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1. 1
Project Report
An Empirical Study on Universal
Banking and its Potential for
Indian Market Consumers

2. 2
Introduction
Universal Banking is a multi-purpose and multi-functional financial supermarket (a
company offering a wide range of financial services e.g. stock, insurance and
real-estate brokerage) providing both banking and financial services through a
single window.
A Universal Banking is a superstore for financial products under one roof. In
practice the term 'universal banking' refers to those banks that offer a wide range
of financial services, beyond the commercial banking functions like Mutual Funds,
Merchant Banking, Factoring, Credit Cards, Retail loans, Housing Finance, Auto
loans, Investment banking, Insurance etc.
Universal banking is the opposite of narrow banking. Narrow banking legislation
would require banks to back their liabilities with safe assets, such as government
securities.

3. Narrow banking is the modern and more elaborated version of the “100 percent
reserve banking” principle, invoked by early economists to correct the inadequacy
of money reserve against the stock of banknotes in circulation. The benefits of
narrow banking are:
First, by locking bank assets in high-quality instruments, narrow banking regulation
would minimize bank liquidity and credit risk.
Second, since narrow banks would be prohibited from supplying risky loans and
would collateralize deposits with high-quality assets, confidence in the value of
their liabilities is tend to be increased.
Third, with payment system access restricted to narrow banks, payment would be
fully secure, because payment-system participants would be protected against
liquidity, credit, and settlement risks, and because any shock to non-banks would
be isolated, with no systemic fallout.
The Banking sector was opened up for the private sector in line with Narsimham
Committee’s recommendations.
3

4. The ICICI’s decision to turn itself into a universal bank ushered a new era in the
banking scenario. The second Narasimham Committee noted that the global trends in
banking industry towards consolidation and convergence led to the dismantling of
boundaries among suppliers of various financial products. The Khan Working Group
also recommended a progressive move towards universal banking and development
of enabling regulatory framework. It is contended that universal banking will result in
greater economic efficiency in the form of lower cost, higher output, and better
products and therefore is believed to be the panacea for beleaguered development
financial institutions (DFIs).
Conflict of interests was one of the major reasons for introduction of Glass-Steagall
Act of 1934 in United States. The Act prohibited commercial banks from collaborating
with full-service brokerage firms or participating in investment bank activities. The
Glass-Steagall Act was enacted during the Great Depression. It protected bank
depositors from the additional risks associated with security transactions. The Act was
dismantled in 1999. However, the enactment of the Gramm-Leach-Bliley Act (GLBA)
in November 1999 effectively repealed the long-standing prohibitations on the mixing
of banking with securities or insurance businesses and thus permitting “broad
banking”. The repeal of these prohibitions are due to the increasingly persuasive
evidence from academic studies of the pre Glass-Steagall era, the recent favourable
experience in the U.S. following partial deregulation of banking activities, the
experience of banking systems abroad with broader scopes for banking activities, and
rapid technological change in telecommunications and data processing.
4

5. THE CONCEPT OF UNIVERSAL BANKING
Large scale mergers, amalgamations and acquisitions between the banks and
financial institutions resulted in the growth in size and competitive strengths of
the merged entities. Thus, emerged new financial conglomerates, which could
maximize economies of scale and scope by building the production of financial
services organization, called Universal Banking. Universal Banking, means the
financial entities – the commercial banks, DFIs, NBFCs, - undertake multiple
financial activities under one roof, thereby creating a financial supermarket.
Universal banking generally takes one of the three forms: -
a. In-house Universal Banking. E.g. Germany
b. Through separately capitalized subsidiaries. E.g. England.
c. Operations carried through a holding company. E.g. USA. (Nair, 1998)
5

6. 6

7. Germany is one of the most commonly cited countries with a full universal banking
system. Edwards (1996) states that the supply of external finance in the model of
universal banking increases in line with the suppliers’ controlling power over their
borrowers’ behaviours. the contribution of universal banks to the economy should not be
only measured in terms of external funds they supply but also of improved information
flows as a result of banks’ improved capability to compare companies within an industry
and across industries within the whole economy.
Most large enterprises will hire managers, who usually are financial experts, to handle
daily business activities. The underlying problem is that these managers may be less
concerned about long-run prospects of the company while short-run profitability is of
their first priority. Their over-aggressiveness in maximizing short-run profits could
increase the risk of bankruptcy. The representation of banks thus acts as a buffer and
promotes the long-term financial health of enterprises.
After investigating the severity of moral hazard problems in association with the universal
banking system, it is suggested that when banks are allowed to take equity positions and
participate in the decision-making process of the companies, their incentives to control
moral hazard problems could be attenuated seriously. In addition, banks with controlling
rights might sometimes lead enterprises to misallocate their funds for the sole benefits of
the banks.
7

8. The difficulty in monitoring large universal banks is also a major concern. The
consequence of inefficient monitoring could lead to financial instability. Benston
(1994) states that universal banks tend to be larger so that collapse of a single bank
of this type could cause substantial distress in the financial system. When several of
those large universal banks are to collapse, this will greatly increase the risk to the
economy’s payments system. At the same time, it is more difficult to regulate
universal banks because of their close and complex ties to businesses. Hence,
financial regulators either have to regulate universal banks very tightly, thus hindering
economic efficiency, or be faced with the possibility of a taxpayer bailout.
THE NEED BEHIND THE ADVENT OF UNIVERSAL BANKING
1. To make pace with the present need of corporate. means there is a need of
developing a strong domestic financial system to cater the need of the corporate
sector. It is possible if banks have strong capital/asset base. It fortifies the
importance of Universal Banking. Along with that, the ongoing clamor of Mergers and
Acquisitions in the corporate sector, this needs financial assistance as well as
consulting. Indian banking, with the help of Universal Banking has technology edge
and better business models, compared to pre-liberalizations era, today they are able
to attract and gain more volumes simply because they meet their customers'
requirements better than anyone else.
2. . Funds Mobilization and Credit Rationing. The traditional activities of banks are
deposit taking and lending. Deposits are liabilities of banks, while funds extended by
banks to borrowers are their assets. The fundamental function of banks is to mobilize
available funds from the surplus units to the deficit units.
8

9. There are three basic mechanisms that banks apply in order to monitor their
borrowers. First, a bank can directly obtain information of the borrower’s cash flow
when the bank itself handles the borrower’s deposit account. The second arrangement
is more formal as restrictive covenants are stipulated in a loan contract. The borrower is
required to maintain a pre-set range of liquidity determined by the bank. Lastly, the bank
is granted the right to monitor the operation of the enterprises that borrow from them.
Universal banks often apply the last mechanism and maintain a close and extensive
connection with borrowers.
9

10. 10
SWOT Analysis
Strengths:
*Economies Of Scale: The main advantage of Universal Banking is that it results in
greater economic efficiency in the form of lower cost, higher output and better products.
•Profitable Diversions: By diversifying the activities, the bank can use its existing
expertise in one type of financial service in providing other types.
•* Resource Utilization: A bank possesses the information on the risk characteristics of
the clients, which it can use to pursue other activities with the same client.
•Easy marketing on the foundation a of Brand name: A bank has an existing network
of branches, which can act as shops for selling products like Insurance, Mutual Fund
without much efforts on marketing, as the branch will act here as a parent company or
source.
•* One stop shopping.
Investor friendly activities: A bank's equity holding in a borrower firm, acts as a signal
for other investors on to the health of the firm, since the lending bank is in a better
position to monitor the firm's activities.

11. Weaknesses:
* Grey area of Universal Bank: The biggest one is overcoming the differences in
regulatory requirements for a bank and DFI. Unlike banks, DFIs are not required to keep
a portion of their deposits as cash reserves.
* No expertise in long term lending: In the case of traditional project finance an area
where DFIs tread carefully, becoming a bank may not make a big difference.
* NPA problem remained intact: The most serious problem of DFIs have had to
encounter is bad loans or Non Performing Assets (NPA). but the IDBI has got worst hit
of NPAs, considering the negative developments at Dabhol Power Company (DPC).
Threats:
* Big Empires: There is a threat to the overall quality of the products of the bank,
because of the possibility of turning all the strengths of the Universal Banking into
weaknesses. (e.g. - the strength of economies of scale may turn into the degradation of
qualities of bank products, due to over expansion.
Opportunities:
* To increase efficiency and productivity: Fee based incomes will be more attractive
than mobilizing deposits, which lead to lower cost funds. To face the increased
competition, banks will need to improve their efficiency and productivity, 11
which will lead
to new products and better services.

12. •To get more exposure in the global market: In terms of total asset base and net
worth the Indian banks have a very long road to travel when compared to top 10 banks
in the world. (SBI is the only Indian bank to appear in the top 100 banks list of 'Fortune
500' based on sales, profits, assets and market value. It also ranks II in the list of Forbes
2000 among all Indian companies) as the asset base sans capital of most of the top 10
banks in the world are much more than the asset base and capital of the entire Indian
banking sector.
•* To eradicate the 'Financial Apartheid: businesses engaged in activities such as
fruits and vegetables vendors, laundry services, provision stores, petty shops and tea
stalls. 97% of them do not depend the banking system for funds. Not because they do
not want credit from banking sources, but because banks do not want to lend these
entrepreneurs. It is a situation of Financial Apartheid in the informal sector.
12

13. THE FUTURE TREND OF UNIVERSAL BANKING IN DIFFERENT COUNTRIES
International Scenario
Universal banks have long played a leading role in Germany, Switzerland, and other
Continental European countries. The principal financial institutions in these countries
typically are universal banks offering the entire array of banking services. Continental
European banks are engaged in deposit taking, real estate and other forms of lending,
foreign exchange trading, as well as underwriting, securities trading, and portfolio
management.
Salient Characteristics of the German and Swiss Banking Systems
It is certainly true that in countries like Germany and Switzerland large universal banks
with nationwide networks of branches play an important, if not dominant, role.
Universal Banking and Specialization
In Germany and Switzerland, financial institutions may be classified into broadly similar
groups: big banks, government-owned savings banks, regional banks, cooperative
banks, branches of foreign banks, and private banks. In addition, both countries feature
one of two remaining groups of diverse and highly specialized institutions.
Regional banks tend to be more specialized than the big institutions. The largest
German regional banks, however, have turned into truly universal institutions. In
Switzerland most of the regional banks, in fact, are small savings banks heavily engaged
in mortgage lending. These banks do not play a significant role in investment banking
and they are not active abroad.
13

14. Cooperative banks, like government-owned savings banks, are institutions focusing on
the savings business. Although initially conceived as self-help organizations, which
mainly accepted deposits from and lent funds to members of the cooperative, they
gradually evolved into universal banks when they set up central institutions, as was done
in Germany. In Switzerland, by contrast, cooperative banks remained less important, as
indicated by their respective shares in total assets of the banking system (Table 1). Due
to their small market share, Swiss cooperative banks have not expanded into universal
banking to any great extent.
Table 1 point to two striking differences in the structure of German and Swiss banks'
earnings. First, German institutions, as a whole, resemble more closely traditional
commercial banks than their Swiss counterparts. In Germany, the average ratio of
commission income to net revenue is much lower than in Switzerland. The relatively high
Swiss ratio reflects the important role played by Swiss banks in underwriting, securities
trading, and portfolio management. Second, in Germany, that ratio displays a much
smaller variability across the various banking groups than in Switzerland. In Germany it
fluctuates between 12 to 30 percent as compared to a range of 9 to 80 percent in
Switzerland. Thus, while German banks, on average, are less universal than their Swiss
counterparts, universal banking in Germany is more evenly spread across the various
groups of financial institutions than in Switzerland.
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15. Are the Objections to Universal Banking Justified?
There are four major objections to universal banking. In his study of the Glass-Steagall
Act, George Benston (1990) reviews critically these objections. In his view, the case for
separation of commercial and investment banking rests on weak foundations
1. Riskiness and Lender-of-Last Resort Problems
As a result of the recent collapse of the real estate market, many Swiss banks are
compelled to make provisions against bad mortgage loans. . If large institutions run into
solvency problems, central banks may be confronted with the dilemma of "too big to fail."
2. Conflicts of Interest
If universal bank attempts to hide blunders in underwriting by shifting unsaleable
securities to its trust department, its customers are likely to be confronted with relatively
low returns on their portfolio investments. Competitors, including specialized banks, have
an incentive to bid away customers from the low-performing universal institution. Thus,
market forces tend to induce universal banks to eradicate conflict-of-interest problems.
3. Concentration of Power
The intensification of competition and the regulatory changes mentioned earlier have
curbed the power of the big Swiss banks.
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16. The Future of Universal Banking
The German and Swiss experiences suggest that three factors will determine future
growth of universal banking. First, they are able to exploit economies of scale and scope
in banking. These economies are especially important for banks operating on a global
scale and catering to customers with a need for highly sophisticated financial services.
Second, although universal banks have expanded their sphere of influence, the smaller
specialized institutions have not disappeared. Third, No single type of universal banking
system exists. We have shown that the German and Swiss universal banking systems
differ substantially in this regard.
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17. 17
TABLE 1Banking Structure in Germany and Switzerland, 1991
Number of Banks(End of
Year)
Percentage Share of Banking
Group in Total Assets(End
of Year)
Germany
Big Banks
4
9
4 9
Regional Banks
198
14
198 14
Government-owned Savings
Banks
757 34
Saving Banks
746 20
Central Savings Banks
11
14
11 14
Cooperative Banks 3158 15
Credit Cooperatives 3154 11
Central Cooperative
Banks
4 4
Private Banks 84 1
Branches of Foreign Banks
60 1
Other Financial Institutions
102 25

18. Number of Banks(End of Year) Percentage Share of Banking
Group in Total Assets(End of
Year)
18
Switzerland
Big Banks 4 49
Regional & Savings Banks 189 8
Cantonal Banks 28 20
Cooperative Banks 2 3
Private Banks 19 1
Branches of Foreign Banks 16 1
Other Banks 222 16
Finance Companies 112 2
Total 592 100

19. 19
Commissions as Percentage of Net Revenue
Germany
Big Banks 26
Regional Banks 21
Government-owned Savings Banks 14
Saving Banks 14
Central Savings Banks 12
Cooperative Banks 1 16
Credit Cooperatives 14
Central Cooperative Banks 30
Private Banks 29
Branches of Foreign Banks 29
Other Financial Institutions n.a.
Total 18
Switzerland
Big Banks 47
Regional & Savings Banks 19
Cantonal Banks 21
Cooperative Banks 9
Private Banks 80
Branches of Foreign Banks 34
Other Banks 54
Finance Companies 32
Total 44
Sources:
Deutsche
Bundesbank
(1992a:
Tables 13,
22a;
1992b:42-
47), and
Swiss
National
Bank (1992:
Tables III, 1,
1; 40.0-40-
8).

20. UNIVERSAL BANKING IN INDIA
Indian Scenario
1. Commercial banks: . Ever since the process of liberalization hit the Indian shores, the
banking sector saw the emergence of new-generation private sector banks. . Off late,
commercial banks in India have been permitted to undertake a range of in-house
financial services. Some banks have even setup their own subsidiaries for their
investment activities. Subsidiaries include in the area of merchant banking, factoring,
credit cards, housing finance etc.
2. Financial Institutions
DFIs were traditionally engaged in long term financing, as their main objective was to
take care of the investment needs of industries and to contribute to a better industrial
climate.
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Indian Perspective on Universal Banking
The following are the issues which are key in Indian context.
i. Regulatory burden
ii. Regulatory requirements
iii. Distinction between maturity and duration
iv. Optimum Transition path

21. i. Regulatory burden: . DFIs in India are governed by separate Acts and banks are
regulated by RBI and Banking Regulation Act. In India there is an urgent need to
reduce the regulatory burden, particularly for banks vis-à-vis mutual funds and
insurance companies, if the banks are expected to compete in free market place.
ii. Regulatory requirements
Salient operational and regulatory issues of RBI to be addressed by the FI’s for
21
conversion into a universal bank
a) Reserve requirements. Compliance with the cash reserve ratio and statutory
liquidity ratio requirements (under Section 42 of RBI Act, 1934, and Section 24 of
the Banking Regulation Act, 1949, respectively) would be mandatory for an FI after
its conversion into a universal bank.
b) Permissible activities. Any activity of an FI currently undertaken but not
permissible for a bank under Section 6(1) of the B. R. Act, 1949, may have to be
stopped or divested after its conversion into a universal bank..
c) Disposal of non-banking assets. Any immovable property, howsoever acquired
by an FI, would, after its conversion into a universal bank, be required to be disposed
of within the maximum period of 7 years from the date of acquisition, in terms of
Section 9 of the B. R. Act.
d) Composition of the Board. Changing the composition of the Board of Directors
might become necessary for some of the FIs after their conversion into a universal
bank, to ensure compliance with the provisions of Section 10(A) of the B. R. Act,
which requires at least 51% of the total number of directors to have special
knowledge and experience.

22. e) Prohibition on floating charge of assets. The floating charge, if created by an
FI, over its assets, would require, after its conversion into a universal bank, ratification by
the Reserve Bank of India under Section 14(A) of the B. R. Act, since a banking
company is not allowed to create a floating charge on the undertaking or any property of
the company unless duly certified by RBI as required under the Section.
f) Nature of subsidiaries. If any of the existing subsidiaries of an FI is engaged in
an activity not permitted under Section 6(1) of the B R Act , then on conversion of the FI
into a universal bank, delinking of such subsidiary / activity from the operations of the
universal bank would become necessary since Section 19 of the Act permits a bank to
have subsidiaries only for one or more of the activities permitted under Section 6(1) of B.
R. Act.
g) Restriction on investments. An FI with equity investment in companies in
excess of 30 per cent of the paid up share capital of that company or 30 per cent of its
own paid-up share capital and reserves, whichever is less, on its conversion into a
universal bank, would need to divest such excess holdings to secure compliance with
the provisions of Section 19(2) of the B. R. Act, which prohibits a bank from holding
shares in a company in excess of these limits.
h) Connected lending. Section 20 of the B. R. Act prohibits grant of loans and
advances by a bank on security of its own shares or grant of loans or advances on
behalf of any of its directors or to any firm in which its director/manager or employee or
guarantor is interested. The compliance with these provisions would be mandatory after
conversion of an FI to a universal bank.
22

23. i) Licensing. An FI converting into a universal bank would be required to obtain a
banking licence from RBI under Section 22 of the B. R. Act, for carrying on banking
business in India, after complying with the applicable conditions.
j) Branch network An FI, after its conversion into a bank, would also be required to
comply with extant branch licensing policy of RBI under which the new banks are required
to allot at least 25 per cent of their total number of branches in semi-urban and rural areas.
k) Assets in India. An FI after its conversion into a universal bank, will be required to
ensure that at the close of business on the last Friday of every quarter, its total assets held
in India are not less than 75 per cent of its total demand and time liabilities in India, as
required of a bank under Section 25 of the B R Act.
l) Format of annual reports. After converting into a universal bank, an FI will be
required to publish its annual balance sheet and profit and loss account in the forms set out
in the Third Schedule to the B R Act, as prescribed for a banking company under Section
29 and Section 30 of the B. R. Act.
m) Managerial remuneration of the Chief Executive Officers. On conversion into a
universal bank, the appointment and remuneration of the existing Chief Executive Officers
may have to be reviewed with the approval of RBI in terms of the provisions of Section 35
B of the B. R. Act. The Section stipulates fixation of remuneration of the Chairman and
Managing Director of a bank by Reserve Bank of India taking into account the profitability,
net NPAs and other financial parameters. Under the Section, prior approval of RBI would
also be required for appointment of Chairman and Managing Director.
n) Deposit insurance. An FI, on conversion into a universal bank, would also be
required to comply with the requirement of compulsory deposit insurance 23
from DICGC up
to a maximum of Rs.1 lakh per account, as applicable to the banks.

24. o) Authorized Dealer's License. Some of the FIs at present hold restricted AD
licence from RBI, Exchange Control Department to enable them to undertake
transactions necessary for or incidental to their prescribed functions. On conversion
into a universal bank, the new bank would normally be eligible for full-fledged
authorised dealer licence and would also attract the full rigour of the Exchange
Control Regulations applicable to the banks at present, including prohibition on
raising resources through external commercial borrowings.
p) Priority sector lending. On conversion of an FI to a universal bank, the
obligation for lending to "priority sector" up to a prescribed percentage of their 'net
bank credit' would also become applicable to it .
Prudential norms. After conversion of an FI in to a bank, the extant prudential norms of
RBI for the all-India financial institutions would no longer be applicable but the norms
as applicable to banks would be attracted and will need to be fully complied with.
iii. Distinction between Maturity and Duration
The interim report of S H Khan committee has argued that the distinction between
commercial and investment banking have become increasingly blurred with banks
providing both working capital and term loans to corporates but DFIs can provide only
term loans as they cannot accept short term deposits. The committee further argued
that DFIs should be given banking licenses eventually and until then they should be
allowed to establish 100 percent banking subsidiaries while they continue to play their
present role.
iv. Optimal Transition path . The S H Khan working group and the discussion paper on
24
the subject prepared by RBI eventually felt that DFIs should transform themselves
into commercial banks but in a phased manner.

25. The RBI has asked FIs, which are interested to convert itself into a universal bank, to
submit their plans for transition to a universal bank for consideration and further
discussions.
In India Development financial institutions (DFIs) and refinancing institutions (RFIs) were
meeting specific sect oral needs and also providing long-term resources at concessional
terms, while the commercial banks in general, by and large, confined themselves to the
core banking functions of accepting deposits and providing working capital finance to
industry, trade and agriculture. Consequent to the liberalisation and deregulation of
financial sector, there has been blurring of distinction between the commercial banking
and investment banking.
Now RBI has asked FIs, which are interested to convert itself into a universal bank, to
submit their plans for transition to a universal bank for consideration and further
discussions. FIs need to formulate a road map for the transition path and strategy for
smooth conversion into a universal bank over a specified time frame. The plan should
specifically provide for full compliance with prudential norms as applicable to banks over
the proposed period.
IS UNIVERSAL BANKING GOOD OR BAD FOR THE COUNTRY?
Universal banking brings about convergence of financial services under one roof. The
initial impetus to the concept worldwide was the need to bring down the intermediation
costs. Universal banking, which may result in changed priorities of FIs, will seriously
hinder our efforts to build a manufacturing sector that can compete with the best on its
own terms.
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26. UNIVERSAL BANKING: THE MEANS AND THE ENDS ARE CONTROVERSIAL
Universal banking is about to become a reality. As a financial intermediary, banks
accepted deposits which they lent and the difference between the interest earned (from
the borrowers) and that paid (on deposits) called the spread has traditionally formed the
major part of their income.
To fund their long-term lending activities, DFIs looked to the government for cheap funds
and tax breaks. Part of the SLR securities which banks have been compelled to buy
were instruments issued by one of the DFIs. Banks meet their funding requirements by
accepting deposits of less than three year duration. At a larger level there is always the
need for setting up a level playing field for all-former DFIs which have converted to
universal banks as well the more established banks.
WHAT UNIVERSAL BANKING CAN RESULT FOR INDIA
With official committees recommending a move towards universal banking, DFIs, led by
ICICI, are getting set to storm the banking arena. With universal banking, banks will offer
a wide range of financial services, beyond solely commercial banking or investment
banking.
Advantages:
it results in greater economic efficiency
It enables asset diversification
It offers reasonable protection from economic cycles
26

27. In India, banks have traditionally been prime lenders for working capital loans and DFIs
financed term loans. Now, with DFIs told to move towards universal banking, banks have
been allowed to diversify into investments and long-term financing, and DFIs will lend for
working capital.
RBI has mentioned that DFIs would need to prepare a transition path in order to fully
comply with the regulatory requirement of a bank and such requests will be considered
on ‘case by case’ basis.
Services on offer ICICI IDBI SBI HDFC LIC
Insurance Yes No Yes Yes Yes
MF Yes Yes Yes Yes Yes
Banking Yes Yes Yes Yes Yes
Merchant banking Yes Yes Yes No No
Broking Yes Yes Yes Yes No
27
Retail finance
Housing Yes No Yes Yes Yes
Credit/debit cards Yes No Yes Yes No

28. SBI and LIC can be considered universal banks. SBI deals with MFs and investment
banking, and its insurance initiative with Cardiff SA brings it closer to the universal bank
objective. And LIC's move to acquire a stake in Corporation Bank makes it a serious
candidate. ICICI has begun reducing the number of its subsidiaries, and is planning to
merge with ICICI Bank, in a bid to turn into a universal bank in 12-18 months.
THE ROAD AHEAD TO INDIA
The choice between universal and specialized banking may affect interest rates,
underwriting costs, and the efficiency of secondary markets in securities. Furthermore,
the presence or absence of formal bank relationships may affect the quality of
investments undertaken, strategic decision-making, and even the competitiveness of
industry. A universal bank is a one-stop supplier for all financial products and activities,
like deposits, short-term and long-term loans, insurance, investment banking etc. Global
experience with universal banking has been varied. Universal banking has been
prevalent in different forms in many European countries, such as Germany, Switzerland,
France, Italy etc. Nevertheless, the United States has once again started moving
cautiously towards universal banking through the Gramm-Leach-Bliley Act of 1999 which
rolled back many of the earlier restrictions. Some recent phenomenon, like the merger
between Citicorp (banking group) and Travelers (insurance group) confirmed the fact
that universal banking is here to stay. a bank can reduce average costs and thereby
improve spreads if it expands its scale of operations and diversifies its activities. By
diversifying, the bank can use its existing expertise in one type of financial service in
providing the other types.
28

29. A bank’s equity holding in a borrower firm acts as a signal for other investors on the
health of the firm, since the lending bank is in a better position to monitor the firm’s
activities. This is useful from the investors point of view.
that commercial banks can enter insurance business either by acting as agents or by
setting up joint ventures with insurance companies. And the RBI allows banks to only
marginally invest in equity (5 per cent of their outstanding credit). Development financial
institutions (DFIs) can turn themselves into banks, but have to adhere to the statutory
liquidity ratio and cash reserve requirements meant for banks. Even then, some groups
like the HDFC (commercial banking and insurance joint venture with Standard
Assurance), ICICI (commercial banking), SBI investment banking) etc., have already
started diversifying from their traditional activities through setting up subsidiaries and
joint ventures. In a recent move, the Life Insurance Corporation increased its stakes in
Corporation Bank and is planning to sell insurance to the customers of the Bank.
Corporation Bank itself has been planning to set up an insurance subsidiary since a long
time. Even a specialized DFI, like IIBI, is now talking of turning into a universal bank.
Do Universal Banks Increase the Risk of Financial Instability?
Universal banks are said to be particularly vulnerable, because of their close ties to
business, particularly their role in underwriting and distributing securities. If one or
several universal banks were to collapse, it might lead to a systematic financial crisis,
possibly including a risk to the economy's payments system. . Although, compared to
commercial banking alone, returns from combined commercial and investment banking
(and other activities, such as mortgage banking, insurance, and real 29
estate investment)
would be significantly higher, and risk would be slightly higher.

30. Do Universal or Specialized Banks Enhance Economic Development More?
Some legislators and government officials believe that they can enhance economic
development by directing resources towards specific goals.
Will Universal Banks Deploy Capital as Efficiently as the Stock Market?
Critics of universal banking worry that such institutions will injure stock markets, because
when universal banks trade and hold equity securities, they are sometimes said to
discourage the development of an active stock exchange and independent stock brokers
and dealers. Universal banks also have certain advantages in restructuring firms. The
transactions cost of takeovers and mergers are high in a stock market system. and might
well be lower with a universal bank If, instead [of being restricted to loans], a bank were
to own the full range of classes of both the firm's debt and equity, the bank could gain
the control necessary to effect reorganization much more economically.
Will Universal Banks Crowd Out Other Financial Institutions?
Economies of scale and scope and efficiency indicate some advantage for universal
banks over specialized banks.
Will Universal Banks Reduce Consumer Choice?
Universal banks have neither significant economies of scale or scope nor great political
power. Second, even if universal banks were to dominate financial markets, consumers
could still patronize one bank for loans, another for underwriting, and a third for
securities trading. Consequently, consumers' choices would not necessarily decline.
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31. Can Universal Banks Give Impartial Investment Advice?
Many of the possible conflicts specified either do not disadvantage consumers or would
occur only if the bank were operated contrary to the interests of its shareholders.
FINDINGS
After considering issues of financial stability, economic development, competition among
financial institutions, concentration of economic and political power, consumer
choice, and conflicts of interest, I find that universal banking can provide
considerable benefits and would pose few problems for the economy.
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Considerations
Though, the above research results in Universal Banking being beneficial for India
customers offering various advantages, still, caution must be applied in implementing
Universal banking because of the following considerations:
1. Dis-intermediation (i.e. replacement of traditional bank intermediation between savers
and borrowers by a capital market process) .
2. There is an ample room for financial deepening (by banks & DFIs) since loan market
will continue to grow.
3. DFIs as a folder of equity in most of the projects promoted in the past have never
used the tool advantageously.
4. DFIs are now only moving into working capital finance, an area in which they need to
gain lot of expertise and this involves creation of network of services (including
branches) in all fields like remittances, collections etc.

32. 5. Reforms in the Indian capital market are still in the half way stage. The priority will be
to ensure branch expansions, financial deepening of credit markets, and creation of an
efficient credit delivery mechanism that can compete with the capital market.
Recommendations
The following are the steps suggested for successful implementation of Universal
Banking in India:
a. Equalise the net regulatory burden across the financial system (including banks, DFIs,
mutual funds, NBFCs and Insurance companies).
b. Lower the regulatory burden on the over regulated entities.
c. Promote and encourage strong competition.
d. Do not allow the merger of a weak bank with a viably strong DFI or vice-versa.
e. DFIs should be permitted to set up a 100 percent owned banking subsidiaries.
f. Need is felt to re-examine the minimum level of SLR requirement in order to meet the
best of international standards.
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33. CONCLUSION:
India’s financial sector is relatively bank-oriented, and banks are the primary supplier of
financial services. With the regulatory allowance for universal banking, Indian banks
continue to expand its coverage of financial services in response to customer demand
and profitability concerns. It is believed that the concept of financial supermarkets could
play a significant role in future given that an increasing number of transnational
companies have been set up in the region and also by the opening of Indian Banking
sector to foreign players.
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Thank You