ASSIGNMENT

TRESURY MANAGEMENT

Topic 1: Money Market and Money Market Instruments used abroad Topic 2: Should India go for Capital Account Convertibility

Submitted By: Dhawal Sharma 10BSP0102

MONEY MARKET ABROAD

& MONEY

MARKET

INSTRUMENTS USED

Introduction:
Money market means market where money or its equivalent can be traded. Money is synonym of liquidity. Money market consists of financial institutions and dealers in money or credit who wish to generate liquidity. It is better known as a place where large institutions and government manage their short term cash needs. For generation of liquidity, short term borrowing and lending is done by these financial institutions and dealers. Money Market is part of financial market where instruments with high liquidity and very short term maturities are traded. Due to highly liquid nature of securities and their short term maturities, money market is treated as a safe place. Hence, money market is a market where short term obligations such as treasury bills, commercial papers and bankers acceptances are bought and sold. Benefits and functions of Money Market: Money markets exist to facilitate efficient transfer of short-term funds between holders and borrowers of cash assets. For the lender/investor, it provides a good return on their funds. For the borrower, it enables rapid and relatively inexpensive acquisition of cash to cover short-term liabilities. One of the primary functions of money market is to provide focal point for RBIs intervention for influencing liquidity and general levels of interest rates in the economy. RBI being the main constituent in the money market aims at ensuring that liquidity and short term interest rates are consistent with the monetary policy objectives.

Money Market Instruments:

Investment in money market is done through money market instruments. Money market instrument meets short term requirements of the borrowers and provides liquidity to the lenders. Common Money Market Instruments used abroad are as follows: 1) U.S. Treasury Bills: These are issued by the U.S. Government. They represent U.S. government obligations. The Treasury Department has weekly 3 month and 6 month T-Bill auctions. Once a month the Treasury Department auctions 6 month and 9 month T-Bills. The Treasury Department also offers 'Tax Anticipation Bills through special auctions. T-Bills are issued in denominations of $10,000 through $1,000,000. They have maturities of up to one year. There is an excellent secondary market for these. They are highly liquid. These are discounted in actual days based on a 360 day year.

2) Prime Sales Finance Paper: These are promissory notes from finance companies placed directly with the investor. These come in denominations of $1,000 to $5,000,000. There is a minimum order of $25,000. These are issued to mature on any day ranging from 3 days to 270 days. There is no secondary market for these. Under certain conditions, the company will buy back the securities prior to maturity. They will usually adjust the interest rate in this event. These can be either discounted or interest bearing. And they are based on actual days based on a 360 day year. 3) Dealer Paper (Finance): These are promissory notes of finance companies sold through commercial paper dealers. Their denominations range from $100,000 to $5,000,000. They are issued to mature on any day from 15 days to 170 days. There is a limited secondary market. Early buyback can usually be negotiated with the dealer. These can be either discounted or interest bearing based on actual days and a 360 day year. 4) Dealer Paper (Industrial): These are promissory notes of the leading and largest industrial firms. It is sold through commercial paper dealers. They are sold in denominations of $500,000 to $5,000,000. They mature on certain dates form 30 days to 180 days. There is a limited secondary market. These are discounted based on actual days and a 360 day year. 5) Prime Bankers' Acceptance: These are time drafts drawn on and accepted by a banking institution which substitutes its credit for that of the importer or holder of the merchandise. They range in denominations from $25,000 to $1,000,000. They mature in up to 270 days. There is a good secondary market in these. The bid is usually 1/2 of 1% higher than the offer. These are sold discounted in actual days based on a 360 day year. 6) Negotiable Time Certificates of Deposit: These are certificates of time deposit at a commercial bank. They range in denominations from $100,000 to $1,000,000. The maturities are unlimited. There is a good secondary market. The rate is based on a yield basis. And it is based on actual days for a 360 day year. Interest is paid at maturity. 7) Project Notes of Local Public Housing Agencies: These are notes of local agencies secured by a contract with federal agencies and by the pledge of the full faith and credit of the U.S. Government. They are sold in denominations of $1,000 to $1,000,000. They mature in periods of up to one year. There is a good secondary market for these. The rate is based on a yield basis. Interest is paid at maturity. And it is based on a 30 day month and a 360 day year. 8) Tax and Bond Anticipation Notes: These are notes of states, municipalities, or political subdivisions. They are issued in denominations of $1,000 to $1,000,000. They usually mature in periods of 3 months to 1 year from the date of issue. There is a good secondary market for these. The rate is determined on a yield basis. Interest is paid at maturity based on usually 30 days and a 360 day year.

SHOULD INDIA GO FOR CAPITAL ACCOUNT CONVERTIBILITY

Introduction:
The liberalization reforms which happened across the country in 1991 changed the face of the Indian economy. In this era the forces of Globalization and Liberalization are cutting across borders, reintegrating the world towards a common goal of development. In the current stream of events, where globalization has become the hot word and financial liberalization is synonymous with developed economies, the key issue that is to be considered, is whether India is ready to go for Full Capital Account Convertibility. Capital Account Convertibility as defined by RBI is the freedom to convert local financial assets into foreign financial assets and vice versa at market determined rates of exchange without any sort of intermediation and regulation. This is also called as Capital Asset Liberation in foreign countries. It implies free exchangeability of currency at lower rates and an unrestricted mobility of capital. Currently India has partial Capital Account Convertibility that is to say that an Indian citizen or an institution can invest in foreign assets upto USD 25000. Similarly, foreign individuals and institutions can invest in India with negligible barriers.

Capital Account Convertibility (CAC):

Capital Account Convertibility has the following uses Firstly, it is intended for local merchants to easily conduct trans-national business without any regulation and control. Secondly, if currency is fully capital account convertible then anyone in the world can invest in any asset in that currency. For Example a US citizen could buy property in India, allow it to appreciate and could sell the same. Thus the profits obtained from the investment could be taken to US freely. Since, this is not allowed in India and government has its own policies to regulate foreign investments, we say that India does not have full capital account convertibility. Tarapore committee was set up in 1997 to study the implications of following Capital Account Convertibility in India. It recommended that before CAC is implemented, the Fiscal Deficit needs to be reduced to 3.5% of the GDP, Inflation rates need to be controlled between 3-5%, the non-performing assets (NPAs) need to be brought down to 5%, Cash Reserve Ratio (CRR) needs to be reduced to 3%, and a monetary exchange rate band of plus minus 5% should be instituted. Since, most of these conditions were not met, Capital Account Convertibility was abandoned.

However, some of the targets of Tarapore Committee had been achieved. Thus, another Tarapore Committee was set up in 2006 to reevaluate the earlier recommendations. Capital Account Convertibility has its own advantages. It can increase the inflow of foreign investment and thus making transactions much easier and faster. Apart from this it can increase the risk spreading in portfolios thereby increasing the profits. Countries also gain access to newer technologies which translate into further development and higher growth rates. Even though Capital Account Convertibility seems to have many advantages, in reality it can actually destabilize the economy because of massive capital outflows. Not only are there dangerous consequences associated with capital outflow, excessive capital inflow can cause currency appreciation and worsening of the Balance of Trade. Furthermore, there are overseas credit risks and fears of speculation. There is instability in the International market. There is still the fear of recession in the market. Moreover, rising oil prices are also fueling inflationary pressures on economies. India is also facing the problems like rising prices and inflation. Also, corruption, bureaucracy and in general, a poor business environment, are discouraging the inflow of investment. So according to me this is not the right time for India to go for full Capital Account Convertibility.

Conclusion:
Hence, India still needs to work on its fundamentals of providing universal quality education and health services and empowerment of marginalized groups, etc. There is no point trying to add on to the clump at the top of the pyramid if the base is too weak. The pyramid will soon collapse! Thus, before opening up to financial volatility through the implementation of Full Capital Account Convertibility, India needs to strengthen its fundamentals and develop a strong base.