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Broad Basing and Deepening the Bond Market in India

Broad Basing and Deepening the Bond Market in India

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Published by kiran056
A good research report on bond market
A good research report on bond market

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Published by: kiran056 on Nov 07, 2009
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09/19/2012

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FinancialInstitutionsCenter
 Broadbasing and Deepening the Bond  Market in India
byR.H. Patil01-32
 
The Wharton Financial Institutions Center
The Wharton Financial Institutions Center provides a multi-disciplinary research approach tothe problems and opportunities facing the financial services industry in its search forcompetitive excellence. The Center's research focuses on the issues related to managing riskat the firm level as well as ways to improve productivity and performance.The Center fosters the development of a community of faculty, visiting scholars and Ph.D.candidates whose research interests complement and support the mission of the Center. TheCenter works closely with industry executives and practitioners to ensure that its research isinformed by the operating realities and competitive demands facing industry participants asthey pursue competitive excellence.Copies of the working papers summarized here are available from the Center. If you wouldlike to learn more about the Center or become a member of our research community, pleaselet us know of your interest.Franklin AllenRichard J. HerringCo-DirectorCo-Director
The Working Paper Series is made possible by a generous grant from the Alfred P. Sloan Foundation
 
1 
BROADBASING & DEEPENING THE
 
BOND MARKET IN INDIADR. R. H. PATIL
At the time of its independence in 1947 India had only the traditional commercial banks,all with private sector ownership. Like the typical commercial banks in other parts of theworld, the banks in India were also not keen to provide medium and long-term finance toindustry and other sectors for their fixed asset formation. The banks were willing to fundbasically the working capital requirements of the credit-worthy borrowers on the securityof tangible assets. Since the government was keen to stimulate setting up of a wide rangeof new industrial units as also expansion/diversification of the existing units it decided toencourage setting up of financial intermediaries that provided term finance to projects inindustry. Thus emerged a well-knit structure of national and state level developmentfinancial institutions (DFIs) for meeting requirements of medium and long-term financeof all range of industrial units, from the smallest to the very large ones. Reserve Bank of India (the central banking institution of the country) and Government of India nurturedDFIs through various types of financial incentives and other supportive measures. Themain objective of all these measures was to provide much needed long-term finance tothe industry, which the then existing commercial banks were not keen to provide becauseof the fear of asset-liability mismatch. Since deposits with the banks were mainlyshort/medium term, extending term loans was considered by the banks to be relativelyrisky.The five-year development plans envisaged rapid growth of domestic industry even in theprivate sector to support the import substitution growth model adopted by the nationalplanners. To encourage investment in industry, a conscious policy decision was taken thatthe DFIs should provide term-finance mainly to the private sector at interest rates thatwere lower than those applicable to working capital or any other short-term loans. In theearly years of the post-Independence period, shortages of various commodities tended tomake trading in commodities a more profitable proposition than investment in industry,which carried higher risk. Partly to correct this imbalance, the conscious policy designwas to increase attractiveness of long-term investment in industry and infrastructurethrough relatively lower interest rates. To enable term-lending institutions to financeindustry at concessional rates, Government and RBI gave them access to low cost funds.They were allowed to issue bonds with government guarantee, given funds through thebudget and RBI allocated sizeable part of RBI’s National Industrial Credit (Long TermOperations) funds to Industrial Development Bank of India, the largest DFI of thecountry. Through an appropriate RBI fiat, the turf of the DFIs was also protected, untilrecently, by keeping commercial banks away from extending large sized term loans toindustrial units. Banks were expected to provide small term loans to small-scale industrialunits on a priority basis.

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