INDIAN MONEY MARKET

Money market is the short-term financial market of an economy. In this market, money is traded between individuals or groups (i.e., financial institutions, banks, government, companies, etc.), who are either cash-surplus or cash-scarce. Trading is done on a rate known as discount rate which is determined by the market and guided by the availability of and demand for the cash in the day-to-day trading.4 The ‘repo rate’ of the time (announced by the RBI) works as the guiding rate for the current ‘discount rate’. Borrowings in this market may or may not be supported by collaterals. In the money market the financial assets, which have quick conversion quality into money and carry minimal transaction cost, are also traded.5 Money market may be defined as a market where short-term lending and borrowing take place between the cash-surplus and cash-scarce sides.‌

The market operates in both ‘organised’ and ‘unorganised’ channels in India. Starting from the ‘person-to-person’ mode and converting into ‘telephonic transaction’, it has now gone online in the age of internet and information technology. The transactions might take place through the intermediaries (known as brokers) or directly between the trading sides.

Need for Money Market: Income generation (i.e., growth) is the most essential requiremnt of any economic system. In the modern industrial economies creation of productive assets is not an easy task, as it requires

investible capital of long-term nature. Long-term capital can be raised either through bank loans, corporate bonds, debentures or shares (i.e., from the capital market). But once a productive asset has been created and production starts there comes the need of another kind of capital, to meet the day-to-day shortfalls of working capital. It means that only setting-up of firms does not guarantee production as these firms keep facing fund mismatches in the day- to-day production process. Such funds are required only for a short period (days, fortnights or few months) and are needed to meet shortfalls in working capital requirements. This requires creation of a different segment of the financial market which can cater to the short-term requirements of such funds for the eneterprises—known as the money market or the working capital market. The short-term period is defined as upto 364 days.

The crucial role money market plays in an economy is proved by the fact that if only a few lakhs or crores of rupees of working capital is not met in time, it can push a firm or business enterprise to go for lock-out, which has been set- up with thousands of crores of capital. If lock-out happens, the firm might default in its payments, losing its age-old credit-worthiness, consequently creating a chain of negatives in the economic system. This is why it is essential for every economy to organise a strong and vibrant money market which has wider geographic presence (the reason why it is today internet- based).

Money Market in India: The organised form of money market in India is just close to three decades old. However, its presence has been there, but restricted to the government only.6 It was the Chakravarthy Committee (1985) which, for the first time, underlined the need of an organised money market in the country7 and the Vahul Committee (1987) laid the blue print for its development.8 Today, money market in India is not an integrated unit and has two segments—Unorganised Money Market and Organised Money Market.‌‌

1. Unorganised Money Market

Before the government started the organised development of the money market in India, its unorganised form had its presence since the ancient times

—its remnant is still present in the country. Their activities are not regulated

like the organised money market, but they are recognised by the government. In recent years, some of them have been included under the regulated organised market (for example, the NBFCs were put under the regulatory control of the RBI in 1997). The unorganised money market in India may be divided into three differing categories:

(i) Unregulated Non-Bank Financial Intermediaries: Unregulated Non- Banking Financial Intermediaries are functioning in the form of chit funds, nidhis (operate in South India, which lend to only their members) and loan companies. They charge very high interest rates (i.e., 36 to 48 per cent per annum), thus, are exploitative in nature and have selective reach in the economy.

(ii) Indigenous Bankers: Indigenous bankers receive deposits and lend money in the capacity of an individual or a private firms. There are, basically, four such bankers in the country functioning as non- homogenous groups:

(a) Gujarati Shroffs: They operate in Mumbai, Kolkata as well as in industrial, trading and port cities in the region.

(b) Multani or Shikarpuri Shroffs: They operate in Mumbai, Kolkata, Assam tea gardens and North Eastern India.

(d) Chettiars: They are active in Chennai and at the ports of southern India.

(iii) Money Lenders: They constitute the most localised form of money market in India and operate in the most exploitative way. They have their two forms:

(a) The professional money lenders who lend their own money as a profession to earn income through interest.

(b) The non-professional money lenders who might be businessmen and lend their money to earn interest income as a subsidiary business.

Today, India has eight organised instruments of the money market which are used by the prescribed firms in the country, but the unorganised money market also operates side by side—there are certain reasons9 behind this:

(i) Indian money market is still under-developed.

(ii) Lack of penetration and presence of the instruments of the organised money market.

(iii) There are many needful customers in the money market who are current outside the purview of the organised money market.

(iv) Entry to the organised money market for its customers is still restrictive in nature— not allowing small businessmen.

2. Organised Money Market

Since the government started developing the organised money market in India (mid-1980s), we have seen the arrival of a total of eight instruments designed to be used by different categories of business and industrial firms. A brief description of these instruments follows:

(i) Treasury Bills (TBs): This instrument of the money market though present since Independence got organised only in 1986. They are used by the Central Government to fulfil its short-term liquidity requirement upto the period of 364 days. There developed five types of the TBs in due course of time:

(a) 14-day (Intermediate TBs)

(b) 14-day (Auctionable TBs)

(d) 182-day TBs

(e) 364-day TBs

Out of the above five variants of the TBs, at present only the 91-day TBs, 182-day TBs and the 364-day TBs are issued by the government. The other two variants were discontinued in 2001.10

The TBs other than providing short-term cushion to the government, also function as short-term investment avenues for the banks and financial institutions, besides functioning as requirements of the CRR and SLR of the banking institutions.

(ii) Certificate of Deposit (CD): Organised in 1989, the CD is used by

banks and issued to the depositors for a specified period ranging less than one year—they are negotiable and tradable in the money market. Since 1993 the RBI allowed the financial institutions to operate in it— IFCI, IDBI, IRBI (IIBI since 1997) and the Exim Bank—they can issue CDs for the maturity periods above one year and upto three years.

(iii) Commercial Paper (CP): Organised in 1990 it is used by the corporate houses in India (which should be a listed company with a working capital of not less than Rs. 5 crore). The CP issuing companies need to obtain a specified credit rating from an agency approved by the RBI (such as CRISIL, ICRA, etc).

(iv) Commercial Bill (CB): Organised in 1990, a CB is issued by the All India Financial Institutions (AIFIs), Non-Banking Finance Companies (NBFCs), Scheduled Commercial Banks, Merchant Banks, Co-operative Banks and the Mutual Funds. It replaced the old Bill Market available since 1952 in the country.

(v) Call Money Market (CMM): This is basically an inter-bank money market where funds are borrowed and lent, generally, for one day—that is why this is also known as over-night borrowing market (also called money at call). Fund can be borrowed/raised for a maximum period upto 14 days (called short notice). Borrowing in this market may take place against securities or without securities.11 Rate of interest in this market ‘glides’ with the ‘repo rate’ of the time the principle remains very simple

—longer the period, higher the interest rate. Depending upon the availability and demand of fund in this market the real call rate revolves nearby the current repo rate.

The scheduled commercial banks, co-operative banks operate in this market as both the borrowers and lenders while LIC, GIC, Mutual Funds, IDBI and NABARD are allowed to operate as only lenders in this market.

(vi) Money Market Mutual Fund (MF): Popular as Mutual Funds (MFs) this money market instrument was introduced/organised in 1992 to provide short-term investment opportunity to individuals. The initial guidelines for the MF have been liberalised many times. Since March 2000, MFs have been brought under the preview of SEBI, besides the RBI. At

present, a whole lot of financial institutions and firms are allowed to set up MFs, viz., commercial banks, public and private financial institutions and private sector companies. At present 45 MFs are operating in the country—managing a corpus of over Rs. 4 lakh crore.

(vii) Repos and Reverse Repos: In the era of economic reforms there developed two new instruments of money market—repo and reverse repo. Considered the most dynamic instruments of the Indian money market they have emerged the most favoured route to raise short-term funds in India. ‘Repo’ is basically an acronym of the rate of repurchase. The RBI in a span of four years, introduced these instruments—repo in December 1992 and reverse repo in November 1996.

Repo allows the banks and other financial institutions to borrow money from the RBI for short-term (by selling government securities to the RBI). In reverse repo, the banks and financial institutions purchase government securities from the RBI (basically here the RBI is borrowing from the banks and the financial institutions). All government securities are dated and the interest for the repo or reverse repo transactions are announced by the RBI from time to time. The provision of repo and the reverse repo have been able to serve the liquidity evenness in the economy as the banks are able to get the required amount of funds out of it, and they can park surplus idle funds through it. These instruments have emerged as important tools in the management of the monetary and credit policy in recent years.12

Accepting the recommendations of the Urjit Patel Committee, the RBI in April 2014 (while announcing the first Bi-monthly Credit & Monetary Policy-2014–15) announced to introduce term repo and term reverse repo. This is believed to bring in higher stability and better signalling of interest rates across different loan markets in the economy.

(viii) Cash Management Bill (CMB): The Government of India, in consultation with the RBI, decided to issue a new short-term instrument, known as Cash Management Bills, since August 2009 to meet the temporary cash flow mismatches of the government. The Cash Management Bills are non-standard and discounted instruments issued for maturities less than 91 days.

The CMBs have the generic character of Treasury Bills (issued at discount to the face value); are tradable and qualify for ready forward facility; investment in it is considered as an eligible investment in government securities by banks for SLR.

It should be noted here that the existing Treasury Bills serve the same purpose, but as they were put under the WMAs (Ways & Means Advances) provisions by the Government of India in 1997, they did not remain a discretionary route for the government in meeting its short-term requirements of funds at will (see ‘Fiscal Consolidation in India’, sub- topic in Chapter 18 Public Finance for details). CBM does not come under the similar WMAs provisions.