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Loan Activities of Banks

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  • Difficulty Level : Expert
  • Last Updated : 28 Apr, 2022

Money is an enthralling subject full of enigmas. For the pupils, it is critical to capture this element. The evolution of money and how different forms were employed at different times is a fascinating topic. Modern money is intertwined with the banking system. Credit is a critical component of economic life, thus it’s vital to grasp the notion first. Another important aspect of credit is that it is available to everyone, including the poor, and on reasonable terms. We must emphasize that this is a people’s right and that without it, a big portion of the population would be excluded from the development process.

Loan Activities of Banks

A small portion of deposits is kept as deposits by banks. In India, for example, banks now keep about 15% of their deposits in cash. This is kept as a reserve to compensate depositors who come to the bank to withdraw money on any given day. Because just a small percentage of the bank’s many depositors come to withdraw cash on any given day, the bank is able to handle this cash.

Banks use the majority of deposits to provide loans. Loans for a wide range of economic activities are in high demand. Deposits are used by banks to address the needs of consumers who need loans. Banks act as a middleman between individuals who have excess funds (depositors) and those who require these monies (the borrowers). A higher rate is charged on loans than they do on deposits.  The difference between what they charge borrowers and what they pay depositors is their principal source of income.

Crop production is the principal source of credit in rural communities. Crop cultivation entails significant costs for seeds, fertilizers, pesticides, water, energy, and equipment repair, among other things. Between the time the farmers purchase these inputs and the time they sell the harvest, there is a minimum of three to four months. Crop loans are typically taken at the start of the season and repaid after harvest. The amount of money needed to repay the loan is mostly determined by the amount of money earned from farming.

A debt trap is a scenario in which it is difficult or impossible to repay a debt, usually due to high-interest payments that prevent principal repayment. In this circumstance, credit forces the borrower into a situation from which he or she will have a difficult time recovering. In one case, credit aids in the increase of earnings, making the person better off than before. In another case, credit is used to force a person into a debt trap due to crop failure.

Terms of Credit

In addition to the principal payments, each loan agreement specifies an interest rate that the borrower must pay to the lender. Lenders may also need collateral (security) as payment for loans. A borrower’s collateral is an asset that he or she owns and uses to guarantee the repayment of a loan to a lender. If the borrower fails to make payments on the loan, the lender has the authority to sell the asset or collateral to recoup the payment. The credit terms include the interest rate, collateral and documentation requirements, and repayment method. The terms of credit vary greatly from one credit arrangement to the next.

Non-Performing Assets

Even while credit is now widely available to people in both rural and urban regions, their recuperation remains tough, impeding our country’s prosperity. When a person fails to pay a loan or an amount owed to him owing to a failure to pay interest, installments, or the principal amount, that loan or amount is referred to as a non-performing asset.

Non-performing assets have long been a source of concern for banks. The Government of India and the Reserve Bank of India have redoubled their efforts to address the problem of non-performing assets. There is a distinction to be made between bank fraud and NPA.

  1. Bank fraud is a criminal offense, and a non-performing asset is a loan or advance on which interest or principal installments are 90 days overdue.
  2. A non-performing asset is one that no longer provides income for the bank, according to the Reserve Bank of India (RBI). Non-performing assets at public banks are estimated to be about $ 62 billion, accounting for 90 percent of total NPA in India.

Non Performing Assets in India are on rise because

  1. From 2004 to 2009, the economy experienced tremendous expansion, prompting businesses to actively seek bank loans.
  2. The majority of the investment went into infrastructure industries such as roads, power, aviation, and steel.
  3. Banks’ lax lending standards, without considering the financial soundness of the companies and their credit ratings
  4. The prohibition of mining operations, as well as the delay in obtaining environmental permits, resulted in an increase in raw material costs and a significant imbalance between demand and supply, harming the power, steel, and iron industries. This impacted the companies’ ability to repay bank loans, resulting in NPA.

Sample Problems

Question 1: What is the fundamental element of the double coincidence of wants?

Answer:

Both parties agree to sell and buy each other’s goods as a basic feature. It is used in the barter system.

Question 2: Why do people deposit money with the banks?

Answer:

People put their excess money in the bank because it is safe and produces interest.

Question 3: Which is the main source of income of the banks?

Answer:

The main source of income for banks is the gap between what they charge borrowers and what they pay depositors.

Question 4: How do banks use the major portion of the deposits?

Answer:

Banks use the majority of deposits (55 percent) to make loans to customers for a variety of purposes.

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