COMMERCIAL BANKING IMP QUESTIONS AND ANSWERS

1. Explain principle of limited liability when it comes to existence

a) Legal Entity:
Limited liability refers to the legal concept where a business entity, such
as a corporation or a limited liability company (LLC), is considered a
separate legal entity from its owners or shareholders.

b) Financial Obligations:
Owners or shareholders of the business are not personally responsible for
the debts and obligations incurred by the business entity. Their liability is
limited to the amount of their investment in the company.

c) Protection of Personal Assets:

In the event of bankruptcy or lawsuits against the business, the personal
assets of the owners or shareholders, such as their homes or savings, are
generally shielded from being used to satisfy the business's debts.

d) Risk Management:
Limited liability encourages entrepreneurship and investment by reducing
the risk associated with starting or investing in a business. Investors are
more willing to contribute capital knowing that their personal assets are
protected.

e) Exceptions:
Limited liability protection may not apply in cases of fraud, illegal activities,
or if the owners have personally guaranteed the business's debts. In such
cases, creditors may be able to pierce the corporate veil and hold
individuals personally liable.
f) Legal Formalities:
To maintain limited liability protection, businesses must adhere to certain
legal formalities, such as maintaining separate financial accounts, holding
regular meetings, and following corporate governance procedures.

g) Investor Confidence:
Limited liability enhances investor confidence by providing a clear
understanding of the extent of their financial risk. It encourages
investment in businesses by reducing the fear of catastrophic financial
loss.

h) Economic Growth:
Limited liability has played a significant role in fostering economic growth
by facilitating capital formation, encouraging innovation, and enabling
businesses to undertake larger and riskier ventures.

Overall, limited liability is a fundamental principle of modern business law

that balances the interests of investors with the need to protect creditors
and promote economic development.

2. Explain the features of Payment Banks

i) Limited Services:
Payments banks are allowed to offer a limited set of banking services
compared to full-fledged banks. They primarily focus on providing basic
banking services such as savings accounts, remittance services, payment
and transfer services, and issuance of ATM/debit cards.

ii) Deposit Limit:

Payments banks can accept deposits from individuals and small
businesses, but there are restrictions on the maximum deposit amount per
customer. As of my last update, the limit was set at ₹2,00,000 (subject to
change based on regulations).
iii) No Credit Facilities:
Unlike traditional banks, payments banks are not allowed to provide credit
facilities such as loans or credit cards. They are strictly prohibited from
issuing loans or credit cards to their customers.

iv) Interest on Deposits:

Payments banks can offer interest on deposits held in savings accounts.
However, the interest rates offered by payments banks are usually lower
compared to those offered by full-fledged banks.

v) Partnerships and Tie-Ups:

Payments banks often form partnerships and tie-ups with other financial
institutions, telecom companies, or retail chains to expand their reach and
offer additional services such as insurance products, mutual funds, and
pension products.

vi) Technology-driven Operations:

Payments banks rely heavily on technology to deliver their services
efficiently and cost-effectively. They typically leverage mobile banking,
internet banking, and agent networks to reach customers in remote areas.

vii) Financial Inclusion:

One of the primary objectives of payments banks is to promote financial
inclusion by reaching out to unbanked and underbanked segments of the
population, including rural areas and low-income households.

viii) Regulatory Framework:

Payments banks are regulated by the Reserve Bank of India (RBI) under
the Payments and Settlement Systems Act, 2007, and are subject to the
same regulatory standards and compliance requirements as traditional
banks.
Overall, payments banks play a crucial role in expanding access to basic
banking services and promoting financial inclusion in India.

3. Difference between public sector BANK and private sector bank

Public Sector Banks Private Sector Banks

Meaning The banks which are The banks which are

controlled by the controlled by private
Government. companies or individuals.
Governing Act or Law Public sector banks are Private sector banks are
formed by passing an act registered under the Indian
in the parliament. Companies Act.
No. of Banks There are 12 public sector There are 21 private sector
banks in India. banks in India.
Customer Base The customer base of The customer base of
public sector banks is high. private sector banks is
comparatively low.
Interest Rate It offers low interest rate on It offers high interest rate
saving A/c and high on saving A/c and low
interest rate on loan. interest rate on loan.
Example Public sector banks Private sector banks
include State Bank of include ICICI Bank, HDFC
India, Union Bank of India, Bank, Axis Bank, and
Indian Bank, and Punjab Karnataka Bank.
National Bank.
4. What do you mean by reforms in banking sectors? Which committee
where established for banking sector reforms? Explain in short

Reforms in the banking sector refer to changes or improvements made to

enhance the efficiency, stability, and effectiveness of the banking system.
These reforms can include changes in regulations, policies, technology,
governance, and structure.

In India, several committees have been established over the years to

recommend reforms in the banking sector. Some of the prominent ones
include:

a) Narasimham Committee (1991): It recommended measures to

strengthen the banking system, including the recapitalization of banks,
reducing government interference, and improving transparency and
accountability.
b) Narasimham Committee II (1998): This committee focused on financial
sector reforms and recommended measures for strengthening
supervision, enhancing the autonomy of public sector banks, and
promoting greater competition in the banking sector.
c) Rangarajan Committee (1997): It examined the issues related to
banking sector reforms and recommended measures to improve asset
quality, strengthen regulatory mechanisms, and promote financial
inclusion.
d) Patel Committee (2014): Formed to review the monetary policy
framework, it suggested changes to improve the effectiveness of
monetary policy transmission and enhance the role of the Reserve
Bank of India (RBI) in regulating the banking sector.
These committees have played a significant role in shaping the banking
sector in India and implementing reforms aimed at promoting financial
stability, efficiency, and inclusiveness.

5. What is Capital Adequacy Ratio? Explain in detail with benefits to the

bank.

The Capital Adequacy Ratio (CAR) is a measure of a bank's capital in

relation to its risk-weighted assets. It's a regulatory requirement to ensure
that banks have enough capital to absorb potential losses from loans and
investments. CAR is typically calculated by dividing a bank's capital by its
risk-weighted assets, expressed as a percentage.

Here's a breakdown of its components:

• Capital: This includes both Tier 1 (core) capital and Tier 2

(supplementary) capital. Tier 1 capital consists of common equity and
retained earnings, while Tier 2 capital includes subordinated debt and
other less liquid instruments.
• Risk-weighted assets: These are the bank's assets adjusted for their
riskiness. For example, cash and government bonds carry lower risk
weights, while loans to individuals or businesses carry higher risk
weights.
Benefits to the bank:

▪ Financial Stability: Maintaining an adequate capital buffer helps banks

absorb unexpected losses, enhancing their financial stability. It
reduces the likelihood of bank failures or disruptions in the financial
system.
▪ Risk Management: By linking capital to the riskiness of assets, CAR
encourages banks to assess and manage risks more effectively. Banks
are incentivized to allocate capital efficiently across different types of
assets based on their risk profiles.
▪ Regulatory Compliance: Meeting CAR requirements ensures that
banks comply with regulatory standards set by banking authorities.
Non-compliance can lead to penalties or restrictions on banking
activities.
▪ Investor Confidence: A strong CAR signals to investors that the bank
is well-capitalized and capable of withstanding adverse economic
conditions. This can improve investor confidence and access to capital
markets.
▪ Lending Capacity: While maintaining adequate capital is a regulatory
necessity, it also allows banks to continue lending and supporting
economic growth. Banks with higher capital ratios may have more
capacity to extend credit to individuals and businesses.

Overall, the Capital Adequacy Ratio plays a crucial role in safeguarding

the stability of the banking system, promoting sound risk management
practices, and maintaining investor confidence.
6. Private sector banks and public sector banks which plays important role
in India & how?

Both private sector banks and public sector banks play important roles in
India's banking sector.

1. Public Sector Banks (PSBs):

• PSBs are owned and operated by the government.
• They have a significant presence across the country, especially in rural
and semi-urban areas, contributing to financial inclusion.
• PSBs often provide essential banking services to marginalized and
economically weaker sections of society.
• They support government initiatives such as priority sector lending,
agricultural loans, and social welfare schemes.
• PSBs have historically been instrumental in funding large-scale
infrastructure projects and supporting economic development
initiatives.

2. Private Sector Banks:

• Private sector banks are owned and operated by private individuals or
corporations.
• They are known for their efficiency, innovation, and customer service,
often providing a wider range of services and adopting advanced
technologies.
• Private banks play a crucial role in driving competition in the banking
sector, which leads to better services, products, and pricing for
consumers.
• They cater to the needs of various customer segments, including high-
net-worth individuals, corporates, and small and medium-sized
enterprises (SMEs).
• Private sector banks contribute to the overall growth of the economy
by efficiently allocating capital, promoting entrepreneurship, and
supporting businesses with credit facilities.

In summary, both types of banks have their distinct roles and contributions
to India's economy. Public sector banks focus on financial inclusion and
supporting government initiatives, while private sector banks emphasize
efficiency, innovation, and customer service, driving competition and
contributing to economic growth.

7. Banking sector play very important role in improving economic of

country? Explain in your own words.

Banks are the backbone of the economy, enabling the efficient allocation
of resources by collecting deposits from the public and channeling them
into productive investments. They play a key role in economic growth by
providing capital to businesses, individuals, and the government.

a) Capital Formation: Banks facilitate the accumulation of savings and

their investment in various sectors. These investments help in the
creation of new businesses, infrastructure, and jobs, thereby fostering
economic growth.
b) Facilitating Transactions: Banks provide a platform for the safekeeping
of money and the execution of transactions. This encourages economic
 activities and contributes to the circulation of money within the
economy.
c) Credit Creation: By extending credit, banks fuel consumption and
investment, which are essential for economic expansion. This credit
creation helps in stimulating demand and production, which in turn
supports economic growth.
d) Risk Management: Banks help in the management of financial risks by
providing various financial products such as insurance, derivatives,
and hedging instruments. By managing risk, banks contribute to
stability in the financial system.
e) Monetary Policy Transmission: Central banks use the banking sector
as a channel to implement monetary policy. Through mechanisms like
reserve requirements and interest rates, banks influence the supply of
money in the economy, which in turn affects economic activity.
f) Financial Inclusion: Banks play a crucial role in ensuring financial
inclusion by providing banking services to a broader segment of the
population. This helps in reducing poverty and inequality, contributing
to overall economic development.

In essence, the banking sector serves as the engine that drives economic
growth, providing the necessary financial infrastructure and services for
the efficient functioning of the economy.
8. Cooperative banks Boon or Bane for Indian banking sector with suitable
example.

Cooperative banks can be both a boon and a bane for the Indian banking
sector. While they play a crucial role in financial inclusion, especially in
rural areas, they also pose significant risks due to their governance and
regulatory challenges.

Boon:

Cooperative banks are a boon as they promote financial inclusion by

serving the banking needs of rural and semi-urban areas. A suitable
example is the Kerala-based Kerala State Cooperative Bank (KSCB). It
has significantly contributed to the agricultural and rural development of
the state. KSCB provides easy access to credit and other banking
services to farmers and small-scale industries, aiding in their growth and
development.

Bane:

However, cooperative banks can also be a bane due to governance

issues and regulatory challenges. The Punjab and Maharashtra
Cooperative (PMC) Bank crisis is a prime example. PMC Bank's
mismanagement and lack of regulatory oversight resulted in a severe
crisis, causing distress to thousands of depositors. The governance
issues and lack of strict regulatory oversight have raised concerns about
the stability and reliability of cooperative banks in India.
In conclusion, while cooperative banks are essential for financial inclusion,
the Indian banking sector needs to address the governance and
regulatory challenges to ensure their stability and reliability.