Introduction to Indian Banking System: Complete Beginner's Guide

Introduction: Banking Touches Every Life

When Ramesh, a farmer in rural Maharashtra, receives his PM-KISAN payment directly into his Jan Dhan account, that’s banking. When Priya in Bangalore uses UPI to pay for her morning coffee, that’s banking. When a large infrastructure company raises ₹5,000 crores through a consortium of banks to build a highway, that’s banking too.

From the simplest savings account to the most complex project financing, the Indian banking system is the circulatory system of our economy—moving money where it’s needed, when it’s needed.

Understanding how this system works isn’t just for bankers or finance professionals. It’s essential knowledge for anyone who wants to make smart financial decisions, understand economic news, or simply know what happens to their money after they deposit it.

What is Banking?

The Basic Function

At its core, banking is about intermediation—connecting those who have money (savers) with those who need money (borrowers).

Depositors → Banks → Borrowers
(Savers)     ↓       (Loans)
           Profit
         (Interest Spread)

Banks:

• Accept deposits and pay interest
• Give loans and charge higher interest
• The difference (spread) is their income

Why Do We Need Banks?

1. Safety

• Safer than keeping cash at home
• Deposit insurance protection (up to ₹5 lakhs)

2. Convenience

• Payment services
• Money transfer
• 24/7 access through digital channels

3. Returns

• Interest on savings
• Various deposit products

4. Credit Access

• Loans for personal needs
• Business financing
• Home and vehicle purchases

5. Economic Growth

• Channel savings to productive uses
• Fund infrastructure and businesses
• Support government borrowing

The Reserve Bank of India (RBI)

What is RBI?

The Reserve Bank of India is the central bank of the country—the banker to banks and the banker to the government. Established in 1935, it’s the apex institution regulating India’s monetary and banking systems.

Key Functions of RBI

1. Monetary Authority

• Formulates monetary policy
• Controls money supply
• Manages interest rates (repo rate, reverse repo)
• Inflation targeting (currently 4% with ±2% band)

2. Regulator and Supervisor

• Licenses banks
• Sets prudential norms
• Conducts inspections
• Takes corrective action against errant banks

3. Issuer of Currency

• Sole authority to issue currency notes
• Manages currency in circulation
• Combats counterfeiting

4. Banker to Government

• Manages government accounts
• Handles government borrowings
• Advises on financial matters

5. Banker to Banks

• Maintains CRR (Cash Reserve Ratio) accounts
• Lender of last resort
• Operates payment systems

6. Foreign Exchange Manager

• Manages forex reserves
• Regulates forex market
• Maintains exchange rate stability

RBI’s Regulatory Tools

Structure of Indian Banking System

Overview

Reserve Bank of India (Central Bank)
            │
    ┌───────┴───────┐
    │               │
Scheduled Banks  Non-Scheduled Banks
    │
    ├── Commercial Banks
    │   ├── Public Sector Banks (12)
    │   ├── Private Sector Banks (21)
    │   ├── Foreign Banks (46)
    │   ├── Regional Rural Banks (43)
    │   └── Small Finance Banks (12)
    │
    └── Cooperative Banks
        ├── Urban Cooperative Banks
        └── Rural Cooperative Banks

Scheduled vs Non-Scheduled Banks

Scheduled Banks:

• Listed in Second Schedule of RBI Act
• Maintain CRR with RBI
• Eligible for RBI refinance
• Most banks are scheduled

Non-Scheduled Banks:

• Not in Second Schedule
• Smaller, localized operations
• Limited in number

Types of Banks in India

1. Public Sector Banks (PSBs)

Government owns majority stake (>50%).

Major PSBs:

• State Bank of India (largest)
• Punjab National Bank
• Bank of Baroda
• Canara Bank
• Union Bank of India
• Bank of India
• Indian Bank
• Central Bank of India
• Indian Overseas Bank
• UCO Bank
• Bank of Maharashtra
• Punjab & Sind Bank

Characteristics:

• Extensive branch network
• Strong rural presence
• Social banking mandates
• Government backing

Challenges:

• NPA issues
• Slower decision-making
• Legacy technology

2. Private Sector Banks

Majority ownership by private entities.

Major Private Banks:

• HDFC Bank (largest private bank)
• ICICI Bank
• Axis Bank
• Kotak Mahindra Bank
• IndusInd Bank
• Yes Bank
• IDBI Bank
• Federal Bank
• RBL Bank
• Bandhan Bank

Characteristics:

• Technology-driven
• Customer-focused
• Faster service
• Urban concentration

3. Foreign Banks

Incorporated outside India, operating through branches.

Major Foreign Banks in India:

• Standard Chartered
• Citibank
• HSBC
• Deutsche Bank
• Barclays
• DBS Bank

Characteristics:

• Limited branch network
• Focus on corporate/HNI clients
• Advanced products
• Global connectivity

4. Regional Rural Banks (RRBs)

Created for rural credit needs. Jointly owned by Central Government, State Government, and Sponsor Bank.

Examples:

• Baroda Gujarat Gramin Bank
• Punjab Gramin Bank
• Andhra Pradesh Grameena Vikas Bank

Focus Areas:

• Agricultural credit
• Rural development
• Priority sector lending

5. Small Finance Banks (SFBs)

Licensed to provide basic banking services with focus on underserved segments.

Major SFBs:

• AU Small Finance Bank
• Equitas Small Finance Bank
• Ujjivan Small Finance Bank
• Jana Small Finance Bank

Mandate:

• 75% loans to priority sector
• 50% loans up to ₹25 lakhs
• Focus on unbanked regions

6. Payments Banks

Can accept deposits (up to ₹2 lakhs) but cannot lend.

Examples:

• Paytm Payments Bank
• Airtel Payments Bank
• India Post Payments Bank
• Fino Payments Bank
• Jio Payments Bank

Services:

• Savings accounts
• Debit cards
• Net banking
• Bill payments
• Remittances

7. Cooperative Banks

Member-owned, serving specific communities or regions.

Structure:

State Cooperative Banks
        │
District Central Cooperative Banks
        │
Primary Agricultural Credit Societies (PACS)

Urban Cooperative Banks:

• Operate in urban/semi-urban areas
• Serve specific communities
• Recent regulatory tightening after PMC Bank crisis

How Banks Make Money

Interest Income (Primary Source)

Net Interest Income = Interest Earned - Interest Paid

Example:

• Lending rate: 10%
• Deposit rate: 6%
• Spread: 4%

On ₹1,00,000:

• Interest earned: ₹10,000
• Interest paid: ₹6,000
• Net Interest Income: ₹4,000

Non-Interest Income

Fee-Based Income:

• Account maintenance charges
• Locker rentals
• Card fees
• Processing fees
• Guarantee commissions

Trading Income:

• Treasury operations
• Forex transactions
• Investment gains

Key Profitability Metrics

Deposit Products

Savings Account

Features:

• Interest rate: 2.70% - 7% (varies by bank)
• Minimum balance: ₹500 - ₹10,000 (some offer zero balance)
• Unlimited deposits
• Withdrawal limits may apply

Types:

• Regular savings
• Zero balance (Jan Dhan, salary)
• Premium/privilege savings
• Women’s savings
• Senior citizen savings

Current Account

Features:

• For businesses
• No interest (generally)
• Higher transaction limits
• Overdraft facility available
• Higher minimum balance

Fixed Deposits (FD)

Features:

• Higher interest than savings
• Fixed tenure (7 days to 10 years)
• Premature withdrawal with penalty
• Loan against FD available

Current Rates (Approximate):

Recurring Deposit (RD)

Features:

• Regular monthly deposits
• Interest similar to FD
• Good for systematic savings
• Tenure: 6 months to 10 years

Other Deposits

• Tax Saver FD: 5-year lock-in, Section 80C benefit
• Flexi FD: Combines savings and FD
• Senior Citizen FD: Higher rates for 60+

Lending Products

Retail Loans

1. Home Loans

• Tenure: Up to 30 years
• Rate: 8.5-9.5% (floating)
• LTV: Up to 80-90%
• Tax benefits under Section 24, 80C

2. Vehicle Loans

• Car: 7-8.5% for 7 years
• Two-wheeler: 10-15% for 5 years
• New vs. used vehicle rates differ

3. Personal Loans

• Rate: 10-24%
• Tenure: 1-5 years
• Unsecured
• Quick disbursement

4. Education Loans

• Rate: 8-12%
• Tenure: Up to 15 years
• Moratorium during study
• Tax benefit on interest

5. Gold Loans

• Rate: 7-15%
• Quick processing
• Up to 75% of gold value
• Flexible repayment

Business Loans

1. Working Capital Finance

• Cash Credit
• Overdraft
• Bill discounting
• Short-term loans

2. Term Loans

• Equipment financing
• Project financing
• Business expansion

3. Trade Finance

• Letters of Credit
• Bank Guarantees
• Export/Import financing

4. MSME Loans

• Priority sector category
• MUDRA loans (up to ₹10 lakhs)
• CGTMSE-backed loans
• Standup India

Payment and Settlement Systems

Operated by RBI

1. RTGS (Real Time Gross Settlement)

• For large value transfers
• Minimum: ₹2 lakhs
• Real-time, irrevocable
• Available 24x7x365

2. NEFT (National Electronic Funds Transfer)

• No minimum/maximum limit
• Batch processing (half-hourly)
• Available 24x7x365

Operated by NPCI

1. UPI (Unified Payments Interface)

• Instant transfer
• Mobile-based
• Limit: ₹1 lakh (₹2 lakhs for some)
• Free for users

2. IMPS (Immediate Payment Service)

• 24x7 instant transfer
• Up to ₹5 lakhs
• Small fee applicable

3. NACH (National Automated Clearing House)

• Bulk/repetitive payments
• Salary, dividends, EMIs
• Direct debit for bills

4. AePS (Aadhaar enabled Payment System)

• Aadhaar-based banking
• Cash withdrawal, balance inquiry
• At micro-ATM/banking correspondents

5. Bharat Bill Payment System (BBPS)

• Centralized bill payment
• Utility bills, loans, insurance
• One-stop payment platform

Key Regulations and Norms

Prudential Norms

Capital Adequacy (Basel III):

• Minimum CAR: 11.5% (9% RBI minimum + 2.5% buffer)
• CET1: 8%
• Tier 1: 9.5%

Asset Classification:

Priority Sector Lending

Banks must lend 40% of adjusted net bank credit to priority sectors:

KYC Norms

• Mandatory for account opening
• Periodic re-verification
• Enhanced due diligence for high-risk
• PAN mandatory for transactions >₹50,000

Recent Developments in Indian Banking

Digital Transformation

• UPI crossed 10 billion monthly transactions
• Digital lending growth
• Neo-banking emergence
• Video KYC adoption
• AI in customer service

Consolidation

• Merger of PSBs (reduced from 27 to 12)
• SBI’s mega-merger (5 associate banks + BMB)
• Continued rationalization expected

Resolution of NPAs

• IBC mechanism operational
• Bad bank (NARCL) for stressed assets
• Write-offs and recoveries improving

Financial Inclusion

• Jan Dhan accounts: 50+ crores
• Aadhaar seeding of accounts
• Direct Benefit Transfer expansion
• PM SVANidhi for street vendors

Regulatory Changes

• Digital lending guidelines
• Account aggregator framework
• Central Bank Digital Currency (CBDC) pilots
• Climate risk guidelines

Challenges Facing Indian Banks

Asset Quality

• Elevated NPAs (though improving)
• Pandemic-related stress
• Concentration risks
• MSME stress

Competition

• Fintechs disrupting payments
• NBFCs in retail lending
• Big Tech entry concerns
• Customer loyalty declining

Technology

• Legacy system modernization
• Cybersecurity threats
• Data privacy compliance
• Digital transformation costs

Regulation

• Evolving norms
• Compliance costs
• Capital requirements
• Climate risk preparedness

Key Takeaways

1. RBI is the apex regulator – Controls monetary policy and supervises banks
2. Diverse banking structure – PSBs, private, foreign, cooperative, payments banks
3. Banks intermediate – Connect savers and borrowers
4. Interest spread drives profits – Difference between lending and deposit rates
5. Digital transformation accelerating – UPI, mobile banking, digital lending
6. Regulation protects depositors – Capital norms, deposit insurance, supervision
7. Financial inclusion expanding – Jan Dhan, Aadhaar, mobile penetration

Disclaimer

This article is for educational purposes only and does not constitute financial advice. Banking regulations and rates change frequently. Verify current information with RBI and respective banks before making financial decisions.

Quick Reference: Key Banking Terms

Banking may seem complex, but at its heart, it’s about trust—the trust depositors place in banks to keep their money safe, and the trust banks place in borrowers to repay. Understanding this system helps you make better financial choices.