Banks are dealing in money that too, with others money. Risk is inherent in any finan­cial dealings. Hence, banks can retain public confidence on them only when they effec­tively manage the various types of risks faced in their operations.

The Reserve Bank of India moved away from the system of fixing exchange rate for rupee from March, 1993. The Market determined Exchange Rate fluctuates very often.

The banks are exposed to Exchange Rate risk on account of frequent movement in exchange rate of rupee. Similarly, the RBI allowed freedom to banks to determine their lending rates and deposit rates in a phased manner from 1994.

The market driven interest rates poses the risk of interest rates moving upwards or downwards. A bank accepting fixed rate deposits at ruling level finds later that the interest rates are falling. In such a situation the bank will end up paying higher interest and thereby lower profits.

ADVERTISEMENTS:

Similar is the effect when the bank lends at fixed rate and later finding that interest rates are going up. In such a situation the bank must have lost an opportunity to make more money at higher level of landings.

The global competition in banking industry and the liberal policy of RBI in permitting foreign banks and private sector banks to operate more freely in India brought about more Market Risk for banks. One of the main objectives of CRR and SLR is to ensure the liquidity position of banks.

The gradual reduction in CRR and SLR rates over the past few years will also expose the banks to liquidity risk. The freedom to banks to finance long-term projects and lowering the period of short-term deposits as low as 15 days and the policy of investments will expose the banks to asset-liability mismatch.

Banks have been told by Reserve Bank to introduce appropriate Risk Management System to protect themselves against these various risks.

ADVERTISEMENTS:

In this chapter an attempt is made to convey to the students the changing conditions under which commercial banks are required to operate and not an all out efforts to discuss in detail the various issues mentioned above.