Disadvantages in Universal Banking

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Some of the key takeaways from the passage are the various challenges faced by universal banks such as asset liability mismatches, high non-performing assets, difficulty in maintaining statutory reserve ratios, and high costs of funds for development financial institutions converting to universal banks. It also discusses the disadvantages universal banks face in meeting increasing customer demands from customers and competition from new private and foreign banks.

Some of the challenges faced by development financial institutions converting to universal banks include asset liability mismatches, high levels of non-performing assets, difficulty in maintaining statutory liquidity and cash reserve ratios due to their long-term asset structure, and high costs of funds since deposits have higher interest rates than current and savings accounts.

Some of the disadvantages universal banks face in meeting increasing customer demands include the need to offer a wide range of efficient services in terms of cost, time and convenience as well as increased competition from new private and foreign banks. This places greater demands on universal banks to upgrade their services and efficiency.

DISADVANTAGES IN UNIVERSAL BANKING :-

1. To meet with the increasing demands of customers.

The establishment of new private sector banks and foreign banks have rapidly changed the
competitive landscape in the Indian consumer banking industry and placed greater demands on
banks to gear themselves up to meet the increasing needs of customers. For the dissatisfied
current day bank customers, it is not only relevant to offer a wide menu of services but also
provide these in an increasingly efficient manner in terms of cost, time and convenience.

E.g.: Today there is a lot of burden on staff members, they are given no or less number of bank
holidays, the time limit is 8-8.

2. Merger with DFI {Biggest Challenge}.

Development Financial Institutions (DFIs) opting for conversion into Universal Banks by
merger/reverse merger routes may also face certain difficult situations on account of Asset
Liability Mismatches, burden of mounting NPAs and differences in regulatory prescriptions
applicable to FIs and banks such as CRR and SLR requirements and priority sector lending. The
asset profile of DFIs in India is predominately of long-term nature, which also includes a very
high level of non-performing assets.

E.g.: NPAs of ICICI and IDBI were transferred to ICICI Bank and IDBI Bank respectively after
their merger.

3. Statutory Liquid Ratio {SLR} and Cash Reserve Ratio {CRR} requirements of DFI.

In case DFIs are converted into banks they would also be subject to the reserve requirement like
banks. CRR and SLR burden that wasn't there for DFI will be applied after its merger with any
bank. This would mean that all liabilities issued by the DFIs in the past would also be subject to
reserve requirements and since the assets structure of DFIs are largely of long term nature it
would be very difficult for them to maintain the required level of SLR/CRR.

4. High cost of funds for DFI.

Cost of deposits is high as the only source of funds is Fixed Deposits having higher Rate Of
Interest. Costs of funds for Fixed Deposit are higher than CASA {Current account Savings
account}. CASA has low cost, as the Rate Of Interest is low. Further, the cost at which DFIs
have been raising resources in the past has generally remained high as compared to banks and
maintenance of CRR/SLR of such liabilities, which may earn lower returns, would adversely
affect the profitability of Universal Banks. Compliance of priority sector lending norms, which
earn lower returns, may also create difficult situations for such bank. Risk Management is one of
the major challenges, where in the financial activity carries with it various risks, which would
need to be identified, measured, monitored and controlled by Universal Banks. The nature of
risks and mitigating techniques for different financial product/services will be different and
therefore, Universal Banks will be required to develop comprehensive system of each
product/service and each kind of risk.

5. Improving risk management systems

With the increasing degree of deregulation and exposure of banks to various types of risks,
efficient risk management systems have become essential. For enhancing the risk management
system in banks, Reserve Bank has issued guidelines on asset liability management and risk
management systems in banks in 1999 and Guidelines Notes on Credit Risk Management and
Market Risk Management in October 2002 and the Guidance Note on Operational risk
management in 2005.

E.g.: Today most banks have stopped personal loans because there is no guarantee, no loans are
granted for travel and tourism, i.e. holiday loans too are stopped.

1. Supervisory and regulatory infrastructure

Another aspect is related to building up of supervisory infrastructure. The regulatory framework


would need to be strengthened so as to cover all aspects of Universal Banking either under
control of one regulator or a co-coordinating mechanism would have to be developed among
different regulators like the Reserve Bank of India, SEBI, Insurance Regulatory, Authority etc.
The regulators will have to frame sound mechanism to protect the interest of all concerned
including the customer, the Universal Banking Institution and the financial system of the
country.

1. Supervisory of financial conglomerates

In view of increased focus on empowering supervisors to undertake consolidated supervision of


bank groups and since the Core Principle for Banking Supervisory issued by the BASEL
committee on Banking Supervision have underscored consolidated supervision as an independent
principle, the Reserve Bank of India had introduced, as an initial step, consolidated accounting
and other quantitative methods to facilitate consolidated supervision. The components of
consolidated supervision include, consolidated financial statements intended for public
disclosure, consolidated prudential reports intended or supervisory assessment of risk and
application of certain prudential regulations on group basis. In due course, consolidated
supervision as introduced above would evolve to cover.

1. Technology improvement and compensation and incentive systems for employees

It is likely that Universal Banks of roughly the same size and providing roughly the same range
of services may have very different cost levels per unit of output on account of efficiency
differences in the use of labour and capital, effectiveness in the sourcing and application of
available technology, and perhaps effectiveness in the acquisition of productive inputs,
organization designs, compensation and incentive system-and just plain better management.

1. Conflict of interest between commercial and investment banking


Larger the banks, the greater will be the effects of the failure on the system. Also there is the fear
that such institutions, by virtue of their sheer size would gain monopoly power in the market,
which can have undesirable consequences for economic efficiency. Further combining
commercial and investment banking can give rise to conflict of interest.

10. Sharpening skills

The far-reaching changes in the banking and financial sector entail a fundamental shift in the set
of skills required in banking. To meet increased competition and manage risk, the demand for
specialized banking functions, using IT, as a competitive tool has to go up. Special skills in retail
banking, treasury, risk management, foreign exchange, development banking, etc, will need to be
carefully nurtured and built. Thus, the twin pillars of the banking sector i.e. human resource and
IT will have to be strengthened. Thus the need of the day is a combination of improved
technology and quality human resources.

11. Competition

Monopolistic competition among universal banks will decrease their profit margin.

12. Government interferences

Interferences by government in public sector banks through RBI are hampering progress of
universal banks.

13. Present economic recession

Recession is affecting universal banks in a big way as their investment in infrastructure as well
as the establishment expenses is much higher as compared to public sector banks.

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