Economy Key Terminologies — Banking Sector in India

Figure 8.1: Banking sector terminologies form the backbone of India's financial system and are frequently tested in UPSC examinations.

1. Previous Year Questions (UPSC)

Context: Understanding banking sector terminologies is crucial for UPSC preparation. The following terms have been asked in previous years' examinations (2012-2022).

Year	Term	Explanation
2022	Credit Rating Agencies	Companies that evaluate the creditworthiness of individuals, businesses, and governments by assigning credit ratings. In India, SEBI regulates all credit rating firms under SEBI (Credit Rating Agencies) Regulations, 1999. Seven agencies in India: CRISIL, CARE, ICRA, Acuité Ratings, Brickwork Rating, India Rating, and Infomerics.
2022	Banks Board Bureau (BBB)	An autonomous body established by the Government of India to improve the governance of public sector banks (PSBs). Primary role is to recommend candidates for chairpersons and non-executive directors on PSB boards.
2022	Price Stability	Maintaining a low and stable inflation rate in the economy. A key objective of the RBI, achieved through monetary policy involving regulation of money supply and interest rates.
2021	Urban Cooperative Banks (UCBs)	Financial institutions providing banking services to urban and semi-urban areas. Governed by Cooperative Societies Act and registered under Banking Regulation Act 1949. Owned and managed by their members.
2021	Lender of Last Resort	A central bank (like RBI) that provides short-term loans and funding to banks facing liquidity crunch, typically at higher interest rates than market rates.
2020	Interest Coverage Ratio	A debt and profitability ratio used to determine how easily a company can pay interest on its outstanding debt. Calculated by dividing EBIT by Interest Expense.
2020	Expansionist Monetary Policy	A strategy used by RBI to stimulate economic growth by increasing the money supply through lowering interest rates, reducing bank reserve requirements, and buying government securities.
2020	Statutory Liquidity Ratio (SLR)	A regulatory requirement set by RBI mandating banks to maintain a certain percentage of their NDTL in liquid assets such as government securities, gold, and cash. Currently at 18% of NDTL.
2020	Marginal Standing Facility (MSF)	A secondary window for banks to borrow money from RBI in case of emergency. MSF rate is typically higher than the repo rate.
2020	Repo Rate	The interest rate at which RBI lends short-term funds to commercial banks to meet their liquidity needs. A key tool for managing monetary policy.
2020	Participatory Notes (P-Notes)	Financial instruments foreign investors use to invest in Indian securities without registering with SEBI. Issued by registered FIIs to clients.
2020	Capital Adequacy Ratio (CAR)	The ratio of a bank's capital in relation to its risk-weighted assets and current liabilities. Also known as CRAR.
2020	Legal Tender	Any official medium of payment recognized by law which the creditor is obliged to accept towards repayment of a debt.
2018	Treasury Bills (T-bills)	Short-term money market instruments issued by RBI on behalf of Government of India. Issued for 91 days, 182 days, and 364 days.
2018	Bank Rate/Discount Rate	The rate at which the central bank lends money to commercial banks for long-term periods. RBI uses it as a short-term benchmark for the repo rate.
2017	Monetary Policy Committee (MPC)	A six-member committee constituted by the Government of India under RBI Act, 1934, to determine the policy interest rate to achieve the inflation target. Established in 2016.
2016	Payment Banks	A new category of banks introduced by RBI in 2015. Licensed to provide limited banking services: accepting deposits, issuing debit cards, facilitating payments and remittances. Not allowed to offer credit facilities or loans.
2016	Core Banking Solution (CBS)	A network (back-end system) of bank branches that allows customers to manage accounts and use banking facilities from any part of the world.
2015	MCLR	Marginal Cost of Funds based Lending Rate — the minimum interest rate at which commercial banks can lend. Introduced by RBI in April 2016 to replace the base rate system.
2015	Basel III Accord	A set of international regulatory standards on bank capital adequacy, stress testing, and market liquidity risk developed by the Basel Committee in response to the 2008 global financial crisis.
2015	Open Market Operations (OMO)	A quantitative monetary policy tool used by RBI to buy or sell government securities in the open market to adjust the money supply.
2013	Money Supply	The total amount of money in circulation within an economy, including physical currency and deposits held in checking and savings accounts.
2012	Non-Banking Financial Companies (NBFCs)	Financial institutions that provide financial services similar to banks but do not hold a banking license. Regulated by RBI.

2. Important Terms in News

Context: These banking sector terms frequently appear in financial news, policy discussions, and are essential for UPSC aspirants to understand.

Monetary Policy & Interest Rates

• Repo Rate: The interest rate at which RBI lends short-term funds to commercial banks to meet their liquidity needs. A key tool for managing monetary policy.
• Reverse Repo Rate: The rate of interest at which RBI borrows from banks by mortgaging G-Secs or other acceptable securities.
• Marginal Standing Facility (MSF) Rate: A secondary window for banks to borrow money from RBI in case of emergency. MSF rate is typically higher than the repo rate.
• Bank Rate/Discount Rate: The rate at which the central bank lends money to commercial banks for long-term periods.
• Expansionary Monetary Policy: Monetary policy that results in an increase in money supply in the market (also called hawkish monetary policy).
• Contractionary Monetary Policy: Monetary policy that results in a decrease in money supply in the market (also called dovish monetary policy).
• Monetary Policy Committee (MPC): A six-member committee constituted by the Government of India under RBI Act, 1934, to determine the policy interest rate. Established in 2016.
• Price Stability: Maintaining a low and stable inflation rate in the economy. A key objective of the RBI achieved through monetary policy.
• Open Market Operations (OMO): The selling and purchase of government securities and treasury bills by the RBI to adjust liquidity in the market. All Scheduled Commercial Banks and Financial institutions can participate.

Reserve Requirements & Ratios

• Cash Reserve Ratio (CRR): Maintained by banks with the RBI in the form of cash. No interest is given on CRR.
• Incremental Cash Reserve Ratio (I-CRR): Similar to CRR, banks need to set aside a certain portion of their money with RBI. RBI has the option to impose ICRR in addition to CRR.
• Statutory Liquidity Ratio (SLR): A regulatory requirement set by RBI mandating banks to maintain a certain percentage of their NDTL in liquid assets such as government securities, gold, and cash. Currently at 18% of NDTL.
• Capital Adequacy Ratio (CAR) / CRAR: The ratio of a bank's capital in relation to its risk-weighted assets and current liabilities. Also known as Capital-to-Risk weighted Assets Ratio.
• Tier 1 Capital: Also known as core capital. Consists of equity capital, ordinary share capital, intangible assets, and audited revenue reserves. Used to absorb losses without requiring a bank to cease operations.
• Tier 2 Capital: Comprises unaudited retained earnings, unaudited reserves, and general loss reserves. Used to absorb losses if a bank loses all its Tier-1 capital.
• Liquidity Coverage Ratio (LCR): The proportion of highly liquid assets held by financial institutions to ensure their ongoing ability to meet short-term obligations. LCR = HQLA / Total Net Cash Flow Amount. Promotes short-term resilience for 30 days.
• Net Stable Funding Ratio (NSFR): Defined as the amount of available stable funding relative to required stable funding. Promotes resilience over a longer-term time horizon.
• Capital Conservation Buffer (CCoB): A capital buffer whose objective is to conserve a bank's capital. Must be made up of Common Equity Tier 1 capital.

Banking Institutions & Structures

• Urban Cooperative Banks (UCBs): Financial institutions providing banking services to urban and semi-urban areas. Governed by Cooperative Societies Act and registered under Banking Regulation Act 1949. Owned and managed by their members.
• District Central Cooperative Banks (DCCBs): Cooperative institutions providing banking services to rural and semi-urban areas. Registered under Cooperative Societies Act and governed by RBI under Banking Regulation Act 1949.
• Payment Banks: A new category of banks introduced by RBI in 2015. Licensed to provide limited banking services: accepting deposits, issuing debit cards, facilitating payments and remittances. Not allowed to offer credit facilities or loans.
• Non-Banking Financial Companies (NBFCs): Financial institutions that provide financial services similar to banks but do not hold a banking license. Regulated by RBI.
• Shadow Banking: Bank-like activities which occur outside the traditional banking sector. Examples include Special Purpose Entities, NBFCs, Hedge Funds.
• Banks Board Bureau (BBB): An autonomous body established by the Government of India to improve the governance of public sector banks (PSBs). Primary role is to recommend candidates for chairpersons and non-executive directors on PSB boards.
• Domestically Systemically Important Banks (D-SIBs): Banks that become systemically important due to their size, cross-jurisdictional activities, complexity, and interconnectedness. Too Big To Fail (TBTF) creates an expectation of government support. Examples: State Bank of India, ICICI Bank, HDFC Bank.

Lending & Credit Concepts

• MCLR (Marginal Cost of Funds based Lending Rate): The minimum interest rate at which commercial banks can lend. Introduced by RBI in April 2016 to replace the base rate system.
• Priority Sector Lending (PSL): Lending to sectors which the Government of India and RBI consider important for the development of basic needs of the country. Banks are mandated to encourage growth of such sectors with adequate and timely credit. Sectors include: Agriculture, Education, Housing, Social Infrastructure, Renewable Energy, Others.
• Interest Coverage Ratio: A debt and profitability ratio used to determine how easily a company can pay interest on its outstanding debt. Calculated by dividing EBIT by Interest Expense.
• Loan to Value Ratio (LTV): A metric used to assess the level of risk involved in extending a loan. Calculated by dividing the loan amount by the estimated market value of the collateral.
• Credit Rating Agencies: Companies that evaluate the creditworthiness of individuals, businesses, and governments. In India, SEBI regulates all credit rating firms. Seven agencies: CRISIL, CARE, ICRA, Acuité Ratings, Brickwork Rating, India Rating, and Infomerics.
• Credit Default Swap (CDS): A particular type of swap designed to transfer the credit exposure of fixed income products to another party. A type of credit derivative that provides the buyer with protection against default and other risks.
• Bullet Repayment: A lump sum payment made for the entirety of an outstanding loan amount, usually at maturity. Also referred to as balloon loans.
• Zombie Lending: The practice of providing credit to entities that do not have the capability to repay.
• Evergreening of Loans: Allocation of fresh loans to pay previous loans. Results in reduction in reported defaults in the short run, followed by an eventual explosion in default rates.

Non-Performing Assets (NPA) Classification

• Non-Performing Assets (NPA): If a loan's principal or interest is unpaid for more than 90 days from its due date, it is classified as NPA.
• SMA-0: If a loan's principal or interest is unpaid for 1 to 30 days from its due date.
• SMA-1: If a loan's principal or interest is unpaid for 31 to 60 days from its due date.
• SMA-2: If a loan's principal or interest is unpaid for 61 to 90 days from its due date.
• Sub-Standard Assets: Loans and advances which are non-performing assets for a period of 12 months.
• Doubtful Assets: Assets considered as sub-standard for a period of more than 12 months.
• Loss Assets: All those assets which cannot be recovered by the lending institution.
• Prompt Corrective Action (PCA) Framework: A system that RBI imposes on banks showing signs of financial stress. The regulator considers banks as unsafe if they fail to meet standards on certain financial metrics or parameters.

Money Supply Measures

• Money Supply: The total amount of money in circulation within an economy, including physical currency and deposits held in checking and savings accounts.
• M0 (Monetary Base / High Powered Money): The total liability of the monetary authority (RBI). Consists of currency notes and coins in circulation, vault cash of commercial banks, and deposits held by Government and commercial banks with RBI.
• M1: Currency (notes + coins) held by the public + net demand deposits held by commercial banks.
• M2: M1 + Savings deposits with Post Office savings.
• M3: M1 + Net time deposits of commercial banks. Also known as M3 Money Supply.
• Currency Deposit Ratio (CDR): The ratio of "money held by the public in cash" to the "public's deposit in banks".
• Reserve Deposit Ratio (RDR): The ratio of "banks reserves in vault cash and deposit with RBI" to the "public's deposit in banks".
• Velocity of Money Circulation: The rate at which money is exchanged in an economy, i.e., the number of times it moves from one entity to another.
• Fractional Reserve Banking: A system whereby banks can loan out a certain amount of the deposits that they have on their balance sheets. Banks are required to keep a certain amount of cash deposits in reserve.

Currency & Legal Concepts

• Legal Tender: Any official medium of payment recognized by law which the creditor is obliged to accept towards repayment of a debt.
• Fiat Money: Must fulfill two conditions: (1) It should be tangible in nature or virtual/digital/crypto coin, and (2) It must be issued by order of king/queen or government or central bank.
• Seigniorage: The difference between the value of currency/money and the cost of producing it. Can be termed as a source of revenue for governments.
• Demonetization: The act of stripping a currency unit of its status as legal tender. Wholesale withdrawal of a currency unit's notes from circulation.
• Redenomination: The process of decreasing the face value of a currency. Reasons include hyperinflation, decimalization, or joining a currency union.

Benchmark Rates & International

• LIBOR (London Interbank Offer Rate): A benchmark interest rate at which major global banks lend to one another in the international interbank market for short-term loans. RBI has issued an advisory for complete transition away from LIBOR.
• MIFOR (Mumbai Interbank Forward Offer Rate): A rate that Indian banks use to set prices on forward-rate agreements and derivatives.
• MIBOR (Mumbai Interbank Offer Rate): The interest rate at which banks can borrow funds from other banks in the Indian interbank market.
• Basel III Accord: A set of international regulatory standards on bank capital adequacy, stress testing, and market liquidity risk developed in response to the 2008 global financial crisis.

Digital Banking & Payments

• Core Banking Solution (CBS): A network (back-end system) of bank branches that allows customers to manage accounts and use banking facilities from any part of the world.
• Payment Aggregator: A third-party service provider that enables customers to make and businesses to accept payments online. Enables acceptance of debit cards, credit cards, cardless EMIs, UPI, bank transfers, e-wallets, and e-mandates.
• Third Party Application Provider (TPAP): An entity that provides UPI compliant app(s) to end-user customers to facilitate UPI-based payment transactions.
• Card-on-File Tokenization: A process to secure card data by replacing it with a unique token for transactions.
• Green Deposits: An interest-bearing deposit for a fixed period, with the proceeds earmarked for allocation towards green finance.

Miscellaneous Concepts

• Service Area Approach (SAA): A scheme introduced by RBI to ensure that banking services reach rural and remote areas. Each commercial bank is assigned a specific service area consisting of a cluster of villages or small towns.
• Lender of Last Resort: A central bank (like RBI) that provides short-term loans and funding to banks facing liquidity crunch, typically at higher interest rates.
• Callable Deposits: Fixed deposits which allow premature withdrawals.
• Non-Callable Deposits: Fixed deposits with a predetermined lock-in period. Cannot be withdrawn before maturity except in specific situations.
• Term Money: Borrowing or lending of funds for more than 14 days.
• Merchant Discount Rate (MDR): A fee that a merchant must pay to his acquirer bank for every transaction. Shared between customer's card issuing bank, merchant acquiring bank, and payment gateway provider.
• Legal Entity Identifier (LEI): A 20-character alpha-numeric code used to uniquely identify parties to financial transactions worldwide.
• Contingent Liabilities: A potential liability that may occur in the future, such as pending lawsuits or honoring product warranties.
• Default Loss Guarantee (DLG): A contractual agreement between Regulated Entities and a qualified entity that guarantees compensation for default-related losses.
• Inverted Yield Curve: Occurs when short-term debt instruments carry higher yields than long-term instruments of the same credit risk profile.
• Negative Bond Yield: When an investor receives less money at the end of maturity period than the purchase price of the bond.
• Yield Gap / Yield Ratio: The ratio of the dividend yield of an equity and the yield of a long-term government bond.

Key Banking Sector Terms at a Glance:

- Monetary Policy: Repo Rate, Reverse Repo, MSF, Bank Rate, OMO, MPC
- Reserve Requirements: CRR, I-CRR, SLR, CAR/CRAR, Tier 1, Tier 2, LCR, NSFR, CCoB
- Institutions: UCBs, DCCBs, Payment Banks, NBFCs, Shadow Banking, BBB, D-SIBs
- Lending: MCLR, PSL, Interest Coverage Ratio, LTV, Credit Rating Agencies, CDS, Bullet Repayment, Zombie Lending, Evergreening
- NPA Classification: SMA-0/1/2, NPA, Sub-Standard, Doubtful, Loss Assets, PCA
- Money Supply: M0, M1, M2, M3, CDR, RDR, Velocity, Fractional Reserve
- Currency: Legal Tender, Fiat Money, Seigniorage, Demonetization, Redenomination
- Benchmarks: LIBOR, MIFOR, MIBOR, Basel III
- Digital: CBS, Payment Aggregator, TPAP, Tokenization, Green Deposits
- Miscellaneous: SAA, Lender of Last Resort, Callable/Non-Callable Deposits, Term Money, MDR, LEI, Contingent Liabilities, DLG

3. Summary: Key Banking Sector Terminologies

Term	Key Definition / Category
Repo Rate	RBI lends short-term funds to banks
Reverse Repo Rate	RBI borrows from banks
CRR	Cash Reserve Ratio — no interest given
SLR	Statutory Liquidity Ratio — currently 18%
CAR / CRAR	Capital Adequacy Ratio — capital / risk-weighted assets
Tier 1 Capital	Core capital — equity, reserves
Tier 2 Capital	Unaudited reserves, loss reserves
LCR	Liquidity Coverage Ratio — 30-day resilience
NSFR	Net Stable Funding Ratio — long-term resilience
MCLR	Minimum lending rate — replaced base rate (2016)
PSL	Priority Sector Lending — Agriculture, Education, Housing
NPA	Non-Performing Assets — unpaid > 90 days
SMA-0/1/2	1-30 / 31-60 / 61-90 days overdue
Payment Banks	Limited banking — no credit/loans
NBFCs	Financial services — no banking license
OMO	Open Market Operations — buy/sell G-Secs
MPC	Monetary Policy Committee — 6 members (2016)
M0/M1/M2/M3	Money supply measures
LIBOR	London Interbank Offer Rate — global benchmark
MIBOR	Mumbai Interbank Offer Rate — Indian benchmark
Basel III	International bank capital and risk standards
Legal Tender	Official payment recognized by law
Demonetization	Stripping currency of legal tender status

Key Takeaways for UPSC

• Monetary Policy Tools: Repo Rate, Reverse Repo, MSF, Bank Rate, OMO, CRR, SLR — used by RBI to manage liquidity and inflation
• MPC: Six-member committee established in 2016 to set policy interest rates
• Capital Adequacy: CAR/CRAR, Tier 1, Tier 2, LCR, NSFR, CCoB — Basel III framework
• Banking Institutions: UCBs, DCCBs (cooperative), Payment Banks, NBFCs, Shadow Banking, D-SIBs (TBTF)
• Lending Rates: MCLR replaced Base Rate in 2016 — minimum lending rate
• Priority Sector: Agriculture, Education, Housing, Social Infrastructure, Renewable Energy
• NPA Classification: SMA-0 (1-30 days), SMA-1 (31-60), SMA-2 (61-90), NPA (>90 days), Sub-Standard (12 months), Doubtful (>12 months), Loss Assets
• Money Supply: M0 (monetary base), M1, M2, M3 (broad money)
• Benchmark Rates: LIBOR (global), MIBOR (India), MIFOR (forward)
• Currency Concepts: Legal Tender, Fiat Money, Seigniorage, Demonetization, Redenomination

High-Yield Interactive UPSC Quiz (Chapter 8: Banking Sector in India)

Q1. The Reserve Bank of India lends short-term funds to commercial banks at:

Correct Answer: B. Repo Rate is the interest rate at which RBI lends short-term funds to commercial banks to meet their liquidity needs. (UPSC 2020)

Q2. Statutory Liquidity Ratio (SLR) is currently at:

Correct Answer: C. SLR is a regulatory requirement set by RBI mandating banks to maintain a certain percentage of their NDTL in liquid assets. It is currently at 18% of NDTL. (UPSC 2020)

Q3. CRR (Cash Reserve Ratio) is maintained by banks with RBI in the form of:

Correct Answer: B. CRR is maintained by banks with the RBI in the form of cash. No interest is given on CRR.

Q4. The Monetary Policy Committee (MPC) was established in:

Correct Answer: C. The Monetary Policy Committee (MPC) was established in 2016 and replaced the earlier practice of the RBI Governor being the sole decision-maker. (UPSC 2017)

Q5. Which type of banks are NOT allowed to offer credit facilities or loans?

Correct Answer: C. Payment Banks are licensed to provide limited banking services such as accepting deposits, issuing debit cards, and facilitating payments, but they are not allowed to offer credit facilities or loans. (UPSC 2016)

Q6. MCLR stands for:

Correct Answer: C. MCLR is the Marginal Cost of Funds based Lending Rate — the minimum interest rate at which commercial banks can lend. Introduced by RBI in April 2016. (UPSC 2015)

Q7. Non-Performing Assets (NPA) are classified when a loan is unpaid for more than:

Correct Answer: C. If a loan's principal or interest is unpaid for more than 90 days from its due date, it is classified as NPA.

Q8. SMA-1 refers to loans unpaid for:

Correct Answer: B. SMA-1 refers to loans where principal or interest is unpaid for 31 to 60 days from its due date.

Q9. Basel III Accord was developed in response to:

Correct Answer: B. The Basel III Accord was developed by the Basel Committee on Banking Supervision in response to the global financial crisis of 2008. (UPSC 2015)

Q10. Which of the following is a Tier 1 capital component?

Correct Answer: B. Tier 1 Capital (core capital) consists of equity capital, ordinary share capital, intangible assets, and audited revenue reserves. It is used to absorb losses and does not require a bank to cease operations.