ROLE OF BANKS IN FINANCIAL MARKET

By: AKHIL PRABHAKAR Int M Tech. 4th Year GPT 09411004

Financial market

Financial market is a highly organized place which provide mechanism to bring together the people who demand for and supply of financial instruments (financial assets, securities, etc)

Banks

In India, the definition of the business of banking has been given in the Banking Regulation Act, (BR Act), 1949. According to Section 5(c) of the BR Act, 'a banking company is a company which transacts the business of banking in India.' Further, Section 5(b) of the BR Act defines banking as, 'accepting, for the purpose of lending or investment, of deposits of money from the public, repayable on demand or otherwise, and withdraw able, by cheque, draft, order or otherwise.' This definition points to the three primary activities of a commercial bank which distinguish it from the other financial institutions. These are: (i) maintaining deposit accounts including current accounts,(ii) issue and pay cheques, (iii) collect cheques for the bank's customers.

BANKS

Loan and advances

• Investments

Mostly perform

What are SLR investments?

As part of prudential guidelines, central banks require lenders to maintain a portion of their deposits in liquid assets. These liquid assets can be cash, gold or government securities. The ratio of prescribed liquid investments to deposits is termed as statutory liquidity ratio. In India, banks invest in bonds issued by the government and notified by the Reserve Bank of India as qualifying for SLR to meet the prescribed ratio.

What are non-SLR investments?

Besides giving loans to businesses and individuals, RBI has also allowed banks to invest in various capital market instruments such as stocks and bonds issued by public and private sector companies and commercial papers. In addition, banks are also allowed to invest in various mutual fund schemes. Unlike SLR investments, there is no compulsion on banks to invest in these instruments. Investments are entirely guided by commercial considerations and many such investments are in accordance with the prescribed guidelines.

How are non-SLR investments and loans linked?

RBI treats both loans extended by commercial banks and the non-SLR investments as a resource flow to the commercial sector. Hence, it includes both while making credit projections it is comfortable with to achieve the targeted economic growth at the time of the monetary policy formulation during the beginning of the fiscal year.

Is there any differential treatment for the two types of investments?

Since SLR investments in bonds are issued by the government or its bodies, these enjoy a sovereign protection, and hence, are perceived to be risk-free. However, in case of non-SLR investments, the central bank attaches risk weights, depending on the industry and the state of the perceived risk on that sector as a prudential measure.

Financial Markets

Money Market- for short-term funds (less than a year) Organized (Banks) Unorganized (money lenders, chit

funds, etc.)

Capital Market- for long-term funds Primary Issues Market Stock Market Bond Market

Organized Money Market

Call money market Bill Market

◦Treasury bills◦Commercial bills

Bank loans (short-term) Organized money market

comprises RBI, banks (commercial and co-operative)

Call Moneyshort term finance repayable on demand maturity period of one day to fifteen daysinter-bank transactions. Commercial banks have to maintain a minimum

cash balance known as cash reserve ratio. Call money is a method by which banks borrow from each other to be able to maintain the cash reserve ratio.

A rise in call money rates makes other sources of finance such as commercial paper and certificates of deposit cheaper in comparison for banks raise funds from these sources.

Certificates of Depositunsecured, negotiable, short-term

instruments in bearer form, issued by commercial banks and development financial institutions.

They can be issued to individuals, corporations and companies during periods of tight liquidity

They help to mobilise a large amount of money for short periods

Bill Market

T-BILLS

These bills are short-term liabilities (91-day, 182-day, 364-day) of the Government of India

It is an IOU of the government, a promise to pay the stated amount after expiry of the stated period from the date of issue

The rate of discount and the corresponding issue price are determined at each auction

Commercial Bill market- is one which arises out of a genuine trade transaction, i.e. credit transaction.

Statutory Liquidity Ratio refers to the amount that the commercial banks require to maintain in the form

gold or govt. approved securities before providing credit to the customers.

RBI in financial market

RBI

CRR-  is the amount of funds that the banks have to keep with the RBI. If the central bank decides to increase the CRR, the available amount with the banks comes down.

The rate at which

the RBI lends money to

commercial banks is called repo rate. It is

an instrument of monetary

policy. Whenever banks

have any shortage of

funds they can borrow from the

RBI. 

Reverse Repo rate is the rate

at which the RBI borrows

money from commercial

banks. Banks are always

happy to lend money to the RBI since their money are in

safe hands with a good interest.

Short term loan MarketPURPOSE:To meet temporary shortfall / mismatch in liquidity, for meeting genuine business requirements only.ENTERPRISES GROUP:Micro, Small & Medium Enterprises as per Regulatory definition and all other entities with annual sales turnover of Rs. 1/- crore to Rs. 150/- crores.PERIOD:Not exceeding 180 days – minimum 90 daysSECURITYFirst charge / Equitable mortgage of fixed assets of the company / firm or extension of existing first charge / equitable mortgage of fixed assets, ensuring that there is a minimum asset cover of 1.25.Extension of Charge on current assets for the additional facility ensuring that adequate drawing power is available. Extension of all existing guarantees of Directors / Third party guarantees to cover the additional facility. 

Capital marketVarious institutions like commercial banks and

development banks are important player of capital market

Development institutions/banks –

IDBI (Industrial Development Bank of India) IFCI (Industrial Finance Corporation of India) ICICI (Industrial Credit and Investment Corporation of India)

IIBI (Industrial Investment Bank of India)SIDBI (Small Industries Development Bank of

India)

Development banks provide direct and indirect assistance to large and medium scale enterprises. Assistance through capital market-

underwriting direct subscription to shares

and debentures guarantee for deferred

payments equipment finance schemes.

Role of Banks - ConclusionMaturity TransformationSize TransformationRisk ReductionSearch and Transaction Cost

reductionMonitoringProviding a Payments MechanismDeveloping a “framework” for

Profitable Financial Inclusion

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