INDIAN FINANCIAL SYSTEM
A money market is not a market for money but it is a market for near ‘money’; or it is the market for lending and borrowing of short-term funds. It is the market where the short -term surplus investible funds of banks & other financial institutions are demanded by borrowers comprising individual companies and government. Commercial banks are both suppliers of funds in the money market and borrowers.
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The Indian money market consists of two parts: the unorganized and the organized sectors. The unorganized sector consists of indigenous bankers who pursue the banking business on traditional lines and non-banking financial institutions(NBFCs) .the organized sector comprises the reserve bank, the state bank of India and its associates banks, both Indian and foreign.
The organized money market in India has a number of sub markets such as the treasury bills market, the commercial bills market and the inter-bank call money market.
The Indian money market is not a single homogenous market but is composed of several sub-markets, each one of which deals in a particular type of short term credit.
CALL MONEY MARKET:
The market is also known as money at call and short notice. The market has actually two segments viz. (a) the call market or overnight market, and (b) short notice market. The rate at which funds are borrowed and lent in this market is call money rate.
Call money rates are market determined i.e. by demand for and supply of short term funds. The public sector banks for about 75 percent for the demand (that is, borrowings) and foreign banks and Indian private sector banks accounts for the balance for the balance of 20 percent of borrowings. Non-banking financial
Institutions such as IDBI, LIC, GIC, etc enter the call money market as lenders and supply up to 80 percent of the short-term funds. The balance of 20 percent of the funds is supplied by the banking system .while some banks operates both as lenders and borrowers, others are either’s only borrowers or only borrowers or only lenders in the call money market.
Bill Market in India:
The bill market or the discount market is the most important part of the money market where short-term bills-normally up to 90 days-are brought & sold. The bill market is further subdivided into commercial bill market and Treasury bill market.
The market for commercial bills has not become popular in India. Unlike in London & other international money markets where commercial bills are extensively bought and sold (i.e. discounted).
The 91 days treasury bills are the most common way the government of India raises funds for the short period. Some years ago, the government had introduced the 182 day treasury bills which were later converted into 364-day treasury bills; the government introduced the 14-day intermediate treasury bills.
Features & defects of Indian money market:
- Existence of unorganized money market
- Absence of integration
- Diversity in money rates of interest
- Seasonal stringency of money
- Absence of the bill market
- Highly volatile call money market
- Absence of a well organized banking system
- Availability of credit instrument.
Composition of Indian capital market: Capital market is the market for long term funds, just as the money market is the market for short term funds. It refers to all the facilities and the institutional arrangements for borrowing and lending term funds (medium-term and long-term funds).it does not deal in capital goods but is concerned with the raising of money capital for purposes of investment.
The demand for long-term memory capital comes predominantly from private sector manufacturing industries and agriculture and from the government largely for the purpose of economic development. As the central and state governments are investing not only on economic overheads like transport, irrigation and power development but also on basic industries and sometimes even in consumer goods industries, they require substantial sums from the capital market.
The supply of funds for the capital market comes largely from individual savers, corporate savings, banks, insurance companies specialized financing agencies and the government. Among the institutions, we may refer to the following:
- Commercial banks are important investors, but are largely interested in govt. securities and, to a small extent, debentures of companies;
- LIC and GIC are of growing importance in the Indian capital market, though their major interest is in government securities;
- Provident funds constitute a major medium of savings but their investment too are mostly in govt. securities; and
- Special institutions set up since independence , viz, IFCI, ICICI, IDBI, UTI, etc. -generally called development financial institutions (DFIs) -aim at supplying long term capital to the private sector.
- There are financial intermediaries in the capital market, such as merchant bankers, mutual funds leasing companies etc. which help in mobilizing savings and supplying funds to investors.
Like all markets, the capital market is also composed of those who demand funds (borrowers) and those who supply funds (lenders).an ideal capital attempts to provide adequate capital at reasonable rate of return for any business which offers a prospective yield high enough to make borrowing worthwhile.
The capital market is broadly divided into two the gilt-edged market and the industrial securities market. The gilt-edged market refers to the market for government and semi govt. securities, backed by the RBI. The securities traded in this market are stable in value and are much sought after by banks and other institutions.
The industrial securities market refers to the market for shares and debentures of old and new companies. This market is further divided into the new issue market and old capital market meaning the stock exchange.
The new issue market -often referred to as primary market- refers to raising of new capital in the form of shares and debentures whereas the old issue market -commonly known as stock exchange or stock market-deals with securities already issued by the companies. It is also known as the secondary market. Both markets are equally important, but often the issue market IS MUCH MORE IMPORTANT from the point of view of economic growth.
DFIs supply funds for investment: financial intermediaries like merchant bankers help the corporate sector to raise funds in the capital market.
SPECIAL FINANCIAL INSTITUTIONS & THE CAPITAL MARKET:
Soon after independence, the govt. of India set up a series of financial institutions to be of special help to the private sector industries. IFCI was the first of these institutions (1948).it was followed by SFCs (set up by state govt. with cooperation of RBI & other banks) to provide long term finance to small and medium industries.
ICICI (1955), IDBI (1964) & UTI (1964) followed soon after.LIC was set up in 1956 to mobilize individual savings and to invest part of savings in the capital market.
Commercial banks & the capital market:
The operations of commercial banks have so far been confined to the purchase and sell of govt. and other trust securities. Their holdings of industrial securities viz. shares and debentures are very small.
But in recent years, banks have been increasingly participating in term through subscribing to the shares & debentures of special financial institutions. They are also setting up financial subsidiaries, known as merchant houses, mutual funds, venture capital companies, leasing companies, etc. to mobilize funds.
Non banking financial companies (NBFCs):
In recent years ,NBFCs, variously called as “finance corporation” “loan company”,” finance company ” etc. have mushroomed all over the country. These companies, with a very little capital of their own have been raising deposits from the public by offering attractive rate of interest & other incentives. They advance loans to wholesale and retail traders, small scale industries and self- employed person. Bulk of their loans is given to parties which don’t either approach commercial banks or which are denied credit facilities. The finance companies give loans which are generally unsecured. Besides giving loans and advances to small sector, they run chit funds, purchase and discount hundies and have also taken up merchant banking, mutual funds, leasing etc.
Essentially, these finance cos. are banks, since they perform the basic twin functions of attracting deposits from the public and making loans.RBI say
“The rapid growth of NBFC’s especially in the nineties, has led to a gradual blurring of dividing lines between banks and NBFCs.”
Since NBFC are not regarded as banking companies they didn’t come under the control of RBI. There is no minimum liquidity ratio or cash ratio between their own funds and deposits.
The RBI has mentioned 5 kinds of NBFCs
- Leasing Financing Companies
- Hire purchase finance companies
- Loan finance companies
- Investment finance companies
- Residuary non-banking companies (RNBCs)
Future of NBCs:
The NBFCs are now emerging as a growing segment of the Indian financial system & both the government and RBI appreciate the need for their orderly and healthy development with appropriate prudential safeguards. It is to regulate NBFCs and to improve their financial health that amendment to RBI act, 1934 was carried out.
In recent years, mutual funds are the most important among newer capital market institutions. Several public sector banks and financial institutions have set up mutual funds on a tax-exempt basis. Their main function is to mobilize the savings of general people & invest them in stock market securities.
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Growth of mutual fund:
In the 1990s.MFs found it hard to attract investors, the competition for funds was hotting up from banks and the government was offering 14% interest on medium term securities, banks-12%, HDFC-14%, IDBI-15.75%.
Under these conditions, it was difficult for mutual funds to rival such high yields on debt instruments. They also found it hard to meet high expectations of investors who were yet to break out of the get-rich-quick syndrome. Accordingly, the first wave of mutual funds failed.
During 1998-99 and 1999-00, however the mutual fund sector registered significant growth. Economic conditions were good; stock exchanges were booming and the govt. had given tax concessions. All these help in the return of faith of people in mutual funds.
The revival of mutual funds since 1995-96 was due to the entry of corporate majors-TATA, BIRLA, RELIANCE & SBI. Many other followed with products designed for investor specific need. Investors left the banking system and flocked to mutual fund.
STOCK EXCHANGE IN INDIA:
In a modern capitalist economy, almost all commodities are produced on a large scale; and large scale production means large scale of capital. The public firms issues stocks and bonds and enable those with surplus funds to invest them profitability in them.
The stock market is a place where stocks and shares & other long term commitments or investments are bought and sold.
History of Stock Exchange in India:
The first organized stock exchange in India was started in Bombay when the Native Share Stock Brokers’ Association known as Bombay stock exchange (BSE) was formed by the brokers in Bombay.BSE was Asia’s oldest stock exchange. In 1894 Ahmadabad stock exchange was started to deal in the shares of textile miles there the Calcutta stock exchange was started in 1908 to deal in shares of plantation and jute miles besides these there were a number of unorganized and unrecognized exchanges known as KERB markets. There were also illegal DABBA markets in which stock and shares also bought and sold
The functioning of stock exchanges in India has shown many weaknesses, lack of transparency. to counter these problems and regulate capital market the government of India set up the SECURITIES AND EXCHANGE BOARD OF INDIA in 1988.SEBI was a non statutory body but in January 1992 it was made a statutory body. SEBI , in consultation with govt. of India has taken a lot of steps to introduce improved practices and greater transparency for the interest of the investing public and healthy development of capital markets
SEBI has advised stock exchanges to amend the listing agreements to ensure the listed companies furnishes annual statements to the stock exchanges
All the guidelines and regulatory measures of capital issues are meant to promote healthy and efficient functioning of the issue market
In January 1995 the government amended SEBI ACT 1992, so as to arm SEBI with additional powers for ensuring the orderly development of capital market and to enhance its ability to protect the interest of investors.
It was thought that SEBI has all necessary powers to control the capital market on one hand and effectively protect interest of the shareholders on the other. But it has failed miserably to prevent a small by scams like HARSHAD MEHTA scam.
Capital Market of USA:
USA has a very strong and developed capital market. Many other countries such as Germany have a very powerful and firm banking sector but the capital market of Germany is not so strong. There is a very agile financial market that is present in USA and is playing very important part in making and implementing the policies of the government. If agile market in financial instrument were not present, the govt. will not be able to open market operations. The capital market covers a big range of tools for borrowing and lending. The borrowers are businesses houses, retail investors, and government Institutes which have needs for funding. Lenders are businesses and Individuals with savings or excess money to invest. Financial institutions viz. commercial banks, investment Firms, and insurance companies, act as both borrowers and lenders. In addition, a wide variety of financial instruments have been developed that permit borrowers to sell their own securities and their own securities and earn interest and profits. The market in which the maturities and trading are for a short period is called a money market; the money market is a market for short-term credit. The money market helps the players to deal with routine financial uncertainties. Borrowers trade it for mollify or Short-term cash. Markets that deal in instruments with maturities more than one year are known as capital markets, since credit for investments for new venture will be required for more than one year.
There is a difference between primary and secondary market. The “primary market” applies to the original issuing of a credit market instrument. After a debt instrument has been issued, the purchaser may be able to resell the instrument before its maturity in a “secondary market. These include different types of formal exchanges, and electronic trading through bids and offers.