Types of

Banking
Operations
Duke Ghosh, Ph.D.
2022
 Maturity Transformation
• Banks face two sets of agents
• Set A: Agents with surplus loanable funds
• Set B: Agents with deficit of funds (but with investment needs)
• Banks are intermediaries that facilitate transfer of funds from Set A to Set B
(Hicks, 1946)

• Banks take advantage of:

• An environment with Positively sloped Yield Curve
• Short term liquidity requirement of Set A
• Long term Investment Projects of Set B
• Short term deposits are used to make Long Term Loans
• Banks, in the process, earns a Net Interest Spread
 Risks in Maturity Transformation
• Credit Risk & Interest Rate Risk
• Liquidity risk
• Banks charge a premium (fee) for assuming such risks
• Funding risks (Brunnermeier and Oehmke, 2013)
• Need for roll over short term liabilities
• Cost of short term liabilities may increase
• Banks have incentives to increase exposures to maturity transformation
• Brunnermeier & Oehmke (2013) calls this “Maturity Rat Race”
• Excessive financial maturity transformation may lead to collapse of banks and
the entire financial system (IMF, 2013)
Maturity Profile of Deposits and Loans by
Indian Banks
Table IV.3: Bank Group-wise Maturity Profile of Select Liabilities/Assets
(As at end-March)
(Per cent to total under each item)
PSBs PVBs FBs SFBs PBs All SCBs
Liabilities/Assets
2019 2020 2019 2020 2019 2020 2019 2020 2019 2020 2019 2020

1 2 3 4 5 6 7 8 9 10 11 12 13
I. Deposits                        

a) Up to 1 year 43.6 40.4 42.9 38.1 64.2 63.9 59.6 59.6 - 10.0 44.4 40.9

b) Over 1 year and up to 3 years 22.4 22.8 26.8 28.1 28.6 28.3 36.7 37.5 - 90.0 24.0 24.8

c) Over 3 years and up to 5 years 10.7 10.2 9.5 8.5 7.2 7.7 0.6 0.7 - - 10.2 9.5

d) Over 5 years 23.3 26.6 20.9 25.3 0.03 0.03 3.1 2.2 - - 21.5 24.7
II. Borrowings                        

a) Up to 1 year 61.6 49.7 47.9 51.5 87.5 83.9 40.0 41.1 - - 57.4 53.0

b) Over 1 year and up to 3 years 14.1 27.6 19.9 24.4 8.1 9.8 44.9 44.0 - - 16.5 25.0

c) Over 3 years and up to 5 years 8.3 13.0 14.1 11.2 1.8 2.2 10.9 11.3 - - 10.4 11.3

d) Over 5 years 16.0 9.7 18.1 12.9 2.6 4.1 4.2 3.6 - - 15.6 10.7
III. Loans and Advances                        

a) Up to 1 year 25.7 25.2 31.4 32.3 57.9 61.4 44.1 38.1 - - 29.1 29.3

b) Over 1 year and up to 3 years 41.6 40.3 34.0 33.6 22.1 19.3 34.7 42.4 - - 38.1 37.1

c) Over 3 years and up to 5 years 12.4 11.0 12.9 12.7 7.4 7.1 9.6 9.0 - - 12.4 11.4

d) Over 5 years 20.4 23.5 21.6 21.5 12.5 12.1 11.6 10.4 - - 20.4 22.2

IV. Investments                        

a) Up to 1 year 17.9 22.3 51.7 54.3 82.6 82.5 66.3 59.0 - 100.0 33.3 36.8

b) Over 1 year and up to 3 years 13.5 12.9 16.5 15.1 10.9 10.9 20.3 26.3 - - 14.2 13.4

c) Over 3 years and up to 5 years 13.5 10.7 8.2 6.8 2.2 2.2 1.3 3.1 - - 11.0 8.8

d) Over 5 years 55.1 54.1 23.6 23.8 4.2 4.5 12.1 11.6 - - 41.5 41.0

Note: The sum of components may not add up to 100 due to rounding off.
Source: Annual accounts of banks.
Maturity Profile in India
Maturity Profile of Deposits & Loans of PSB and Maturity Profile of Deposits and Loans for PSBs
PVB (2019) and PVBs (2020)
100 90

90 80

80 70

70 60

60 50

50 40

40 30

30 20

20 10

10 0
Upto 1 Year Over 1 year and up to Over 3 years and up to Over 5 years
0 3 years 5 years
Upto 1 Year Over 1 year and up to Over 3 years and up to Over 5 years
3 years 5 years Deposits Loans

Deposits Loans

Source: Operations and Performance of Commercial Banks, RBI, 2020

 Generic Balance Sheet of Banks

Sources of Funds Application of Funds

• Capital • Cash Balances with RBI
• Reserves & Surplus • Balances with Banks & Money at Call and Short
• Demand Deposits Notice
• Time Deposits • Investments in G-Sec in India
• Borrowings • Investments in G-Sec outside India
• Other Liabilities & Provisions • Investments in other securities
• Loans & Advances
• Bills Purchased & Discounted
• Cash Credit & Overdrafts
• Term Loans

Source: RBI (2020): Report on Trends and Progress of

• Fixed Assets
Banking in India • Other Assets
 Criteria for Recognizing Segments in a Bank
• Segments of operations are to be
identified (AS-17)
• International Convergence of Capital
Measurement and Capital Standard: A Orientation
Criterion
Revised Framework (2004) of BIS lays
down 4 criteria for defining segments in
bank credits Product
Criterion
• Framework is also known as BASEL-II
Norms
Value of Granularity
Exposure Criterion
Functions of a Bank

Retail

Corporate
(Wholesale)
Banking
Universal

International
 Retail Banking
• Dealing of commercial banks with individual customers
• Both on the assets and liabilities sides
• Liabilities
• Fixed Deposits
• Savings Bank Accounts
• Current Accounts
• Loans
• Housing Loans
• Educational Loans
• Personal Loans
• Etc.
 Retail Banking: Link with BASEL Criterion
• Orientation
• Individual & Small Business Entities
• Products
• Deposits, Loans (Credits and Revolving Lines of Credits) and Non-Fund Based
Exposures
• Credit Cards, Other Cards, Depository Services
• Granularity
• On the asset side no exposure to counterparts < 0.2% of the overall portfolio
• Value of Individual Exposures
• On the asset side exposures upto Rs. 5.00 Crores
 Merits of Business Model of Retail Banking
• Diversification of Portfolio
• Large number of customers (with low individual exposures)
• Mitigation of Payment risk
• Investments in gradually maturing Assets
• Investments in liquid Sovereign Securities
• Can be liquidated easily in Secondary Markets
• Mitigation of Credit Risks
• Credit underwriting
• Deposit accounts help in understanding the financial health of the customers
• Liens on deposits
• Collateralized Loans
• Both lien and collateral help to reduce the Loss Given Default (LGD)
 Wholesale Banking
• Smaller number of customers but with larger deposits and loan amounts
• Also called Corporate Banking/Business Banking in India
• Caters to large Companies, Trusts, Societies and other entities
• Substantial part of exposures are Off-Balance Sheet Items
• Non-Fund Based Facilities
• From operation and business perspective wholesale and retail banking may
have synergistic relations
• Cross Selling Opportunities
 Multinational Banking
• Let us consider Citibank NA
• It has headquarters in USA
• It has branches and offices in countries other than US (say, Germany, India, etc.)
• Customers in any country (say, in India) can obtain banking services in INR, USD, EUR, etc.
• Provided the transactions don’t violate the provisions in Indian Banking Laws
• The above holds true an Indian Bank (say, SBI)
• It operates in many countries through own branches and Representative Offices
• Representative offices have limited powers compared to branches
• Multinational Banks may also operate in other countries through Correspondent
Banks
• Correspondent banks (Banks in Foreign Countries) help in transactions concerning
remittances of funds
 Modes of International Transactions
Deposits Loans Category
From Depositors in Home Country To Borrowers in Foreign Country Cross Border Loan
From Depositors in Foreign Country To Borrowers in Foreign Country Cross Border Deposit/Loan
From Depositors in Home Country To Foreign Banks Cross Border Loan
From Depositors in Foreign Country To Foreign Banks Cross Border Deposit/Loan

The ratio, measures the distinction between global and international banking
• Ratio = 1 for a purely global bank
• Ratio = 0 for a purely international bank
Data for India
• RBI (2021): Survey on International Trade in Banking Services
 Eurocurrencies
• Currencies deposited outside the country to which it belongs
• JPY deposited in a Bank in India is Eurocurrency
• USD deposited in a Bank in Nigeria is Eurocurrency
• GBP deposited in a Bank in Mexico is Eurocurrency
• INR deposited in a Bank in Japan is Eurocurrency

• Foreign Currency denominated deposits made in a country are Eurocurrencies

• Home Currency denominated deposits with Banks in a Foreign country are
Eurocurrencies
 A Simple example to understand the
dynamics of Eurocurrency markets
• Key questions
• (a) Are banks operating in the Eurocurrency market act like financial intermediaries
redistributing liquidity?
• Do they merely redirect credit?
• (b) Are the banks in this market impact money supply on a global basis?
• Can they create money?
• If (b) holds true, then banks operating in this market can impact inflation by
affecting global money supply
 A set of Eurodollar transactions
• We assume that there is only 1 bank in the US Bank/Particulars Assets (USD Mn) Liabilities (USD Mn)
• This bank represents the US banking system US Bank – Demand 0 -10
Deposit (Buyer in US
has withdrawn)
• Banks in Eurodollar market are called Eurobanks US Bank – Time 0 +10
Deposit (Time Deposit
• These banks are from other countries by Eurobank A)
• They keep Dollars in the form of Time Deposits in the US
Net Change in US 0 0
Bank
Eurobank A – Demand 0 +10
Deposit (Indian
• On 1st August 2022, an Exporter in India receives Exporter has
deposited)
USD 10 Mn from a US buyer.
Eurobank A – Deposit 10 0
• Exporter in India does not convert USD with US Bank
• Deposits USD in Eurobank A (in India) Net Change in India 10 10
• Eurobank A deposits USD in the US Bank
• There is no change in Money Supply in the US
• Ownership of Deposits have changed
 Set of Transactions…Contd.
• Suppose Eurobank A decides to deposit Bank/Particulars Assets (USD Mn) Liabilities (USD Mn)

USD with Eurobank B by liquidating the US Bank – Resident Deposit 0 -10

proceeds from the Account with the US US Bank – Bank Deposit

(Eurobank B has deposited
0 +10

Bank with US Bank)

Net Change in US 0 0
• Because of Money Market operations
Eurobank A – Deposit with -10 0
• Eurobank B redeposits with the US Bank US Bank
Eurobank A – Deposit with +10 0
Eurobank B
Net Change in India 0 0

• What is the likely Impact? Eurobank B – Bank Deposit 0 +10

(from Eurobank A)
• No effect in US Eurobank B – Deposit with +10 0
• Size of the Eurodollar Deposits with US Bank
Net Change in the Country +10 +10
Eurobanks have increased of Eurobank B
• Resident deposit in India = USD 10 Million
• Bank deposit with Eurobank B = USD 10 Million
 Set of transactions…Contd.
• Suppose Eurobank B decides to Bank/Particulars Assets (USD Mn) Liabilities (USD Mn)

liquidate the proceeds from the

US Bank – Resident Deposit 0 +10

US Bank – Bank Deposit 0 -10

Account with the US Bank and lend (Eurobank B)

USD 10 Mn to a Borrower in the US

Net Change in US 0 0

Eurobank B – Loan to +10

• The borrower redeposits the amount in Customer

the US Bank (Assumption) Eurobank B – Deposit with

US Bank
-10 0

Net Change in the Country 0 0

• What is the impact? of Eurobank B

• No change in the US Banking System

 A Simple Model for working of Eurocurrency
Markets
• Assume that in the US there is only 1 Bank
• This Bank represents the Banking system in the US

• Ignoring Equity of the Bank (since Equity is Constant and forms a small portion of the Balance
Sheet)
 Model continued
• Assume,

• Let,

• We specify that

• The Eurodollar Deposits are a function of the Total Liquidity in the US System
 Model Continued
• We use (6), (6a) & 6(b)

• Using (5) in (7), we have

• We specify,

• Domestic Dollar denominated deposits are a function of the Liquidity in the US system
 Model…Contd.
• Using (9) in (8), we have:

• Since,

•
 Model… Contd.
• Given,

• Now rise in preference for Eurodollar Deposit (is exactly equal to

• Rise in preference for Eurodollar Deposits implies a fall in the preference for Domestic Dollar
deposits
• Hence, from (11), we have

• The increase in Eurodollar Deposits just reduces the Demand for Domestic Dollar
Deposits
• Mere rearranging of the nature of deposits are taking place
• Not change in Liquidity happens because of this shift
 Eurocurrency Spreads
• Spread = Lending Rate – Deposit Rate
• Spreads in Eurocurrency markets are generally lower than that in the Domestic
currency markets
• Lending rates are lower in Eurocurrency markets (compared to domestic currency
denominated loans)
• Absence of stringent regulatory controls/expenses compared to domestic currency denominated
deposits/loans
• Credit risk of borrowers of Eurocurrency denominated loans is low
• Eurocurrency transactions are of high volume/transaction – transaction costs are spread over a
large volume
• Credit monitoring costs are low
• Deposit rates are higher in Eurocurrency markets (compared to domestic currency
denominated loans)
 Relation between Interest Rates

• The relation between two rates is:

• Where,

• Why the Equality?

• Say
• Money will start flowing from US to India
• As supply of Funds increase in India,
• However, simultaneously, in the FX market in India,
• As supply of USD increases in India
• To hedge the risk of Depreciating USD, agents starts buying USD forward

• In equilibrium, the equality is restored

 Movement in the Spot & Forward Exchange
Rate in India
Spot • What happens in Forward
Rate (e)
Market?
• Say 90 Days Forward in USD?

e1
• What is the gradual impact on
the spot exchange rate as the
e2 TTM of forward contracts
reduces?

Qty of USD
Thank you