Narrow Banking: Theory, evidence and prospects in India
AbstractThe narrow banking proposal defining a class of safe and liquid assets (generally sovereign Government securities) for investments by weak banks, backed fully by demand liabilities (generally non-interest bearing deposits) has been considered as a means of deposit protection and a possible solution to the banking problems. The paper seeks to explain the theoretical implications of the proposal and examine its implications for the Indian public sector banks facing large non-performing loans. The evidence presented shows that even without a directive, narrow banking on the asset side is already being practised as part of the asset-liability management by these banks. However, given the structure of deposit ownership, narrow banking in its strict sense does not afford a solution to reforming weak banks. Strictly practiced narrow banking can neither guarantee deposit protection not turn around the weak banks. On the contrary, it may expose weak banks to immense market and interest rate risks which can make the banking system vulnerable to idiosyncratic and systemic risks arising from macroeconomic shocks. The paper however recognises that some contraction in the scale of operations of weak banks seems to be an unavoidable by-product of measures which may be necessary to strengthen weak banks.
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Bibliographic InfoPaper provided by University Library of Munich, Germany in its series MPRA Paper with number 17352.
Date of creation: May 1998
Date of revision:
Publication status: Published in Economic and Political Weekly 9.34(1998): pp. 1091-1103
Narrow banking; government securities; deposit insurance; India;
Find related papers by JEL classification:
- G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
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