a means of banking sector reform.  It was expected that with a combination of policy and institutional development, new NPAs in future could be lower.  However, the huge backlog of existing NPAs continued to hound the banking sector.  It impinged severely on banks performance and their profitability. The Report envisaged creation of an  “Asset Recovery Fund” to take the NPAs off the lender’s books at a discount.

Accordingly, Asset Reconstruction Company (Securitization Company / Reconstruction Company) is a company registered under Section 3 of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest (SRFAESI) Act, 2002. It is regulated by Reserve Bank of India as an Non Banking Financial Company ( u/s 45I ( f ) (iii) of RBI Act, 1934).

RBI has exempted ARCs from the compliances under section 45-IA, 45-IB and 45-IC of the Reserve Bank Act, 1934. ARC functions like an AMC within the guidelines issued by RBI.

ARC has been set up to provide a focused approach to Non-Performing Loans resolution issue by:-

(a) isolating Non Performing Loans (NPLs) from the Financial System (FS),
(b) freeing the financial system to focus on their core activities and
(c) Facilitating development of market for distressed assets.

 Functions of ARC :

(i) Acquisition of financial assets (as defined u/s 2(L) of SRFAESI Act, 2002)
(ii) Change or take over of Management / Sale or Lease of Business of the Borrower
(iii) Rescheduling of Debts
(iv) Enforcement of Security Interest (as per section 13(4) of SRFAESI Act, 2002)
(v) Settlement of dues payable by the borrower


  • Relieving banks of the burden of NPAs would allow them to focus better on managing the core business including new business opportunities.
  • The transfer should help restore depositor and investor confidence by ensuring the lender’s financial health. ARCs are meant to maximise recovery value while minimizing costs.
  • ARCs can also help build industry expertise in loan resolution, besides serving as a catalyst for important legal reforms in bankruptcy procedures and loan collection.
  • ARCs can play an important role in developing capital markets through secondary asset instruments.

How Does ARC actually Works :

ARC functions more or less like a Mutual Fund. It transfers the acquired assets to one or more trusts (set up u/s 7(1) and 7(2) of SRFAESI Act, 2002) at the price at which the financial assets were acquired from the originator (Banks/FIs).

Then, the trusts issues Security Receipts to Qualified Institutional Buyers [as defined u/s 2(u) of SRFAESI Act, 2002]. The trusteeship of such trusts shall vest with the ARC. ARC will get only management fee from the trusts. Any upside in between acquired price and realized price will be shared with the beneficiary of the trusts (Banks/FIs) and ARC. Any downside in between acquired price and realized price will be borne by the beneficiary of the trusts (Banks/FIs).

What is ARCIL?

ARCIL is the first asset reconstruction company (ARC) in the country to commence the business of resolution of non-performing loans (NPLs) acquired from Indian banks and financial institutions. It commenced business consequent to the enactment of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (Securitisation Act, 2002). As the first ARC, Arcil played a pioneering role in setting standards for the industry in India. It has been spearheading the drive to recreate value out of NPLs and in doing so, it continues to play a proactive role in reenergizing the Indian industry through critical times.

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Reserve Bank of India recently launched Inflation Index Bond also known as Inflation-linked bonds or Inflation Indexed National Savings Securities. These bonds are launched in the backdrop of announcement made in the Union Budget 2013-14 to introduce instruments that will protect savings from inflation and also with increasing preference of investors for diversified instruments and to further improve the depth and width of G-Sec Market, it has been felt that Inflation Indexed bonds could be issued at the current juncture.

Inflation-indexed bonds are a new category of debt instruments introduced in India. These bonds were earlier issued in 1997 in the name of Capital Indexed Bonds but they are not in the market anymore due to:

a) Lack of an enthusiastic response of market participants for the instrument, both in primary and secondary markets.
b) Provided inflation protection only to principal and not to interest payment.
c) Complexities involved in pricing of the instrument.

Taking into account past experience as well as the internationally popular structure of Capital Indexed Bonds, a modified structure of Inflation Indexed Bonds has been designed will provide inflation protection to both principal and interest payments. The main reason for introduction of these bonds is to lure investors away from gold, the imports of which have widened India’s current account deficit and also to channelize savings into productive sources of instruments, especially the savings of the poor and middle classes.

Features of these bonds are:

  • Links its cash flow to actual inflation levels so that the real rate of return matches the nominal interest rate of the bond. In this way, both investors and issuers forgo the risks of fluctuating inflation levels in the future.
  • The Bonds will bear interest at the rate of 1.5% (fixed rate) per annum + inflation rate calculated with respect to final combined Consumer Price Index [(CPI) Base; 2010 = 100]. Final combined CPI will be used with a lag of three months to calculate incremental inflation rate (i.e. final combined CPI for September would be used as reference CPI for all days of December). Interest will be compounded with half-yearly rests and will be payable on maturity along with the principal.  E.g. CPI of 11.24% in November 2013 means you can expect to get 12.74% pa assuming the inflation stays at same level.
  • Although interest will be calculated every six months, investors will not receive periodic interest payments. The principal and accumulated interest will be paid when the bonds mature.
  • The Bonds shall not be tradable in the secondary market. The Bonds shall be eligible as collateral for loan from banks, Financial Institutions and Non-Banking Financial Company (NBFC).

How they will work?

  • As described, there will be two parts in the interest rate-consumer price inflation rate and a fixed rate of 1.5% per annum. The interest would be compounded every six month. For example, if inflation rate during the six months is 6%, then interest rate for this six months would be 6.75% (fixed rate of 0.75% calculated on a semi-annual basis and inflation rate of 6%).
  • The 1.5% fixed rate would also be the floor rate, which means that even if inflation turns negative, investors will earn at least 1.5%.
  • The tenure of these bonds will be 10 years and they will be available at all nationalised banks, HDFC Bank, ICICI Bank and ICICI Bank and Stock Holding Corporation of India
  • Limit of Investment: Minimum limit for investment in the bonds is Rs 5,000/- and maximum limit for investment is Rs 5,00,000/- per applicant per annum.
  • Issue Price: The Bonds will be issued at par, i.e. at 100.00 percent and will be for a minimum amount of Rs 5,000/- (face value) and in multiples thereof. Accordingly, the issue price will be Rs 5,000/- for every Rs 5,000/- (Nominal).
  • These securities will be issued in the form of Bonds Ledger Account (BLA). The securities in the form of BLA will be issued and held with RBI and thus RBI will act as central depository.
  • Applications for the Bonds in the form of Bonds Ledger Account will be available for sale till 31st March 2014 and will be received at:

(a) Branches of State Bank of India, Associate Banks, Nationalised Banks, three private sector banks (i.e. HDFC Bank Ltd., ICICI Bank Ltd., AXIS Bank Ltd.) and Stock Holding Corporation of India (SHCIL) during their working hours.
(b) Any other bank or number of branches of the banks and SHCIL where the applications will be received as specified by the Reserve Bank of India in this behalf from time to time.


The Bonds shall be repayable on the expiration of 10 (ten) years from the date of issue. The investor will be advised by the authorised bank one month before maturity regarding the ensuing maturity of Bonds advising them to provide a Letter of Acquaintance, confirming the NEFT/NECS account details, etc. to the authorised bank. If everything is in order, the investor will be paid within maximum five days of the maturity.

Early repayment/redemption before the maturity date is allowed after one year of holding from the date of issue for senior citizens, i.e. 65 and above years of age and for all others, after 3 (three) years of holding, subject to the penalty charges at the rate of 50% of the last coupon payable. Early redemption to be allowed only on coupon date. For example, if last payable coupon is Rs. 1,000/-, then Rs. 500 would be charged as penalty.

An example of cash flows/ compounding of principal for illustration purpose is as under:

Fixed rate 1.5% per annum

Issue/ Coupon/ maturity date

Fixed rate


Inflation rate

Interest rate (Compounding rate)



































































































































What does it mean for investors?

This is definitely a welcome product for retail investors. These bonds can be used to diversify and stabilize the portfolio. This is because their principal rises with inflation. But when inflation falls, the principal does not go below the issue amount.
These bonds are redeemed at the inflation-adjusted principal or the amount for which they were issued. These bonds will give more choice to savers, particularly those who are risk-averse and looking to get assured positive real returns. Like gold, these are a hedge against inflation and store of value. Investors who desire predictable real cash flow can include indexed bonds in their portfolio.

The interest is simple to calculate and gives returns above inflation which means your money is really growing. It is a highly safe investment and indexing it to CPI is the meaningful part as the ordinary investor will benefit from it. Since you get the bond through banks, it means that you will be able to access it easily. Remember that it is a long-term investment as you have to stay invested for at least 10 years. There is a lock-in period for the product. For senior citizens the lock-in period is one year and for other it is three years. RBI states that if redeemed before maturity, the penalty charges will be at the rate of 50% of the last coupon payable for early redemption. Hence, if you redeem before 10 years and after the lock-in, then there is a penalty. In absolute terms, it may not be much but if you consider the current rate of CPI inflation (10%) the charge could be at least 5% of your invested value—5% assuming that 50% of the last coupon payable refers to the actual value of the coupon.

Overall this is a good product with AAA rating and a sure above-inflation return. But there is no tax incentive. Interest on the Bonds will be taxable under the Income-Tax Act, 1961 as applicable according to the relevant tax status of the bonds holder.

Advantages of IINSS-C (Inflation Indexed National Savings Securities)

• Inflation has been high in India in recent years; this bodes good returns and protection from inflation by investment in IINSS-C (. The safety of the principal should not be a cause of concern as the bonds are a part of the government’s borrowing programme. IINSS-C will be considered at par with sovereign rated government securities (G-Secs).

• Even though IINSS-C will be taxed like fixed-deposits (FD), the interest can be substantially higher than FDs during a period of high inflation. Conversely, the returns can go lower than FDs, when inflation is low. FD rates can also go low when inflation dips and, hence, IINSS-C should be preferred over FD, as long as you have a commitment to stay with the product for a long term. For example, CPI of 11.24% in November 2013 means you can expect to get 12.74%pa (per annum) assuming inflation stays at the same level. With inflation levels fluctuating, the returns from IINSS-C will have a zigzag pattern. Scheduled commercial banks offer approximately 9%pa for 10-year FDs which is guaranteed for the full period.

• The product should be easy to purchase from banks; servicing it should not be an issue due to bank involvement. It can be used as collateral for loans from banks, financial Institutions and Non Banking Financial Companies (NBFC). The transferability is limited to nominee(s) on death of holder (only individuals).

• IINSS-C can be used to diversify one’s debt portfolio. Their advantage over bonds is that technically the principal is protected in IINSS-C. Selling bonds (taxable or tax-free) during high interest regime can result in getting a price lower than the principal. Early redemption of IINSS-C, after expiry of the lock-in period will ensure that you get back your principal even if inflation falls drastically; but you will take a beating due to the penalty on the coupon rate. It works more like bank FDs which have a penalty on premature withdrawal.

IINSS-C is more like FD, less like a bond. IINSS-C surely has an advantage over taxable and tax-free bonds for the conservative saver who does not like the volatility of the investment amount, based on market interest rates.

• IINSS-C should dissuade savers from buying gold for investment purposes. Beating inflation with gold has been a fallacy; IINSS-C should be an option for this segment as it will actually make your money grow at a rate higher than inflation. It can be an instrument for retirement savings.

Disadvantages of IINSS-

• The bonds are meant to be long-term savings instruments. They will not be tradable in the secondary market. Liquidity is certainly an issue with IINSS-C.

• Hefty penalty for early redemption is a major deterrent.

• The Finance Bill of 2012 had lowered the age of senior citizens from 65 years to 60 years for tax benefit purposes. The circular of RBI on IINSS-C, which states that 65 years has to be considered for qualifying as a senior citizen, has brought back the debate on senior citizen’s age.

• IINSS-C does not match the charm of public provident fund ( PPF) which allows Rs1 lakh investment in a year for tax deduction under Section 80C. Moreover, interest on PPF is tax free. IINSS-C may not even score over tax-free bonds, especially for savers in the 30% tax bracket. The recent tax-free bonds issues offered coupon rates of 8.66% and 8.76% for AAA and AA+ rated bonds, respectively, of 10-year tenors.

• Rate of interest on IINSS-C will be floating which may not be suitable for those in need of fixed income. Moreover, absence of income flow can make the product unattractive for senior citizens. I

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What is BCSBI ?
It is an independent and autonomous watch dog to monitor and ensure that the Banking Codes and Standards adopted by the banks are adhered to in true spirit while delivering their services.

Definition:-  In these Rules, unless the context requires otherwise:

  1. “Act” means the Societies Registration Act, 1860  in its application to the State of Maharashtra.
  2. “Chairman” means the Chairman of the Governing Council referred to in Rule 6 or 7.
  3. “Chief Executive Officer” means the Chief Executive Officer of the Society referred to in Rule 13, or as the as may be, in Rule 14
  4. “Memorandum” means the Memorandum of Association of the Society.
  5. “Representative” means an officer of the member bank, nominated by that bank to represent it.

About BCSBI :-

In November 2003, RBI constituted the Committee on Procedures and Performance Audit of Public Services under the Chairmanship of Shri S.S.Tarapore (former Deputy Governor) to address the issues relating to availability of adequate Banking Services to common man. The mandate to the Committee included identification of factors that inhibited the attainment of best customer services and suggesting steps to improve the quality of banking services to individual customers. The Committee felt that in an effort to continuously upgrade the package of services that banks offered to their customers there was a need of benchmarking of such services. After in depth study at the grass root level the Committee concluded that there was an institutional gap for measuring the performance of banks against a bench mark reflecting the best practices (Code and Standards). Therefore, the Committee recommended setting up of the Banking Codes and Standards Board of India broadly on the lines of Banking Codes and Standards Board functioning in U.K.

Among the existing institutional structures, the Scheme of Banking Ombudsman, which has been functioning for quite some time, does not look into systemic issues with a view to enforcing a prescribed quality of service. Ideally, such a function should be performed by a Self Regulatory Organisation but in view of the existing framework of the banking sector in India, it was felt that an independent, autonomous Board will be best suited for the function. Therefore, Dr. Y.V. Reddy, Governor, Reserve Bank of India, in his Monetary Policy Statement (April 2005) announced setting up of the banking Codes and standards Board of India in order to ensure that comprehensive code of conduct for fair treatment of customers was evolved and adhered to.

The Banking Codes and Standards Board of India has been registered as a separate society under the Societies Registration Act, 1860. Therefore, it would function as an independent and autonomous body.
The Banking Codes and Standards Board of India is not a Department of the RBI. Reserve Bank has agreed to lend it financial support for a limited period. It is an independent banking industry watch dog to ensure that the consumer of banking services get what they are promised by the banks.

To ensure that the Board really functions as an autonomous and independent watchdog of the Banking industry, the Reserve Bank also decided to extend financial support to the Board by way of meeting its full expenses for the first five years. This was to enable the Board to reach its economic critical mass that will make it truly independent in its functioning and take a view on any bank without its existence coming under any threat. On its part, RBI would derive supervisory comfort in case of banks which are members of the Board. In substance, the Board has been set up to ensure that common man as a consumer of financial services from the banking Industry is in a no way at a disadvantageous position and really gets what it has been promised.

The word Core Banking is used to describe the various services being offered by the banking system to its customers and this is done by the whole banking core branches. This facility makes it possible for the banks to get transfer their funds and other transactions to other core branch offices in a very easy and quick manner. Now, there is no need to get deposit and withdrawal of your cash in the same branch. You can deposit from any branch and get it withdrawal easily from the other branch.
This facility of core banking has been developed few years back and had led to the tremendous change in the banking system structure. It gives the freedom of choice to the customer to get done the transactions completed in his own way. The person is not bound to anyone. There are various and most bolded facilities offered by the core banking system solutions are described below:

• Automatic teller machine or ATM
• Electronic fund
• Transfers
• Tele-banking
• Internet banking
• Branch clearing facility for banking branch offices

The core banking systems has brought about a dramatic blast in the working schedule of the normal human being. When we come to the internet banking, it not only saves the precious time of common man but also give it ease to work as per his timings. Moreover, the inter branch reconciliation has also proved it faster and accurate. The introduction of new products and the databases in various banking branch offices also gets easier and simplified that new branches are now vastly reaching the core parts of the country.

The sudden and much faster advancement in the technology and its impact on the banking system solutions have provide a sigh of greater relief. The functions of the banking systems like passbook maintenance, interest calculations and various other book keeping records are kept aside as they can be done accurately and within no time.

Leave a comment below to discuss any queries.