INDIAN FINANCIAL SYSTEM

Dr. Vandana Panwar

Session Objectives
Financial System and its functions Classification of Financial Markets Money Market Instruments
Call money

Capital Markets Instruments Government Securities Market

FINANCIAL SYSTEM
A financial system is an orderly structure and mechanism that is available in an economy to mobilize the monetary resources/capital from various surplus sectors of the economy and allocate and distribute the same to various needy sectors. It is a composition of various institutions, markets, regulations and laws, transactions, claims and liabilities. It acts as an intermediary and facilitates the flow of funds from areas of surplus to areas of deficit.

Cont..
It performs the following functions: Savings function: Financial system helps in directing the public savings into the hands of producers of goods and services through various money and capital market instruments that would yield income in future. Liquidity function: Financial markets help the investors to liquidate their investments in financial instruments like stocks, bonds etc. Payments function: Financial system helps in making payments for various goods and services through convenient methods like cheque system, credit cards etc. Risk function: The financial system helps in protecting the people against risks associated with life, income and health through various insurance policies. Policy function: As India is a mixed economy, the financial system in the country is governed by certain policies and regulations framed by the government from time to time.

Financial Markets
Financial assets represent a claim to the payment of a sum sometime in the future and/or periodic payment in the form of interest or dividend. Financial markets can be defined as the markets where financial assets are either created or transferred. Based on the maturity period of the financial assets issued, financial markets are classified into two categories: a) Money Market: It deals with securities having a short-term maturity period of one year or less than one year. The instruments that come under this category are- treasury bills, bills of exchange, certificate of deposits etc. b) Capital Market: It deals with securities having a maturity period of more than one year. Instruments that come under this category are debentures, equity and preference stock, etc.

a) Money Market Instruments

Following are some of the money market instruments: 1. Call money: The money that is lent for one-day is referred to as call money. The day-to-day surplus funds, usually of banks, are traded in the call money markets. The money that is lent for a period of 2-15 days is referred to as notice money. Features/ Purpose of borrowing call money To help the commercial bill market to discount commercial bills To help banks in meeting their CRR requirement, to meet sudden demands for funds, and to meet temporary mismatches. Participants in call money market: Participants who can both borrow as well as lend: Scheduled banks, non-scheduled commercial banks, foreign banks, state, district and urban cooperative banks, and intermediaries like Discount and Finance House of India (DFHI) and State Trading Corporation of India (STCI) etc. Participants who can lend only in this market: Financial institutions like LIC, UTI, IDBI etc., mutual funds like SBI mutual fund, Canbank mutual fund etc.,

Call rates: Call rates are the interest paid on the call money borrowed. High call rates indicate a tight liquidity position in the financial market and low call rates indicate an easy liquidity position in the market. Call rates are extremely volatile in nature due to the following reasons: The call rates usually go up in the first week when banks need to meet the CRR requirements and go down in the second week when the CRR requirements are met. Banks borrow call money in order to meet the disequilibrium caused due to overextension of loans by banks in excess of their own resources. Call rates increase when the institutional lenders withdraw funds for meeting business requirements and when the corporates withdraw funds to pay advance tax.

Cont..

2. Commercial Papers (CPs): Commercial Papers are short-term, unsecured promissory notes issued at a discount to face value by well known companies with a high credit- rating. They are sold directly by the issuers to the investors or through agents like merchant banks. CPs help companies with high credit-rating obtain funds at cheaper rates for financing accounts receivables and inventories and are usually issued at discount reflecting the prevailing market rates.

Features: i. Maturity: The maturity period varies from 15 days to one year. ii. CPs are unsecured in nature. iii. Denominations: They are issued in multiples of Rs. 5 lakh and the amount invested by a single investor should not be less than Rs. 5 lakh. iv. They usually have a buy-back facility. v. They are negotiable by endorsement and delivery and are highly flexible instruments. vi. Issuing of CPs does not require any underwriting or prior approval from the RBI. vii. Requirements to be fulfilled for issuing CPs: a. The companys tangible net worth as per the latest audited balance sheet and fund-based working capital should not be less than Rs. 4 crore. b. The company needs to obtain a board resolution authorizing the issue of CPs. c. The company should obtain credit-rating from one of the agencies approved by the RBI. The minimum credit rating shall be P-2 of the CRISIL or such equivalent ratings by other agencies. viii.CPs can be raised to the extent of 100% of the working capital credit limit. ix. CPs being a discount paper does not attract interest tax but the trading income, which is the difference between the cost of acquisition and resale value, is subjected to capital gains tax.

3. Certificate of Deposits (CDs) Certificate of deposits are issued by banks in the form of usance promissory notes. Individuals, corporations, companies, trusts, funds, associations etc. can subscribe to CDs. Features: Purpose of issuing CDs: Banks issue CDs as they help in exercising control over the cost of funds and assure the availability of funds for specific period. From the investors point of view, CDs form a better way of deploying their short-term surplus funds. CDs offer higher yields when compared to conventional deposits, while the secondary market offers liquidity. CDs are issued at a discount to face value. Bank CDs are always discount bills while CDs of Development Financial Institutions can be coupon bearing as well. The maturity for CDs issued by banks varies from 15 days to one year and the maturity period for CDs issued by financial institutions varies from one year to three years.

 CDs have zero default risk as the investors are assured of interest and principal payment. CDs should be issued in denomination of Rs. 1 lakh (1 unit) of Maturity Value (MV)/Face Value (FV). The minimum marketable lot for a CD, whether in physical or demat form will be Rs. 1 lakh and in multiples of Rs. 1 lakh. They are highly liquid in nature. CDs are freely transferable by endorsement and delivery and there is no lock-in-period for transferring to others

4. Money Market Mutual Funds(MMFs)

The benefits of developments in the various instruments in the money market like call money loans, treasury bills, commercial papers and certificate of deposits were available only to few institutional participants in the market. The main reason was that huge amounts were required to be invested in these instruments, the minimum being Rs.10 lakh, which was beyond the means of individual investors. MMMFs were set up to make available the benefits of investing in money markets to small investors. MMMFs are mutual funds that invest primarily in money market instruments of very high quality and of very short maturities. MMMFs can be set up by commercial banks, RBI and public financial institutions either directly or through their existing mutual fund subsidiaries. The guidelines with respect to mobilization of funds by MMMFs provide that only individuals be allowed to invest in such funds. Earlier, the RBI regulated MMMFs; from March 7, 2000 they have bee regulated by SEBI. MMMFs can be either open-ended or close-ended. In an open-ended scheme the units are available for purchase on a continuous basis and the MMMFs would be willing to repurchase the units. A closeended scheme is available for subscription for a limited period and is redeemed at maturity. The guidelines on MMMFs specify a minimum lock-in-period of 15 days during which the investor cannot redeem his investments

CAPITAL MARKETS
Capital market deals in long-term sources of funds with a maturity period of more than one year. They provide resources needed by medium and large-scale industries. Framework of Capital Market: Capital Market is divided into categories: Primary Market & Secondary Market A. Primary Market: Primary market helps companies in raising funds through issue of securities like shares and debentures. The capital issues of the companies were earlier controlled by the Capital Issue Control Act, 1947 and the pricing of the issue was determined by the Controller of Capital Issues (CCI). The CCI controls have been replaced by the guidelines issued by the Securities and Exchange Board of India under the SEBI Act, 1992.

SEBI's functions
Regulating the business in stock exchanges and any other securities markets. Registering and regulating the working of collective investment schemes, including mutual funds. Prohibiting fraudulent and unfair trade practices relating to securities markets. Promoting investor's education and training of intermediaries of securities markets. Prohibiting insider trading in securities with the imposition of monetary penalties on erring market intermediaries. Regulating substantial acquisition of shares and takeover of companies. Calling for information from, carrying out inspections, conducting inquiries and audits of the stock exchanges and intermediaries and self regulatory organizations in the securities market.

Powers given to SEBI include:

Power to call for periodic returns from the stock exchanges. Power to call upon the stock exchange or any member of the exchange to furbish relevant information. Power to appoint any person to make inquiries into the affairs of the stock exchange. Power to amend bye-laws of stock exchange. Power to compel a public company to list its shares in any stock exchange.

Methods of Issuing Securities:

The different methods by which a company can raise capital through the issue of securities are: 1. Public Issue: It involves raising funds directly from public. 2. Rights Issue: Under this method, additional finance is raised from the existing members by offering securities to them on a pro-rata basis. 3. Bonus Issue: Under this method, profits are distributed to existing shareholders by way of fully-paid bonus shares, for which no additional payment is made by the shareholders. 4. Private Placement: It involves direct sale of securities (by a private or public limited companies) to a limited number of sophisticated investors like UTI, LIC, etc. Credit-rating agencies, trustees, and financial advisors like mutual funds act as intermediaries in this case. It is particularly useful for investors who do not want to disclose their information to the public. 5. Bought-out Deals (BODs): In case of BODs, a company initially places its equity shares with a sponsor/ merchant banker, who in turn offloads those shares to the general public at an appropriate time. The shares are generally offloaded through Over the Counter Exchange of India (OTCEI) or a recognized stock exchange of India.

Advantages:
It involves less time and the issuers obtain funds immediately. It is cheaper than public issue.

B. Secondary Market: The securities already issued in the primary market are traded in the secondary market. It provides liquidity to the securities held by the investors. It operates through stock exchanges that regulate the trading activities in this market and ensure safety to the investors. Under the Securities Contract Act, 1956, government has powers to supervise and control the stock exchanges; and to correct any irregularities that exist. Stock Exchanges: They are auction markets for securities. A buyer in the market is termed as bull and the seller is called a bear.

Transactions at stock exchanges commence with the placement of an order. Types of Orders: 1. Limit Orders: These orders are limited by a fixed price. 2. Best Rate Order: These are to be executed at the best possible price. 3. Immediate or cancel order: This order has to be immediately executed at the quoted price or it is cancelled. 4. Limited Discretionary Order: This kind of order provides discretion to the broker to execute the order at a price that is approximate to the price fixed by the client. 5. Stop Loss Order: If the loss is beyond a particular limit then the broker is authorized to sell the security immediately to stop any further occurrence of loss. 6. Open Order: Under this kind of order, the client does not fix any time or price limit. Once the order is executed, delivery is received from the market in the form of share certificate and transfer deed. Delivery of the share certificate may be of the following types: -Spot delivery: Transaction is settled on the date of contract. -Hand Delivery: Transaction is completed in 14 days from the date of contract. -Specified Delivery: Transaction is completed beyond 14 days as specified at the time of bargain.

National Stock Exchange (NSE)

The main objectives of NSE are to facilitate speedy transactions and settlement, and to help the small investors in buying or selling their securities. The NSE has a wide reach through satellite linkage. The NSE has a computerized trading mechanism which allows flexibility while placing an order, allows brokers to place limits on price or on the order or even on the time frame. It provides protection to the investors by not disclosing his identity till the transaction is executed.

Government Securities Market

Government securities market includes all those securities that are issued by the Central government and the state governments and other entities that are wholly owned by the government. They are also referred to as gilt-edged securities as the interest and repayment of principal are completely secured in this case. Depending upon the issuing body, securities can be classified into five categories: Central government securities State government securities Securities guaranteed by the Central Government for All India Financial Institutions like IDBI, IFCI, etc. Securities guaranteed by state government for state institutions like State Electricity Boards and Housing Boards. Treasury bills issued by the RBI.

Forms of Govt Securities

The three forms in which government securities can be held are: 1. Stock Certificate 2. Promissory Notes 3. Bearer Bonds Stock Certificate: In case of stock issued by government, a stock certificate is given to the owner, which specifies that he is a registered holder in the book of Public Debt Office (PDO). It indicates the interest rate, interest due dates and face value of the stock. It is not transferable by endorsement. Transfer can take place only by means of a transfer deed, by which the transferees name is substituted in the place of the transferors name in the books of the PDO. Interest payment by way of interest warrants and principal repayments are issued by the PDO to the domicile of the holder or to the specified local office of the RBI or any branch of the agent bank conducting government securities business in India.

Promissory Notes
They contain promise by the President of India or the Governor of a state for payment of the consideration along with interest, to the holder. They are negotiable instruments payable to the order of the specified persons and transferable by endorsement.

Bearer Bonds:
They certify the bearer for entitlement to the specified sum along with interest payable by way of interest warrants. They are transferable by physical delivery.

TREASURY BILL
Treasury bills are short-term promissory notes that are issued by the government to meet their short-term obligations. The RBI acts as a banker to the Government of India and acts as an agent for issuing T-Bills. The various investors of T-bills include banks (that invest in T-bills to meet their SLR requirements), primary dealers, financial institutions, insurance companies, provident funds, NBFCs, FIIs and state governments.

Features:
The treasury bills are issued for a minimum amount of Rs. 25,000 and in multiples of Rs 25,000 thereof. They are issued at discount and are redeemed at face value. They are highly liquid and have a highly active secondary market. Earlier, the GOI (Government of India) issued 4 types of T-Bills viz, 14- day, 91-day, 182-day and 364-day T-Bills. However, the 14-day and 182-day T-Bills have been withdrawn from May 14, 2001. At present, the treasury bills are being issued with two types of maturity:
1. 2. 91-day treasury bills 364-day treasury bills

The bills are available in paper as well as in scripless form.

Note: As per the monetary and credit policy of April 2001, the 14-day Treasury Bill and 182-day Treasury Bill auctions have been discontinued and instead, the notified amount in the 91-day Treasury Bill auctions has been increased to Rs.250 crore with effect from May 14, 2001. The notified amount of 364-day Treasury Bills was enhanced to Rs.1, 000 crore from Rs.750 crore with effect from April 3, 2002.

Based on the nature of the issue, T-Bills can be classified into three categories: 1. Ad hoc T-Bills: These are issued in favour of the RBI and are not issued to the public. They are issued to serve two purposes: To replenish cash balances of the Central Government To provide a medium of investment for temporary surpluses to state governments, semi-government departments and foreign central banks. Note: The new system of Ways and Means Advances (WMA) replaced the system of Ad hoc Bills in March 1997. 2. On Tap T-Bills: In case of On Tap T-bills, there is no limit to the amount of investment in these types of securities. They are generally used by the state governments, banks and provident funds as a liquidity management tool since the RBI is ready to rediscount them at any point of time. 3. Auctioned T-Bills: These T-bills are issued through auctions conducted by the RBI. In this case, the yield is determined on the basis of the bids tendered and accepted at the auction. The RBI neither rediscounts nor participates in the auctions of these T-bills. The yield on a T-bill can be computed as: where, F is the face value P is the purchase price d is the maturity period in days

Public Sector Undertakings Bonds

During the late 80s, several public sector companies entered the capital market to raise money through the issue of bonds, including well-known public sector companies like NTPC, NHPC, ITI, Railway Finance Corporation, Konkan Railway Corporation, etc. These public sector bonds are essentially of two types: 9% taxfree bonds, and 1.3% taxable bonds. These Public Sector bonds are traded on stock exchanges, imparting liquidity to investors investment. They are also available from merchant banking subsidiaries of some banks. Now some of the PSU bonds are looking very attractive, with a high Yield-To-Maturity (YTM).

Features
The common features of most of the bonds are given below: 1. Interest income eligible for deduction under Section 80L of I.T. Act (subject to declaration by the Central Government). 2. Loan facility available against pledge of bonds as security from sector Banks/Institutions. 3. Nomination facility available. 4. Market making facility provided to ensure continuous liquidity. 5. Highest Credit Rating of AAA from credit rating agencies. 6. Switch option into any other bond of the same institution. 7. Listing on the Bombay Stock Exchange (BSE) and National Stock Exchange (NSE). 8. They usually have a maturity period of 7 years and are secured against fixed/floating charge on fixed assets, book debts, etc.

International Capital Markets

The development of international capital markets can be attributed to two factors: investors need to avoid taxes in their own country and to ensure protection against depreciating home currencies. The emergence of new technologies in the area of financial services, development and deregulation of financial markets has further facilitated the growth of international markets.

Participants
The major participants in these markets are: 1. Borrowers/Issuers: Corporates, financial institutions, banks, government bodies and multinational organizations come under this category. Corporates borrow for reasons like: to meet the need for forex funds for their operations, saturated domestic markets and for expanding business in other countries. Governments borrow in the global markets to adjust the balance of payments mismatches, to keep sufficient levels of foreign currencies so that they can be used for protecting the domestic currency against certain speculative forces. 2. Lenders/Investors: Banks are the chief lenders of euro-loans; and institutional investors and high net worth individuals are the subscribers of global equity instruments like American Depository Receipts and Global Depository Receipts.

3. Intermediaries: The intermediaries in the global markets can be classified into three categories: - Lead Managers: They care of matters related to the issue. -Underwriters: They take a guaranteed portion of the issue amount in the event of under subscription. - Custodians: They hold the underlying shares, collect the dividends on them and repatriate them to depository. Instruments in International Markets: The instruments that are used to raise funds can be classified into the following categories: A. International Equity Instruments: Global Depository Instruments, American Depository Receipts , B. International Debt Instruments: Euro bonds, Foreign Bonds, Euronotes, C. Forex Market: D. Derivatives Market

Global Depository Instruments (GDRs)

A depository receipt is a negotiable instrument that represents the beneficial interest in shares issued by a company. A GDR is an instrument in the form of a depository receipt or certificate created by the Overseas Depository Bank outside India and issued to non-resident investors against the issue of ordinary shares or foreign currency convertible bonds of the issuing company. Depository in the case of a GDR is located in a foreign country, whereas the custodian is located in the home country of the issuer.

Features of GDRs The proceeds from the issue of GDRs are collected in foreign currency thus enabling the issuer to utilize the same for meeting the foreign exchange component of project cost, repayment of foreign currency loans and for similar purposes. It has less exchange risk as compared to foreign currency borrowings or foreign currency bonds. The GDRs are usually listed at the Luxembourg Stock Exchange and are also traded at two other places besides the place of listing; e.g. on the OTC market in London and on the private placement market in U.S.A. Marketing of the GDR issue is done by the underwriters by organizing road shows, which are presentations made to potential investors.

Advantages of issuing GDRs: By issuing GDRs, the issuer has the following advantages - GDRs involve less cumbersome procedures with regard to dividends payments, notices, informing the investors of the major policy decisions like rights issue etc., - Issue of GDRs by a company indicates the financial strength of the company. GDRs allow the issuing company to have the advantage of paying dividends to investors in local currency.

Financial Institutions
1. Industrial Development Bank of India (IDBI): It is an apex financial institution having the main objective of coordinating the functioning of all financial institutions. Some of its other functions are: -To plan, promote and develop industries. -To provide technical and administrative assistance for promotion or expansion of industry. - To undertake market and investment research surveys.

2. Industrial Finance Corporation of India (IFCI) It is the first finance institution that was set up in 1948 by the Government of India with the objective of providing medium and long-term loans to large industrial concerns. Its resources are in the form of loans from the RBI, share capital, retained earnings, repayment of loans, bonds issue, loans from the government and credit from international markets.

3. Industrial Investment Bank of India (IIBI): It was established with the objective of financing the reconstruction and rehabilitation of sick and closed industrial units. Its functions include providing finance for the establishment of new industrial projects as well as for expansion, diversification and modernization of existing industrial enterprises. The other services provided by it are merchant banking, debt syndication and the entire package of services for mergers and acquisitions.

4. Export and Import Bank of India: It was set up in January 1982 as a statutory corporation wholly owned by the Central Government. It grants direct loans in India and outside for the purpose of exports and imports, refinances loans of banks and other notified financial institutions for the purpose of international trade, rediscounts usance export bills from banks, provides overseas investment finance for Indian companies towards their equity participation in joint ventures abroad and undertakes development of merchant banking activities in relation to export-oriented units.

5. State Financial Corporations: These were established for the purpose of providing finance to the small and medium sector, and to establish industrial estates. They provide finance in the form of term loans, by underwriting issues of shares and debentures, by subscribing to debentures and standing guarantee for loans raised from other institutions and from the general public.

6. State Industrial Development Corporations They have been established to facilitate rapid industrial growth in the respective states. They also identify and sponsor projects in the joint sector with the private entrepreneur participation.

Investment Institutions
1. Life Insurance Corporation of India: It was established in 1956. Its central office is located in Mumbai. It is the general duty of the corporation to carry on life insurance business and to exercise its powers under the Act to ensure that the life insurance business is developed to the best advantage of the community. As per the LIC Act, it can invest up to 10% of the investible funds in the private sector. LIC provides finance by participating in a consortium with other institutions and does not undertake independent appraisal of projects.

2. General Insurance Corporation of India (GIC): GIC was established with the purpose of supervising, controlling and carrying on the business of general insurance. It can invest upto 30% of funds in the private sector. Like LIC, GIC also provides finance (depending upon the appraisal made by other financial institutions) by participating in a consortium.

3. Unit Trust of India: UTI commenced its operations from July 1964 with a view to encouraging savings and investment and participation in the income, profits and gains accruing to the Corporation from the acquisition, holding, management and disposal of securities. Unit Trust of India (UTI) is India's first mutual fund organization. UTI manages funds amounting to Rs. 49,655.57 crore being the market value of investments as on 28th June 2002 (provisional) from 28.96 million investors under its 72 schemes. The faith and confidence of investors stems from UTIs commitment, as reflected in its long track record of over three decades, to ensure its investors safety, and to provide liquidity and attractive yield on their investments.

4. Mutual Funds: They help in mobilizing funds from various categories of investors and direct them into productive investments. Apart from UTI, there are many mutual funds that are sponsored by various bank subsidiaries, LIC, GIC, private sector institutions, etc and operate within the framework of SEBI guidelines.

Structure of Banking System

Reserve Bank of India (RBI)

RBI is the apex bank, established with the purpose of guiding, monitoring, regulating, promoting and controlling Indian financial system. In order to promote economic development, the RBI has been given powers to regulate issuance of notes, act as banker to the government, to maintain price stability, to maintain control over money supply in the country and to carry out open market operations.

Following are some of the main functions of RBI: 1. It acts as the currency issuing authority: RBI has the sole authority to issue Indian currency other than one rupee coins/notes and subsidiary coins. The issue department of the Reserve Bank monitors all the matters relating to note issuance. 2. It acts as the governments banker: RBI acts as banker to the Centre as well as State Governments. Issue management and administration of public debts are the major functions of RBI as a banker to the Governments. 3. It acts as the bankers bank: RBI has a unique relationship with scheduled commercial and cooperative banks. RBI exercises selective credit control through the following instruments: Bank rate: It is the rate at which Reserve Bank rediscounts the first class commercial bills of exchange.

It carries out open market operations: The RBI can influence the reserves of commercial banks, by selling and buying the government securities from them in the open market. This will result in cash transfer from the RBI to the commercial banks thus enabling them to expand credit. The reverse will happen if RBI sells the securities. It regulates liquidity through reserve requirements: RBI regulates the liquidity of the banking system through CRR (Cash Reserve Ratio) and SLR (Statutory Liquidity Ratio). CRR is the average daily balance that the commercial banks have to maintain with the RBI. SLR is the specified reserves in the form of government securities, specified bonds and approved securities that banks have to maintain with the RBI. 3. It exercises exchange controls: RBI regulates the demand for foreign exchange within the limits set by the available supply. It also acts as the custodian of the countrys foreign exchange reserves. 4. It undertakes developmental activities: RBI performs many activities for economic development. The RBI has performed various promotional activities like promoting specialized institutions such as IDBI to ensure flow of credit, establishing agencies like DFHI for developing markets and introducing various schemes to promote bill structure.

Commercial Banks
Commercial banks are the most important depositors and disbursers of finance. They provide various types of financial services to customers in return for payments in the form of interests, discounts, fees, etc. These banks are expected to hold a part of the deposits in the form of ready cash, known as cash reserves. The ratio of cash reserves to deposits (i.e. the Cash Reserve Ratio) is prescribed by the RBI.

Scheduled Banks
Scheduled banks are those that are included in the second schedule of the Banking Regulation Act, 1949; the others are non-scheduled banks. A bank should fulfill the following requirements to be included under the second schedule: A bank must have a paid-up capital and reserve of not less than Rs. 5 lakh, It must ensure that its affairs are not conducted in a manner detrimental to the interests of its depositors.

Liabilities of Banks
Deposits: Peoples money deposits serve as a means of payment and as a medium of saving. Deposits can be classified into two categories: 1. Demand Deposits: Demand deposits are of three types: Current Deposits: These are checkable accounts with no restrictions on the amount or number of withdrawals from these accounts. At present, banks generally do not pay interest on current deposits. Savings Deposits: These deposits earn interest. There is restriction on the maximum amount that can be withdrawn without previous notice and the number of cheques that can be drawn on this account. Call Deposits: These deposits are accepted from fellow bankers and are repayable on demand. They carry an interest charge and form a negotiable part of the bank's total liabilities. 2. Term Deposits: They are also known as fixed deposits and are a genuine saving medium. The rate of interest on these deposits depends on the maturity period.
Other liabilities: Borrowings from the RBI, non-deposit resources such as refinance from IDBI, NABARD, EXIM bank and bills rediscounted with financial institutions are some other liabilities of commercial banks.

Assets of Banks: Cash in hand Balances with RBI Assets with the banking system Investments in Government and other approved securities Bank Credit: The various types of advances provided by the banks are: 1. Loans: Loans can be classified into two categories: Demand Loans: These are short-term loans that are to be repaid when demanded by the creditor. Term Loans: They can be defined as: (i) loans that are sanctioned for a period exceeding one year with specific schedule of repayment, (ii) interim cash credits/bridge loans pending disbursement of sanctioned term loans, and (iii) installment credit where repayment is spread over more than one year. 2. Cash Credits/ Overdraft Arrangements: They are said to be running accounts, from which the borrower can withdraw funds as and when needed up to the credit limit sanctioned by the banker. Usually, cash credit is sanctioned against the security of common stocks and overdrafts are allowed on personal or joint current accounts. Interest is charged on the outstanding amount borrowed and not on the credit limit sanctioned. 3. Bill Financing: It is mainly used to finance trade transactions and the movement of goods. It is either repayable on demand or after a period not exceeding 90 days.

Insurance
From an individuals point of view, insurance is an economic device whereby the individual can substitute a small definite cost (premium) for a large uncertain financial loss [the contingency insured against] that would have to be borne by the individual concerned if insurance was not available. Insurance does not eliminate or decrease the uncertainty for the individual as to whether or not the event will happen, nor does it alter the happening of the event, but it does reduce the extent of financial loss connected with the event.

Classification of Insurance Business

Insurance business can be broadly classified into two categories on the basis of the services offered and the loss that is insured: 1. Life Insurance: A life policy covers risk of death due to natural causes as also due to accidents. Under this insurance, the sum assured is payable on the death of the assured. While the policy under which premiums are payable throughout life is called the whole life assurance policy, the policies where the premium paying-term is limited are called limited payment whole life assurance policies. 2. General Insurance: Insurance other than the life insurance fall under the category of general insurance. The general insurance business can be further classified into three categories: 3. Fire Insurance: It covers damage to the property caused by fire, lightning or explosion. 4. Marine Insurance: Marine policies relate to three areas of risks, namely hull, cargo and freight. The risks against these items are normally insured and are collectively termed as perils of the sea and include fire, theft, collision and a wide range of other perils. 5. Miscellaneous Insurance: Miscellaneous Insurance is described in the Insurance Act as any general insurance business other than fire and marine insurance business. A wide range of policies come under this category, like motor insurance, engineering insurance, theft insurance, insurance for goods-in-transit, etc.

Insurance Regulatory and Development Authority (IRDA)

The IRDA is a body corporate having perpetual succession and a common seal with the power to acquire, hold and dispose off property, and to contract. The role of IRDA has become very important with the entry of private sector into the insurance industry. It is the responsibility of IRDA to regulate, promote and ensure orderly growth of the insurance business and reinsurance business. Some of the powers and functions of IRDA are: -Protecting the interests of the policyholders. -Issuing certificates related to registration, renewal, modification, suspension or cancellation of registration. -Specifying the requisite qualifications, code of conduct and practical training for insurance intermediaries and agents. -Promoting efficiency in the conduct of insurance business. -Control and regulation of rates, terms and conditions that must be offered by insurers. -Regulating funds investment by insurance companies. -Adjudicating the disputes between insurers and intermediaries. -Supervising the functioning of the Tariff Advisory Committee.

Non-Banking Financial Companies

Some of the non-banking financial companies are: 1. Investment Trusts and Investment Companies 2. Mutual Benefit Funds 3. Merchant Banks 4. Hire Purchase Finance Companies 5. Lease Finance Companies 6. Housing Finance Companies 7. National Housing Bank (NHB) 8. Venture Capital Funding Companies

1. Investment Trusts and Investment Companies: These are close-ended organizations and have a fixed amount of authorized capital and a stated amount of issued capital. They help to mobilize small savings from investors and provide facilities for diversification of investment, expert advice on attractive investment channels and supervision of their investment. They render manifold functions such as financing, underwriting, promoting and banking.

2. Mutual Benefit Funds: Also known as Nidhis, these are joint stock companies. Share capital, deposits from the members and the public are the sources of funds for them. The loans given by these institutions are generally secured against the security of tangible assets such as house, gold, jewellery etc. The salient features of Nidhis are: -Saving schemes offered by them are linked with assurances to make credit available when required by savers. -They extend credit to those who are not able to obtain credit from commercial banks or whom commercial banks have not been able to reach. -Easy procedures and approachability are characteristics that make them suitable for small areas. -They are incorporated bodies and are governed by the directives of the RBI. Their interest rates are comparable to those of commercial banks.

3. Merchant Banks: They offer financial advice and services for a fee. They deal with selective large industrial clients and not with general public. The range of activities undertaken by merchant bankers are: - Management, marketing and underwriting of new issues. - Project finance and promotion services. - Syndication of a project - Corporate and investment advisory services. - Assistance for technical and financial collaboration and joint ventures - Management of and dealing in commercial paper.

4. Hire Purchase Finance Companies: Hire Purchase financing is a popular financing mechanism especially in the automobile sector. There are three parties involved in hire purchase financing: the manufacturer, the hired and the hirer. The hired may be a manufacturer or a finance company. The manufacturer sells asset to the hired who sells it to the hirer in exchange for the payment to be made over a specified period of time. The suppliers of hire-purchase finance are wholesale traders, commercial banks, IDBI, IFCI, SFCs, etc.

5. Lease Finance Companies: Lease is a contract between the owner of an asset (lessor) and the user of the asset (lessee). Under this contract, the owner gives the right to use the asset to the user over an agreed period of time for a consideration called the lease rentals. Lease financing is provided by private sector nonbanking financial companies, private sector manufacturing companies, Infrastructure Leasing and Financial Services Ltd (IL&FS), ICICI, HDFC and other organizations.

6. Housing Finance Companies: Housing finance is provided against the security of immovable property of land and buildings. HUDCO (Housing and Urban Development Corporation), Housing Finance Societies and Housing Boards in different states, central and state governments, LIC, GIC, commercial banks and private housing finance companies, provide housing finance loans in India.

7. National Housing Bank (NHB): This apex level housing finance institution was established in 1988 as a wholly owned subsidiary of the RBI. The primary objective of NHB is to promote housing finance institutions at local and regional levels in the private sector and joint sectors by providing them the required assistance. It provides refinance to scheduled commercial and co-operative banks, housing finance companies and apex co-operative housing finance societies.

8. Venture Capital Funding Companies: Venture capital fund usually denotes mutual funds or institutional investors that provide equity finance or risk capital to unregistered, small private companies especially in technically oriented and knowledge-intensive businesses or industries which have long development cycles and which usually do not have access to conventional sources of capital due to the presence of high risk and the absence of suitable collateral. They also provide management and marketing expertise to such units.

Summary
The economic development of a country depends on the progress of its various economic units, namely the Corporate Sector, Government Sector and the Household Sector. The role of the financial sector can be broadly classified into the savings function, policy function and credit function. The main types of financial markets are: money market, capital market, forex market and credit market. The financial markets are further sub-divided into the Primary market and the Secondary market. A market is considered perfect if all the players are price takers, there are no significant regulations on the transfer of funds and transaction costs, if any, are very low. The accounting equation Assets = Liabilities, can be altered as Financial Assets + Real Assets = Financial Liabilities + Savings. The main types of financial assets are deposits, stocks and debt. While designing a financial instrument, the issuer must keep the following in mind: cash flows required, taxation rules, leverage expected, dilution of control facts, transaction costs to be incurred, quantum of funds sought, maturity of plan required, prevalent market conditions, investor profile targeted, past performance of issues, cost of funds to be borne, regulatory aspects to abide by. While investing in a financial instrument, the investor must keep the following in mind: risk involved, liquidity of the instrument, returns expected, possible tax planning, cash flows required and simplicity of investment. Various financial intermediaries came into existence to facilitate a proper channel for investment. The main ones are: stock exchanges, investment bankers, underwriters, registrars, depositories, custodians, primary dealers, satellite dealers and forex dealers.