ASSIGNMENT-1

FUND MANAGEMENT IN COMMERCIAL BANK

TOPIC: BANKING CONCEPT & MCQ

PONDICHERRY UNIVERSITY
M.COM (BF)
Regd. No- 20351060

Submitted to :- Dr. Natarajan

Submitted by :- Nikita Parida
 Concepts
1. Bank Liquidity :-
Liquidity in banking refers to the ability of a bank to meet its
financial obligations as they come due. It can come from direct
cash holdings in currency or on account at the Federal Reserve
or other central bank. More frequently, it comes from acquiring
securities that can be sold quickly with minimal loss. This
basically states highly creditworthy securities, comprising of
government bills, which have short term maturities.
Nevertheless, a bank’s liquidity condition, particularly in a crisis,
will be affected by much more than just this reserve of cash and
highly liquid securities. The maturity of its less liquid assets will
also matter. As some of them may mature before the cash
crunch passes, thereby providing an additional source of funds.
How Can a Bank Achieve Liquidity

 Shorten asset maturities

 Improve the average liquidity of assets
 Lengthen
 Liability maturities
 Issue more equity
 Reduce contingent commitments
 Obtain liquidity protection

2. Credit Creation :-
 Commercial banks create credit by advancing loans and
purchasing securities. They lend money to individuals and
businesses out of deposits accepted from the public. However,
commercial banks cannot use the entire amount of public
deposits for lending purposes. They are required to keep a
certain amount as reserve with the central bank for serving the
cash requirements of depositors. After keeping the required
amount of reserves, commercial banks can lend the remaining
portion of public deposits.

Example:
Let us learn the process of credit creation by commercial banks
with the help of an example. Suppose you deposit Rs. 10,000 in
a bank A, which is the primary deposit of the bank. The cash
reserve requirement of the central bank is 10%. In such a case,
bank A would keep Rs. 1000 as reserve with the central bank
and would use remaining Rs. 9000 for lending purposes. The
bank lends Rs. 9000 to Mr. X by opening an account in his
name, known as demand deposit account. However, this is not
actually paid out to Mr. X. The bank has issued a check-book to
Mr. X to withdraw money. Now, Mr. X writes a check of Rs.
9000 in favor of Mr. Y to settle his earlier debts. The check is
now deposited by Mr. Y in bank B. Suppose the cash reserve
requirement of the central bank for bank B is 5%. Thus, Rs. 450
(5% of 9000) will be kept as reserve and the remaining balance,
which is Rs. 8550, would be used for lending purposes by bank
B. Thus, this process of deposits and credit creation continues
till the reserves with commercial banks reduce to zero.

3. Asset – liability Management :-

Asset and liability management (ALM) is a practice used by
financial institutions to mitigate financial risks resulting from a
mismatch of assets and liabilities. ALM strategies employ a
combination of risk management and financial planning and are
often used by organizations to manage long-term risks that can
arise due to changing circumstances.

The practice of asset and liability management can include

many factors, including strategic allocation of assets, risk
mitigation, and adjustment of regulatory and capital
frameworks. By successfully matching assets against liabilities,
financial institutions are left with a surplus that can be actively
managed to maximize their investment returns and increase
profitability.
The concept of asset/liability management focuses on the
timing of cash flows because company managers must plan for
the payment of liabilities. The process must ensure that assets
are available to pay debts as they come due and that assets or
earnings can be converted into cash. The asset/liability
management process applies to different categories of assets
on the balance sheet.

4. Capital Adequacy Ratio :-

The capital adequacy ratio (CAR) is a measurement of a
bank's available capital expressed as a percentage of a bank's
risk-weighted credit exposures. The capital adequacy ratio, also
known as capital-to-risk weighted assets ratio (CRAR), is used to
protect depositors and promote the stability and efficiency of
financial systems around the world. Two types of capital are
measured: tier-1 capital, which can absorb losses without a
bank being required to cease trading, and tier-2 capital, which
can absorb losses in the event of a winding-up and so provides
a lesser degree of protection to depositors.
Calculating CAR
The capital adequacy ratio is calculated by dividing a bank's
capital by its risk-weighted assets. The capital used to calculate
the capital adequacy ratio is divided into two tiers.

5. Deposit Mobilization :-
Deposit mobilization is an integral part of banking activity.
Mobilization of savings through intensive deposit collection has
been regarded as the major task of banking in India.
Acceptance of deposits is the primary function of commercial
banks. As such, deposit mobilization is one of the basic
innovations in current Indian banking activity. Hence, in this
paper, an attempt is made to evaluate the trend and growth in
deposit mobilization of scheduled commercial banks in
Bhubaneswar in the period from 2008-09 to 2013-14. Three
different types of deposits, namely demand deposit, savings
deposit and term deposit is considered for the study taking BOB
and Axis Bank. The total number of deposits accounts and total
amount of deposits mobilized during the year from 2008-09 to
2013-14 in all scheduled commercial banks in India is gathered
from RBI bulletin. 

6. Security investment in commercial bank :-

Investment securities are a category of securities—tradable
financial assets such as equities or fixed income instruments—
that are purchased with the intention of holding them for
investment. As opposed to investment securities, in general,
securities are purchased by a broker-dealer or other
intermediary for quick resale.

Investment securities are subject to governance via Article 8 of

the Uniform Commercial Code (UCC).

Banks often purchase marketable securities to hold in their

portfolios; these are usually one of two main sources of
revenue, along with loans.
Investment securities held by banks as collateral can take the
form of equity (ownership stakes) in corporations or debt
securities.
7. Basel Norms :-
 Basel norms are international banking regulations issued
by the Basel Committee on Banking Supervision (BCBS).
 The Basel norms is an effort to coordinate banking
regulations across the globe, with the goal of
strengthening the international banking system.
 The Basel Committee on Banking Supervision (BCBS)
consists of representatives from central banks and
regulatory authorities of 27 countries (including India).
 Its secretariat (administrative office) is located at the Bank
of International Settlements (BIS) headquartered in the
city of Basel in Switzerland. Hence, the name Basel norms.
 The Basel Committee has issued three sets of regulations
as of 2018 known as Basel-I, II, and III.

BASEL-I
Basel-1 was introduced in the year 1988. It focussed primarily
on credit (default) risk faced by the banks.
As per Basel-1, all banks were required to maintain a capital
adequacy ratio of 8 %.
The capital adequacy ratio is the minimum capital requirement
of a bank and is defined as the ratio of capital to risk-weighted
assets.
The capital was classified into Tier 1 and Tier 2 capital.
  Tier 1 capital is the core capital of a bank that is
permanent and reliable. It includes equity capital and
disclosed reserves.
 Tier 2 capital is the supplementary capital. It includes
undisclosed reserves, general provisions, provisions
against Non-performing Assets, cumulative non-
redeemable preference shares, etc.

BASEL-II
Basel-II was issued in 2004.
This framework is based on three parameters.

 Minimum capital requirements: Banks should continue to

maintain a minimum capital adequacy requirement of 8%
of risk-weighted assets. However, the definition of capital
adequacy ratio was refined. Also, Basel-II divides the
capital into 3 tiers. Tier-3 capital includes short-term
subordinated loans. (subordinated loans means lower in
the ranking. It is repaid after other debts in case of bank
liquidation.)
 Regulatory supervision: According to this, banks were
required to develop and use better risk management
techniques in monitoring and managing all the three types
of risks that a bank faces, viz. credit, market, and
operational risks
 Market Discipline: It increased disclosure
requirements. Banks need to mandatorily disclose their
CAR, risk exposure, etc to the central bank.
Presently India follows Basel-II norms.

BASEL-III
Basel-III was first issued in late 2009. The guidelines aim to
promote a more resilient banking system.

 Capital: The capital adequacy ratio is to be maintained

at 12.9 %. The minimum Tier 1 capital ratio and the
minimum Tier 2 capital ratio have to be maintained at 10.5
% and 2 % of risk-weighted assets respectively.
 In addition, banks have to maintain a capital conservation
buffer of 2.5%.
 Counter-cyclical buffer is also to be maintained at 0-2.5%.
 The leverage rate has to be at least 3 %. The leverage rate
is the ratio of a bank’s tier-1 capital to average total
consolidated assets.
 Liquidity: Basel-III created two liquidity ratios: LCR and
NSFR. The liquidity coverage ratio(LCR) will require banks
to hold a buffer of high-quality liquid assets sufficient
to deal with the cash outflows encountered in an acute
short term stress scenario as specified by supervisors. The
minimum LCR requirement will be to reach 100% on 1
January 2019. This is to prevent situations like “Bank Run”.
The goal is to ensure that banks have enough liquidity for a
30-days stress scenario if it were to happen. On the other
hand, the Net Stable Funds Rate (NSFR) requires banks to
maintain a stable funding profile in relation to their off-
balance-sheet assets and activities. NSFR requires banks to
fund their activities with stable sources of finance (reliable
 over the one-year horizon). The minimum NSFR
requirement is 100 %. Therefore, LCR measures short-term
(30 days) resilience, and NSFR measures medium-term (1
year) resilience.

8. Investment policy of Commercial Banks :-

A bank makes investments for the purpose of earning profits.

First it keeps primary and secondary reserves to meet its
liquidity requirements.
This is essential to satisfy the credit needs of the society by
granting short-term loans to its customers. Whatever is left
with the bank after making advances is invested for long period
to improve its earning capacity.
Before discussing the investment policy of a commercial bank,
it is instructive to distinguish between a loan and an investment
because the usual practice is to regard the two as synonymous.
The bank gives a loan to a customer for a short period on
condition of repayment.
It is the customer who asks for the loan. By advancing a loan,
the bank creates credit which is a temporary source of fund for
the bank. An investment by the bank, on the other hand, is the
outlay of its funds for a long period without creating any credit.
A bank makes investments in government securities and in the
stocks of large reputed industrial concerns, while in the case of
a loan the bank advances money against recognized securities
and bills. However, the goal of both is to increase its earnings.
The investment policy of a bank consists of earning high returns
on its unloaned resources. But it has to keep in view the safety
and liquidity of its resources so as to meet the potential
demand of its customers.
Since the objective of profitability conflicts with those of safety
and liquidity, the wise investment policy is to strike a judicious
balance among them. Therefore, a bank should lay down its
investment policy in such a manner so as to ensure the safety
and liquidity of its funds and at the same time maximise its
profits. This requires adherence to certain principles.

9. Bank Capital :-
Bank capital is the difference between a bank's assets and
its liabilities, and it represents the net worth of the bank or its
equity value to investors. The asset portion of a bank's capital
includes cash, government securities, and interest-earning
loans (e.g., mortgages, letters of credit, and inter-bank loans).
The liabilities section of a bank's capital includes loan-loss
reserves and any debt it owes. A bank's capital can be thought
of as the margin to which creditors are covered if the bank
would liquidate its assets.
Types of Bank Capital

Banks have to maintain a certain amount of liquid assets in

correspondence to its risk-weighted assets. The Basel accords
are banking regulations that ensure that the bank has enough
capital to handle the operations and obligations.
There are three types:

 Tier 1 capital
 Tier 2 capital
 Tier 3 capital

Functions

1. Bank capital acts as a protection to the bank from

unexpected risks and losses.
2. It is the net worth available to the equity holders.
3. It gives assurance to the depositors and the creditors that
their funds are safe, and it indicates the ability of the bank
to pay for its liabilities.
4. It funds for expansion in banking operations or for the
procurement of any assets.

10. Commercial loans :-

A commercial loan is a debt-based funding arrangement
between a business and a financial institution such as a bank. It
is typically used to fund major capital expenditures and/or
cover operational costs that the company may otherwise be
unable to afford. Expensive upfront costs and regulatory
hurdles often prevent small businesses from having direct
access to bond and equity markets for financing. This means
that, not unlike individual consumers, smaller businesses must
rely on other lending products, such as lines of credit,
unsecured loans or term loans.

Short Term Loans:

Lines of Credit. :-
A line of credit is a type of loan that allows you to draw money
as you need it up to your credit limit.
Accounts Receivable Loan
The checks are in the mail, but you need cash now. An accounts
receivable loan allows you to pay monthly operating expenses
while waiting for payments from customers.  This type of loan is
based on having credit worthy customers.
Long Term Loans:
Long term loans provide a set amount of capital for a particular
need. These loans are funded all at once and then paid back
over a specified length of time, generally 5 to 15 years. Term
loans are secured with cash, inventory, equipment, securities,
or real estate. Unsecured term loans are also available.
Equipment and Vehicle Loans
Purchase computers, heavy equipment, new or used cars, vans,
trucks or other machinery. Repayment terms are dependent
upon type and age of collateral.
Real Estate Loans
Financing is for purchase, refinance, or construction of office
buildings, apartments, retail buildings, industrial buildings,
medical/dental offices or warehouses. Options include owner-
occupied or income-producing financing, interim, or permanent
financing. Collateral is usually the property acquired or
refinanced.
Construction Loan
Help pay for construction costs, such as materials and labor,
with an interim construction loan until your commercial, retail,
or residential development project can be refinanced. Try to
incorporate the purchase of the land as part of the construction
loan, which can save you time and money. Real estate to be
improved and building materials are used as collateral.
Land and Subdivision Development
This type of loan allows you to purchase a lot to build on or buy
land to subdivide. Subdivision loans usually allow up to 18
months to subdivide, improve and begin selling. Lot loans
usually allow up to five years.
Commercial Fishing Loan
Commercial fishing loans cover vessels and all types of fishing
and processing gear or financing for the purchase of Individual
Fishing Quotas (IFQs). Loans will be structured to fit the
seasonal nature of the business.
Letters of Credit
Documentary and stand-by letters of credit are arrangements
often used by import/export business, contractors and travel
agencies to serve as assurance of payment. Documentary
letters of credit are usually for less than six months. A stand-by
letter of credit may be renewed annually. A letter of credit
serves as a guarantee that the vendor you're working with will
get paid. You apply to your bank or credit union for a letter of
credit using cash, real estate or other business assets as
collateral. Once you're approved, your lender will draw up an
official letter of credit with a specific dollar amount guaranteed
to a specific vendor. 

20 Multiple Choice Questions (MCQs)

Q1. Current account deposits are

a) Non repayable
b) Non repayable on demand
c) Repayable on demand
d) None of these

Q2. What is Repo Rate?

a) Rate at which RBI allows temporary loan facilities to
commercial banks against government securities only on the
condition that the bank will repurchase the securities within a
short period.
b) Rate offered by banks to their prime customers.
c) When any bank has excess cash, securities are bought from
RBI against cash with the condition that they will resell the
securities to RBI on a pre fixed day and price.
d) When a bank is in need of cash it can discount bills of
exchange and avail loan facilities from Reserve Bank of India.
Q3. Which is the first commercial bank incorporated by the
Indians in 1881?
a) Imperial Bank Of India
b) Awadh Commercial Bank
c) Reserve Bank Of India
d) State Bank Of India

Q4.By performing open market operation transactions, RBI

regulates which of these factors
a) Borrowing power of the commercial banks
b) Inflation
c) Money supply in the economy
d) Both B & C

Q.5 When RBI increases the cash reserve ratio (CRR), it will
a) Decrease money supply in the economy
b) Increase money supply in the economy
c) Increase supply initially but decrease automatically later on.
d) No impact on money supply in the economy

Q6. Canara Bank is an example of

a) Private Bank
b) Public Bank
c) Foreign Bank
d) None of these

Q7. Banking sector falls under which of the following sectors?

a) Industrial sector
b) Service sector
c) Manufacturing sector
d) None of these

Q7. What is known as ‘Lender of Last Resort’?

a) Whenever the government declares a debt relief, the RBI will
have to bear the brunt of it.
b) If a person or firm which is eligible to get a loan, does not get
it from any commercial bank, may approach the Reserve Bank
of India for a loan.
c) If the state governments are in crisis and need money for
short term , they can approach RBI for this purpose
d) If a commercial bank is in crisis, it may place its reasonable
demand for accommodation to Reserve Bank of India

Q8. The most widely used tool of monetary policy is known as?
a) Open market operations
b) Discount rate
c) Issuing of notes
d) None of these

Q9. NBFC stands for

a) New banking finance company
b) New business finance and credit
c) National banking and Finance Corporation
d) Non banking financial company

Q10. Which is the primary activity of a commercial bank?

a) Maintaining deposit accounts including current accounts
b) Issue and pay cheques
c) Collect cheques for the bank’s customers
d) All of these

Q11. Which is the Agency Function of Commercial Banks ?

(a) Advancing Loans
(b) Accepting Deposits
(c) Act as Trustee
(d) Locker Facility
Q12. Commercial banks:
(a) Issue currency notes
(b) Accepts deposits from customers
(c) Provide loans to customers
(d) Only (b) and (c)

Q13. In which year was the Banking Regulation Act passed?

a) 1949
b) 1955
c) 1959
d) 1969
Q14. The most widely used monetary policy tool among these
is?
a) Open market operations
b) Issuing of notes
c) Close market operations
d) Discount rate

Q15.By performing open market operation transactions, RBI

regulates which of these factors
a) Borrowing power of the commercial banks
b) Inflation
c) Money supply in the economy
d) Both B & C

Q16. How many types of bank deposits used in India

a) 2
b) 5
c) 3
d) 4

Q17.Stock exchange is known as __________ market for

securities.
a) Primary market
b) Secondary market
c) Capital market
d) None of the above

Q18.Which of the following are the instruments of money

market?
a)Call money
b) Certificate of deposits
c) Trade bills
d) All of the above

Q19“Money is what money does” – who said?

a) Crowther
b) Robertson
c) Walker
d) Marshall

Q20.BASEL NORMS are related to the:

a) Insurance sector
b) Telecommunication
c) Real estate
d) Banking sector