Indian finsncial system

3,595 views
3,415 views

Published on

0 Comments
2 Likes
Statistics
Notes
  • Be the first to comment

No Downloads
Views
Total views
3,595
On SlideShare
0
From Embeds
0
Number of Embeds
3
Actions
Shares
0
Downloads
202
Comments
0
Likes
2
Embeds 0
No embeds

No notes for slide

Indian finsncial system

  1. 1. Management of financial services INDIAN FINANCIAL SYSTEM -1-
  2. 2. CHAPTER-1 INDIAN FINANCIAL SYSTEMMEANING & DEFINITION OF FINANCIAL SYSTEM:Definition“In finance, the financial system is the system that allows the transfer of money between saversand borrowers. It comprises a set of complex and closely interconnected financial institutions,markets, instruments, services, practices, and transactions.” -2-
  3. 3. According to Robinson, the primary function of the system is “To provide a link betweensaving and investment for the creation of new wealth and to permit portfolio adjustment incomposition of existing wealth”The word "system", in the term "financial system", implies a set of complex and closelyconnected or interlined institutions, agents, practices, markets, transactions, claims, and liabilitiesin the economy. The financial system is concerned about money, credit and finance-the threeterms are intimately related yet are somewhat different from each other. Indian financial systemconsists of financial market, financial instruments and financial intermediation.There are areas or people with surplus funds and there are those with a deficit. A financialsystem or financial sector functions as an intermediary and facilitates the flow of funds from theareas of surplus to the areas of deficit. A Financial System is a composition of variousinstitutions, markets, regulations and laws, practices, money manager, analysts, transactions andclaims and liabilities. -3-
  4. 4. The economic development of a nation is reflected by the progress of the various economic units,broadly classified into corporate sector, government and household sector. While performingtheir activities these units will be placed in a surplus/deficit/balanced budgetary situations.In finance, the financial system is the system that allows the transfer of money between saversand borrowers it comprises a set of complex and closely interconnected financial institutions,markets, instruments, services, practices, and transactions. Financial systems are crucial to theallocation of resources in a modern economy. They channel household savings to the corporatesector and allocate investment funds among firms. The functions are common to the financialsystems of most developed economies. Yet the form of these financial systems varies widely.In finance, the financial system is the system that allows the transfer of money between saversand borrowers it comprises a set of complex and closely interconnected financial institutions,markets, instruments, services, practices, and transactions. Financial systems are crucial to theallocation of resources in a modern economy. They channel household savings to the corporatesector and allocate investment funds among firms. The functions are common to the financialsystems of most developed economies. Yet the form of these financial systems varies widely.The financial system or the financial sector of any country consists of:- (A) Specialized & non specialized financial institution. (B) Organized &unorganized financial markets and, (C) Financial instruments & services which facilitate transfer of funds.Procedure & practices adopted in the markets, and financial inter relationships are also the partsof the system. These parts are not always mutually exclusive. The word system in the termfinancial system implies a set of complex and closely connected or inters mixed institution,agent‟s practices, markets, transactions, claims, & liabilities in the economy. The financialsystem is concerned about money, credit, & finance – the terms intimately related yet somewhatdifferent from each other. Money refers to the current medium of exchange or means ofpayment. Credit or Loan is a sum of money to be returned normally with interest it refers to a -4-
  5. 5. debt of economic unit. Finance is a monetary resources comprising debt & ownership fund of thestate, company or person.DEFINITION“In finance, the financial system is the system that allows the transfer of money between saversand borrowers. It comprises a set of complex and closely interconnected financial institutions,markets, instruments, services, practices, and transactions.”Features of Financial System  It provides an Ideal linkage between depositor‟s savers and investors Therefore it encourages savings and investment.  Financial system facilitates expansion of financial markets over a period of time.  Financial system should promote deficient allocation of financial resources of socially desirable and economically productive purpose.  Financial system influence both quality and the pace of economic development.Role of Financial SystemThe role of the financial system is to promote savings & investments in the economy. It has avital role to play in the productive process and in the mobilization of savings and theirdistribution among the various productive activities. Savings are the excess of currentexpenditure over income. The domestic savings has been categorized into three sectors,household, government & private sectors.The function of a financial system is to establish a bridge between the savers and investors. Ithelps in mobilization of savings to materialize investment ideas into realities. It helps to increasethe output towards the existing production frontier. The growth of the banking habit helps toactivate saving and undertake fresh saving. The financial system encourages investment activityby reducing the cost of finance risk. It helps to make investment decisions regarding projects bysponsoring, encouraging, export project appraisal, feasibility studies, monitoring & execution ofthe projects -5-
  6. 6. COMPONENTS/ CONSTITUENTS OF INDIAN FINANCIAL SYSTEMA. FORMAL FINANCIAL SYSTEM 1. Financial institutions/intermediaries 2. Financial Markets 3. Financial Instruments/Assets/Securities 4. Financial Services.B. INFORMAL FINANCIAL SYSTEM: Like, Moneylenders, Local Bankers, Traders,Landlords, and Pawn Broker etc.1. FINANCIAL INSTITUTIONSIn financial economics, a financial institution is an institution that provides financialservices for its clients or members. Probably the most important financial service provided byfinancial institutions is acting as financial intermediaries. Most financial institutions arehighly regulated by government -6-
  7. 7. Financial institutions provide service as intermediaries of the capital and debt markets. They areresponsible for transferring funds from investors to companies in need of those funds. Financialinstitutions facilitate the flow of money through the economy. To do so, savings a risk brought toprovide funds for loans. Such is the primary means for depository institutions to developrevenue. Should the yield curve become inverse, firms in this arena will offer additional fee-generating services including securities underwriting.The financial institutions in India are divided in two categories. The first type refers to theregulatory institutions and the second type refers to the intermediaries. The regulators areassigned with the job of governing all the divisions of the Indian financial system. Theseregulatory institutions are responsible for maintaining the transparency and the national interestin the operations of the institutions under their supervision.The regulatory bodies of the financial institutions in India are as follows:  Reserve Bank of India (RBI)  Securities and Exchange Board of India (SEBI)  Central Board of Direct Taxes (CBDT)  Central Board of Excise & CustomsApart from the Regulatory bodies, there are the Intermediaries that include the banking and non-banking financial institutions. Some of the specialized financial institutions in India are asfollows:  Unit Trust of India (UTI)  Securities Trading Corporation of India Ltd. (STCI)  Industrial Development Bank of India (IDBI)  Industrial Reconstruction Bank of India (IRBI), now (Industrial Investment Bank of India)  Export - Import Bank of India (EXIM Bank)  Small Industries Development Bank of India (SIDBI)  National Bank for Agriculture and Rural Development (NABARD)  Life Insurance Corporation of India (LIC) -7-
  8. 8. Intermediary Market RoleStock Exchange Capital Market Secondary Market to securities Corporate advisory services, Issue ofInvestment Bankers Capital Market, Credit Market securities Subscribe to unsubscribed portion ofUnderwriters Capital Market, Money Market securities Issue securities to the investors on behalfRegistrars, Depositories, Custodians Capital Market of the company and handle share transfer activityPrimary Dealers Satellite Dealers Money Market Market making in government securitiesForex Dealers Forex Market Ensure exchange ink currenciesThus, it can be concluded that a financial institution is that type of an institution, whichperforms the collection of funds from private investors and public investors and utilizes thosefunds in financial assets. The functions of financial institutions are not limited to a particularcountry, instead they have also become popular in abroad due to the growing impact ofglobalization.2. FINANCIAL MARKETSFinancial Markets are an important component of financial system in an economy financialsystem aims at establishing a regular, smooth, efficient and cost effective link between savers &investors. Thus, it helps encouraging both saving and investment. All system facilitatesexpansion of financial markets over space 8 times and promotes efficient allocation of financial -8-
  9. 9. resources .For socially desirable and economically productive purposes. They influence both thequality and the pace of economic development.Various constituents of financial system are financial, institutions, financial services, financialinstruments and financial markets. These constituents of financial system are closely inter-mixedand operate in conjunction with each other. For eg. Financial institutions operate in financialmarkets generating, purchasing and selling financial instruments and rendering various financialservices in accordance with the practices and procedures established by law or tradition.Financial markets are the centre or arrangements facilitating buying and selling of financialclaims, assets, services and the securities. Banking and non – banking financial institutions,dealers, borrowers and lenders, investors and savers, and agents are the participants on demandand supply side in these markets. Financial market may be specific place or location, e.g. stockexchange or it may be just on over – the –phone market. Financial markets in India are classified into four parts, viz.:-  Money Market  Capital Market  Debt Market  Forex MarketINTRODUCTION TO MONEY MARKETWhenever a bear market comes along, investors realize that the stock market is a risky place fortheir savings. Its a fact we tend to forget while enjoying the returns of a bull market!Unfortunately, this is part of the risk-return tradeoff. To get higher returns, you have to take on ahigher level of risk. For many investors, a volatile market is too much to stomach - the moneymarket offers an alternative to this higher-risk investment.The money market is better known as a place for large institutions and government to managetheir short-term cash needs. However, individual investors have access to the market through avariety of different securities. In this tutorial, well cover various types of money marketsecurities and how they can work in your portfolio. -9-
  10. 10. The money market is a subsection of the fixed income market. We generally think of the termfixed income as being synonymous to bonds. In reality, a bond is just one type of fixed incomesecurity. The difference between the money market and the bond market is that the moneymarket specializes in very short-term debt securities (debt that matures in less than one year).Money market investments are also called cash investments because of their short maturities.The easiest way for us to gain access to the money market is with money market mutual funds,or sometimes through a money market bank account. These accounts and funds pool together theassets of thousands of investors in order to buy the money market securities on their behalf.However, some money market instruments, like Treasury bills, may be purchased directly.Failing that, they can be acquired through other large financial institutions with direct access tothese markets.MONEY MARKET INSTRUMENTSThe money market is a market for short-term financial assets that are close substitutes of money.The most important feature of a money market instrument is that it is liquid and can be turnedover quickly at low cost and provides an opportunity for balancing the short-term surplus fundsof lenders and the requirements of borrowers. By convention, the term "Money Market" refers tothe market for short-term requirement and deployment of funds. Money market instruments arethose instruments, which have a maturity period of less than one year. The most active part of themoney market is the market for overnight call and term money between banks and institutionsand repo transactions. Call Money / Repo are very short-term Money Market products. There is awide range of participants (banks, primary dealers, financial institutions, mutual funds, trusts,provident funds etc.) dealing in money market instruments. Money Market Instruments and theparticipants of money market are regulated by RBI and SEBI.As a primary dealer SBI DFHI isan active player in this market and widely deals in Short Term Money Market Instruments. T hebelow mentioned instruments is normally termed as money market instruments:  Call/ Notice Money  Treasury Bill  Inter-Bank Term Money  Certificate of Deposit - 10 -
  11. 11.  Commercial Paper  Inter-Corporate Deposits  Repo/Reverse RepoCall /Notice-Money MarketCall/Notice money is the money borrowed or lent on demand for a very short period. Whenmoney is borrowed or lent for a day, it is known as Call (Overnight) Money. Interveningholidays and/or Sunday are excluded for this purpose. Thus money, borrowed on a day andrepaid on the next working day, (irrespective of the number of intervening holidays) is "CallMoney". When money is borrowed or lent for more than a day and up to 14 days, it is "NoticeMoney". No collateral security is required to cover these transactions.Treasury Bills:The Treasury bills are short-term money market instrument that mature in a year or less thanthat. The purchase price is less than the face value. At maturity the government paysthe Treasury bill holder the full face value. The Treasury Bills are marketable, affordable andrisk free. The only downside to T-bills is that you wont get a great return because Treasuries areexceptionally safe.Inter-Bank Term MoneyInter-bank market for deposits of maturity beyond 14 days is referred to as the term moneymarket. The entry restrictions are the same as those for Call/Notice Money except that, as perexisting regulations, the specified entities are not allowed to lend beyond 14 days.Certificate of Deposit (CD)The certificates of deposit are basically time deposits that are issued bythe commercial banks with maturity periods ranging from 3 months to five years. The return onthe certificate of deposit is higher than the Treasury Bills because it assumes a higher level ofrisk.Commercial Paper - 11 -
  12. 12. Commercial Paper is short-term loan that is issued by a corporation use for financing accountsreceivable and inventories. The maturity period of Commercial Papers is a maximum of 9months. They are very safe since the financial situation of the corporation can be anticipated overa few months.Inter-Corporate DepositsInter-corporate deposits are deposits made by one company with another company, and usuallycarry a term of six months. The three types of inter-corporate deposits are: three month deposits,six month deposits, and call deposits. The biggest advantage of inter-corporate deposits is thatthe transaction is free from bureaucratic and legal hassles.Repo/Reverse RepoRepo is short for repurchase agreement. Those who deal in government securities use repos as aform of overnight borrowing. They are usually very short-term, from overnight to 30 days ormore. The reverse repo is the complete opposite of a repo. In this case, a dealer buys governmentsecurities from an investor and then sells them back at a later date for a higher price.INTRODUCTION TO CAPITAL MARKETCapital market is market for long term securities. It contains financial instruments of maturityperiod exceeding one year. It involves in long term nature of transactions. It is a growing elementof the financial system in the India economy. It differs from the money market in terms ofmaturity period & liquidity. It is the financial pillar of industrialized economy. The developmentof a nation depends upon the functions & capabilities of the capital market. Capital market is themarket for long term sources of finance. It refers to meet the long term requirements of theindustry. Generally the business concerns need two kinds of finance:- 1. Short term funds for working capital requirements. 2. Long term funds for purchasing fixed assets.Therefore the requirements of working capital of the industry are met by the money market. Thelong term requirements of the funds to the corporate sector are supplied by the capital market. Itrefers to the institutional arrangements which facilitate the lending & borrowing of long termfunds.On the basis of financial instruments the capital markets are classifieds intoTwo kinds:- - 12 -
  13. 13. a) Equity marketb) Debt marketRecently there has been a substantial development of the India capital market. It comprisesvarious submarkets.Equity market is more popular in India. It refers to the market for equity shares of existing &new companies. Every company shall approach the market for raising of funds. The equitymarket can be divided into two categories(a) Primary market(b) Secondary market.PRIMARY MARKETThe primary market is that part of the capital markets that deals with the issue ofnew securities. Companies, governments or public sector institutions can obtain funding throughthe sale of a new stock or bond issue. This is typically done through a syndicate of securitiesdealers. The process of selling new issues to investors is called underwriting. In the case of anew stock issue, this sale is an initial public offering (IPO). Dealers earn a commission that isbuilt into the price of the security offering, though it can be found in the prospectus. Primarymarkets create long term instruments through which corporate entities borrow from capitalmarket. A company can raise its capital through issue of share and debenture by means of:-Public Issue:-Public issue is the most popular method of raising capital and involves raising capital and funddirect from the public.Right Issue:-Right issue is the method of raising additional finance from existing members by offeringsecurities to them on pro rata basis.Bonus Issue:- - 13 -
  14. 14. Some companies distribute profits to existing shareholders by way of fully paid up bonus sharein lieu of dividend. The shareholder does not have to any additional payment for these shares.Private Placement:-Private placement market financing is the direct sale by a public limited company or privatelimited company of private as well as public sector of its securities to the intermediaries likecredit rating agencies and trustees and financial advisors such as merchant bankers.SECONDARY MARKETThe secondary market is that segment of the capital market where the outstanding securities aretraded from the investors point of view the secondary market imparts liquidity to the long – termsecurities held by them by providing an auction market for these securities. The secondarymarket operates through the medium of stock exchange which regulates the trading activity inthis market and ensures a measure of safety and fair dealing to the investors. India has a longtradition of trading in securities going back to nearly 200 years. The first India stock exchangeestablished at Mumbai in 1875 is the oldest exchange in Asia. The main objective was to protectthe character status and interest of the native share and stock broker.The Indian stock markets can be divided into further categories depending on various aspectslike the mode of operation and the diversification in services. First of the two largest stockexchanges in India can be divided on the basis of operation. While the Bombay stock exchangeor BSE is a conventional stock exchange with a trading floor and operating through mostlyoffline trades, the National Stock Exchange or NSE is a completely online stock exchange andthe first of its kind in the country. The trading is carried out at the National Stock Exchangethrough the electronic limit order book or the LOB. With the immense popularity of the processand online trading facility other exchanges started to take up the online route including the BSEwhere you can trade online as well. But the BSE is still having the offline trading facility that iscarried out at the trading floor of the exchange at its Dalal Street facility.INTRODUCTION TO DEBT MARKET - 14 -
  15. 15. Debt market refers to the financial market where investors buy and sell debt securities, mostly inthe form of bonds. These markets are important source of funds, especially in a developingeconomy like India. India debt market is one of the largest in Asia. Like all other countries, debtmarket in India is also considered a useful substitute to banking channels for finance. The fixedreturn on the bond is often termed as the coupon rate or the interest rate.The debt market often goes by other names, based on the types of debt instruments that aretraded. In the event that the market deals mainly with the trading of municipal and corporatebond issues, the debt market may be known as a bond market. If mortgages and notes are themain focus of the trading, the debt market may be known as a credit market. When fixed ratesare connected with the debt instruments, the market may be known as a fixed income market.The instruments traded can be classified into the following segments based on the characteristicsof the identity of the issuer of these securities:Market Segment Issuer InstrumentsGovernment Central Government Zero Coupon Bonds, Coupon Bearing Bonds,Securities Treasury Bills, STRIPS State Governments Coupon Bearing Bonds.Public Sector Government Agencies / Govt. Guaranteed Bonds, DebenturesBonds Statutory Bodies Public Sector Units PSU Bonds, Debentures, Commercial PaperPrivate Sector Corporate Debentures, Bonds, Commercial Paper, Floating RateBonds Bonds, Zero Coupon Bonds, Inter-Corporate Deposits Banks Certificates of Deposits, Debentures, Bonds Financial Institutions Certificates of Deposits, BondsINTRODUCTION TO FOREX MARKETIn India, foreign exchange has been given a statutory definition. Section 2 (b) of ForeignExchange Regulation Act, 1973 states: - 15 -
  16. 16. „Foreign exchange‟ means foreign currency and includes:“All deposits, credits and balances payable in any foreign currency and any drafts, traveler‟scheques, letters of credit and bills of exchange , expressed or drawn in Indian currency butpayable in any foreign currency.”Particularly for foreign exchange market there is no market place called the foreign exchangemarket. It is mechanism through which one country‟s currency can be exchange i.e. bought orsold for the currency of another country. The foreign exchange market does not have anygeographic location. The market comprises of all foreign exchange traders who are connected toeach other throughout the world. They deal with each other through telephones, telexes andelectronic systems. With the help of Reuters Money 2000-2, it is possible to access any trader inany corner of the world within a few seconds.Participants 1. Customers The customers who are engaged in foreign trade participate in foreign exchange markets by availing of the services of banks. 2. Commercial banks Commercial banks dealing with international transactions offer services for conversion of one currency in to another. 3. Central Bank In all countries central banks have been charged with the responsibility of maintaining the external value of the domestic currency.3. FINANCIAL INSTRUMENTSFinancial instrument is a claim against a person or an institution for payment, at a future date, ofa sum of money and/or a periodic payment in the form of interest or dividend. Financialinstrument can be classified according to Term and Type. - 16 -
  17. 17. Under term wise it is classified by Short-term, Long-term and Medium term. While under typewise it is classified as Primary security and Secondary security. Primary securities are termed asdirect security as they are directly issued by the ultimate borrowers of fund to the ultimatesavers. Primary security includes equity share, preference shares and debentures. Secondarysecurities are referred to as indirect securities, as they are issued by the financial intermediariesto the ultimate savers. It includes insurance policy, Mutual Fund Units, Term Deposits etc.THE MAJOR TYPES OF FINANCIAL PRODUCTS ARE:Shares:These represent ownership of a company. While shares are initially issued by corporations tofinance their business needs, they are subsequently bought and sold by individuals inthe share market. They are associated with high risk and high returns. Returns on shares can bein the form of dividend payouts by the company or profits on the sale of shares in the stockmarket. Shares, stocks, equities and securities are words that are generally used interchangeably.Bonds:These are issued by companies to finance their business operations and by governments to fundexpenses like infrastructure and social programs. Bonds have a fixed interest rate, making therisk associated with them lower than that with shares. The principal or face value of bonds isrecovered at the time of maturity.Treasury BillsThese are instruments issued by the government for financing its short term needs. They areissued at a discount to the face value. The profit earned by the investor is the difference betweenthe face or maturity value and the price at which the Treasury Bill was issued.OptionsOptions are rights to buy and sell shares. An option holder does not actually purchase shares.Instead, he purchases the rights on the shares.Mutual FundsThese are professionally managed financial instruments that involve the diversification ofinvestment into a number of financial products, such as shares, bonds and government securities.This helps to reduce an investor‟s risk exposure, while increasing the profit potential. - 17 -
  18. 18. Credit Default Swaps (CDS)Credit default swaps are highly leveraged contracts that are privately negotiated between twoparties. These swaps insure against losses on securities in case of a default. Since the governmentdoes not regulate CDS related activities, there is no specific central reporting mechanism thatdetermines the value of these contracts.AnnuitiesThese are contracts between investors and insurance companies, wherein the latter makesperiodic payments in exchange for financial protection in the event of an unfortunate incident.4. FINANCIAL SERVICESFinancial intermediaries provide key financial services such as merchant banking, leasing, hirepurchase, credit rating and so on. Financial services rendered by financial intermediaries bridgethe gap between lack of knowledge on part of investors and increasing sophistication of financialinstruments and markets.Financial services encompass a variety of businesses that deal with money management. Theseinclude many different kinds of organizations such as banks, investment companies, credit cardcompanies, insurance companies and even government programs. Financial services can alsorefer to the services and products that money management organizations offer to the public.Banks are one kind of financial services organizations. Banks generally function by providing asheltered and secure place for people to store their money. Usually, banks will invest theirclients stored money for the banks gain, while paying a small amount of interest to those whokeep their money in savings or checking accounts.The Financial services were developed in order to meet the needs of individual as well ascompanies. The financials of companies are expected to improve as a result of these financialservices in the form of lower debt equity ratio, improved liquidity and profitability ratios. Thefinancial service industry has been growing at a rate of 14% per annum.Indian financial services industry was rather unexciting until the early seventies. The financialservices sector was started in mid seventies when a series of innovative services of which leasing - 18 -
  19. 19. being the most notable. India has witnessed an explosive growth of leasing companies during theearly eighties.(A)Banking and Financial Services:Banking and financial services can also be further classified as: 1. Fee based financial services  Financial management.  Advisory services  Custody services  Credit card services 2. Securities-related financial services  Securities lending services  Mutual fund services  Securities clearance  Settlement services  Under-writing services(B)Insurance and insurance related services Insurance services include the following: Insurance brokerage Specialty insurance products Reinsurance(C)Fee-based Financial Services Financial services based on fees are as follows: Issue management - 19 -
  20. 20. Portfolio management Loan based syndication Mergers and acquisitionsCAPITAL MARKET SERVICESThe following are the financial services rendered by various intermediaries in relation to capitalmarket.1. Issue management Public issue management is the beginning of project financing activity. A company has toappoint public issue managers who are normally merchant bankers. It is a marketing activity.2. Merchant bankingA merchant banker is any person who is engaged in the business of issue management either bymaking arrangements regarding selling, buying or subscribing to securities as manager,consultant or advisor or vendoring corporate advisory services in relation to such issuemanagementServices provided by Merchant Bankers Underwriting of issues Project finance Private placementsROLE/ FUNCTIONS OF FINANCIAL SYSTEM:The role of the financial system is to promote savings & investments in the economy. It has avital role to play in the productive process and in the mobilization of savings and their - 20 -
  21. 21. distribution among the various productive activities. Savings are the excess of currentexpenditure over income. The domestic savings has been categorized into three sectors,household, government & private sectors.The function of a financial system is to establish a bridge between the savers and investors. Ithelps in mobilization of savings to materialize investment ideas into realities. It helps to increasethe output towards the existing production frontier. The growth of the banking habit helps toactivate saving and undertake fresh saving. The financial system encourages investment activityby reducing the cost of finance risk. It helps to make investment decisions regarding projects bysponsoring, encouraging, export project appraisal, feasibility studies, monitoring & execution ofthe projects.A financial system performs the following functions: 1. It serves as a link between savers and investors. It helps in utilizing the mobilized savings of scattered savers in more efficient and effective manner. It channelizes flow of saving into productive investment. 2. It assists in the selection of the projects to be financed and also reviews the performance of such projects periodically. 3. It provides payment mechanism for exchange of goods and services. 4. It provides a mechanism for the transfer of resources across geographic boundaries. 5. It provides a mechanism for managing and controlling the risk involved in mobilizing savings and allocating credit. 6. It promotes the process of capital formation by bringing together the supply of saving and the demand for investible funds. 7. It helps in lowering the cost of transaction and increase returns. Reduce cost motives people to save more. 8. It provides you detailed information to the operators/ players in the market such as individuals, business houses, Governments etc.INDIAN FINANCIAL SYSTEM FROM 1950 TO 1980Indian Financial System During this period evolved in response to the objective of plannedeconomic development. With the adoption of mixed economy as a pattern of industrial - 21 -
  22. 22. development, a complimentary role was conceived for public and private sector. There was aneed to align financial system with government economic policies. At that time there wasgovernment control over distribution of credit and finance. The main elements of financialorganization in planned economic development are as follows:-1. Public ownership of financial institutionsThe nationalization of RBI was in 1948, SBI was set up in 1956, LIC came in to existence in1956 by merging 245 life insurance companies in 1969, 14 major private banks were broughtunder the direct control of Government of India. In 1972, GIC was set up and in 1980; six morecommercial banks were brought under public ownership. Some institutions were also set upduring this period like development banks, term lending institutions, UTI was set up in publicsector in 1964, provident fund, pension fund was set up. In this way public sector occupiedcommanding position in Indian Financial System.2. Fortification of institutional structureFinancial institutions should stimulate / encourage capital formation in the economy. Theimportant feature of well developed financial system is strengthening of institutional structures.Development banks was set up with this objective like industrial finance corporation of India(IFCI) was set up in 1948, state financial corporation (SFCs) were set up in 1951, Industrialcredit and Investment corporation of India Ltd (ICICI)was set up in 1955. It was pioneer in manyrespects like underwriting of issue of capital, channelization of foreign currency loans fromWorld Bank to private industry. In 1964, Industrial Development of India (IDBI).3. Protection of investorLot many acts were passed during this period for protection of investors in financial markets.The various acts Companies Act, 1956 ; Capital Issues Control Act, 1947 ; Securities ContractRegulation Act, 1956 ; Monopolies and Restrictive Trade Practices Act, 1970 ; ForeignExchange Regulation Act, 1973 ; Securities & Exchange Board of India, 1988.4. Participation in corporate management - 22 -
  23. 23. As participation were made by large companies and financial instruments it leads toaccumulation of voting power in hands of institutional investors in several big companiesfinancial instruments particularly LIC and UTI were able to put considerable pressure onmanagement by virtual of their voting power. The Indian Financial System between 1951 andmid80‟s was broad based number of institutions came up. The system was characterized bydiversifying organizations which used to perform number of functions. The Financial structurewith considerable strength and capability of supplying industrial capital to various enterpriseswas gradually built up the whole financial system came under the ownership and control ofpublic authorities in this manner public sector occupy a commanding position in the industrialenterprises. Such control was viewed as integral part of the strategy of planned economydevelopment.INDIAN FINANCIAL SYSTEM POST 1990’SThe organizations of Indian Financial system witnessed transformation after launching of neweconomic policy 1991. The development process shifted from controlled economy to free marketfor these changes was made in the economic policy. The role of government in business wasreduced the measure trust of the government should be on development of infrastructure, publicwelfare and equity. The capital market an important role in allocation of resources. The majordevelopment during this phase is:-1. Privatization of financial institutionsAt this time many institutions were converted in to public company and numbers of privateplayers were allowed to enter in to various sectors: a) Industrial Finance Corporation of India (IFCI): The pioneer development finance institution was converted in to a public company. b) Industrial Development Bank of India & Industrial Finance Corporation of India (IDBI & IFCI): IDBI & IFCI ltd offers their equity capital to private investors. c) Private Mutual Funds have been set up under the guidelines prescribed by SEBI. d) Number of private banks and foreign banks came up under the RBI guidelines. Private institution companies emerged and work under the guidelines of IRDA, 1999. - 23 -
  24. 24. e) In this manner government monopoly over financial institutions has been dismantled in phased manner. IT was done by converting public financial institutions in joint stock companies and permitting to sell equity capital to the government.2. Reorganization of institutional structureThe importance of development financial institutions decline with shift to capital market forraising finance commercial banks were give more funds to investment in capital market for this.SLR and CRR were produced; SLR earlier @ 38.5% was reduced to 25% and CRR which usedto be 25% is at present 5%. Permission was also given to banks to directly undertake leasing,hire-purchase and factoring business. There was trust on development of primary market,secondary market and money market.3. Investor protectionSEBI is given power to regulate financial markets and the various intermediaries in the financialmarkets.REGULATORY FINANCIAL INSTITUTIONSRegulatory institutions to be ensured that firms provide the goods and services promised and thattheir behaviors, in general, conform to established standards In the county and or abroad.These functions of the institutions are however not always neatly declined in practice. Forexample, regulatory institutions may perform facilitator and / or promotional service to mitigateany unintended negative consequences that their main activities may have for development of thefirms.Financial intermediaries are heavily regulated in comparison to non-financial firms. Financialintermediaries are subject to rules and regulations governing their business. They are also subjectto supervision and monitoring to ensure that rules and regulation are followed.Following are the regulatory authorities which governs the working of financial intermediaries. 1. Securities and exchange board of India(SEBI) 2. The reserve bank of India(RBI) 3. Insurance regulatory and development authority(IRDA) - 24 -
  25. 25. SECURITIES AND EXCHANGE BOARD OF INDIA [SEBI]Securities and Exchange Board of India (SEBI) was first established in the year 1988 as a non-statutory body for regulating the securities market. It became an autonomous body in 1992 andmore powers were given through an ordinance. Since then it regulates the market through itsindependent powers.  Established in the year 1988 and became an autonomous body in 1992  Basic Functions “…..to protect the interests of investors in securities and to promote the development of,and to regulate the securities market and for matters connected therewith or incidental thereto”THE BACKGROUND OF SEBISecurities and Exchange Board of India, popularly called SEBI, is a quasi government bodythat was initially formed in 1988 by an administrative order. The Indian capital market hadstarted developing very fast during the 1980s. The amount of capital raised by companies fromthe primary market increased from a modest 200 crores in 1980 to a substantial 6500 crores in1990. This implied a great exposure of public money, which also attracted a number of fly-by-night operators. This necessitated a watchdog that could safeguard the interests of investors.SEBI was provided a statutory status in the immediate aftermath of infamous securities scamperpetrated by Harshad Mehta. The scam shook up the foundations of the Indian financialframework. The stock market, which was making a frenzied climb upwards, collapsed on itsface. Thousands of crores of market equity was destroyed overnight and a number of financialinstitutions and banks were forced to shut shop. That a single individual could twist and tweakthe system, with all is apparent loopholes, for earning tremendous profits became painfullyapparent to everyone.A number of financial institutions and other market players were left high and dry after the scam,but the biggest loser turned out to be the common investor. The economy had just startedopening up after the 1991 economic reforms, and the India market was just taking its first - 25 -
  26. 26. tottering steps. At this stage, such a huge scam would not only have damaged the market, butwould have severely damaged investor confidence. In time, investors could have lost trust in thesystem, thus adversely affecting the ability of companies to raise money in stock market. This, inturn, would have severely restricted industrial growth at a time when the economy had startedimproving.The Securities and Exchange Board of India Act was passed in 1992, thus giving the regulatoryteeth to the body. SEBI was entrusted with the primary task of protecting the interests of theinvestors. In addition, SEBI was also entrusted with the twin objectives of developing andregulating the stock market. In this regard, SEBI has done a decent job, though admittedly, therehave been instances when the regulator has been caught napping! But overall, the lot of investorshas definitely improved due to the policies and steps taken by the regulator.OFFICES AND ADMINISTRATIONSEBU has its head office located at Mumbai, the financial capital of India. In addition, SEBI hasfour regional offices, located at New Delhi, Chennai, Kolkata and Ahmedabad. The regionaloffices have jurisdiction over the companies and institutions located on their designated areas.To manage its affairs, SEBI has a five member board, headed by a chairperson. Out of the fivemembers, one member each is taken from the Law and Finance ministries, one member is fromRBI, and the remaining two members can be eminent members of the industry.ENTITY OF SEBIIt was registered with the common seal and with the power to acquire, hold and dispose anypropertyPower to sue or to be sued in its own nameThe Head office is situated in Mumbai; in addition the regional offices were established in thefollowing metropolitan cities viz Kolkata, Chennai and Delhi, to monitor and control the capitalmarket operations across the country - 26 -
  27. 27. ROLE OF SEBISEBI has been entrusted with a wide ranging role to develop and regulate the financial markets.The primary task of SEBI is to regulate the affairs of the stock markets. In this respect, SEBI hasintroduced a number of notable reforms such as dematerialization of shares, online share trading,approval for stock indices trading, derivatives trading. This has made the market broad based andeasily approachable by everyone. Over the years, SEBI has also evolved and enforced a code ofconduct for the banks, financial institutions, companies, mutual funds financialintermediaries/brokers and portfolio managers. In addition, SEBI deals with following activitiesrelated to financial markets - 1. Primary market issues 2. Secondary market issues 3. Mutual Funds 4. Takeovers and mergers & acquisition 5. Collective investment schemes 6. Share buy backs 7. Delisting of shares from Stock exchangesSEBI is also entrusted with handling investor grievances and complaints related to any of theabovementioned activities. SEBI also undertakes periodical investor education initiatives,workshops and seminars to raise investment and financial awareness.ORGANIZATIONAL GRID OF THE SEBI 1. Six members in the committee 2. Headed by the chairman 3. One member each from the ministries of Law and Finance 4. One member from the officials of Reserve Bank of India 5. Two nominees from the central government 6. It contains 4 different department viz primary department, issue management and intermediaries department, secondary department and institutional investment department. - 27 -
  28. 28. SEBI in Indias capital market:SEBI from time to time have adopted many rules and regulations for enhancing the Indiancapital market. The recent initiatives undertaken are as follows:Under this rule every brokers and sub brokers have to get registration with SEBI and any stockexchange in India.  For Underwriters: For working as an underwriter an asset limit of 20 lakhs has been fixed.  For Share Prices According to this law all Indian companies are free to determine their respective share prices and premiums on the share prices.  For Mutual Funds SEBIs introduction of SEBI (Mutual Funds) Regulation in 1993 is to have direct control on all mutual funds of both public and private sector.FUNCTIONS OF SEBI (A) REGULATORY :  Regulating the business in stock exchange any other securities market;  Registering and regulating the working of stock brokers, sub-brokers, share transfer agents, bankers to an issue, trustees of trust deeds, registrar to an issue, merchant bankers, underwriters and so on;  Registering and regulating the working of collective investment scheme including mutual funds;  Regulating the self- regulatory organizations;  Prohibiting fraudulent and unfair trade practices relating to securities markets;  Prohibiting inside trading in securities;  Regulating substantial acquisition of shares and takeover of companies; - 28 -
  29. 29.  Calling for formation from undertaking inspection, conducting inquiries and audits of the stock exchange and intermediaries and self-regulatory organizations in the security market;  Levying fees or other charges for carrying out the purpose of this section. (B) DEVELOPMENTAL :  Promoting investors‟ education;  Promoting self- regulating organizations;  Training of intermediaries of security markets;  Promotion of fair practices and code of conduct for all SROs;  Conducting research and publishing information useful to all market participants.OBJECTIVES OF SEBI  To protect the interests of investors in securities  To promote the development of Securities Market  To regulate the securities market  For matters connected therewith or incidental theretoPOWERS OF SEBIThe important powers of SEBI (Securities and Exchange Board of India) are:-1. Powers relating to stock exchanges & intermediaries SEBI has wide powers regarding thestock exchanges and intermediaries dealing in securities. It can ask information from the stockexchanges and intermediaries regarding their business transactions for inspection or scrutiny andother purpose2. Power to impose monetary penalties SEBI has been empowered to impose monetarypenalties on capital market intermediaries and other participants for a range of violations. It caneven impose suspension of their registration for a short period. - 29 -
  30. 30. 3. Power to initiate actions in functions assigned SEBI has a power to initiate actions in regardto functions assigned. For example, it can issue guidelines to different intermediaries or canintroduce specific rules for the protection of interests of investors.4. Power to regulate insider trading SEBI has power to regulate insider trading or can regulatethe functions of merchant bankers.5. Powers under Securities Contracts Act For effective regulation of stock exchange, theMinistry of Finance issued a Notification on 13 September, 1994 delegating several of its powersunder the Securities Contracts (Regulations) Act to SEBI.SEBI is also empowered by the Finance Ministry to nominate three members on the GoverningBody of every stock exchange.6. Power to regulate business of stock exchanges SEBI is also empowered to regulate thebusiness of stock exchanges, intermediaries associated with the securities market as well asmutual funds, fraudulent and unfair trade practices relating to securities and regulation ofacquisition of shares and takeovers of companies. - 30 -
  31. 31. RESERVE BANK OF INDIA [RBI]The reserve bank of India is the central bank of country. It has been established by legislation in1934 as body corporate under the Reserve Bank of India Act 1934. It has started functioningfrom 1st April, 1935. The Reserve Bank was started as shareholder bank with a paid-up capital ofRs 5 crores. Though originally privately owned, since nationalization in 1949, it is fully ownedby Government of India.  Established on 1st April 1935  Apex financial institution of the country‟s financial system  Entrusted with the task of control, supervision, promotion, development and planningThe reserve bank of India carries on itsoperations according to provisions of thereserve bank of India act, 1934. The act hasbeen amended from time to time.STRUCTURE OF RBIThe organization of RBI can be divided intothree parts:1) Central Board of Directors.2) Local Boards3) Offices of RBI1. Central Board of Directors:The organization and management of RBI is vested on the Central Board of Directors. It isresponsible for the management of RBI. Central Board of Directors consists of 20 members. - 31 -
  32. 32. Central board is appointed by the central Government for the period of 4 years. It consists ofofficial directors and non-official directors.It is constituted as follows.  One Governor: It is the highest authority of RBI. He is appointed by the Government of India for a term of 5 years. He can be re-appointed for another term.  Four Deputy Governors: Four deputy Governors are nominated by Central Govt. for a term of 5 years  Fifteen Directors: Other fifteen members of the Central Board are appointed by the Central Government. Out of these, four directors, one each from the four local Boards is nominated by the Government separately by the Central Government.Ten directors nominated by the Central Government are among the experts of commerce,industries, finance, economics and cooperation. The finance secretary of the Government ofIndia is also nominated as Govt. officer in the board. Ten directors are nominated for a period of4 years. The Governor acts as the Chief Executive officer and Chairman of the Central Board ofDirectors. In his absence a deputy Governor nominated by the Governor, acts as the Chairman ofthe Central Board. The deputy governors and government‟s officer nominee are not entitled tovote at the meetings of the Board. The Governor and four deputy Governors are full time officersof the Bank.2. Local Boards:There are 4 local boards, one each for the 4 regions of the country in Mumbai, Kolkata, Chennai,and New Delhi. The membership of each local board consists of 5 members appointed by thecentral Government for the period of 4 years. The functions of the local board is to advise thecentral board on local matters; to represent territorial and economic interns of local cooperativeand indigenous banks‟ interest, and to perform such other functions as delegated by central boardfrom time to time3. Offices of RBI:The Head office of the bank is situated in Mumbai and the offices of local boards are situated inDelhi, Kolkata and Chennai. In order to maintain the smooth working of banking system, RBIhas opened local offices or branches in Ahmedabad, Bangalore, Bhopal, Bhubaneswar,Chandigarh, Guwahati, Hyderabad, Jaipur, Jammu, Kanpur, Nagpur, Patna, Thiruvananthpuram,Kochi, Lucknow and Byculla (Mumbai). The RBI can open its offices with the permission of the - 32 -
  33. 33. Government of India. In places where there are no offices of the bank, it is represented by thestate Bank of India and its associate banks as the agents of RBI.OBJECTIVES OF THE RBI  To Regulate the issue of Bank notes  Keeping of reserves with a view to securing monetary stability in India  To Operate the currency and credit system of the country for its advantage  To secure monitory stability within country  To Assist the planned process of development of the Indian economyFEATURE OF RBI 1. RBI formulates implements and monitors the monetary policy 2. RBI maintains public confidence in the system, protect depositors interest and provide cost-effective banking services to public 3. To facilitate external trade and payment and promote orderly development and maintenance of foreign exchange market in India. 4. To give the public adequate quantity of supplies of currency notes and coins and good quality.FUNCTIONS OF THE RBI  Issuing currency notes, i.e. to act as a currency or monitory authority of the country  Maintaining price stability  Ensuring adequate flow of credit to productive sectors to assist growth  Serving as banker to the Government  Acting as bankers‟ bank and supervisor  Monetary regulation and management  Exchange management and control - 33 -
  34. 34.  Collection of data and their publication Miscellaneous developmental and promotional functions and activities Agricultural Finance Industrial Finance Export Finance Institutional promotion - 34 -
  35. 35. INSURANCE REGULATORY AND DEVELOPMENT AUTHORITY (IRDA)MISSION To protect the interest of and secure fair treatment to policyholders; To bring about speedy and orderly growth of the insurance industry (including annuity and superannuation payments), for the benefit of the common man, and to provide long term funds for accelerating growth of the economy; To set, promote, monitor and enforce high standards of integrity, financial soundness, fair dealing and competence of those it regulates; To ensure speedy settlement of genuine claims, to prevent insurance frauds and other malpractices and put in place effective grievance redressal machinery; To promote fairness, transparency and orderly conduct in financial markets dealing with insurance and build a reliable management information system to enforce high standards of financial soundness amongst market players; To take action where such standards are inadequate or ineffectively enforced; To bring about optimum amount of self-regulation in day-to-day working of the industry consistent with the requirements of prudential regulation.VISIONOur goal is to have the IRDA recognized nationally by 2016 as a leader in agro-environmentalresearch, development and transfer activities. The IRDA distinguishes itself by its integrativeapproach and by the dynamism of its partners. These factors allow it to anticipate problems anddevelop innovative solutions that meet the needs of agricultural producers and society.The Insurance Regulatory and Development Authority (IRDA) is a national agency ofthe Government of India, based in Hyderabad. It was formed by an act of Indian Parliamentknown as IRDA Act 1999, which was amended in 2002 to incorporate some emergingrequirements. Mission of IRDA as stated in the act is "to protect the interests of thepolicyholders, to regulate, promote and ensure orderly growth of the insurance industry and formatters connected therewith or incidental thereto." - 35 -
  36. 36. In 2010, the Government of India ruled that the Unit Linked Insurance Plans (ULIPs) will begoverned by IRDA, and not the market regulator Securities and Exchange Board of IndiaROLE OF IRDA1. To (protect) the interest of and secure fair treatment to policyholders.2. To bring about (speedy) and orderly growth of the insurance industry (including annuity andsuperannuation payments), for the benefit of the common man, and to provide long term fundsfor accelerating growth of the economy.3. To set, promote, monitor and enforce high standards of (integrity), financial soundness, fairdealing and competence of those it regulates.4. To ensure that insurance customers receive precise, clear and correct (information) aboutproducts and services and make them aware of their responsibilities and duties in this regard.5. To ensure speedy settlement of genuine (claims), to prevent insurance frauds and othermalpractices and put in place effective grievance redressed machinery.6. To promote fairness, (transparency) and orderly conduct in financial markets dealing withinsurance and build a reliable management information system to enforce high standards offinancial soundness amongst market players.7. To take (action) where such standards are inadequate or ineffectively enforce d. 8. To bringabout optimum amount of (self-regulation)in day to day working of the industry consistent withthe requirements of prudential regulation.DUTIES/POWER/FUNCTIONS OF IRDASection 14 of IRDA Act, 1999 lays down the duties, powers and functions of IRDA(1) Subject to the provisions of this Act and any other law for the time being in force, theAuthority shall have the duty to regulate, promote and ensure orderly growth of the insurancebusiness and re-insurance business. - 36 -
  37. 37. (2) Without prejudice to the generality of the provisions contained in sub-section (1)the powersand functions of the Authority shall include, a. Issue to the applicant a certificate of registration, renew, modify, withdraw, suspend or cancel such registration; b. protection of the interests of the policy holders in matters concerning assigning of policy, nomination by policy holders, insurable interest, settlement of insurance claim, surrender value of policy and other terms and conditions of contracts of insurance; c. Specifying requisite qualifications, code of conduct and practical training for intermediary or insurance intermediaries and agents; d. Specifying the code of conduct for surveyors and loss assessors; e. Promoting efficiency in the conduct of insurance business; f. Promoting and regulating professional organizations connected with the insurance and re-insurance business; g. Levying fees and other charges for carrying out the purposes of this Act h. calling for information from, undertaking inspection of, conducting enquiries and investigations including audit of the insurers, intermediaries, insurance intermediaries and other organizations connected with the insurance business; i. control and regulation of the rates, advantages, terms and conditions that may be offered by insurers in respect of general insurance business not so controlled and regulated by the Tariff Advisory Committee under section 64U of the Insurance Act, 1938 (4 of 1938); j. Specifying the form and manner in which books of account shall be maintained and statement of accounts shall be rendered by insurers and other insurance intermediaries; k. Regulating investment of funds by insurance companies; l. Regulating maintenance of margin of solvency; m. Adjudication of disputes between insurers and intermediaries or insurance in term diaries; n. Supervising the functioning of the Tariff Advisory Committee; - 37 -
  38. 38. o. Specifying the percentage of premium income of the insurer to finance scheme s for promoting and regulating professional organizations referred to in clause (f); p. Specifying the percentage of life insurance business and general insurance business to be undertaken by the insurer in the rural or social sector; and q. Exercising such other powers as may be prescribedINSURANCE ADVISORY COMMITTEEIRDA consists of a Chairman and four full time and four part time members. IRDA hasconstituted the Insurance Advisory Committee and in consultation with this committee hasbrought out 17 regulations. In addition, representatives of consumes, industry, insurance agents,women‟s originations, and other interest groups are a part of this committee. It has also formeda Consumer Advisory Committee and Surveyor and Loss Assessors Committee. It has a panelof eligible chartered accountants to carry out investigation, inspection and so onChairman: HariNarayana is the current Chairman of IRDA.The IRDA has issued 17 regulations in the areas of registration of insurers, their conduct ofbusiness, solvency margins, and conduct if reinsurance business, licensing, and code of conductintermediaries. It follows the practice of prior consultation and discussion with the variousinterest groups before issuing regulations and guidelines.CHAIRMAN SELECTION PROCESSGovernment of India has circulated to broad base IRDA chairman selection process. It is felt inthe market that placing of retired civil servants as IRDA Chairman has served the purpose ofadministrative fiefdom of the regulator. Mostly, the regulator has become passive to marketrealities and most of the original public policy intentions have been systematically replaced bypersonal preferences. There seems to be no oversight of public policy erosions. Takingadvantage of the completion of term of current incumbent, there seem to be an attempt tocorrect the future course but people do not perceive any outcome to result as the market doesnot seem to throw up candidates of the stature of Howard Davies for Indian market. But a rightleadership is the solution to the requirement of this booming market. - 38 -
  39. 39. IRDA REGULATES PRIVATE INSURANCE COMPANIES IN INDIA SUCH AS; 1. Royal Sundaram Alliance Insurance Company Limited 2. Reliance General Insurance Company Limited. 3. IFFCO Tokio General Insurance Co. Ltd 4. TATA AIG General Insurance Company Ltd. 5. Bajaj Allianz General Insurance Company Limited 6. ICICI Lombard General Insurance Company Limited. 7. Apollo DKV Insurance Company Limited 8. Future Generali India Insurance Company Limited 9. Universal Sompo General Insurance Company Ltd. 10. Cholamandalam General Insurance Company Ltd. 11. Export Credit Guarantee Corporation Ltd. 12. HDFC-Chubb General Insurance Co. Ltd. 13. Bharti Axa General Insurance Company Ltd. 14. Raheja QBE General Insurance Co. Ltd 15. Shriram General Insurance Co. Ltd. - 39 -
  40. 40. Money marketTOPICS:- Introduction of money market. Functions of money market. Money market instruments.  Treasury bill  Call notice money market  Commercial paper  Certificates of deposits  Commercial bills Collateralised borrowing and lending obligation. Call/notice money market. Money market intermediaries. Money market mutual fund. Link between the money market and the monetary policy in India. Tool for managing liquidity in the money market. Money market derivatives. Introduction of capital market. Functions of capital market. Primary capital and secondary capital market. Brief history of the rise of equity trading in India. Reforms in capital market. - 40 -
  41. 41. THE MONEY MARKETINTRODUCTION:-The money market is a market for financial assets that are close substitutes formoney. It is the market for over night to short term funds and instruments having amaturity period of one or less than one year. It is not a physical auction (like thestock market) but an activity that is conducted over the telephone. The moneymarket constitutes a very important segment of the Indian financial system.The features of the money market are as follows. It is not a single market but a collection of markets for several instruments. It is a wholesale market of a short-term debt instrument Its principal features are honour where the creditworthiness of participant is important. The main players are: the reserve bank of India (RBI), the discount and finance house of India (DFHI), mutual funds, banks, co-operative investors, non-banking financial companies(NBFCs), state governments, provident funds, primary dealers, the security trading corporation of India(STCI) public sector undertakings (PSUs) and non residential Indians. It is need based market wherein the demand and supply of money shape the market.Functions of money market A money market is generally expected to perform broad functions. Provide a balancing mechanism to even out the demand for and supply of short term funds. Provide a focal point for central bank intervention for influencing liquidity and general level of interest rates in the economy. Provide reasonable access to suppliers and users of short term funds to fulfil their borrowings and investment requirements at an efficient market clearing price. Besides the above functions a well functioning money market facilitates the development of a market for long term securities. The interest rates for extremely short-term use of money serve as a benchmark for longer-term financial instruments. - 41 -
  42. 42. Benefits of an efficient money market An efficient money market benefits a number of players. It provides a stable source of funds to banks in addition to deposits, allowing alternatives financing structures and completion. It allows banks to manage risks arising from interest rate fluctuations and to manage the maturity structure of their assets and liability. A liquidity market provides an effective source of long-term finance to borrowers. Large borrowers can lower the cost of raising funds and manage short term funding or surplus efficiency. A liquid and vibrant money market is necessary for the development of a capital market, foreign exchange market, and markets in derivatives instruments. The money market supports the long-term debt market by increasing the liquidity of the securities.The Indian money marketThe average turn over of the money market in India is over 40,000crore rupeesdaily. This is more than three percent let out of the system. This implies that 2% ofthe annual GDP of India gets traded in the money market in just one day. Eventhough, the money market is many times larger than the capital market.Reforms in the money market: - 42 -
  43. 43. New instruments New participants Changes in the operating procedure of monitoring policy. Fine tuning of liquidity operations managements. Technological infrastructure.The money market centres:There are market centres in India at Mumbai, Delhi, and Kolkata. Mumbai is theonly active money market centre in India with money flowing I from all parts ofthe country getting transacted there. - 43 -
  44. 44. MONEY MARKET INSTRUMENTSThe instruments traded in the Indian money marketare: Treasury bills(T-bills) Call/notice money market-call (over night) and short notice (upto14 days) Commercial papers(CPs) Certificate of deposits(CDs) Commercial bills(CBs) Collateral borrowings and lending obligation (CBLO). - 44 -
  45. 45. TREASURY BILLSINTRODUCTION:-Treasury Bills are short term money market instruments to finance the short termrequirements of the Government of India. These are discounted securities and thusare issued at a discount to face value. The return to the investor is the differencebetween the maturity value and issue price. This instruments is used by thegovernment it raise short-term funds to bridge seasonal or temporary gaps betweenits receipts (revenue and capital) and expenditure.FEATURES:- They are negotiable securities. They are highly liquid as they are of shorter tenure and there is a possibility of inter-bank repos in them. There is an absence of default risk. They are not issued in the scrip form. The purchase and sales are affected through the subsidiary general ledger (SGL) account. At present there are 91 days, 182 days, and 364 day. 91 days T-bills are auctioned by RBI every Friday and the 364-day T-bill every alternative Wednesday i.e. the Wednesday preceding the reporting Friday. T-bills are available for minimum amount of 25,000 and in multiplies thereof.TYPES OF TREASURY BILLS:-ON TAP BILLS:On tap bills as the name suggest caught be bought from the reserve bank at anytime at any interest yield of4.66%. They were discounted from April 1,1997, asthey had lost much of their relevance. - 45 -
  46. 46. AD HOC BILLS:Ad hoc bills were introduced in 1955. It was decided between the government andRBI that the government could maintain cash of 50 crore with the reserve bank onFriday and 4 crore of other days free of obligations to pay interest thereon andwhen ever the balance fell below the minimum the government account would bereplenished by the ad hoc bill in favour of RBI.AUCTIONED T-bills:Auctioned T-bill the most active money market instrument, were first introduced inapril1992. The reserve bank receives bids in an auction from various participantsand issues the bills subject to some cut off limits.BENEFITS OF INVESTMENT IN TREASURY BILLS No tax deducted at source Zero default risk being sovereign paper Highly liquid money market instrument Better returns especially in the short term Transparency Simplified settlement High degree of tradability and active secondary market facilitates meeting unplanned fund requirements. - 46 -
  47. 47. PARTICIPANTS IN TRESURY BILLSThe reserve bank of India, banks, mutual funds, financial institutions, primarydealers, provident funds, foreign banks, foreign institutional investor.TYPES OF AUCTIONSThere are two types of auction for treasury bills: Multiple Price Based or French Auction: Under this method, all bids equal to or above the cut-off price are accepted. However, the bidder has to obtain the treasury bills at the price quoted by him. This method is followed in the case of 364days treasury bills and is valid only for competitive bidders. Uniform Price Based or Dutch auction: Under this system, all the bids equal to or above the cut-off price are accepted at the cut- off level. However, unlike the Multiple Price based method, the bidder obtains the treasury bills at the cut-off price and not the price quoted by him. This method is applicable in the case of 91 days treasury bills only. - 47 -
  48. 48. COMMERCIAL PAPERSINTRODUCTION:-Commercial paper, or CP as it is popularly known, is in the nature of an unsecuredshort term promissory note, transferable by endorsement and delivery. It is of fixedmaturity.Corporate, primary dealers (PDs) and the all-India financial institutions (FIs) thathave been permitted to raise short-term resources under the umbrella limit fixed byReserve Bank of India are eligible to issue CP. The following are the eligibilitycriteria, as per the extant guidelines:1] The company should have a minimumtangible net worth of Rs. 40mn, as per the latest audited balancesheet.2] Thecompany should have been sanctioned working capital limits by banks/FIs andshould be classified as a Standard Asset by the financing bank(s) / FIs.3] Thecompany should have minimum credit rating from an agency approved by RBIProcess for issuing CPOnce a company decides to issue CP for a specific amount, a resolution is requiredto be passed by the Board of Directors approving the issue and authorising theofficial(s) to execute the relevant documents, as per RBI norms. The CP issue isrequired to be rated by an approved credit rating agency .The company selects theIssuing and Paying Agent, which has to be a scheduled bank. The issuer shoulddisclose to its potential investors its financial position. The company may alsoarrange for dealers for placement of CPs. The issue has to be completed within twoweeks of opening. CP may be issued on a single date or in parts on different datesprovided that in the latter case, each CP shall have the same maturity date. - 48 -
  49. 49. COMMERCIAL BILLSINTRODUCTION:-The working capital requirement of business firms is provided by banks throughcash-credits / overdraft and purchase/discounting of commercial bills.Commercial bill is a short term, negotiable, and self-liquidating instrument withlow risk. It enhances liability to make payment in a fixed date when goods arebought on credit. According to the Indian Negotiable Instruments Act, 1881, bill orexchange is a written instrument containing an unconditional order, signed by themaker, directing to pay a certain amount of money only to a particular person, or tothe bearer of the instrument. Bills of exchange are negotiable instruments drawn bythe seller (drawer) on the buyer (drawee) or the value of the goods delivered tohim. Such bills are called trade bills. When trade bills are accepted by commercialbanks, they are called commercial bills. The bank discounts this bill by keeping acertain margin and credits the proceeds. Banks, when in need of money, can alsoget such bills rediscounted by financial institutions such as LIC, UTI, GIC, ICICIand IRBI. The maturity period of the bills varies from 30 days, 60 days or 90 days,depending on the credit extended in the industry. - 49 -
  50. 50. Types of Commercial Bills: Commercial bill is an important tool finance credit sales. It may be a demand bill or a usance bill. A demand bill is payable on demand, that is immediately at sight or on presentation by the drawee. A usance bill is payable after a specified time. If the seller wishes to give sometime for payment, the bill would be payable at a future date. These bills can either be clean bills or documentary bills. In a clean bill, documents are enclosed and delivered against acceptance by drawee, after which it becomes clear. In the case of a documentary bill, documents are delivered against payment accepted by the drawee and documents of bill are filed by bankers till the bill is paid. Commercial bills can be inland bills or foreign bills. Inland bills must (1) be drawn or made in India and must be payable in India: or (2) drawn upon any person resident in India. Foreign bills, on the other hand, are (1) drawn outside India and may be payable and by a party outside India, or may be payable in India or drawn on a party in India or (2) it may be drawn in India and made payable outside India. A related classification of bills is export bills and import bills. While export bills are drawn by exporters in any country outside India, import bills are drawn on importers in India by exporters abroad. The indigenous variety of bill of exchange for financing the movement of agricultural produce, called a „hundi‟ has a long tradition of use in India. It is vogue among indigenous bankers for raising money or remitting funds or to finance inland trade. A hundi is an important instrument in India; so indigenous bankers dominate the bill market. However, with reforms in the financial system and lack of availability of funds from private sources, the role of indigenous bankers is declining. With a view to eliminating movement of papers and facilitating multiple rediscounting, RBI introduced an innovation instruments known as „Derivative Usance Promissory Notes,‟ backed by such eligible commercial bills for required amounts and usance period (up to 90 days). Government has exempted stamp duty on derivative usance promissory notes. This has simplified and streamlined bill rediscounting by institutions and made the commercial bill an active instrument in the secondary money market. This instrument, being a negotiable instrument issued by banks, is a sound - 50 -
  51. 51. investment for rediscounting institutions. Moreover rediscountinginstitutions can further discount the bills anytime prior to the date ofmaturity. Since some banks were using the facility of rediscountingcommercial bills and derivative usance promissory notes of as short a periodas one day, the Reserve Bank restricted such rediscounting to a minimumperiod of 15 days. The eligibility criteria prescribed by the Reserve Bank forrediscounting commercial bills are that the bill should arise out of a genuinecommercial transaction showing evidence of sale of goods and the maturitydate of the bill should to exceed 90 days from the date of rediscounting. - 51 -
  52. 52. Features of Commercial Bills Commercial bills can be traded by offering the bills for rediscounting. Banks provide credit to their customers by discounting commercial bills. This credit is repayable on maturity of the bill. In case of need for funds, and can rediscount the bills in the money market and get ready money. Commercial bills ensure improved quality of lending, liquidity and efficiency in money management. It is fully secured for investment since it is transferable by endorsement and delivery and it has high degree of liquidity. The bills market is highly developed in industrial countries but it is very limited in India. Commercial bills rediscounted by commercial banks with financial institutions amount to less than Rs 1,000 crore. In India, the bill market did not develop due to (1) the cash credit system of credit delivery where the onus of cash management rest with banks and (2) an absence of an active secondary market.Measures to Develop the Bills Market: One of the objectives of the Reserve Bank in setting up the Discount and finance House of India was to develop commercial bills market. The bank sanctioned a refinance limit for the DFHI against collateral of treasury bills and against the holdings of eligible commercial bills. With a view to developing the bills market, the interest rate ceiling of 12.5 per cent on rediscounting of commercial bills was withdrawn from May 1, 1989. To develop the bills market, the Securities and Exchange Board of India (SEBI) allowed, in 1995-96, 14 mutual funds to participate as lenders in the bills rediscounting market. During 1996-97, seven more mutual funds were permitted to participate in this market as lenders while another four primary dealers were allowed to participate as both lenders and borrowers. - 52 -
  53. 53. In order to encourage the „bills‟ culture, the Reserve Bank advised banks in October 1997 to ensure that at least 25 percent of inland credit purchases of borrowers be through bills.Size of the Commercial Bills market: The size of the commercial market is reflected in the outstanding amount of commercial bills discounted by banks with various financial institutions. The share of bill finance in the total bank credit increased from 1993-94 to 1995-96 but declined subsequently. This reflects the underdevelopment state of the bills market. The reasons for the underdevelopment are as follows: The Reserve Bank made an attempt to promote the development of the bill market by rediscounting facilities with it self till 1974. Then, in the beginning of the 1980s, the availability of funds from the Reserve Bank under the bill rediscounting scheme was put on a discretionary basis. It was altogether stopped in 1981. The popularity of the bill of exchange as a credit instrument depends upon the availability of acceptance sources of the central bank as it is the ultimate source of cash in times of a shortage of funds. However, it is not so in India. The Reserve Bank set up the DFHI to deal in this instrument and extends refinance facility to it. Even then, the business in commercial bills has declined drastically as DFHI concentrates more on other money market instruments such as call money and treasury bills. It is mostly foreign trade that is financed through the bills market. The size of this market is small because the share of foreign trade in national income is small. Moreover, export and import bills are still drawn in foreign currency which has restricted their scope of negotiation. A large part of the bills discounted by banks are not genuine. They are bills created by converting the cash-credit/overdraft accounts of their customers. - 53 -
  54. 54. The system of cash-credit and overdraft from banks is cheaper and moreconvenient than bill financing as the procedures for discounting andrediscounting are complex and time consuming.This market was highly misused in the early 1990s by banks and financecompanies which refinanced it at times when it could to be refinanced. Thisled to channelling of money into undesirable use - 54 -
  55. 55. CERTIFICATE OF DEPOSITEINTRODUCTION:-Certificates of deposit are unsecured, negotiable, short term instrument in bearerform, issued by commercial banks and development financial institutes.Certificates of deposits were introduced in 1989. Only scheduled commercialbanks excluding regional rural banks and local area banks were allowed to issuethem initially. Financial institutions were permitted to issue certificates of depositwithin the umbrella limit fixed by the reserve bank in 1992.GUIDELINES FOR ISSUE OF CERTIFICATE OF DEPOSITEEligibility:-CDs can be issued by scheduled commercial banks and excluding regional ruralbanks. Local area banks (2) and select all India financial institution that have beenpermitted by RBI.Aggregate amount:-Should not exceed 100% of its net owned funds.Minimum size of issue and denomination:-Minimum amount of CDs should be 1 lacks i.e. the minimum deposit that can beaccepted from a single subscriber should not be less than 1 lacks.Who can subscribe:-CDs can be issued to entities like individuals, corporations, companies, trusts,funds, and association. - 55 -
  56. 56. Maturity:-Not less than 7 days and not more than 1 year. and not exceeding 3 years from thedate of issue. - 56 -
  57. 57. COMPARISION OF CERTIFICATE OF DEPOSITE AND COMMERCIAL PAPERSCDs and commercial papers are both forms of money market instruments and areissued in the money markets by organizations that wish to raise funds, and aretraded by investors who wish to profit from the interest rate fluctuations.However, there are many differences between these two forms of instruments,since CDs commercial papersCDs are issued as a proof of an Commercial papers are issued to aninvestment of funds in the bank by a investor as a proof of purchase of thedepositor while issuer‟s debt (purchasing debt means providing funds like a bank gives out a loan).While a CD is usually for a longer term. A promissory note is for a shorter periodThe issuance of a CD, owing to this The issuance of commercial papersdifference in maturity, entails higher entails lower responsibility of theresponsibility on the issuer‟s part issuer‟s part. - 57 -
  58. 58. COLLATERALISED BORROWING AND LENDING OBLIGATIONThe clearing corporation of India limited (CCIL) launched a new product-collateralised borrowing and lending obligation (CBLO) on January 20 2003. Toprovide liquidity to non bank entities. Hit by restrictions on access to call moneymarket. The minimum order lot for auction market is fixed rs.50,000 and inmultiples of 500000 thereof.The minimum order for normal market is fixed at 500000 and in multiples of500000 there of. The reserve bank has prescribed the mode of operation in theCBLO segment. In the auction market, on the platform provided by CCIL theborrowers will submit their offers and the lenders will give their bids. Specifyingthe discount rate and maturity period. - 58 -
  59. 59. CALL/NOTICE MONEY MARKETINTRODUCTION:-The call/notice/term money market is a market for trading very short term liquidfinancial assets that are readily convertible into cash at low cost. The moneymarket primarily facilitates lending and borrowing of funds between banks andentities like Primary Dealers. An institution which has surplus funds may lendthem on an uncollateralized basis to an institution which is short of funds. Theperiod of lending may be for a period of 1 day which is known as call money andbetween 2 days and 14 days which is known as notice money. Term money refersto borrowing/lending of funds for a period exceeding 14 days. The interest rates onsuch funds depend on the surplus funds available with lenders and the demands forthe same which remains volatile.This market is governed by the Reserve Bank of India which issues guidelines forthe various participants in the call/notice money market. The entities permitted toparticipate both as lender and borrower in the call/notice money market areScheduled Commercial Banks (excluding RRBs), Co-operative Banks other thanLand Development BanksScheduled commercial banks are permitted to borrow to the extent of 125% oftheir capital funds in the call/notice money market, however their fortnightlyaverage borrowing outstanding should not exceed more than 100% of their capitalfunds (Tier I and Tier II capital). At the same time SCBs can lend to the extent of50% of their capital funds on any day, during a fortnight but average fortnightlyoutstanding lending should not exceed 25% of their total fundsCo-operative Banks are permitted to borrow up to 2% of their aggregate depositsas end of March of the previous financial year in the call/notice money marketPrimary Dealers can borrow on average in a reporting fortnight up to 200% of thetotal net owned funds (NOF) as at end-March of the previous financial year andlend on average in a reporting - 59 -
  60. 60. The average daily turnover in the call money market is around Rs. 12,000-13,000cr every day and trading occurs between 9.30 am to 5.00 pm on Monday to Friday.The trades are conducted both on telephone as well as on the NDS Call system,which is an electronic screen based system set up by the RBI for negotiatingmoney market deals between entities permitted to operate in the money market.The settlement of money market deals is by electronic funds transfer on the RealTime Gross Settlement (RTGS) system operated by the RBI. The repayment of theborrowed money also takes place through the RTGS system on the due date ofrepayment.Participants in the call money market:-Participants in the call money market are scheduled commercial banks, non-scheduled commercial banks, foreign banks, state, district and urban, cooperativebanks, Discount and Finance House of India (DFHI) and Securities TradingCorporation of India (STCI). The DFHI and STCI borrow as well as lend, likebanks and primary dealers, in the call market. At one time, only a few large banks.Over time, however, the market has expanded and now small banks and non-scheduled banks also participate in this market. However, now their participationas borrowers has increased for meeting CRR requirements.Difficulties in tapping deposits through branch expansion, and an increase in thecost of servicing (FCNR) deposits have also compelled foreign banks to borrow inthe call money market.Among the large commercial banks, the SBI kept away from the call market till1970 after which it has been regularly participating in this market. Because of itslarge size and formidable cash position, its participation made the market moreactive. The SBI group is a major lender but a small borrower in the call market. - 60 -
  61. 61. Call rate:-The interest rate on a type of short-term loan that banks gives to brokers who inturn lend the money to investors to fund margin accounts. For both brokers andinvestors, this type of loan does not have a set repayment schedule and must berepaid on demand.MIBOR:-The Committee for the Development of the Debt Market that had studied andrecommended the modalities for the development for a benchmark rate for the callmoney market. Accordingly, NSE had developed and launched the NSE MumbaiInter-bank Bid Rate (MIBID) and NSE Mumbai Inter-bank Offer Rate (MIBOR)for the overnight money market on June 15, 1998.Call rate volatility:-In India money and credit situation is subject to seasonal fluctuation every year. Adecrease in call money requirement is greater in the slack season (mid April to midOctober) than in a buy session (mid October to mid April). - 61 -
  62. 62. Factors influencing call money market rate:-The National Stock Exchange (NSE) developed and launched the NSE MumbaiInter bank Bid the (MIBID) and NSE Mumbai Inter-bank Offer Rate (MIBOR) orthe overnight money markets on June 15, 1998, NSE MIBID/ MIBOR are based onrates pooled by NSE from a representative panel of 31 banks/institutions/primarydealers. Currently, quotes are polled and processed daily by the exchange at 9:40(IST) for the overnight rate and at 11:30 (IST) for the 14 day, 1 month, and 24month rates. The rates pooled are then processed using the boost trap method toarrive at an efficient estimate of the references rates. This rate is used as abenchmark rate or majority of the deals stuck for floating rate debentures and termdeposits. Benchmark is rate at which money is raised in financial markets. Theserates are used in hedging strategies as reference points in forwards and swaps.Reuters MIBOR (Mumbai Inter-bank Overnight Average) is arrived at byobtaining weighted average of call money transactions of 22 banks and otherplayers.MIBOR is a better official benchmark rate for interest rate swaps (IRs) andforward rate agreements (FRAs). MIBOR is transparent, market determined andmutually acceptable to counterparties as reference.Call Rates Volatility:In India, money and credit situation is subject to seasonal fluctuation every year.The volume of call money transactions and the amount as well as call rate levelscharacterize seasonal fluctuation/volatility. A decrease in the call/notice moneyrequirements is greater in the slack season (mid-April to mid-October) than in thebuy season (mid-October to mid-April).Liquidity conditions:Liquidity conditions are governed by factors on both the demand and supply sideof money. Liquidity conditions are governed by deposit mobilization, capital flowsand reserve requirements on the supply side, and tax outflows, governmentborrowings programs, non-food credit off take and seasonal fluctuations on thedemand side. When easy liquidity conditions prevail, call rates move around the - 62 -

×