Money market in India

Money market in India: The Indian money market cannot be considered an integrated unit. It can be broadly divided into two different parts, i.e., the unorganized and organized segments. There are a lot of differences between unorganized and organized segments of the Indian money market.

The Money market in India is correlated for short-term funds with maturity ranging from overnight to one year in India including financial instruments that are deemed to be close substitutes for money. Similar to developed economies the Indian money market is diversified and has evolved through many stages, from the conventional platform of treasury bills and call money to commercial paper, certificates of deposit, repos, forward rate agreements, and most recently interest rate swaps

The Indian money market consists of diverse sub-markets, each dealing in a particular type of short-term credit. The money market fulfills the borrowing and investment requirements of providers and users of short-term funds and balances the demand for and supply of short-term funds by providing an equilibrium mechanism. It also serves as a focal point for the central bank’s intervention in the market.

While the unorganized sector is constituted by money lenders and indigenous bankers but the organized sector is again constituted by the nationalized and private sector commercial banks, the foreign banks, co-operative banks, and the Reserve Bank of India (RBI). The unorganized segment of the Indian money market is not a homogenous and integrated sector but the organized sector of the Indian money market is a fairly integrated one.

Unorganized Sector of Indian Money Market:

An unorganized segment of the Indian money market is composed of unregulated non-bank financial intermediaries, indigenous bankers, and money lenders which exist even in the small towns and big cities. Their lending activities are mostly restricted to small towns and villages. The persons who normally borrow from this unorganized sector include farmers, artisans small traders, and small-scale producers who do not have any access to modern banks.

The following are some of the constituents of unorganized money market in India.

(i) Indigenous Bankers:

Indigenous bankers include those individuals and private firms which are engaged in receiving deposits and giving loans and thereby acting like a mini bank. Their activities are not at all regulated. During the ancient and medieval periods, these indigenous bankers were very active. But with the growth of modern banking, particularly after the advent of the British, the business of the indigenous bankers received a setback.

Moreover, with the growth of commercial banks and cooperative banks, the area of operations of indigenous bankers has again contracted further. Even today, a few thousand of indigenous bankers are still operating in the western and southern parts of the country and engaging themselves in the traditional banking business.

Indigenous bankers are classified into four main subgroups, i.e., Gujarati Shroffs, Multani-or Shikarpuri Shroffs, Chettiars, and Marwari, Kayast. Gujarati Shroffs are mostly operating in Mumbai, Kolkata, and in industrial and trading cities of Gujarat. The Multani or Shikarpuri Shroffs are operating mainly in Mumbai and Chennai. The Chettiars are mostly found in the South.

The Marwari Shroffs are mostly active in Mumbai, Kolkata, the tea gardens of Assam, and also in different other parts of North-East India. Among the four aforesaid groups, the Gujarati indigenous bankers are considered the most powerful groups in respect of their volume of business.

The indigenous bankers are mostly engaged in both banking and non-banking business which they do not want to separate. Their lending operations remain mostly unregulated and unsupervised. They charge a high rate of interest and they are not influenced by the bank rate policy of the Reserve Bank of India.

(ii) Unregulated Non-Bank Financial Intermediaries:

There are different types of unregulated non-bank financial intermediaries in India. They are mostly constituted by loan or finance companies, and chit funds. A good number of finance companies in India are engaged in collecting a substantial amount of funds in the form of deposits, borrowings, and other receipts.

They normally give loans to wholesale traders, retailers, artisans, and different self-employed persons at a high rate of interest ranging between 36 to 48 percent.

There are various types of chit funds in India. They are doing business in almost all the states but the major portion of their business is concentrated in Tamil Nadu and Kerala. Moreover, there are ‘nidhis’ operating in South India which are a kind of mutual benefit funds restricted to its members.

(iii) Moneylenders:

Moneylenders are advancing loans to small borrowers like marginal and small farmers, agricultural laborers, artisans, factory and mine workers, low-paid staff, small traders, etc. at very high rates of interest and also adopt various malpractices for manipulating loan records of these poor borrowers.

There are broadly three types of moneylenders:

(i) Professional moneylenders dealing solely with money lending;

(ii) Itinerant moneylenders such as Kabulis and Pathans and

(iii) Non-professional moneylenders.

The area of operation of the moneylenders is very much localized and their methods of operation is also not uniform. The money lending operation of the moneylenders is totally unregulated and unsupervised which leads to the worst exploitation of the small borrowers.

Moneylenders have become a necessary evil in the absence of sufficient institutional sources of credit to the poorer sections of society. Although various measures have been introduced to control the activities of moneylenders but due to lack of political will, these are not enforced, leading to the exploitation of small borrowers.

Organized Sector of Indian Money Market:

The organized segments of the Indian money market is composed of the Reserve Bank of India (RBI), the State Bank of India, Commercial banks, Cooperative banks, foreign banks, finance corporations and the Discount or Finance House of India Limited. The segment of the Indian money market is quite integrated and well organized.

Mumbai, Kolkata, Chennai, Delhi, Bangalore, and Ahmedabad are the leading centers of the organized sectors of the Indian money market. The Mumbai money market is well organized, having head offices of the RBI and different commercial banks, two leading well-developed stock exchanges, the bullion exchange, and a fairly organized market for Government securities. All these have placed the Mumbai money market at par with the New York money market of the USA and the London money market of England.

The main constituents of the organized sector of the Indian money market include:

(i) The Call Money Market,

(ii) The Treasury Bill Market,

(iii) The Commercial Bill Market,

(iv) The Certificates of Deposits Market,

(v) Money Market for Mutual Funds and

(vi) The Commercial Paper Market.

(i) Call Money Market:

The call money market is the most common form of the developed money market. It is a most sensitive segment of the financial system which reflects clearly any change in it. The call money market in India is very much centered at Mumbai, Chennai, and Kolkata and out of which Mumbai is the most important one. In such a market, lending and borrowing operations are carried out for one day.

The call money market in also termed as inter-bank call money market. Normally, scheduled commercial banks, Cooperative banks and the Discount and Finance House of India (DFHI) operate in this market and in a special situation; the LIC, UTI, the GIC, the IDBI and the NABARD are permitted to operate as lenders in this call money market. In this market, brokers usually play an important role.

(ii) Treasury Bill Market:

Treasury bill markets are markets for treasury bills. In India, such treasury bills are the short-term liability of the Central Government which are of 91-day and 364-day duration. Normally, the treasury bills should be issued so as to meet the temporary revenue deficit over expenditure of a Government at some point of time. But, in India, the treasury bills are, nowadays, considered as a permanent source of funds for the Central Government.

In India, the RBI is the major holder of the treasury bills, which is around 90 percent of the total. In India, ad-hoc treasury bills have now been replaced by ways and means Advances since April 1, 1997, so as to finance temporary deficits of the Central Government.

(iii) Commercial Bill Market:

The Commercial bill market is a kind of sub-market that normally deals with trade bills or commercial bills. It is a kind of bill which is normally drawn by one merchant firm on the other and they arise out of commercial transactions.

The purpose for issuing a commercial bill is simply to reimburse the seller as and when the buyer delays payment. But, in India, the commercial bill market is not so developed. This is mainly due to the popularity of the cash credit system in bank lending and the unwillingness on the part of the large buyer to bind themselves to payment schedules related to the commercial bill and also the lack of a uniform approach in drawing bills.

Commercial bills are an instrument of credit that is very much useful to business firms and banks. In India, the outstanding amount of commercial bills rediscounted by the banks with different financial institutions at the end of March, 1996 was to the extent of only Rs 374 crore.

(iv) Certificate of Deposit (CD) Market:

The certificate of Deposit (CD) was introduced in India by the RBI in March 1989 with the sole objective of widening the range of money market instruments and also to attain higher flexibility in the development of short term surplus funds for the investors. Initially, the CDs are issued by scheduled commercial banks in multiples of Rs 25 lakh and also to the extent of a minimum of Rs 1 crore.

The maturity period of CDs varied between three months and one year. In India, six financial institutions, viz., IDBI, ICICI, IFCI, IRBI, SIDBI, and Export and Import Bank of India were permitted in 1993 to issue CDs for a period varying between 1 to 3 years.

Banks normally pay high rates of interest on CDs. In 1995-96, the stringent conditions in the money market induced the bankers to mobilize a good amount of resources through CDs. Accordingly, in recent years, the outstanding amount of CDs issued by commercial banks has almost been doubled from Rs 8,017 crore in March 1995 to Rs 16,316 crore as on 29th March, 1996.

(v) Commercial Paper Market:

In India, Commercial Paper (CP) was introduced in the money market in January 1990. A listed company having working capital not less than Rs 5 crore can issue CP. Again the CP can be issued in multiples of Rs 25 lakhs subject to a minimum of Rs 1 crore for a maturity period varying between three to six months. CPs would be again freely transferable by endorsement and delivery.

(vi) Money Market Mutual Funds:

In India, the RBI has introduced a scheme of Money Market Mutual Funds (MMMFs) in April 1992. The main objective of this scheme was to arrange an additional short term avenue for individual investors. This scheme has failed to receive much response as the initial guidelines were not attractive. Thus, in November 1995, the RBI introduced some relaxation in order to make the scheme more attractive and flexible.

As per the existing guidelines, banks, public financial institutions, and private financial institutions are allowed to set up MMMFs. In the meantime, the limits of investment in individual instruments by MMMF have already been deregulated. Since April 1996, the RBI has allowed MMMFs to issue units to corporate enterprises and others at par with the mutual funds introduced earlier.

As per the latest data available from the Association of Mutual Funds, overall, the combined Assets Under Management (AUM) of all the mutual fund houses in the country stood at Rs 5,06,692.6 crore. The top five mutual funds of the country include Reliance MF, ICICI Prudential MF, UTI-MF, HDFC MF and Franklin Templeton MF. Reliance MF continued to be the most valued fund house in the country with assets under management (AUM) of Rs 90,937.94 crore at the end of March 31, 2008.

The industry body Assocham Chamber recently conducted a survey on “MF Growth Patterns” and accordingly observed that the Mutual Fund industry has grown 25 percent between 1999 and 2007 to stand at Rs 4,67,000 crore and the trend would improve as MFs are becoming a preferred choice for both rural and urban retail investors.

The mutual fund sector would grow at a compound annual rate of 30 percent in the next three years to become Rs 9,50,000 crore industry as predicted by the survey. The share of privately managed MF players in the total MF industry is expected to fall to 70 percent from the current estimation of 82 percent. The reduction would result from the alliance of the private players with overseas partners.

Features

It is a market purely for short-term funds.
The money market has no geographical constraints as that of a stock exchange. The financial institutions dealing in monetary assets may be spread over a wide geographical area.
It relates to all dealings in money or monetary assets.
Even though there are various centers of money markets such as Mumbai, Calcutta, Chennai, etc., they are not separate independent markets but are inter-linked and interrelated.
It is not a single homogeneous market. There are various sub-markets such as the Call money market, Bill market, etc.
The money market establishes a link between RBI and banks and provides information of monetary policy and management.
Transactions can be conducted without the help of brokers.
A variety of instruments is traded in the money market.

Importance

Help to Central Bank:

Though the central bank can function and influence the banking system in the absence of a money market, the existence of a developed money market smoothens the functioning and increases the efficiency of the central bank.

The money market helps the central bank in following ways:

(a) The short-run interest rates of the money market serve as an indicator of the monetary and banking conditions in the country and, in this way, guide the central bank to adopt an appropriate banking policy,

(b) The sensitive and integrated money market helps the central bank to secure quick and widespread influence on the sub-markets, and thus achieve effective implementation of its policy.

Self-Sufficiency of Commercial Bank:

A developed money market helps commercial banks to become self-sufficient. In the situation of emergency, when the commercial banks have a scarcity of funds, they need not approach the central bank and borrow at a higher interest rate. On the other hand, they can meet their requirements by recalling their old short-run loans from the money market.

Profitable Investment:

The money market enables commercial banks to use their excess reserves in profitable investments. The main objective of commercial banks is to earn income from its reserves as well as maintain liquidity to meet the uncertain cash demand of the depositors. In the money market, the excess reserves of the commercial banks are invested in near-money assets (e.g. short-term bills of exchange) which are highly liquid and can be easily converted into cash. Thus, the commercial banks earn profits without losing liquidity.

Financing Trade:

Money Market plays a crucial role in financing both internal as well as international trade. Commercial finance is made available to the traders through bills of exchange, which are discounted by the bill market. The acceptance houses and discount markets help in financing foreign trade.

Financing Industry:

The money market contributes to the growth of industries in two ways:

(a) Money market helps the industries in securing short-term loans to meet their working capital requirements through the system of finance bills, commercial papers, etc.

(b) Industries generally need long-term loans, which are provided in the capital market. However, the capital market depends upon the nature of and the conditions in the money market. The short-term interest rates of the money market influence the long-term interest rates of the capital market. Thus, the money market indirectly helps the industries through its link with and influence on the long-term capital market.