MONEY MARKET

Money market is a collective name given to all the institutions that are dealing in short-term
funds. It does not refer to a particular place. Dealers in the money market are spread all
across the country. Short-term funds are required for working capital requirements.
Money market is also known as short term market.registered by RBI.
INSTRUMENTS DEALT IN MONEY MARKET
The short-term funds are borrowed by manufacturers, industrialists, traders, businessmen ad
even government which issue credit instruments. These are cheques, bills, promissory notes,
commercial papers, treasury bills and short dated government bonds. These are called near
money. Near money is one which has claim over money and is convertible into money.
(1) The bills, consisting of treasury bills are issued by the government.
(2) Trade bills are issued by the traders arising out of trade transactions.
(3) Finance bills are issued by businessmen for raising short-term funds for business
transactions.
(4) Treasury bills are issued at discount by government when it requires temporary loans
after calling for tenders, and usually payable in full after 3 months.
(5) Foreign bills arising out of foreign transactions either in the form of trade or
executing any projects in foreign country.

CONSTITUENTS OF THE MONEY MARKET

There are two sets of people in the money market. One is the borrower and the other is the
lender.

Borrower Lender

Government-the biggest borrower Central banks

Agriculturists-for meeting cost of cultivation Commercial Banks

Trders Co-operative banks

Businessmen Foreign banks

Commercial banks Commercial house

NBFCs (Non-banking financial companies) NBFCs

Money lenders and indigenous bankers

Commercial banks and non banking financial companies are found both on the borrowing
side as well as the lending side. The commercial banks borrow from the central bank and then
lend to the businessmen. Non banking financial companies borrow from the public or accept
deposits fro the public and finance others’ activities.
Money Market Instruments
The term "Money Market” refers to the market for short-term requirement and deployment of
funds. Money market instruments are those instruments, which have a maturity period of less
than one year. The most active part of the money market is the market for overnight call and
term money between banks and institutions and repo transactions. Call Money/Repo are very
short-term Money Market products. The below mentioned instruments are normally termed
as money market instruments:
GOVERNMENT SECURITIES
Government Securities are securities issued by the Government for raising a public loan or as
notified in the official Gazette. G-secs are sovereign securities mostly interest bearing dated
securities which are issued by RBI on behalf of Govt. of India (GOI). GOI uses these
borrowed funds to meet its fiscal deficit, while temporary cash mismatches are met through
treasury bills of 91 days. G-secs consist of Government Promissory Notes, Bearer Bonds,
Stocks or Bonds, Treasury Bills or Dated Government Securities. Government bonds are
theoretically risk free bonds, because governments can, up to a point, raise taxes, reduce
spending, and take various measures to redeem the bond at maturity.
MONEY MARKET MUTUAL FUNDS (MMMFs)
A money market fund is a mutual fund that invests solely in money market instruments.
Money market instruments are forms of debt that mature in less than one year and are very
liquid.
Treasury bills make up the bulk of the money market instruments. Securities in the money
market are relatively risk-free. Money market funds are generally the safest and most secure
of mutual fund investments. The goal of a money-market fund is to preserve principal while
yielding a modest return by investing in safe and stable instruments issued by governments,
banks and corporations etc.
TREASURY BILLS
Treasury Bills are short term (up to one year) borrowing instruments of the Government of
India which enable investors to park their short term surplus funds while reducing their
market risk. These are discounted securities and thus are issued at a discount to face value.
The return to the investor is the difference between the maturity value and issue price.
Any person in India including Individuals, Firms, Companies, Corporate bodies, Trusts and
Institutions can purchase Treasury Bills. At present, RBI issues T-Bills for three different
maturities: 91 days, 182 days and 364 days. Treasury Bills are available for a minimum
amount of Rs.25, 000 and in multiples of Rs. 25,000 thereafter. They are available in both
Primary and Secondary market. Treasury Bills are eligible securities for SLR purposes.
CERTIFICATES OF DEPOSITS
A CD is a time deposit, financial product commonly offered to consumers by banks. In case
of CDs the banks issue a certificate for a deposit made, such certificate is transferable, i.e.
holder of CD is holder of deposit. CDs are negotiable instrument issued either in physical
form transferable by endorsement and delivery or in demat form or as a Usance Promissory
Notes. CDs issued by banks should not have the maturity less than seven days and not more
than one year. Financial Institutions are allowed to issue CDs for a period between 1 year and
up to 3 years. They normally give a higher return than Bank term deposit, and are rated by
approved rating agencies (e.g. CARE, ICRA, CRISIL, and FITCH) which considerably
enhance their tradability in the secondary market, depending upon demand. SBI DFHI is an
active player in secondary market of CDs.
CDs can be issued to individuals, corporations, trusts, funds and associations. NRIs can also
subscribe to CDs, but on non-repatriable basis only. In secondary market such CDs cannot be
endorsed to another NRI. They are issued at a discount rate freely determined by the issuer
and the market/investors. CDs are issued in denominations of Rs.1 Lac and in the multiples
of Rs. 1 Lac thereafter. Loans cannot be granted against CDs and Banks/FIs cannot buy back
their own CDs before maturity.
COMMERCIAL BILLS
Commercial bill is a short term, negotiable, and self-liquidating instrument with low risk. It
enhances the liability to make payment within a fixed date when goods are bought on credit.
Bills of exchange are negotiable instruments drawn by the seller (drawer) on the buyer
(drawee) or the value of the goods delivered to him. Such bills are called trade bills. When
trade bills are accepted by commercial banks, they are called commercial bills. The bank
discounts this bill by keeping a certain margin and credits the proceeds. Banks can also get
such bills re-discounted by financial institutions such as LIC, UTI, GIC, ICICI and IRBI. The
maturity period of the bills varies from 30 days, 60 days or 90 days, depending on the credit
extended in the industry. Commercial bill is an important tool finance credit sales. It may be a
demand bill or a usance bill; clean bills or documentary bills.; inland bills or foreign bills.
COMMERCIAL PAPER
Commercial Paper is a money-market security issued (sold) by large banks and corporations
to get money to meet short term debt obligations, and is only backed by an issuing bank or
corporation's promise to pay the face amount on the maturity date specified on the note. Since
it is not backed by collateral, only firms with excellent credit ratings from a recognized rating
agency will be able to sell their commercial paper at a reasonable price. Commercial paper is
usually sold at a discount from face value, and carries shorter repayment dates than bonds.
The longer the maturity on a note, the higher the interest rate the issuing institution must pay.
Interest rates fluctuate with market conditions, but are typically lower than banks' rates.
Corporate Borrowers, especially the large and financially sound, can diversify their short
term borrowing by the issue of Commercial Paper. Commercial Paper is especially attractive
for companies with cyclical cash flows and for cash rich companies during periods of greater
cash inflows than overdraft or cash credit since monitoring is more convenient. The maturity
period ranges from 7days -1 year
CALL MONEY MARKET AND SHORT TERM DEPOSIT MARKET
The borrowers are essentially the banks. DFHI plays a vital role in stabilizing the call and
short term deposit rates through larger turnover and smaller spread. It ascertains the
prospective enders and borrowers, the money available and needed and exchanges a deal
settlement advice with them indicating the negotiated interest rates applicable to them. When
DFHI borrows, a call deposit receipt is issued to the lender against a cheque drawn on RBI
for the amount lent. If DFHI lends it issues to the RBI a cheque representing the amount lent
to the borrower against the call deposit receipt.
BILLS REDISCOUNTING
It is an important segment of money market and the bill as an instrument provides short term
liquidity to the suppliers in need of funds. Bill financing seller drawing a bill of exchange &
the buyer accepting it, thereafter the seller discounting it, say with a bank. Hundies, an
indigenous form of bill of exchange, have been popular in India, but there has been a general
reluctance on the part of the buyers to commit themselves to payments on maturity. Hence
the Bills have been not so popular.
GILT EDGED GOVERNMENT SECURITIES
These are issued by governments such as Central Government, State Government, Semi
Government authorities, City Corporations, Municipalities, Port trust, State Electricity Board,
Housing boards etc. The gilt-edged market refers to the market for Government and
semi-government securities, backed by the Reserve Bank of India(RBI). Government
securities are tradable debt instruments issued by the Government for meeting its financial
requirements. The term gilt-edged means 'of the best quality'. This is because the Government
securities do not suffer from risk of default and are highly liquid (as they can be easily sold in
the market at their current price). The open market operations of the RBI are also conducted
in such securities.
BANKER’S ACCEPTANCE
It is a short-term credit investment. It is guaranteed by a bank to make payments. The
Banker's Acceptance is traded in the Secondary market. The banker's acceptance is mostly
used to finance exports, imports and other transactions in goods. The banker's acceptance
need not be held till the maturity date but the holder has the option to sell it off in the
secondary market whenever he finds it suitable
REPOS
The Repo or the repurchase agreement is used by the government security holder when he
sells the security to a lender and promises to repurchase from him at a specified time. Hence
the Repos have terms ranging from 1 night to 30 days. They are very safe due to government
backing.
IMPORTANCE OF MONEY MARKET
(1) Money market provides short-term funds by which working capital is available to
manufacturers and agriculturists. This leads to more production in the country.
Without short-term funds, production will come to a standstill which will affect
development in the country.
(2) Commercial banks provide the major source of short-term funds. They earn profit due
to difference in interest rate between lending and borrowing. So, it provides
opportunity for more commercial banks to operate in the economy.
(3) Government is the biggest borrower of short-term funds. While the expenditure of the
government is regular, the income is irregular. To meet the deficit in the expenditure,
the government should resort to short-term borrowings in the money market. The
securities of the government are called gilt-edged securities. It means that the bills
carry a guarantee for repayment of both principal and interest.
(4) The presence of commercial banks promotes savings in the country and thereby it
channelizes its funds for investment. Thus, money market helps in the growth of
investment in the country. Foreign trade, apart from domestic trade is also promoted
by money market. The exporter need not wait for the receipt of money for exports as
he can discount the bills with the commercial banks.
(5) The central bank is able to have effective control over commercial banks and thereby
brings about control of inflation. This is achieved by the central bank through altering
the interest rate structure.
(6) Transfer of funds from one place to another is effected with the help of commercial
banks and thereby capital is available for all activities.
(7) Money market stimulates activity in the capital market. When loans are given at a
lesser rate of interest it leads to more borrowings by which agriculture and industrial
activity expands. When companies earn more profit, they declare more dividends;
thereby the capital market becomes more active.

CHARACTERISTICS OF A WELL DEVELOPED MONEY MARKET

(1) Presence of a strong central bank.
(2) Well organised banking industry.
(3) Availability of credit instruments and resources.
(4) Pressure of sub markets.
(5) Free movement of funds among the various constituents of money market.
(6) More transactions (both foreign and domestic).
(7) Better industrial relations.
(8) Integrated monetary and fiscal policies.
(9) Promotion of foreign trade.
CAUSES FOR UNDER DEVELOPMENT OF INDIAN MONEY MARKET
(1) Dichotomy in the structure or presence of unorganised sector.
(2) Inadequate banking system with lack of control by central bank.
(3) Disparity in interest rates.
(4) Lack of co-ordination among various money markets.
(5) Limited nature of bill market.
(6) Lack of facility for inter-movement of funds.
(7) Seasonal fluctuations leading to shortage of funds.
(8) Inadequate credit instruments and resources.
(9) Lack of adequate foreign funds.
(10) Lack of sub markets.

STEPS TAKEN BY THE GOVERNMENT TO TONE UP THE INDIAN MONEY

MARKET
(1) The nationalisation of the commercial banks has enabled the banking sector to
provide more loans to agriculture and discount agricultural bills.
(2) The passing of the Public Debt Relief Act has released many people, especially in
rural areas from the clutches of the money lenders.
(3) The urban debt Relief Act has given relief to the urban poor.
(4) In 1988, the discount and finance house was set up for discounting commercial bills
brought by commercial banks.
(5) Reduction of stamp duty and rediscounting on promissory notes has made it more
popular. In 1986, the government issued 180 days treasury bills and in 1989,
certificate of deposits, and commercial papers in 1990.
(6) In 1991, Money Market Mutual Fund was set up to allow more people to take part in
the money market activities.
(7) The interest rate of commercial banks which was controlled by RBI has been
deregulated.
(8) RBI has introduced repurchase of options of treasury bills to provide more additional
funds to commercial banks.
(9) More relaxation to foreign institutions to invest foreign funds in the money market.
(10) Credit rating has been introduced for promissory notes as well as commercial papers
by which the credibility of such instruments has gone up.

Difference between Money Market and Capital Market

Money market is distinguished from capital market on the basis of the maturity period, credit
instruments and the institutions:

1. Maturity Period:

The money market deals in the lending and borrowing of short-term finance (i.e., for one year
or less), while the capital market deals in the lending and borrowing of long-term finance
(i.e., for more than one year).

2. Credit Instruments:
The main credit instruments of the money market are call money, collateral loans,
acceptances, bills of exchange. On the other hand, the main instruments used in the capital
market are stocks, shares, debentures, bonds, securities of the government.

3. Nature of Credit Instruments:

The credit instruments dealt with in the capital market are more heterogeneous than those in
money market. Some homogeneity of credit instruments is needed for the operation of
financial markets. Too much diversity creates problems for the investors.

4. Institutions:

Important institutions operating in the' money market are central banks, commercial banks,
acceptance houses, nonbank financial institutions, bill brokers, etc. Important institutions of
the capital market are stock exchanges, commercial banks and nonbank institutions, such as
insurance companies, mortgage banks, building societies, etc.

5. Purpose of Loan:

The money market meets the short-term credit needs of business; it provides working capital
to the industrialists. The capital market, on the other hand, caters the long-term credit needs
of the industrialists and provides fixed capital to buy land, machinery, etc.

6. Risk:

The degree of risk is small in the money market. The risk is much greater in capital market.
The maturity of one year or less gives little time for a default to occur, so the risk is
minimised. Risk varies both in degree and nature throughout the capital market.

7. Basic Role:

The basic role of money market is that of liquidity adjustment. The basic role of capital
market is that of putting capital to work, preferably to long-term, secure and productive
employment.

8. Relation with Central Bank:

The money market is closely and directly linked with central bank of the country. The capital
market feels central bank's influence, but mainly indirectly and through the money market.

9. Market Regulation:

In the money market, commercial banks are closely regulated. In the capital market, the
institutions are not much regulated.

Money Market Capital Market

It deals in short term funds This deals in long term funds
The leader is Central Bank It is controlled by Government
There is no fixed place as it is spread It has fixed place called stock market or stock
throughout the country exchange
It is the interest rate that decides the supply It is return on capital i.e profit which decides
and demand for short term funds supply and demand for capital
Cheques, bills, promissory notes are the Shares, debentures, Government bonds, GDR
instruments dealt in the money market are dealt
It provides working capital It provides fixed capital
DIFFERENCE BETWEEN MONEY LENDER AND INDIGENOUS BANKER

Money Indigenous
Lender Banker

1. Operate mostly in rural areas. 1. Operates mostly in urban

areas.
2. Gives loans against promissory 2. Gives loans by discounting bills
notes. or hundies.
3.Does not accept deposit from 3. Accepts deposits from the
public. public.

4. No trading activity. 4. Combines lending with trading

activity.
5. No accommodtion from 5. Commercial banks discounts
commercial banks. bills or hundies and provide loan.
LONDON AND NEW YORK MONEY MARKETS
One of the oldest money market in the world is the London Money Market. It became
popular due to the presence of three major money market participants i.e. issue house,
acceptance house and discount house. The issue house takes the responsibility of issuing
genuine trade bills. The acceptance house will accept bills on behalf of its customers. The
discount house will readily discount bills which are issued and accepted by the issue and
acceptance house. There is also a direct relationship between Bank of England and discount
houses by which more trade bills should be discounted at the discount rate.
The New York money market was popular due to presence of commercial paper and there
were commercial houses which were issuing commercial papers which enabled the traders in
raising short-term funds in the market. Thus, the London and New York money markets were
the forerunners for the modern money market.