Centralization and Decentralization

What are the advantages and disadvantages of decentralization?

Centralization and decentralization are the two key concepts in analyzing an organization’s structure. Centralization is defined as the type of organization where most of the decision making power is vested on the top management. While on the other hand the philosophy of decentralization believes in empowering the employees in the lower level of the organization to take certain decisions. In the practical world, hardly do we encounter organizations which are completely centralized or decentralized; instead it’s the degree which decided the organizational Philosophy.

Determinants of Centralization/Decentralization:

a)      Type of organization: Some organizations are more conducive to centralized way of working i.e. military and some dwell well in decentralized way of operations like automobiles where the ground level information has to be taken care of

b)      Type of workforce: Type of workforce is also a key determinant in shaping organization structures. Labor intensive organizations generally work in centralized way of functioning while in case of knowledge intensive firm, the competency is present among the workforce, and decentralization is more effective.

c)      Scale of Operations:  Centralized way of operating is more relevant in the small-scale level of operations. As the scale of operations widens, and in the present age of the globalized world, it is almost imperative to go for centralization

d)      Management Philosophy: Generally the decision making structure of an organization is also influenced from the management philosophy. Generally a family driven organization prefers a centralized decision making structure, while the professionally managed organizations usually lay more emphasis on decentralizing their activities.

Advantages and Drawbacks

Centralization:

Advantages	Disadvantages
Quicker decision making	Lower employee Motivation
Focused Approach	Over-burdening of Management
Reduced Conflict	Can’t Support large scale of operations
Control and Accountability	Hampers development of next generation managers

Decentralization:

Advantages	Disadvantages
Higher employee involvement and motivation	Can slow down decision making due to multiple stakeholders
Supports growth	Potential co-ordination problems can rise between different departments
Develops managerial skills in staff	Competency of workforce can also be a limiting factor in de-centralization efficacy
Enables the management to focus on critical affairs of organization	Not east to fix responsibility and accountability of decisions.

Relationship between Planning and Controlling

Planning and Control are two sides of the same coin”. Do you agree? Why?

When we talk about the functions of management, we essentially mean the actions which the managers have to perform irrespective to the various fields in which they are working. Thus, these functions have the universal applicability and are applicable to all levels of Management. Broad categorization of the functions of management are:

• Planning
• Organizing
• Staffing
• Directing
• Controlling

Although, they are usually present in the sequential order, but in real world, most of these functions overlap, and none of them work in silos.

Planning and controlling, though placed at the extreme ends of the spectrum of the management functions, yet both of them exhibits very close relationship. Planning shows the way, control ensures whether we are on the right way or not. Planning provides the context, control provides the guidance. Let us examine their relationship in detail.

Planning can be defined as the exercise to set the goals so as to carry forward the organization to a desired destination. Therefore, one of the key components of planning is to enumerate measurable goals, both short terms and long terms. Against, these laid down goals, the control process track the actual performance against the desired standards of performance. It tracks the deviation, identifies cause and responsibility, and prescribes curative solutions for it. Planning can be done more wisely in future, by utilizing the experience and insights generated from the control process.

Some opinions believe that planning is a “forward looking process” while control is a “backward looking process”, but it must be appreciated that both are related symbiotically and success of one function provides success to another.

Planning	Controlling
It formulates the short term and long term performance standards of an organization	It measures and compares actual performance against the standard laid down during planning
Well defined and measurable goals provide for good control processes	Insights and experiences generated during control process helps in good planning for future
Planning is predictable in nature	Control is curative in nature
A good plan without an effective control process is difficult to achieve	A good control process without a well-defined plan will prove to be dysfunctional

From FERA to FEMA

Past questions related to FEMA and foreign exchange market in India

Q 1 ) What is meant by NRI? What are the incentives provided to attract in investment by NRIs?

Q 2) Discuss the salient features of the foreign exchange market in India.

Q 3) Briefly discuss the main features of the RBI directives relating to acceptance of deposits by NBFCs.

Q 4 ) Briefly explain the salient features of the Foreign Exchange Management Act.

FERA or foreign exchange regulation act was introduced in 1973, with a view to control forex transaction in the economy. During 1970s there was a severe crunch on foreign reserves and strict laws were needed to curb the misuse of it. Besides, Indian economy was highly regulated and closed then. Therefore a law such as FERA was considered apt during the License Raj.

Objectives of FERA were

• To conserve foreign exchange.
• To utilize the same judiciously by rationing foreign exchange among competing claims.

The situation was so precarious that Mr Nandan Nilekani ( co-founder of Infosys) was almost rejected dollars for his business trip to USA as the RBI clerk couldn't fathom the need for such trips, as a result Infosys almost missed finalizing a client.

However the closed economy and financial profligacy of Indian government resulted in foreign exchange crisis in 1980 -1990. In 1991 the economy was liberalized, the liberalization was more due to external prodding by the IMF and less due to a change in our administration’s view. Following liberalization Indian rupee was devalued by around 20% with a view to protect domestic industries.

LERMS ie liberalized exchange rate management  system was introduced in 1992 and a modified LERMS was put up in 1993. Finally the government accepted IMF’s article VIII status and put in a frame work for current account convertibility. By 2000 IMF loans were fully repaid and FEMA came into being replacing FERA.

FEMA was introduced with a view of consolidating the law relating to foreign exchange with the objective of facilitating external trade and payments and for promoting the orderly development and maintenance of foreign exchange market in India. FEMA was introduced with a view to clearly demarcate the powers of GoI and RBI as far as foreign exchange transaction were concerned.

Differences between FERA and FEMA

1. The object of FERA was to conserve foreign exchange and to prevent its misuse. The objective of FEMA is to facilitate external trade and payments and maintenance of foreign exchange market in India.
2. Violation of FERA was a criminal offence whereas violation of FEMA is a   civil offence.
3. Offences under FERA were not compoundable, while offences under FEMA are compoundable.
4. Citizenship was a criterion to determine the residential status of a person under FERA, while stay of more than 182 days in India is the criteria to decide residential status under FEMA.
5. Provision in respect of Basic Travel Quota (BTQ) business travel export        commission, gifts, donation, etc., have been considerably enhanced in FEMA.
6. Almost all current account transactions are free, except a few.  

Brief Scope of FEMA

·         FEMA provides for

1. Free transactions on current account subject to reasonable restrictions that may be imposed.
2. RBI controls over capital account transactions.
3. Control over realisation of export proceeds.
4. Dealing in foreign exchange through authorised persons like authorised dealer/money changer/off     shore banking unit.
5. Adjudication of Offences.
6. Appeal provision including Special Director (Appeals) and Appellate  Tribunal.
7. Directorate of Enforcement.

Sources RBI material on FEMA .

Link for additional details on FEMA ( DropBox Links )

https://www.dropbox.com/s/rikdiq2djn42l0i/RBI%20material%20on%20FEMA.pdf

https://www.dropbox.com/s/zzx0w09ceio609e/FLY%20WITH%20FEMA-251011.ppt

https://www.dropbox.com/s/g1fk1gua2n09u5v/FEMA%20%281%29.ppt

Kindly excuse my formatting, I am completely at sea with this new dashboard format.

Financial Sector Reforms: Part 2

In the last part , i have gone through the history of banking sector in India. Now, we will continue towards the reforms in the financial sector.

As discussed previously, the financial sector consists of the entities which engage in the channelization of capital from the surplus sector to the deficit sector. Broadly speaking, there are 3 such entities:

• Banks and NBFCs
• Capital Markets 
• Money Market 

Reforms in Banking sector

As discussed in the earlier post, due to government directed irrational expansion of the banking sector, the banking sector was in desperate need of an overhaul. Fortunately the crisis of 1991, opened the window for reforms in the banking sector.

Due to the opening of economy, the banking structure has also to be changed to keep pace with the changes. Thus, Government of India constituted Narsimhan committee to suggest progressive changes in the banking sector. This was followed by another Narsimhan Committee on Banking sector reforms in 1998 ( Also known as Narsimhan-II committee). Key recommendations were:

a) Autonomy in Banking

Greater autonomy was proposed for the public sector banks in order for them to function with equivalent professionalism as their international counterparts. For this the panel recommended that recruitment procedures, training and remuneration policies of public sector banks be brought in line with the best-market-practices of professional bank management. Secondly, the committee recommended GOI equity in nationalized banks be reduced to 33% for increased autonomy. It also recommended the RBI relinquish its seats on the board of directors of these banks.

b) Reform in the Role of RBI

The Committee proposed a segregation of the roles of RBI as a regulator of banks and owner of bank. It observed that "The Reserve Bank as a regulator of the monetary system should not be the owner of a bank in view of a possible conflict of interest”. Pursuant to the recommendations, the RBI introduced a Liquidity Adjustment Facility (LAF) operated through repo and reverse repos to set a corridor for money market interest rates. RBI decided to transfer its respective shareholdings of public banks like State Bank of India (SBI), National Housing Bank (NHB) and National Bank for Agriculture and Rural Development (NABARD) to GOI. Subsequently, in 2007–08, GOI decided to acquire entire stake of RBI in SBI, NHB and NABARD. Of these, the terms of sale for SBI were finalized in 2007–08 .

c) Stronger Banking System

The committee wanted to rationalize the banking sector by means of mergers and consolidation, so as to create financial institutions capable of handling international transactions. It suggested 3 –tier banking structure i.e. top tier with 2-3 large scale banks competent of catering to international financial requirements, middle tier with nationalized banks which can deal with domestic requirement, and the bottom tier of RRBs to cater the priority sector of the economy. It was opposed by RBI at that stage, but now RBI has itself came out with guidelines regarding restructuring of banking sector in August, 2013.

d) Managing NPAs

The greatest scourge of the PSBs was the ever-increasing burden of Non-Performing Assets. Most of this was due to directed credit lending directions by the mechanism of priority sector lending. There were also instances of behest lending to fulfill political motives. Narsimhan-II committee recommended the reduction of priority sector lending target to 10% from 40% ( Which was not accepted by government). He also, recommended for setting up of Asset Reconstruction Firms (ARFs) to ease the burden on banks and clean their balance sheets. He was strictly against the recapitalization of the banks by government. The recommendations of committee led to path breaking legislation of SARFAESI Act, 2002.

e) Capital Adequacy and Tightening of Provisioning

To improve the inherent strength of the Indian Banking sector, he suggested capital adequacy norms of 9% of the risk weighted assets (following the norms of BCFS, Basel Norms). For asset classification, the Committee recommended a mandatory 1% in case of standard assets and for the accrual of interest income to be done every 90 days instead of 180 day.

Further Reforms in Banking Sector

The 2 Narsimhan committees on banking sector reforms, raised very vital points and led to many structural changes in the banking sector and enabling legislations. Since then, Banking sector is constanly reforming itself, with the able guidance of Reserve Bank of India. Some of the recent reforms in the banking structure are :

·       Decontrolling of the interest rates on Saving Accounts

·       Scrapping of BPLR system and setting Base rate Regime

·       Giving banks autonomy to open branches as per their business requirement

·       Technological revolution: CBS, NEFT, RTGS and CTS-2010

·       Allowing bank to participate in capital markets for investment and raising capital

·       Concept of Universal banking: tie up of various financial institutions to provide integrated financial services under one umbrella brand

·       Valuation of the securities of Banks on Mark-to-Market basis for the right assessment of the assets of banks

·       Establishment of Board-level Asset-Liability committees (ALCO) to monitor the Asset Liability management in banks to maintain solvency of banks.

·       Introduction of Daily-basis interest calculation in place of standard first 10 days min balance calculation to increase profit for depositors.

Thus, we can observe that reforms in the banking sector have been in 2 dimensions. First is the increase in the profitability and the autonomy of banks, and second is the protection of interests of small depositors in the Bank.

The new thrust to reforms in the banking sector is coming from the increased focus on Financial Inclusion. RBI is mulling over giving additional banking licenses and making it a continuous process. Models like Banking correspondents, M-Banking are creating new paradigms for the evolution of the banking sector. Due to increasing impetus on leveraging technological prowess, there is integration of various financial services in the Banking function. Thus, we will have to brace ourselves for more reforms in the banking structure in the near future.

Capital Markets and Money Markets

Capital Markets: Markets for long-term investment of funds

Money-Markets: Markets for short term investment of funds ( generally <1 year)

<< will dwell on it in the next document>>

P.S> Few points are taken from Wikipedia.

Paper 3: Finance and Management: Financial Sector reforms: Part 1

Financial Sector Reforms

Before moving into the reforms side, let us first understand what the financial sector of an economy means. Actually, the primary purpose of the financial sector in an economy is resource allocation. That is, to channelize the funds from the portion of population which have idle surplus money to the productive sector which need money for investment. Therefore, the role of financial sector is to act as an agent of capital formation in an economy. Now you must appreciate, that for an economy to move forwards, we need a robust financial sector with efficient means and ways of resource allocation.

So, broadly speaking, financial sector has following players:

• Supplier of Funds
• Demander of Funds
• Financial Intermediaries
• Financial Markets

Phases of reforms in Indian Financial Sector

In over five decades since dependence, banking system in India has 

passed through five distinct phase, viz. 

(1) Evolutionary Phase (prior to 1950) 

(2) Foundation phase (1950-1968) 

(3) Expansion phase (1968-1984) 

(4) Consolidation phase (1984-1990) 

(5) Reformatory phase (since 1990) 

Evolutionary Phase

First set of significant banks appeared in late 19th century, when the financial system was dominated by presidency banks known as Imperial bank of India ( Later SBI). Some new banks also arrived in the scene viz Allahabad Bank and PNB became the first Indian managed bank of the nascent Indian financial sector.

Foundation Phase

The banking scenario prevalent in the country during the period 1948- 1968 presented a strong focus on class banking on security rather than on  purpose. The emphasis of the banking system during this period was on  laying the foundation for a sound banking system in the country. Banking  Regulating Act was passed in 1949 to conduct and control operations of the commercial banks in India. Another major step taken during this period was the transformation of Imperial Bank of India into State Bank of India and a  redefinition of its role in the Indian economy, strengthening of the co-operative credit structure and setting up of institutional framework for providing long term finance to agriculture and industry. Banking sector, which during the  pre—independence India was catering to the needs of the government, rich  individuals and traders, opened its door wider and set out for the first time to  bring the entire productive sector of the economy – large as well as small, in  its fold.

Expansion Phase

The motto of bank nationalization was to make banking services reach  the masses that can be attributed as "first- banking revolution". Commercial  banks acted as vital instruments for this purpose by way of rapid branch  expansion, deposits mobilization and credit creation. Penetrating into rural  areas and agenda for geographical expansion in the form of branch  expansion continued. The second dose of nationalization of 6 more  commercial banks on April 15, 1980 further widened the phase of the public  sector banks and therefore banks were to implement all the government  sponsored programmes and change their attitude in favour of social banking,  which was given the highest priority.

This period also witnessed the birth of Regional  Rural Bank (RRBS) in 1975 and NABARAD in 1982 which had priority sector  as their focus of activity.

The fifteen years following the banks’ nationalization in 1969 were dominated by the Banks’ expansion at a path breaking pace. As many as  50,000 bank branches were set up; three-fourths of these branches were 

opened in rural and semi-urban areas. Thus, during this period a distinct transformation of far reaching significance occurred in the Indian banking system as it assumed a broad mass base and emerged as an important instrument of socio-economic changes. Thus, with growth came inefficiency and loss of control over widely spread offices. Moreover, retail lending to more risk-prone areas at concessional interest rates had raised costs, affected the quality of assets of banks and put their profitability under strain. The competitive efficiency of the banks was at a low ebb. Customer service became least available commodity. Performance of a bank/banker began to be measured merely in terms of growth of deposits, advances and other such  targets and quality became a casualty.

Consolidation Phase

By this time about 90% of commercial banks were in the public sector  and closely regulated in all its facets. Prices of assets liability were fixed by  the RBI; prices of service were fixed uniformly by the Indian Banking 

Association (IBA); composition of assets was also somewhat fixed in as much  as 63.5% of bank funds were mopped up by CRR and SLR and the remained  was to directed towards priority sector leading and small loaning; salary  structure was negotiated by the IBA and validated by the Government. Thus,  there was no autonomy in vital decisions Government. Thus, there was no  autonomy in vital decisions. Commercial approach in operations and drive  towards efficiency was almost nonexistent. The result was that during this period, the banks ended up consolidating their losses rather than the gains

Over-interference of government in banking sector led to decline in productivity and efficiency and erosion of the  profitability of the banking sector. The squeeze on profitability has emanated  both from the factors operating on the side of income and on the side of  expenditure. The Narasimham Committee-I identified the following factors as  responsible for decline in income earnings:

i. Directed investment in terms of minimum Statutory Liquidity Ratios  which together with variable Cash Reserve Ratio, preempting well 64 over half of the total resources mobilized by banks.

ii. Directed credit program of deploying 40 per cent of bank credit to the priority sectors 

iii. Low capital base.

iv. Low technology. 

v. Phenomenal branch expansion. 

vi. Political interference in loan disbursal and poverty eradication program

<< We will see the reformist and the revolution in Finacial sector after GPL in 1991 in next part>>

Regards

Rahul