Chapter 4: Money

Market
 Chapter Objectives

To understand:
1. Characteristics, functions and benefits of money
market.
2. Development of Money market in India
3. Different Money Market Instruments
4. Money Market Intermediaries
5. Link between money market and monetary policy
6. Tools for managing liquidity in the money market
7. Money market derivatives
Characteristics of Money
Market

• A collection of markets for several short term

debt instruments
•Wholesale market
•Principal feature is honor
•Need -based market
 Functions of Money Market

To provide a

• balancing mechanism
• focal point for central bank
intervention
• reasonable access to short term
funds
Benefits of an Efficient
Money Market

• Provides a stable source of funds to banks

• Encourage development of non -bank

entities
• Facilitates government market borrowing

• Makes effective monetary policy actions

• Helps in pricing different floating -interest

products
 Role of the Reserve Bank in
the Money Market
• to ensure liquidity
• to ensure an adequate flow of credit to
the productive sectors of the
economy
• to bring about order in the foreign
exchange market
 Money Market Instruments
Treasury bills
●

Commercial Paper
Call/Notice money market
Certificates of Deposit
Commercial Bills
Collateralised Borrowing and
Lending
Obligation
 Features of T-bills

- Short term instruments issued by RBI on

behalf of the government
- negotiable and highly liquid securities
- absence of default risk
- assured yield, low transaction cost
- security for SLR purposes
- not issued in scrip form
Types of T- bills

- On tap bills
- Ad hoc bills
- Auctioned T- bills:
91-day; 182-day; and 364-day T-Bills
Sale of T - bills

- Conducted through an auction

- Non-competitive bids also accepted

Types of auctions:
- Multiple price auction
- Uniform price auction
Size of T- Bills Market (Rs in crores)

O/S 2002-03 2007-08 2008-09 2009-10

91-day 10,672 39,957 75,549 71,503
364-day 26126 57,205 54,550 41,997
182-day 16,785 20,175 21,500

Implicit yield at cut-off prices (Average)

91-day 5.73% 7.11% 7.10% 3.57%

364-day 5.89% 7.35% 5.50% 5.14%

182-day 7.36% 5.10% 4.61%

Commercial Paper
- An unsecured short term promissory note issued
at a discount
- Issuers – creditworthy corporates, primary dealers
and all India financial institutions
-Largest issuers of CPs –Leasing and Finance companies
- Usually privately placed with investors.
- Attracts stamp duty.
- Underwriting not mandatory
Process for issuing CP
- A resolution to be passed by the Board of Directors
- CP issue to be rated
- Select an Issuing and Paying Agent for verification of
documents
- Arrange for dealers for placement of CP
- Report to the RBI regarding the issue
Guidelines relating to CPs
- Corporates, primary dealers and all India financial
institutions eligible to issue a CP.
- Minimum credit rating P2 of Crisil
- Maturity period of minimum of 7 days and maximum
upto one year from the date of issue.
- Minimum of Rs 5 lakh and multiples
- To be issued in demat form
- Banks can provide credit enhancement facility
Size of CP market (Rs. in
crores)
2002-03 2007-08 2008-09 2009-
10

O/S 5749 32,591 44,171 75,506

Commercial Bills
- A short term, negotiable and self liquidating
instrument with low risk.
Types: Demand bill
Usance bill
Clean bill
Documentary bill
Inland bill
Foreign bill
Hundi
Derivative Usance Promissory Note
Certificates of Deposit
- A short- term tradeable time deposit issued by commercial banks
and financial institutions.
- Issued at a discount to face value.
- Minimum amount Rs 1 lakh and in multiples there of
- Maturity period : 7 days to one year for banks
: 1 to 3 years for FIs.
- No lock- in period
- Transferable by endorsement
- Banks to maintain appropriate reserve requirement on issue of CDs.
- Issued in demat form
- Key investors-Mutual Funds, insurance companies, corporates
- Cost attractive vis-à-vis time deposits
Size of CD market
2002-03 2007-08 2008-09 2009-
10
O/S 908 1,47,792 1,92,867 3,39,279
Constitute 4.3% of aggregate deposits
Call/Notice Money Market
- Banks borrow/lend money for a period ranging
between 1-14 days.
- No collateral security required
- Highly liquid , risky , and volatile market
- Banks trade money to adhere to CRR requirement
- Average daily turnover in 2004-05 Rs.14,170 cr. and
in 2009-10 Rs.15,924 cr.
- Call Money Borrowing and Lending rate-4.5% to 7.5%
Factors influencing Call Rate
Volatility
- Liquidity conditions
- Reserve requirement prescriptions
- Structural factors
- Investment policy of non-bank participants.
- Liquidity changes and gaps in the foreign exchange
market
Measures for curbing high
volatility
- Increasing the number of participants
- Through repos
- Freeing of interbank liabilities from reserve
requirements

The share of the call money market in the total overnight

money market transactions declined from 51% in April
2005 to 20 percent in March 2009.
Collateralised Borrowing and
Lending Obligations (CBLO)
- Launched by CCIL
: To provide liquidity to non-bank entities
It is an obligation by the borrower to return the borrowed money and an authority to the lender
to receive money lent, at a specified future date with an option to transfer the authority to
another person for value recived.
Collateral or cash margin with CCIL as cover
-No lock -in period
- Original tenure varies between one day and one year
- NDS members and associate members can access CBLO
- Two types of markets: Normal and Auction

-Trading volumes have grown: Dominant segment accounting for 80% of the total volume
-Average daily turnover during March 2005 was Rs.9625 crore which increased to Rs.57,320 crore
in March 2009
-
Link between Money Market
and Monetary Policy in India
Objectives of monetary policy
- Price stability
- Growth
Instruments used to influence monetary conditions
- Direct instruments such as reserve requirements,
limits on refinance, administrative interest rates,
Qualitative and Quantitative restrictions on credit
- Indirect instruments such as open market
operation and repos
Money Market Derivatives

- Interest rate swap

- Forward rate swap
- Interest rate futures