Role of Financial System[1] (2)

8/12/2019 Role of Financial System[1] (2)

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Role of financial system

Serves as a linkbetween savers andinvestors

Mechanism forexchange of goodsand services

Mechanism oftransfer ofresources

Promotes process ofcapital formation


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Structure of

financial system


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Financialsystem

FinancialAssets

FinancialMarkets

FinancialIntermediaries


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Financial assets Perform significant role in transferring funds fromlenders to borrowers

Each asset differs from each other A financial asset is one which is used for production

or consumption or for future creation of assets.

Represent claim against future income and wealth of

others.

To suit different requirements, different securities

are issued.


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Financial assets/securities

Primary assets/securities

Direct securities

Secondaryassets/ securities

Indirectsecurities


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Primary securities Issued directly by ultimate borrowers of the

funds to the ultimate savers or investors.

Example: Equity shares, preference shares and

debentures.


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Secondary securitiesNot issued directly by ultimate borrowers

Issued by financial intermediaries to

ultimate savers

Example: Insurance policy, Mutual funds


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Financial Markets Market normally refers to a group of traders carrying on

business at a definite place, building or locality.

A financial market is a market for the creation andexchange of financial assets.

Once engaged in buying or selling the financial assets,

indicates that you are participating in financial markets in

one way or the other. Institutional arrangement for dealing in financial assets of

different types


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Functions of financial

marketo To facilitate creation and allocation of credit

o To serve as intermediary for mobilization of savings

o To assist the process of balanced economic growth

o To provide financial convenience

o To cater to various credit needs of the business houses


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Financial Markets

Money

Market

Capital

Market


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Money Market All transactions in near money

Deal with short term funds in the economy

Institutional arrangements for facilitating borrowing

and lending of short term funds Funds borrowed for a short period (less than a year)

Sub markets are:

oCall money market

oTreasury bill market

oCommercial paper market

oCertificate of deposits market


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Capital Market Institutional arrangements for facilitating the borrowing

and lending of long term funds

Medium through which investor hand over money today

in exchange for promise of money far in the future.


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Financial Intermediaries Facilitate smooth functioning of the financial system by

making investors and borrowers meet

Mobilize savings of surplus units and allocate them in

productive activities promising a better return

Act as a middlemen between savers and borrowers


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Types offinancial

intermediaries

BankingInstitutions

Organizedsector

- Commercial banks

- Co-operative banks

-Regional rural banks

-Foreign banks

Unorganizedsector

- Indigenousbankers

- Money lenders

Non bankingfinancial

institutions

Organizedfinancial

institutions

- Developmentfinance institutions

- InvestmentInstitutions

Unorganizedfinancial

institutions


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REGUL TORY FR MEWORK Plays a critical role in ensuring the health, soundness,

reliability and stability of the financial system

lays down the specific rules for behavior of participants

in the financial system

necessary to generate, maintain and promote this trust of

the participants.


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RegulatoryBodies

RBI

SEBI

IDBI

NABARD


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RBI RBI seeks to regulate the volume and direction of

the flow of bank credit

Apex institution as the monetary authority of the

country

Acts as a guide, regulator, controller andpromoter of the financial system.


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Functions of RBI

1 Formulates and implements monetary and credit

policies

2 Functions as bankers bank

3 Supervises the operations of credit institutions

4 Controls the money supply and credit

5 Considered as lender of last resort


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RBI also performs several functions aimed at developing Indianfinancial system:

Integrate the unorganized financial sector with organized

financial sectorEncourages extension of commercial banking system in the

rural areas

Influences allocation of credit

Promotes development of new institutions


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Techniques of monetary

control1. Open Market Operations:

o Through the open market sale and purchase of government securitiestakes place.

o RBI can affect the reserves position of banks, yields on governmentsecurities and the volume and cost of bank credit.

2. Bank Rate and Discretionary Control of Refinance:

o

Bank rate is the standard rate at which the RBI is prepared to buy orrediscount the B/E or other eligible commercial papers.

o Used to regulate the cost and availability of refinance and to changethe volume of lendable resources of banks and other financialinstitutions.


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3. Cash Reserve Ratio(CRR): It refers to the cash which

banks have to maintain with the RBI as a certain percentage

of their demand and time liabilities.

4. Statutory Liquidity Ratio(SLR): It is the ratio of cash

in hand balances in current account with SBI, its

subsidiaries other nationalized banks and the RBI; gold and

unencumbered approved securities to total demand and time

liabilities of the banks.


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5. Direct Credit Allocation and Credit Rationing:

Through this the RBI has regulated the allocation/distribution

of credit among different sectors, borrowers and users and ithas facilitated in narrowing down the regional/geographicalimbalances.

6. Moral Suasion:This is another most actively and consistently used

technique of monetary control.

It takes the form of writing letters and holding discussionsbetween the RBI and the banks about trends in the economyin general and in money, credit and finance in particular, andabout the measures which ought to be taken from time totime in the light of national objectives.


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SEBI SEBI has emerged as an important constituent of thesystem that now is actively engaged in regulating,

controlling and monitoring the Indian Financial System.

Through SEBI, the regulation model which is sought tobe put in place in the country, is one in which every

aspect of securities market regulation is entrusted to a

single highly visible and independent organization, which

is backed by a statute, and which is accountable to theParliament and in which investors can have trust and

confidence.


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Functions of SEBI

Regulates business in stockexchanges

Register and regulate working ofmutual funds

Prohibit insider trading in securities

Register and regulate capital marketintermediaries


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IDBIIDBI was set up to accelerate the development of the

country

Was a wholly subsidiary of RBI

Was expected to coordinate the activities of the

institutions engaged in financing, promoting or

developing industry.


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Functions of IDBI Act as an apex institution

Provide refinance for term loans granted by banks andfinancial institutions

Coordinate the activities of institutions providing termfinance to industry

Provide technical and administrative assistance forpromotion, management and growth of industry

Grant direct loans and advances to industrial concerns


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NABARD

Apex institution for financing agricultural andrural sectors

Main objectives are:

oTo provide credit for development of

agriculture, small scale industries and rural

areas

oTo provide short term refinance assistance

oTo Sanction refinance assistance forgovernment sponsored programs such as

rozgar yojna etc.

Role of Financial System[1] (2)

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