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Urban Cooperative Banks
Urban Cooperative Banks (UCBs) are financial institutions that operate in urban and semi-urban areas in India. They are registered under the Cooperative Societies Act and function as cooperative entities owned and operated by their members.
UCBs provide a wide range of banking services to their members and customers, including deposit accounts, loans, remittances, and other financial products and services. They primarily serve the banking needs of small businesses, individuals, and communities in urban areas.
Urban Cooperative Banks in India
UCBs are governed by a board of directors elected by their members and operate on a cooperative principle, where each member has equal voting rights. They are regulated and supervised by the Reserve Bank of India (RBI) under the Banking Regulation Act, of 1949, and are subject to various prudential norms, regulations, and guidelines issued by the RBI to ensure their stability and soundness.
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Urban Cooperative Banks History
Urban Cooperative Banks (UCBs) in India have a history that dates back to the early 20th century. Here is a brief overview of the history of UCBs in India:
Early Development (1904-1966)
- The first urban cooperative bank, The Cooperative Credit Society of Haryana, was established in 1904 in Haryana.
- The Cooperative Credit Movement gained momentum in the 1920s, with the formation of various cooperative credit societies across the country.
- The cooperative banking sector witnessed significant growth during the 1950s and 1960s, primarily driven by rural and agricultural credit needs.
Regulation and Expansion (1966-1991)
- The Banking Regulation Act, 1949 was amended in 1965 to bring cooperative banks under the regulatory purview of the Reserve Bank of India (RBI).
- The Banking Laws (Application to Cooperative Societies) Act was enacted in 1965, granting regulatory powers to the RBI over UCBs.
- The UCBs started expanding their operations, offering various banking services to urban areas, including deposit-taking, lending, and other financial services.
Reforms and Consolidation (1991-Present)
- Following the liberalization of the Indian economy in 1991, significant reforms were introduced to strengthen the cooperative banking sector.
- The Narasimham Committee Report in 1998 recommended reforms to improve the governance, capitalization, and regulation of UCBs.
- The Multi-State Cooperative Societies Act was enacted in 2002 to facilitate the formation and functioning of multi-state cooperative banks.
- The RBI has taken several measures to enhance the regulatory framework and improve the financial health of UCBs, including capital adequacy norms, risk management guidelines, and periodic inspections.
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Difference Between Urban Cooperative Banks and Commercial Banks
The major differences between Urban Cooperative Banks (UCBs) and Commercial Banks can be summarized below.
|Aspect||Urban Cooperative Banks (UCBs)||Commercial Banks|
|Purpose||Financing agro/rural industries, trade, and urban industry (up to a certain limit)||Provide banking services to individuals and businesses|
|Regulatory Framework||Registered under the Cooperative Societies Act, 1965||Incorporated under the Banking Regulation Act, 1949|
|Area of Operation||Limited area of operation||Larger area of operation|
|Ownership Structure||Cooperative organizations||Joint stock companies|
|Borrowers’ Influence||Borrowers are members with voting power||Borrowers are account holders without voting power|
|Primary Business Function||Accept deposits from members and the public, and grant loans to farmers and small businessmen||Accept deposits from the public and provide loans to individuals or businesses|
|Product Range||Limited products offered||Diverse range of products|
|Interest Rates on Deposits||Typically higher interest rates on deposits||Typically lower interest rates on deposits|
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Challenges Faced by Urban Cooperative Banks
Urban Cooperative Banks (UCBs) face several challenges in their operations. Here are the challenges faced by UCBs based on the provided information:
UCBs in India are not permitted to pay more than 15% dividend to their shareholders. This limitation can hinder their ability to raise capital when needed, especially during times of financial distress.
Difficulty in Raising Capital
Unlike commercial banks, UCBs have limited options for raising capital. They can only increase their membership or ask existing members to buy more shares. This reliance on members for capital infusion can be challenging, as members may not have the financial capacity or incentive to contribute significant amounts of fresh capital.
Lack of Diversification
Small UCBs often lack diversification in their operations and have a high degree of overlap between their members and clients. This can pose difficulties during financial difficulties, as members may not be in a position to provide substantial amounts of additional capital.
Limited Alternatives for Funding
UCBs can face challenges in accessing alternative sources of funding. Issuing securities may require high remuneration and decision-making procedures for raising new capital can be cumbersome and time-consuming.
Low Incentives for Profit Distribution
In the absence of investment-driven shareholders, UCBs may have limited incentives to pay out a significant share of profits as dividends. This can affect their ability to attract capital and may impact their growth potential.
Pressure on Solvency and Liquidity
Expansionary policies and acquisitions can strain the solvency and liquidity of UCBs. Without the ability to finance acquisitions through the issuance of new equity, UCBs often resort to debt or liquidating assets, leading to a deterioration in their balance sheets.
These challenges highlight the unique financial constraints and operational limitations faced by UCBs, requiring them to carefully manage their capital, liquidity, and expansion strategies to ensure financial stability and sustainable growth.
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Supervisory Action Framework for UCB
The Supervisory Action Framework (SAF) for Urban Co-operative Banks (UCBs) was introduced by the Reserve Bank of India (RBI) in 2014 to better manage stressed UCBs and ensure the timely resolution of financial stress. The SAF is similar to the Prompt Corrective Action (PCA) framework imposed on scheduled commercial banks.
Under the SAF, the RBI assesses the financial position of UCBs and issues directions or instructions based on the provisions of the Banking Regulation Act, of 1949. The framework sets threshold limits for asset quality, profitability, and capital adequacy. In the early stage of deterioration, UCB management is expected to take self-corrective action.
However, if the financial position of the UCB does not improve, the RBI initiates the SAF. Once a UCB’s net non-performing assets (NPAs) exceed 6% of its net advances, it may be placed under the framework. The regulator may then take multiple actions depending on the severity of the stress.
In December 2019, the RBI proposed reducing the loan amounts UCBs can lend to a single entity and a group of borrowers to 10% and 25%, respectively. This was aimed at preventing large exposure to one group and avoiding scams similar to the Punjab and Maharashtra Co-operative (PMC) Bank case.
The revision of the SAF in early 2020 further strengthened the supervisory framework for UCBs, enabling the RBI to closely monitor and regulate UCBs to ensure their financial stability and protect the interests of depositors and stakeholders.
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Reforms Needed in Urban Cooperative Banks
The committee headed by N S Vishwanathan, former RBI Deputy Governor, made several recommendations for reforms in Urban Cooperative Banks (UCBs). Here are the key reforms suggested by the committee:
Functioning as Small Finance Banks (SFBs)
Well-governed large UCBs meeting certain parameters should be allowed to operate as SFBs and universal banks, similar to commercial banks.
Four-Tiered Regulatory Structure
The committee proposed a four-tier structure for UCBs based on their deposit size. Each tier would have different capital adequacy and regulatory norms, ranging from Tier-1 (up to Rs 100 crore deposits) to Tier-4 (over Rs 10,000 crore deposits).
Norms for Each Tier
The minimum Capital to Risk-Weighted Assets Ratio (CRAR) for UCBs would vary depending on the tier. Tier-3 UCBs (Rs 1,000 crore to Rs 10,000 crore deposits) meeting a 15% capital adequacy ratio could function like SFBs, while Tier-4 UCBs (over Rs 10,000 crore deposits) meeting a 9% capital adequacy ratio could operate as universal banks.
Separate Ceilings and Stipulations
The committee recommended separate ceilings for home loans, loans against gold ornaments, and unsecured loans for different categories of UCBs. It also suggested that the loan portfolio of Tier-3 UCBs should align with the stipulations for SFBs.
All-Inclusive Directions (AID)
AID should be treated similarly to moratorium under Section 45 of the Banking Regulation Act, and banks should not continue under AID beyond the specified time, which is three months extendable by another three months.
Merger and Consolidation
The RBI should be neutral to voluntary consolidation of UCBs, but mandatory mergers can be considered as a supervisory action if UCBs fail to meet prudential requirements.
Changes to Supervisory Action Framework (SAF)
The SAF should follow a twin-indicator approach, considering only asset quality and capital (measured through net non-performing assets and CRAR) instead of the current triple indicators. The objective of SAF should be to provide a time-bound remedy to the financial stress of a UCB.
These recommendations aim to strengthen governance, enhance capital adequacy, improve asset quality, and provide a framework for resolving financial stress in UCBs, ensuring their stability and better regulation in line with the changing banking landscape.
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Urban Cooperative Banks UPSC
Understanding the functioning and challenges of Urban Cooperative Banks (UCBs) is important for the UPSC (Union Public Service Commission) exam as it falls under the Economics and Governance topics of the UPSC Syllabus. By staying updated on the latest developments, reforms, and challenges in UCBs, candidates can demonstrate their understanding of the Indian banking sector’s functioning and its impact on the economy. Keeping track of such topics can be facilitated through UPSC Online Coaching and UPSC Mock Test, which provide comprehensive study materials, practice questions, and exam simulations to enhance the candidates’ knowledge and analytical skills.
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