is clear that we are at the beginning of this new phase in the indian banking. the recent measures announced by the government and the reserve bank of india for opening up india ’ s banking sector to international investors will further increase the pressure of competition. at the same time there is renewed emphasis by the government on the social sector together with thrust on rural and agricultural lending. caught between the competitive pressure, both domestic and external, and the politics of development, banks will have to be on their toes, become even more efficient in managing funds and in meeting the needs and demands of customers. economic outlook and banking sector ’ s performance during the last couple of years, global growth has been above the forecast in almost every region stimulated by strong monetary and fiscal measures. the domestic economic outlook is also bright with the real gdp growth rate surpassing 8 % last year and estimated to be around 7 % in the current year. industrial performance also improved considerably with a strong manufacturing growth for the second consecutive year. inflation rate has been under control, barring some hiccup for a short period. aided by a good macro economic environment, banks ’ bottom line has improved significantly over the last three years. however, let us not forget that a major contributor to the windfall gains has been treasury profits fuelled by a secular decline in interest rates during the three years period from 2001 to 2004 and consequent profit booking on sale of government securities. from the current year, with the hardening of interest rates, this trading component of profits is no longer going to shore up banks ’ profitability. on the contrary, most banks have been required to provide for the decline in the market value of their investments portfolio. thankfully, one offsetting factor has been the strong pick up in the credit off - take due to buoyant demand in the economy and revival of industrial activity, which have resulted in substantial increase in banks ’ core interest income. globalisation – a challenge as well as an opportunity currently, the most important factor shaping the world is globalisation. the benefits of globalisation have been well documented and are being increasingly recognised. integration of domestic markets with international financial markets has been facilitated by tremendous advancement in information and communications technology. but, such an environment has also meant that a problem in one country can sometimes adversely impact one or more countries instantaneously, even if they are fundamentally strong. there is a growing realisation that the ability of countries to conduct business across national borders and the ability to cope with the possible

downside risks would depend, inter alia, on the soundness of the financial system. this has consequently meant the adoption of a strong and transparent, prudential, regulatory, supervisory, technological and institutional framework in the financial sector on par with international best practices. all this necessitates a transformation : a transformation in the mindset, a transformation in the business processes and finally, a transformation in knowledge management. this process is not a one shot affair ; it needs to be appropriately phased in the least disruptive manner. high capital inflows : not an unmixed blessing as you all know, liquidity position in the financial sector has been quite comfortable in the recent times. the buoyant capital market coupled with an appreciating rupee vis - a - vis us dollar has been attracting large foreign institutional inflows during the last two years. while we have an all time high foreign exchange reserves of more than $ 140 billion, high capital inflows pose a big challenge to monetary and exchange rate management. in this context, operationalisation of market stabilisation scheme ( mss ) has given an additional instrument for liquidity and monetary management. to sum up the challenge, i would like to quote a statement of dr. y. v. reddy, governor, reserve bank of india, which he made at the annual meeting of bank for international settlement ( bis ) on june 28, 2004. and i quote, “ ….. special defences need to be put in place for ensuring financial stability in the case of countries like india that are faced with the prospect of volatile capital flows. the issues relating to cross - border supervision of financial intermediaries in the context of greater capital flows are just emerging and need to be addressed. ” interest rate risk for indian banks – profits under pressure the rapid and relatively substantial rise in rupee interest rates in recent months has brought into focus the market risk faced by indian banks. your own bank ’ s current years profits have been badly affected due to increased provisioning requirement on the investment portfolio. your fourth quarter results have shown massive losses due to mark to market ( mtm ) losses on your g - sec portfolio. the story is not much different for most of the public sector banks. the benchmark 10 - year yield on government securities has risen from 5. 2 % in may last year to around 7. 2 % at this point. the spike in interest rates has affected the trading profits of banks. we in