Appointment of UCBs as Agents/Sub-agents under Money Transfer Service Scheme

4.60 After a review of the earlier guidelines prohibiting UCBs from acting as agents/ subagents under money transfer service scheme (MTSS), it was decided that UCBs holding AD category I and II licence could act as agents/ sub-agents under MTSS (which are in conformity with the guidelines issued by the Foreign Exchange Department of the  Reserve Bank), subject to the following conditions: (a) bank’s adherence to AML/KYC standards should be satisfactory; (b) the principal should maintain foreign currency deposits (USD) equivalent to 3 days average payout or USD 50,000, whichever is higher, with the designated bank, in favour of the agent; (c) where the UCB is acting as a sub-agent, the agent should also maintain with the designated bank, security deposits equivalent to 3 days average payout or Rs.20 lakh, whichever is higher, in favour of the UCB subagents concerned; (d) the UCBs should ensure that the payouts not reimbursed do not, at any point of time, exceed the security deposits placed by the overseas principal /agent, as the case may be; and (e) no UCB should appoint any other UCB/entity as its sub-agent.

Professionalisation of Management of UCBs

4.61 UCBs were advised in April 2002 to include at all times, at least two professional directors on their boards with suitable banking experience (at middle/senior management level) or with relevant professional qualifications, i.e., C.A. with bank accounting/ auditing experience. The scope of professional directors prescribed therein was reviewed and it was decided to enlarge the ambit of ‘professional directors’ to include persons with professional qualification in the fields of law, accountancy or finance. UCBs were advised to initiate steps to amend the bye-laws of their banks accordingly and ensure compliance with the above requirements.

Off-site Surveillance

4.62 An off-site surveillance (OSS) software was developed for UCBs to facilitate the preparation and submission of all supervisory and regulatory (including OSS) returns to the Reserve Bank electronically. Further, to enhance the knowledge and skills in the area of off-site surveillance of banking an international workshop was organised in March, 2008 (Box IV.4). The OSS has been extended to all UCBs.

4.63 A set of eight OSS returns, introduced for scheduled UCBs from the quarter ended March 2004, were extended to Tier II non-scheduled banks with deposits of over Rs.100 crore from June 2004 and to Tier II UCBs having deposits of Rs.50 crore and above from June 2006. From the same period, a simplified set of five (four quarterly and one annual) returns was also introduced for Tier I UCBs having deposits above Rs.50 crore but less than Rs.100 crore. The OSS system has now been extended to the rest of the UCBs with deposits below Rs.50 crore (a set of eight OSS returns for Tier II UCBs and simplified set of five returns to Tier I UCBs) and will come into effect from the quarter ending December 2008.

Operations and Financial Performance of Urban Co-operative Banks

A profile of UCBs

4.64 The urban co-operative banking sector comprises a number of institutions which vary in terms of their size, nature of business and geographic spread. The number of UCBs declined from 1,813 at end-March 2007 to 1,770 at end-March 2008. Of the total, 53 banks had scheduled status. The 1717 non-scheduled UCBs included 105 Mahila (Women) banks, 77 salary earners' banks and six SC/ST banks. Banks are classified into four grades, viz., Grade I, II, III and IV, in the order of their performance assessment based on capital adequacy, level of NPAs, history of profit/loss, among others. The total number of Grade I and II banks increased over the past three years, while those in Grade III and IV declined. The number of UCBs in Grade I and Grade II increased to 1,274 (72 per cent of the total number of UCBs) at end-March 2008 from 1,250 (69 per cent of the total) at end-March 2007. At the same time, however, the number of UCBs in Grade III and Grade IV declined to 496 at end-March 2008, from 563 at end-March 2007 (Tables IV.3 and IV.4).  The consultative process under TAFCUBs has brought about a general improvement in the UCBs, resulting in increase in the share of Grade I and II banks.

Box IV.4: First International Workshop on Off-Site Surveillance

The first international workshop on off-site surveillance (OSS) was conducted during March 4-7, 2008 for central banks from SAARC and ASEAN countries. The aim of the workshop was to broaden the perspective and enhance the knowledge and skills of participants in the area of off-site surveillance of banking entities, particularly the financial co-operatives. The workshop was attended by 22 participants, including 19 foreign participants from central banks/supervisory authorities mostly from senior and middle management cadres. The World Council of Credit Unions, USA was also represented in the workshop as observer and guest speaker.

A presentation was made to the participants on the OSS system implemented by the Reserve Bank for UCBs showing electronic collection of data from UCBs and utilisation of such data in detecting incipient signals of stress in banks, generation of pre-inspection study reports for inspecting officers (IOs), monitoring integrity of data and timeliness of submission of returns by the supervised entities. The OSS database receives data from UCBs, IOs, as also from important internal registers. This buttressed supervision by providing access to all supervisory data from a central point. Furthermore, the strategies for development of an OSS function were discussed in detail.

A field visit to a large UCB was arranged during which the bank also made presentation on ‘OSS from the perspective of Supervised Entities.’ The bank through its presentation informed the visitors that the OSS system provided by the Reserve Bank had helped the bank in improving follow-up with borrowers whose accounts were non-performing, or were likely to become non-performing, i.e., were overdue but not yet classified as non-performing and this had helped in reducing its non-performing advances. Similarly, the bank mentioned that OSS reporting had helped it in reducing its concentration risk through the identification of its large exposures in the process of preparing the returns for submission to the Reserve Bank. A field trip was also arranged to a Mahila UCB, where, in addition to the innovative products/technology used for reaching out to small/daily depositors/borrowers etc., the participants also saw how banks in far flung areas, affected by drought had developed close contact with supervisors through the process of submitting OSS returns electronically and, therefore, were able to communicate conveniently with supervisor over e-mail for reporting as also for obtaining any clarifications. This closeness with the regulator was highlighted by the bank during its presentation.

Participants also observed that the OSS software given to banks enabled them to generate analytical outputs provided therein, which could help the supervised entities to understand the perspective of the supervisor and thereby facilitate self-supervision. Participants in their feedback observed that the programme had helped them to understand the challenges faced in collecting reliable, regular and timely information from the supervised entities and to use such data for identifying early warning signals of stress on banks as also for supporting informed decision making and policy formulation. They also observed that the OSS system of the Reserve Bank provided an interface with the on-site examination of data which helped in maintaining integrity of OSS data. Participants appreciated the Reserve Bank’s decision to hold the workshop and even expressed that more such exposures were needed for enhancing their own OSS systems.

4.65 As at end-March 2008, 72 per cent of banks were either in Grade I or Grade II. Their share in total deposits and advances was at 76.7 per cent and 75.8 per cent, respectively (Table IV.5).

4.66 The growth in deposits of UCBs by 6.4 per cent and 14.1 per cent for the years 2006-07 and 2007-08 respectively, shows an improvement in public confidence in this sector. Besides a few large banks, most of the UCBs are of small to medium size. The distribution of deposits across UCBs is highly skewed. As at end-March 2008, of the total 1,770 UCBs, deposits of 544 UCBs were less than Rs.10 crore. However, they accounted for only 2.2 per cent of total deposits. On the other hand, 97 banks with deposits of Rs.250 crore and above accounted for 56.7 per cent of the total deposits. Of these, 16 banks with deposits of Rs.1,000 crore and above accounted for 28.8 per cent of total deposits of UCBs at end-March 2008. In all, 94.5 per cent of banks had a deposit base of less than Rs.250 crore and accounted for 43.3 per cent of deposits, while 5.4 per cent banks with a deposit base of Rs.250 crore and above accounted for remaining 56.7 per cent of the deposits of the UCB sector (Table IV.6).

4.67 The distribution of outstanding advances across UCBs is skewed. The top nine

banks with loan-size of above Rs. 1,000 crore accounted for 22.3 per cent of total outstanding advances. Most of the UCBs (68.3 per cent of the total number) with small loan-size of less than Rs. 25 crore constituted merely 12 per cent of the total advances. Within this group, UCBs with loan-size of less than Rs.10 crore constituted 44.5 per cent of the total number and 4.3 per cent of the total advances (Table IV.7).

4.68 The distribution of UCBs by size of assets is also skewed. As at end-March 2008, 593 UCBs, with a share of 33.5 per cent of the total number of UCBs, accounted for 2.7 per cent of total assets, while 339 UCBs, constituting only 19.1 per cent of the total number of banks with assets of Rs.100 crore and above, accounted for 78.7 per cent of assets. Thirteen banks with assets of Rs.2,000 crore and above accounted for 26.7 per cent of total assets of UCBs at end-March 2008. In all, 80.9 per cent of the total number of banks with assets of less than Rs.100 crore accounted for 21.2 per cent of the assets (Table IV.8).

4.69 Fifty-three scheduled UCBs constituted more than 40 per cent of assets, deposits, investments and loans and advances of the entire urban co-operative

banking sector. The number of non-scheduled UCBs declined to 1,717 at end-March 2008 from 1,760 in the previous year (Table IV.9).

4.70 While 1,529 Tier I UCBs (86.4 per cent of total) accounted for 25 per cent of deposits and advances, 241 UCBs classified as Tier II UCBs accounted for 75 per cent of deposits and advances (Table IV.10).

Operations, Financial Performance and Asset Quality of Urban Co-operative Banks
Operations of UCBs

4.71 The balance sheets of UCBs expanded by 11.1 per cent during 2007-08 as compared with 7.0 per cent during 2006-07. The

composition of the assets and liabilities remained broadly the same during the year. Deposits, the main source of funds for urban co-operative banks, grew at a higher rate during 2007-08 as compared with 2006-07. Borrowings, however, declined by 13.7 per cent during the year, reversing the sharp growth during the last year. Capital grew by 17.4 per cent during 2007-08. ‘Other liabilities’ continued to decline during the year. Loans and advances and investments, which constitute the two major items on the asset side, grew at higher rates than the previous year (Table IV.11).

Financial Performance

4.72  During 2007-08, net interest income of all UCBs increased compared with the previous year. Both, non-interest income and non-interest expenditure also increased. As a result, operating profits of UCBs increased only marginally. However, increase in provisions, contingencies and taxes resulted in a decline in net profits (Table IV.12).

Priority Sector Lending

4.73 Based on the revised guidelines on the priority sector issued in August 2007, 52.7 per cent of cash advances were extended to the priority sector by UCBs. Small enterprises constituted the largest share (16.9 per cent) of the priority sector lending, followed by housing loans (13.4 per cent) and retail trade (11.5 per cent). Lending to the weaker sections constituted 13.7 per cent of advances (Table IV.13).

4.74 SLR investments constituted the bulk of investment (85.6 per cent) of UCBs as at end-March 2008. Although all categories of investments increased during 2007-08 as compared with the previous year, the increase was more pronounced in respect of term deposits with State co-operative banks and term deposits with district central co-operative banks (Table IV.14).

Capital Adequacy

4.75 As at end-March 2008, the CRAR of 1,457 UCBs out of total 1,770 UCBs, was at 9 per cent and above (Table IV.15).

Asset Quality

4.76 The gross and net NPAs increased in absolute terms. However, as a percentage of total advances, both gross NPAs and net NPAs declined. The NPA ratios of UCBs were 16.4

per cent (gross) and 7.5 per cent (net) at end-March 2008 (Table IV.16).

Operations and Performance of Scheduled Urban Co-operative Banks

4.77 Total assets of scheduled UCBs continued to expand during 2007-08. While deposits and capital increased significantly, borrowings declined during the year (there was a marginal decline in reserves also). On the asset side, loans and advances, and investments grew significantly during 2007-08 (Table IV.17).

Financial Performance

4.78 Net interest income of scheduled urban co-operative banks declined. Since increase in other income was more or less offset by increase in operating expenditure, the decline in net-interest income resulted in decline in operating profits. However, significant decline in provisions, contingencies and taxes resulted in increase in net profit as against a decline in the previous year (Table IV.18).

4.79 SLR investments, which constitute the bulk of investment of UCBs, grew by 17.7 per cent during 2007-08, while non-SLR investments declined. Of the SLR investments, the increase was more pronounced in respect of term deposits with State co-operative banks and  district central co-operative banks (Table IV.19).

Operations and Performance of Non-scheduled Urban Co-operative Banks

4.80 The consolidated balance sheet of non-scheduled UCBs expanded at a higher rate of 12.0 per cent during 2007-08 as compared with 3.6 per cent during 2006-07. While deposits and capital grew at a higher rate, borrowings declined during 2007-08. On the asset side, loans and advances and investments grew significantly (Table IV.20).

4.81 During 2007-08, net interest income of UCBs at Rs.3,085 crore for 2007-08, was higher than that of Rs.2,949 crore a year ago. Increase in other income was significantly lower than the increase in operating expenditure. However, operating profit of UCBs increased marginally. Higher levels of provisions, contingencies and taxes resulted in decline in net profits of non-scheduled UCBs during 2007-08 (Table IV.21).

4.82 SLR investments constitute the bulk of investment of UCBs. Although all categories of investments increased during 2007-08 as compared with the previous year, the increase was more pronounced in respect of term deposits with State cooperative banks and district central cooperative banks. Furthermore, apart from Central Government securities, term deposits with State co-operative banks and district central co-operative banks constituted significant proportions of total investments (Table IV.22).

4.83 UCBs made significant progress in terms of technological advancements. As at end-March

2008, 265 on-site and 21 off-site ATMs have been established. While 22 UCBs have already

introduced core banking solutions (CBS), 18 UCBs are in the process of implementing CBS.

Urban Co-operative Banks – Regional Operations

4.84 The number of operating UCBs is concentrated mainly in five States/Union Territories, viz., Andhra Pradesh, Gujarat, Karnataka, Maharashtra (including Goa) and Tamil Nadu. Nearly 79 per cent of total UCBs with 86 per cent of total branches operated in these five States as at end-March 2008. Maharashtra (including Goa) alone accounted for around 55 per cent of total branches of UCBs. Of the 7,424 branches of UCBs, 874 operated as unit banks, i.e., banks which function as head office-cum-branch. Maharashtra (including Goa), Gujarat and Karnataka together accounted for around 61 per cent of total number of unit banks (Table IV.23).

4.85 Andhra Pradesh, Gujarat, Karnataka, Maharashtra and Tamil Nadu together accounted for 88.1 per cent of the deposits and 89.5 per cent of the credit of the entire UCB sector at end-March, 2008. Maharashtra alone accounted for 65.2 per cent of deposits and 65.8 per cent of total advances. As at end-March 2008, the number of districts with the presence of a UCB was

highest in Madhya Pradesh, followed by Uttar Pradesh and Maharashtra (Table IV.24).

4.86 At end-March 2008, the C-D ratio of scheduled UCBs at select centres showed large variations across centres. The C-D ratio was the highest in Hyderabad (89.9 per cent) followed by Ahmedabad (66.8 per cent) and Nagpur (62.6 per cent). Mumbai accounted for the largest share in both deposits and loans and advances (Table IV.25).

4.87 Non-scheduled UCBs in five centres, viz., Ahmedabad, Bangalore, Chennai, Mumbai and Nagpur accounted for more than 70 per cent of capital and reserves and around 80 per cent of deposits and advances of all non-scheduled UCBs at end-March 2008. Wide variations were observed in the C-D ratio of non-scheduled UCBs. The C-D ratio was the highest in Chennai (72.5 per cent) and the lowest in Raipur (33.2 per cent). At five centres (Dehradun, Guwahati, New Delhi, Patna and Raipur) the C-D ratio of non-scheduled UCBs was less than 50 per cent (Table IV.26).

3. Rural Co-operatives

4.88 Recognising the wide outreach of rural co-operative credit institutions, particularly among the rural and vulnerable segments of the society, and their role in purveying rural credit and deposit mobilisation, efforts have been made to restore operational viability and financial health of these institutions.

4.89 The financial performance of rural cooperative credit institutions continued to be characterised by several weaknesses such as high NPAs, poor recovery and accumulated losses. As on March 31, 2007, four out of 31 StCBs, 97 out of 371 DCCBs, 48,078 out of 97,224 PACS, eight out of 20 reporting SCARDBs and 342 out of 697 reporting PCARDBs incurred losses, which together amounted to Rs.1,524 crore (excluding PACS).

Regulation of Rural Co-operative Banks

prohibiting them from granting loans and advances to certain areas and/or accepting fresh deposits. No licence/application for licence was cancelled/rejected during the year. No StCB was granted scheduled status during the year for inclusion in the Second Schedule under Section 42 of the RBI Act, 1934. The total number of scheduled StCBs remained at 16.  As on June 30, 2008, seven out of the 31 StCBs and 118 out of the 371 DCCBs did not comply with the provisions of Section 11 (1) of the Banking Regulation Act, 1949 (AACS). Similarly, seven StCBs and 118 DCCBs did not comply with the provisions of Section 22(3) (a) of the Act, implying that they were not in a position to pay their present and future depositors in full as and when their claims accrued. Further, 14 StCBs and 343 DCCBs did not comply with Section 22 (3) (b) of the Banking Regulation Act, 1949, implying that the affairs of these banks were being conducted in a manner detrimental to the interests of their depositors.

Deposit Schemes with Lock-in-period

4.91 It was brought to the notice of the Reserve Bank that some StCBs/DCCBs were offering special term deposit products to customers, in addition to regular term deposits, ranging from 300 days to five years, with certain restrictive features. In terms of extant guidelines, banks are required to ensure that the provisions of the Reserve Bank directives on interest rates on deposits, premature withdrawal of term deposits and sanction of loans/advances against term deposits, among others, issued from time to time, are strictly adhered to. Any violation in this regard is viewed seriously and may attract penalty under the Banking Regulation Act, 1949 (AACS). Further, no bank should discriminate in the matter of interest paid on deposits, between one deposit and another, accepted on the same date and for the same maturity, whether such deposits are accepted at the same office or at different offices of the bank, barring fixed deposit schemes specifically for senior citizens (which offer higher and fixed rates of interest as compared to normal deposits of any size), and single term deposits of Rs.15 lakh and above on which varying rates of interest may be permitted on the basis of size of deposits. In the light of the prevalence of the restrictive practices, the StCBs/DCCBs were again advised in November 2007 that the special schemes, with lock-in periods and other features floated by some banks were not in conformity with the Reserve Bank’s instructions. Such schemes should be discontinued with immediate effect and compliance be reported to the Reserve Bank’s concerned regional office.

Complaints about Excessive Interest Charged by Banks

4.92 According to the announcement in the Annual Policy Statement for the year 2007-08, boards of all StCBs/DCCBs were advised to lay down appropriate internal principles and procedures so that usurious rates of interest, including processing and other charges, are not levied by them on loans and advances. In laying down such principles and procedures in respect of small value loans, particularly, personal loans and other loans of similar nature, banks have to take into account, inter-alia, the following broad guidelines: (i) an appropriate prior approval process for sanctioning such loans, which should take into account, among others, the cash flows of the prospective borrower; (ii) interest rates charged by banks, inter-alia, to incorporate risk premium, as considered reasonable and justified, having regard to the internal rating of the borrower and in considering the question of risk to take into account the presence or absence of security and the value thereof; (iii) the total cost to the borrower, including interest and all other charges levied on a loan, to be justifiable having regard to the total cost incurred by the bank in extending the loan, sought to be defrayed and the extent of return reasonably expected from the transaction; (iv) an appropriate ceiling on the interest, including processing and other charges to be levied on such loans, which has to be suitably publicised.

Application of Capital Adequacy Norms to State Co-operative Banks and District Central Cooperative Banks

4.93 In order to strengthen the capital structure of StCBS and DCCBs, in the context of financial stability of the whole system and pursuant to the announcement in the Mid -Term Review of Annual Policy Statement for the year 2007-08, all StCBs and DCCBs were advised to disclose the level of CRAR as on March 31, 2008 in their balance sheets and thereafter every year as ‘notes on accounts’ to their balance sheets. They were also advised to furnish an annual return to the respective regional offices of RBI/NABARD, indicating CRAR in the prescribed format (Box IV.5).

Supervision of the Rural Co-operative Banks

4.94 NABARD undertakes statutory inspection of StCBs and DCCBs for effective supervision. This is focussed on ensuring conformity with banking regulations and facilitating internalisation of prudential norms. Accordingly, statutory inspections of all StCBs and DCCBs not complying with minimum capital requirements continued to be conducted annually, while statutory inspections of DCCBs having positive net worth are conducted once in two years. NABARD also conducts voluntary inspections of all SCARDBs, apex weaver’s co-operative societies and state co-operative marketing federations, among others. While the voluntary inspections of all SCARDBs continued to be conducted annually, those for apex co-operative societies/federations continued to be conducted once in two years. The objective of NABARD’s supervision is to assess the financial and operational soundness and managerial efficiency of cooperative banks (StCBs, DCCBs and SCARDBs) as also to ensure that the affairs of these banks are conducted in conformity with the relevant Acts/Rules, Regulations, Bye-laws, etc., so as to protect interests of their depositors. NABARD also looks into the ways and means of strengthening the institutions to enable them to play a more efficient role in the dispensation of credit. The inspections focus sharply on core areas such as capital adequacy, asset quality, management, earnings, liquidity, systems and compliance (CAMELSC). During 2007-08, NABARD carried out statutory inspections of 366 banks (31 StCBs, 261 DCCBs and 74 RRBs) and voluntary inspections of 18 SCARDBs and 1 apex co-operative institution.

Box IV.5: Application of Capital Adequacy Norms to StCBs and DCCBs

At present, the CRAR norms do not apply to StCBs and DCCBs. However, the Task Force on Revival of Rural Cooperative Credit Institutions (Short-term) (Chairman: Prof. A. Vaidyanathan), in its report recommended as under :

 “The package will include assistance necessary to bring all co-operatives, including Primary Agricultural Credit Societies (PACS), to a minimum Capital to Risk Weighted Assets Ratio (CRAR) of 7 per cent. While this ratio will be raised within three years to 9 per cent by PACS, DCCBs and StCBs shall raise their CRAR as prescribed by the Reserve Bank of India. This increase in CRAR shall be met by the CCS from its own resources.”

As per the directions of the Board for Financial Supervision (BFS), a Technical Group was constituted with the Chief General Managers of various regulatory departments of the Reserve Bank to examine the applicability of Basel norms to StCBs and DCCBs  and articulate appropriate policy responses. The group made the following recommendations, among others:

• Capital adequacy regulation be introduced for StCBs, DCCBs on par with commercial banks.
• The road-map for capital infusion be finalised taking into account special characteristics, uncertainties, and constraints of the entities in question.
• Banks choosing not to adopt Basel norms could remain so and in that case they would not be granted any facility like licence for opening of branch, conducting foreign exchange business (except restricted money changers licence), access to payment system, among others. However, even such banks should possess a minimum net worth of Rs.10 lakh, otherwise, a phased exit out of the banking system could be considered for them in a non-disruptive manner.

4.95 The Board of Supervision [BoS] for StCBs, DCCBs and RRBs met four times during 2007-08. The issues deliberated by BoS included (i) functioning of StCBs and SCARDBs; (ii) functioning of co-operative credit institutions of Orissa, Maharashtra, Karnataka and Gujarat and RRBs; (iii) functioning of insolvent StCBs and DCCBs; (iv) trigger-point policy for supervisory prescription and regulatory action for cooperative credit institutions; (v) impact of amalgamation of RRBs; (vi) policy, procedure and status of complaints, grievance redressal and courteous service; (vii) frauds, misappropriation,  embezzlements, defalcations; (viii) implementation of development action plans (DAPs) by cooperative banks; (ix) implementation of reforms under the Government of India package for Short Term Co-operative Credit Structure; (x) the revised inspection strategy; (xi) revision of exposure norms and credit monitoring arrangements (CMA) guidelines; and (xii) investment portfolio management based on special studies.

4.96 NABARD revised the inspection guidelines for on-site inspection of all banks. NABARD conducted pilot inspections of 20 select banks before implementing the revised