Meaning of Money Market
Money
market is a place where money and short term financial assets which are close
substitutes of money are traded. It mainly deals in cash or near money or
liquid assets of short-term nature. It also deals in treasury bills (TBs),
Commercial bills, Commercial paper (CP), ADRs, GDRs, Call and Short money
market etc.
According to the RBI, "The
money market is the centre for dealing mainly of short character, in monetary
assets; it meets the short term requirements of borrowers and provides
liquidity or cash to the lenders. It is a place where short term surplus
investible funds at the disposal of financial and other institutions and
individuals are bid by borrowers, again comprising institutions and individuals
and also by the government."
From the above explanation, we can say
that money market is a market for short term funds meant for use for a period
of one year or less. The major participants of money market consist of the
government, commercial banks, Life insurance companies, Mutual funds,
Non-banking finance companies, stock exchange brokers etc.
Guide to Indian Money Market:
Features of Money Market
The
salient features of money market are as follows: 2020
a) Flow of
short-term funds: The money market brings together the lenders who have surplus
funds for short-term and the borrowers who are in need of short-term funds.
b) No fixed
geographical location: There is no fix geographical location of money market.
Different name is given to money market located in different areas.
c) Participants:
The major participants of money market consist of the government, commercial
banks, Life insurance companies, Mutual funds, Non-banking finance companies,
stock exchange brokers etc.
d) Instruments: It deals in money or instruments which are a
close substitute of money such as treasury bills (TBs), Commercial bills,
Commercial paper (CP), ADRs, GDRs, Call and Short money market etc.
e) Sub-markets
or components: Money market consists of many sub-markets such as call money
market, collateral loan market, acceptance market, bill market, treasury bills
market etc.
f) Reasonable
access: Money market provides reasonable access to users of short-term funds to
meet their requirements on reasonable terms or rates of interest.
g) Source of
working capital: Money market constitutes a major source of working capital
finance for borrowers.
Functions of Money Market
The major functions of money market
are given below:
(a) Economic
Development: The money market helps in economic development of a country by
providing short term funds to both public and private institutions without any
discrimination.
(b) Funds for
government: Money market helps the government in borrowing short term funds at
very low interest rate. This can be done by issuing treasury bills.
(c) Return on
idle funds: Money market helps the lenders to earn return on their idle or
surplus funds for short period.
(d) Implementation
of Monetary Policy: Money market helps in implementing monetary policy of the
central bank of any country.
(e) Mobilsation
of funds: The money market helps in transferring funds from one sector to another.
The development of trade, commerce and industry depends on the mobilisation of
financial resources.
(f) Connecting
link between various financial market: Money market acts as a connecting link
between all the segments of financial market like capital market, foreign
exchange market etc.
Drawbacks of Indian Money Market
In money market short term surplus funds with banks, financial institutions and others are bid by borrowers i.e., individuals, companies and the Government. In the Indian money market RBI occupies the pivotal position. The Indian money market can be divided into two sectors i.e. unorganized and organized. The organized sector comprises of Reserve Bank of India, SBI group and commercial banks foreign, public sector and private sector. The unorganized sector consists of indigenous bankers and money lenders. The organized money market in India has number of sub-markets such as the treasury bills market, the commercial market and inter-bank call money market. The following are the characteristics of the Indian Money Market :
a) Existence of Unorganized Money Market. The most important defect of the Indian money market in the existence of unorganized segment. In this segment of the market the purpose as well period are not clearly demarcated. In fact, this segment thieves on this characteristic. This segment undermines the role of the RBI in the money market. Efforts of RBI to bring indigenous bankers within statutory frame work have not yielded much result.
b) Lack of Integration. Another important deficiency is lack of intergration of different segments or functionaries. However, with the enactment of the Banking Companies Regulation Act 1949, the position has changed considerably. The RBI is now almost fully effective in this area under various provisions of the RBI Act and the Banking Companies Regulation Act.
c) Disparity in interest rates. There have been too many interest rates prevailing in the market at the same time like borrowing rates of government, the lending rates of commercial banks, the rates of cooperative banks and rats of financial institutions. This was basically due to lack of mobility of funds from one sub-segment to another.However, with changes in financial sector the different rates of interest have been quickly adjusting to changes in the bank rate.
d) Seasonal Diversity of Money Market. A notable characteristic is the seasonal diversity. There are very wide fluctuations in the rates of interest in the money market from one period to another in the year. November to June is the buy period. During this period crops from rural areas are moved to cities and parts. The wide fluctuations create problems in the money market. The Reserve Bank of India attempts to lessen the seasonal fluctuations in the money market.
e) Lack of Proper Bill Market. Indian Bill market is an underdeveloped one. A well organized bill market or a discount market for short term bills is essential for establishing an effective link between credit agencies and Reserve Bank of India. The reasons for the situation are historical, like preference for cash to bills etc.
f) Lack of very well Organized Banking System. Till 1969, the branch expansion was very slow. There was tremendous effort in this direction after nationalization. A well developed banking system is essential for money market. Even, at present the lack of branches in rural areas hinders the movement of funds. With emphasis on profitability, there may be some problems on this account.
In totality it can be said that Indian Money Market is relatively under developed. In no case it can be compared with London Money Market or New York Money Market. There are number of factors responsible for it in addition to the above discussed characteristics. For example, lack of continuous supply of bills, a developed acceptance market, commercial bills market, dealers in short term assets and coordination between different sections of the money market.
Essential Characteristics of a Strong Money Market
In order to fulfill the above objectives, the money market should be fully developed and efficient. In every country of the world, some type of money market exists. Some of them are highly developed while others are not well developed. Prof. S.N. Sen has described certain essential features of a developed money market. They are as follows:
(i) Highly Organized Banking System: The commercial banks are the nerve centre of the whole money market. They are the principal suppliers of short-term funds. The commercial banks serve as vital link between the central bank and the various segments of the money market. Consequently, a well developed money market and a highly organized banking system co-exist. In an underdeveloped money market, the commercial banking system is not fully developed.
(ii) Presence of a Central Bank: The Central Bank acts as the banker’s bank. It keeps their cash reserves and provides them financial accommodation in difficulties by discounting their eligible securities. The central bank is the leader, guide and controller of the money market. In an underdeveloped money market, the central bank is in its infancy and not in a position to influence the money market.
(iii)Availability of Proper Credit Instruments: It is necessary for the existence of developed money market a continuous availability of readily acceptable negotiable securities such a bills of exchange, treasury bills etc. in the market. There should be a number of dealers in the money market to transact in these securities. Availability of negotiable securities and the presence of dealers and brokers in large numbers to transact in these securities are needed for the existence of a strong money market.
(iv) Existence of Sub-markets: The number of sub-markets determines the development of a money market. The larger the number of sub-markets, the broader and more developed will be the structure of money market.
(v) Ample Resources: There must be availability of sufficient funds to finance transactions in the sub-markets. These funds may come from within the country and also from foreign countries.
(vi) Existence of Secondary Market: There should be an active secondary market in these instruments.
(vii) Demand and Supply of Funds: There should be a large demand and supply of short-term funds. It presupposes the existence of a large domestic and foreign trade. Besides, it should have adequate amount of liquidity in the form of large amounts maturing within a short period.
Structure of Indian Money Market
A. Organized Sector
The sector contains will established financial
instruments. The RBI at the apex is the lender of the money market and controls
the banking sector. The scheduled and non-scheduled commercial banks in the
private as well as public sector, foreign banks, post office savings bank and
co-operative banks are parts of this sector.
B. Unorganized Sector
The
Unorganised Sector: The unorganised sector contains agencies which have diverse
policies, lack of uniformity and consistency in the lending business. It
includes indigenous bankers, money lenders and chit funds. The indigenous
bankers are known as shroffs, multanis, chettiars, etc. The unorganised sector
lacks scientific organisation, being orthodox in approach, stagnant and
ill-organised.
After studying above organizational chart of the Indian money market it is necessary to understand various components or sub markets within it. They are explained below:
1. Call Money: Call/Notice money is an amount borrowed or lent on demand for a very short period. If the period is more than one day and up to 14 days it is called 'Notice money' otherwise the amount is known as Call money'. Intervening holidays and/or Sundays are excluded for this purpose. No collateral security is required to cover these transactions:
Features of Call Money:
i. The call market enables the banks and institutions to even out their day-to-day deficits and surpluses of money.
ii. Commercial banks, Co-operative Banks and primary dealers are allowed to borrow and lend in this market for adjusting their cash reserve requirements.
iii. Specified All-India Financial Institutions, Mutual Funds and certain specified entities are allowed to access Call/Notice money only as lenders.
iv. It is a completely inter-bank market hence non-bank entities are not allowed access to this market.
v. Interest rates in the call and notice money market are market determined.
2. TREASURY BILLS MARKET: In the short term, the lowest risk category instruments are the treasury bills. RBI issues these at a prefixed day and a fixed amount. These are four types of treasury bills.
i. 14-day Tbill- maturity is in 14 days. Its auction is on every Friday of every week. The notified amount for this auction is Rs. 100 crores.
ii. 91-day Tbill- maturity is in 91 days. Its auction is on every Friday of every week. The notified amount for this auction is Rs. 100 crores.
iii. 182-day Tbill- maturity is in 182 days. Its auction is on every alternate Wednesday (which is not a reporting week). The notified amount for this auction is Rs. 100 crores.
iv. 364-Day Tbill- maturity is in 364 days. Its auction is on every alternate Wednesday (which is a reporting week). The notified amount for this auction is Rs. 500 crores.
A considerable part of the government's borrowings happen through Tbills of various maturities. Based on the bids received at the auctions, RBI decides the cut off yield and accepts all bids below this yield.
3. INTER-BANK TERM MONEY: Interbank market for deposits of maturity beyond 14 days and up to three months is referred to as the term money market. The specified entities are not allowed to lend beyond 14 days. The development of the term money market is inevitable due to the following reasons
i. Declining spread in lending operations
ii. Volatility in the call money market
iii. Growing desire for fixed interest rates borrowing by Corporates
iv. Move towards fuller integration between forex and money market
v. Stringent guidelines by regulators/management of the institutions
4. CERTIFICATE OF DEPOSITS: After treasury bills, the next lowest risk category investment option is the certificate of deposit (CD) issued by banks and FIs. CDs are issued by banks and FIs mainly to augment funds by attracting deposits from Corporates, high net worth individuals, trusts, etc. the issue of CDs reached a high in the last two years as banks faced with reducing deposit base secured funds by these means. The foreign and private banks, especially, which do not have large branch networks and hence lower deposit base use this instrument to raise funds.
The rates on these deposits are determined by various factors. Low call rates would mean higher liquidity in the market. Also the interest rate on one-year bank deposits acts as a lower barrier for the rates in the market.
5. INTER-CORPORATES DEPOSITS MARKET: Apart from CPs, Corporates also have access to another market called the inter- Corporates deposits (ICD) market. An ICD is an unsecured loan extended by one Corporates to another. Existing mainly as a refuge for low rated Corporates, this market allows funds surplus Corporates to lend to other Corporates. Also the better-rated Corporates can borrow from the banking system and lend in this market. As the cost of funds for a Corporates in much higher than a bank, the rates in this market are higher than those in the other markets. ICDs are unsecured, and hence the risk inherent in high. The ICD market is not well organised with very little information available publicly about transaction details.
6. COMMERCIAL PAPER MARKET (CP): CPs is negotiable short-term unsecured promissory notes with fixed maturities, issued by well rated companies generally sold on discount basis. Companies can issue CPs either directly to the investors or through banks / merchant banks (called dealers). These are basically instruments evidencing the liability of the issuer to pay the holder in due course a fixed amount (face value of the instrument) on the specified due date. These are issued for a fixed period of time at a discount to the face value and mature at par.
7. READY FORWARD CONTRACT: It is a transaction in which two parties agree to sell and repurchase the same security. Under such an agreement the seller sells specified securities with an agreement to repurchase the same at a mutually decided future date and a price. Similarly, the buyer purchases the securities with an agreement to resell the same to the seller on an agreed date in future at a predetermined price. Such a transaction is called a Repo when viewed from the prospective of the seller of securities (the party acquiring fund) and Reverse Repo when described from the point of view of the supplier of funds.
Instruments of Money Market
Money market is the short term security market. Following are the instruments
dealt in money market.
a)
Treasury bills: T-bills short term government security ranging from 14 days to
364 days issued by RBI on behalf of the government to meet its short-term
financial needs. No fixed interest in payable on Treasury bills. Normally TBs
are issued at the lowest interest rate agreed on competitive bidding. These
bills are negotiable instruments and freely transferable.
b)
Commercial Paper: Commercial papers are unsecured promissory notes issued by
highly creditworthy companies to raise funds for short term. It usually has a
maturity period of 15 days to one year. CPs are normally issued at a discount
and redeemed at par. The commercial
banks and mutual funds are the main investors of commercial papers.
c)
Call money and short notice money: Call money refers to money given for a very
short period ranging from 1 day to 7 days. Surplus funds of the commercial
banks and other institutions are usually given as call money. Banks are the
borrowers as well as lenders for the call funds. If the loan is given for one
day and can be called back on demand, it is called money at call but if the
loan cannot be called back on demand and will require 3 days’ notice, it is
called money at short notice. Money at short notice can be of maximum 14 days.
d)
Certificate of deposit (CD): Certificate of deposit is a time deposit having a
maturity period from 91 days to 12 months. CDs are issued only by a bank. It is
a bearer certificate which is freely transferable and can be sold in secondary
market. Banks are not allowed to discount these documents.
e)
Commercial bills: These are the trade bills which are drawn at the time of
credit sales by the Drawer (Supplier) and accepted by the Drawee (Debtor). It
is an acknowledgment of debt normally having a maturity period of 90 days. It
is a negotiable instrument and can also be endorsed from one person to
another. It can also be discounted with
the bank before maturity.
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