DEVELOPMENT BANKING IN INDIA

Meaning and Features of Development Banking

• Meaning of Development Banking:

o Development banking refers to financial institutions that provide long-term credit
for the development of specific sectors of the economy such as agriculture,
industry, and infrastructure.
o Unlike commercial banks, development banks focus on economic development
and not just on profit-making. Their primary aim is to promote industrialization
and overall socio-economic development by supporting capital formation in
various sectors.
o These banks often operate under government policies, focusing on funding long-
term projects that may not yield immediate profits but are essential for national
growth.
• Features of Development Banks:
o Long-term Financing: Unlike commercial banks that offer short-term loans,
development banks provide long-term finance to businesses, industries, and
projects, often for a period of 5 to 20 years.
o Promotes Economic Growth: They support industries, agriculture, and
infrastructure development that contribute to overall economic development. This
can include funding for large-scale projects like dams, factories, or transportation
systems.
o Specialized Financing: These banks provide specialized financial products, such
as project financing, equity participation, and venture capital, aimed at fostering
innovation and industrial growth.
o Focus on Priority Sectors: They focus on funding key sectors of the economy,
such as small and medium enterprises (SMEs), infrastructure, education, health,
and rural development.
o Technical Assistance: Development banks not only offer financial assistance but
also provide technical guidance, management support, and advice to ensure that
funded projects succeed.
o Government Ownership: In most cases, development banks are government-
owned or government-backed institutions that are aligned with the nation’s
economic planning and growth strategies.
o Lower Interest Rates: To promote industrial and infrastructural growth,
development banks typically offer loans at lower interest rates than commercial
banks.
Functions of Development Banks in India

• Providing Long-Term Finance:

o Development banks in India provide long-term credit for projects that involve
high capital investment. This is particularly important in industries such as power
generation, transportation, and manufacturing.
o Example: The Industrial Development Bank of India (IDBI) offers financial
support to industrial projects that require heavy capital investment for long
durations.
• Supporting Industrialization:
o These banks encourage industrial growth by offering financial support to
industries, especially to those that are capital-intensive and have long gestation
periods.
o Example: The National Industrial Development Corporation (NIDC) plays a
crucial role in promoting industrialization by funding industrial projects in
underdeveloped regions.
• Providing Venture Capital:
o Development banks often take risks by providing venture capital, which involves
funding new and innovative projects that commercial banks might consider too
risky.
o Example: The Small Industries Development Bank of India (SIDBI) provides
funding to small enterprises that have the potential for high growth but lack
access to traditional financing.
• Promoting Infrastructure Development:
o Many development banks are tasked with financing large infrastructure projects
like roads, dams, ports, and airports, which are crucial for the economy’s long-
term growth.
o Example: The Infrastructure Development Finance Company (IDFC) provides
financing for infrastructure projects in sectors such as energy, transport, and
utilities.
• Encouraging Exports:
o Some development banks in India provide financial assistance to firms involved
in export activities, offering them working capital, loans, and other financial
products to help boost the country's export sector.
o Example: The Export-Import Bank of India (EXIM Bank) supports Indian
exporters by offering finance, trade credits, and other services.
• Promoting Rural and Agricultural Development:
o Development banks in India often focus on funding rural projects, agricultural
initiatives, and small-scale industries that contribute to rural employment and
poverty reduction.
 o Example: NABARD (National Bank for Agriculture and Rural Development)
provides loans and financial products to enhance agricultural productivity and
rural livelihoods.

Role of Development Banks in Economic Development

• Capital Formation:
o Development banks play a crucial role in mobilizing and channeling long-term
capital to industries and sectors that are key to economic development. By doing
so, they contribute to the overall capital formation in the economy.
o For example, when these banks finance the establishment of new industries or
infrastructure, they lay the foundation for future economic growth.
• Employment Generation:
o By funding industrial and infrastructural projects, development banks create a
multiplier effect on employment. Industries that receive financial support from
these banks expand their operations, hire more workers, and contribute to job
creation.
o Example: The establishment of large-scale industrial units like steel plants or
chemical factories funded by development banks leads to both direct and indirect
employment.
• Balanced Regional Development:
o Development banks help promote regional balance by focusing on
underdeveloped or backward regions that may not otherwise attract private
investment. This reduces regional disparities and promotes more equitable
economic growth across the country.
o Example: The financial assistance given by development banks to backward states
for setting up industries in sectors like textiles or electronics has helped create
regional industrial hubs.
• Industrialization and Diversification:
o By providing financial support to various sectors of the economy, development
banks contribute to industrial diversification. This reduces the economy's
dependence on a few sectors and promotes the growth of new industries.
o Example: The financing of small and medium enterprises (SMEs) in the textile or
food processing sectors has helped India diversify its industrial base.
• Promoting Self-Reliance:
o Development banks also contribute to fostering self-reliance in the economy by
providing financing for projects that reduce the country's dependency on foreign
investments and technology.
o Example: IDBI and other institutions have funded projects in sectors like heavy
machinery manufacturing, which were previously reliant on foreign imports.
Challenges before the Development Banking in India

• Non-Performing Assets (NPAs):

o A significant challenge for development banks in India is the rise in non-
performing assets (NPAs). Due to long repayment periods and the risk of funding
untested projects, some borrowers default, leading to a rise in bad loans.
o Example: Several industrial units funded by development banks have faced
financial stress, resulting in defaults and the accumulation of NPAs.
• Dependency on Government Support:
o Since many development banks in India are government-owned or heavily
government-supported, they face challenges related to political interference, slow
decision-making, and bureaucratic inefficiency.
o Example: Government-owned banks like IDBI often face political pressure to
fund politically sensitive or unviable projects, which can hamper their
effectiveness.
• Limited Resource Mobilization:
o Development banks often face difficulties in raising sufficient capital from
domestic or international markets. Their focus on long-term financing and risk-
prone ventures may deter investors and lenders.
o Example: Many development banks rely heavily on government funding or
subsidies to support their operations, which limits their ability to independently
raise capital.
• Economic Reforms and Market Competition:
o The liberalization of the Indian economy has introduced greater competition from
private and foreign banks, which offer more flexible terms, competitive interest
rates, and faster processing.
o Example: Private sector banks, such as ICICI and HDFC, have become more
efficient in offering loans for industrial projects, thus challenging the dominance
of traditional development banks.
• Changing Economic Priorities:
o With the focus shifting from traditional heavy industries to services, technology,
and digital infrastructure, development banks sometimes struggle to adapt to the
new economic priorities.
o Example: The demand for finance has shifted towards sectors like IT and
biotechnology, which may not align with the traditional focus areas of
development banks.
Recent Trends in Development Banking in India

• Shift Towards Infrastructure Financing:

o Over the past few years, there has been a notable shift in the focus of development
banks towards financing large-scale infrastructure projects, particularly in
transport, energy, and urban development.
o Example: The Infrastructure Finance Company (IFC) and other banks have
heavily invested in projects like highways, smart cities, and renewable energy
ventures.
• Increased Focus on Green and Sustainable Projects:
o In response to global climate change concerns, development banks in India have
started financing projects that promote environmental sustainability. This includes
renewable energy projects, waste management, and green technology initiatives.
o Example: NABARD and other institutions now fund solar power plants and wind
energy projects, contributing to India’s renewable energy goals.
• Use of Technology and Digital Finance:
o Development banks are increasingly adopting digital technologies to streamline
their operations, improve customer service, and monitor the performance of
funded projects. This includes the use of fintech for quicker loan disbursement
and better risk management.
o Example: SIDBI has started offering digital loans to SMEs through online
platforms, improving accessibility and efficiency.
• Public-Private Partnerships (PPP):
o Development banks in India are increasingly engaging in public-private
partnerships (PPP) to finance large infrastructure projects. These collaborations
reduce the burden on government finances while also involving private sector
expertise and investment.
o Example: The financing of the Delhi-Mumbai Industrial Corridor through a
combination of public and private investments is one such initiative.
• Emergence of New Players:
o New financial institutions and specialized agencies have emerged alongside
traditional development banks. These include venture capital firms, private equity
funds, and non-banking financial companies (NBFCs) that play a role in financing
industries and startups.
o Example: The Startup India initiative has encouraged funding from both private
and public sector development banks to foster innovation and entrepreneurship in
the country.