100 mark project tybfm.docx
TRANSCRIPT
Roll No. 13
1
“Evolution of Indian Financial
Markets”
Bachelor of Commerce
Financial Markets
Semester V
(2014-15)
Submitted by
Yash Hiranandani
H.R. COLLEGE OF COMMERCE & ECONOMICS
123, D.W. Road, Churchgate, Mumbai – 400 020.
Roll No - 13
H.R. COLLEGE OF COMMERCE & ECONOMICS
2
“Evolution of Indian Financial Markets”
Bachelor of Commerce
Financial Markets
Semester VIn Partial Fulfillment of the requirements
For the Award of Degree of Bachelor of
Commerce – Financial Markets
Submitted by
Yash Hiranandani
123, D.W. Road, Churchgate, Mumbai – 400020
H.R COLLEGE OF COMMERCE AND
ECONOMICS
123, D.W. Road, Churchgate, Mumbai – 400020
CERTIFICATE
This is to certify that Shri Yash Hiranandani
of B.Com.-Financial Markets Semester V
(2014- 2015 ) has successfully completed
the project on 21-09-2014 under the
guidance of Professor Meena Desai.
Principal
Project Guide
3
Internal Examiner External
Examiner
DECLARATION
I, Yash Sanjay Hiranandani the student of
B.Com.- Financial Markets Semester V
(2014 - 2015) hereby declare that I have
completed the Project on 21-09-2014.
The information submitted is true and
original to the best of my knowledge.
Signature of the Student
Name of the Student:
Yash Hiranandani
4
Roll No. 13
INDEX
Sr. No Topic Page No
1 Introduction 8
2 Money and Capital Market
10
3 Development of 26
Indian Financial
Market
4 Problems and 73
Solutions
5
Executive Summary
Financial Markets are the heart and soul of any nations
economy. The economic health of a country is dependant on
the performance of these financial markets such as Equities
Markets, Commodities Markets, Forex Markets etc. These
markets have existed since as far as back as the 1800’s.
Investors trade on these markets and the markets are
influenced by these activities. In this project I have focused on
the progress these markets have made over the years,
especially in recent times. I have focused on mainly on the
following markets:
Capital Markets: Stock markets and Bond markets
Commodity Markets
Money Markets
Derivatives Markets: Futures Markets
Insurance Markets
Foreign Exchange Markets
The Indian financial sector has undergone radical
transformation over the 1990s. Reforms have altered the
organizational structure, ownership pattern and domain of
operations of institutions and infused competition in the
financial sector. This has forced financial institutions to
reposition themselves in order to survive and grow. The
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extensive progress in technology has enabled markets to
graduate from outdated systems to modern business
processes, bringing about a significant reduction in the speed
of execution of trades and in transaction costs.
This project also compares these markets in the past and focuses
on the changes made over the years in these markets and how
these improvements have bettered the numbers and efficiency of
the financial sector in India.
Research Methodology Used
1. I spoke to family members who have had experience in
the financial markets and took their opinions into
consideration as they have seen the changes taken by the
government when it comes to the markets and also the
effects of these modifications.
2. I also researched and went through papers published by
experts on the Indian Financial System.
3. Went through old articles in business newspapers.
4. Went through official publications by NSE, BSE and RBI.
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Introduction
Indian Financial Market helps in promoting the savings of the
economy - helping to adopt an effective channel to transmit
various financial policies. The Indian financial sector is well-
developed, competitive, efficient and integrated to face all
shocks. In the India financial market there are various types of
financial products whose prices are determined by the
numerous buyers and sellers in the market. The other
determinant factor of the prices of the financial products is the
market forces of demand and supply. The various other types
of Indian markets help in the functioning of the wide India
financial sector.
What does the India Financial market comprise of? It talks
about the primary market, FDIs, alternative investment
options, banking and insurance and the pension sectors, asset
management segment as well. With all these elements in the
India Financial market, it happens to be one of the oldest
across the globe and is definitely the fastest growing and best
among all the financial markets of the emerging economies.
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The history of Indian capital markets spans back 200 years,
around the end of the 18th century. It was at this time that
India was under the rule of the East India Company. The
capital market of India initially developed around Mumbai;
with around 200 to 250 securities brokers participating in
active trade during the second half of the 19th century.
The financial market in India at present is more advanced than
many other sectors as it became organized as early as the 19th
century with the securities exchanges in Mumbai, Ahmedabad
and Kolkata. In the early 1960s, the number of securities
exchanges in India became eight - including Mumbai,
Ahmedabad and Kolkata. Apart from these three exchanges,
there was the Madras, Kanpur, Delhi, Bangalore and Pune
exchanges as well. Today there are 23 regional securities
exchanges in India.
The Indian Financial Markets can be divided into the
CapitalMarket and the Money Market as shown in the diagram
below
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MEANING OF MONEY MARKET:-
A money market is a market for borrowing and lending of
short-term funds. It deals in funds and financial instruments
having a maturity period of one day to one year. It is a
mechanism through which short-term funds are loaned or
borrowed and through which a large part of financial
transactions of a particular country or of the world are
cleared.
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It is different from stock market. It is not a single market
but a collection of markets for several instruments like call
money market, Commercial bill market etc. The Reserve Bank
of India is the most important constituent of Indian money
market. Thus RBI describes money market as “the centre for
dealings, mainly of a short-term character, in monetary assets,
it meets the short-term requirements of borrowers and
provides liquidity or cash to lenders”.
PLAYERS OF MONEY MARKET :-
In money market transactions of large amount and high
volume take place. It is dominated by small number of large
players. In money market the players are :-Government, RBI,
DFHI (Discount and finance House of India) Banks, Mutual
Funds, Corporate Investors, Provident Funds, PSUs (Public
Sector Undertakings), NBFCs (Non-Banking Finance
Companies) etc.
The role and level of participation by each type of player
differs from that of others.
FUNCTIONS OF MONEY MARKET :-
1) It caters to the short-term financial needs of the economy.
2) It helps the RBI in effective implementation of monetary policy.
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3) It provides mechanism to achieve equilibrium between demand
and supply of short-term
funds.
4) It helps in allocation of short term funds through inter-bank
transactions and money market
Instruments.
5) It also provides funds in non-inflationary way to
the government to meet its deficits.
6) It facilitates economic development.
STRUCTURE OF INDIAN MONEY MARKET
I. Organised Sector Of Money Market :-
Organised Money Market is not a single market, it consist
of number of markets. The most important feature of money
market instrument is that it is liquid. It is characterised by
high degree of safety of principal. Following are the
instruments which are traded in money market
1) Call And Notice Money Market :-
The market for extremely short-period is referred as call
money market. Under call money market, funds are transacted
on overnight basis. The participants are mostly banks.
Therefore it is also called Inter-Bank Money Market. Under
notice money market funds are transacted for 2 days and 14
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days period. The lender issues a notice to the borrower 2 to 3
days before the funds are to be paid. On receipt of notice,
borrower have to repay the funds.
In this market the rate at which funds are borrowed and
lent is called the call money rate. The call money rate is
determined by demand and supply of short term funds. In call
money market the main participants are commercial banks, co-
operative banks and primary dealers. They participate as
borrowers and lenders. Discount and Finance House of India
(DFHI), Non-banking financial institutions like LIC, GIC, UTI,
NABARD etc. are allowed to participate in call money market
as lenders.
Call money markets are located in big commercial centres
like Mumbai, Kolkata, Chennai, Delhi etc. Call money market
is the indicator of liquidity position of money market. RBI
intervenes in call money market as there is close link between
the call money market and other segments of money market.
2) Treasury Bill Market (T - Bills) :-
This market deals in Treasury Bills of short term duration
issued by RBI on behalf of Government of India. At present
three types of treasury bills are issued through auctions,
namely 91 day, 182 day and364day treasury bills. State
government does not issue any treasury bills. Interest is
determined by market forces. Treasury bills are available for a
minimum amount of Rs. 25,000 and in multiples of Rs. 25,000.
Periodic auctions are held for their Issue.
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T-bills are highly liquid, readily available; there is absence
of risk of default. In India T-bills have narrow market and are
undeveloped. Commercial Banks, Primary Dealers, Mutual
Funds, Corporates, Financial Institutions, Provident or Pension
Funds and Insurance Companies can participate in T-bills
market.
3) Commercial Bills :-
Commercial bills are short term, negotiable and self
liquidating money market instruments with low risk. A bill of
exchange is drawn by a seller on the buyer to make payment
within a certain period of time. Generally, the maturity period
is of three months. Commercial bill can be resold a number of
times during the usance period of bill. The commercial bills
are purchased and discounted by commercial banks and are
rediscounted by financial institutions like EXIM banks, SIDBI,
IDBI etc.
In India, the commercial bill market is very much
underdeveloped. RBI is trying to develop the bill market in our
country. RBI have introduced an innovative instrument known
as “Derivative .Usance Promissory Notes, with a view to
eliminate movement of papers and to facilitate multiple
rediscounting.
4) Certificate Of Deposits (CDs) :-
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CDs are issued by Commercial banks and development
financial institutions. CDs are unsecured, negotiable
promissory notes issued at a discount to the face value. The
scheme of CDs was introduced in 1989 by RBI. The main
purpose was to enable the commercial banks to raise funds
from market. At present, the maturity period of CDs ranges
from 3 months to 1 year. They are issued in multiples of Rs. 25
lakh subject to a minimum size of Rs. 1 crore. CDs can be
issued at discount to face value. They are freely transferable
but only after the lock-in-period of 45 days after the date of
issue.
In India the size of CDs market is quite small.
In 1992, RBI allowed four financial institutions ICICI, IDBI,
IFCI and IRBI to issue CDs with a maturity period of. one year
to three years.
5) Commercial Papers (CP) :-
Commercial Papers wereintroduced in January 1990. The
Commercial Papers can be issued by listed company which
have working capital of not less than Rs. 5 crores. They could
be issued in multiple of Rs. 25 lakhs. The minimum size of
issue being Rs. 1 crore. At present the maturity period of CPs
ranges between 7 days to 1 year. CPs are issued at a discount
to its face value and redeemed at its face value.
6) Money Market Mutual Funds (MMMFs) :-
A Scheme of MMMFs was introduced by RBI in 1992. The
goal was to provide an additional short-term avenue to
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individual investors. In November 1995 RBI made the scheme
more flexible. The existing guidelines allow banks, public
financial institutions and also private sector institutions to set
up MMMFs. The ceiling of Rs. 50 crores on the size of MMMFs
stipulated earlier, has been withdrawn. MMMFs are allowed to
issue units to corporate enterprises and others on par with
other mutual funds. Resources mobilised by MMMFs are now
required to be invested in call money, CD, CPs, Commercial
Bills arising out of genuine trade transactions, treasury bills
and government dated securities having an unexpired maturity
upto one year. Since March 7, 2000 MMMFs have been
brought under the purview of SEBI regulations. At present
there are 3 MMMFs in operation.
7) The Repo Market ;-
Repo was introduced in December 1992. Repo is a
repurchase agreement. It means selling a security under an
agreement to repurchase it at a predetermined date and rate.
Repo transactions are affected between banks and financial
institutions and among bank themselves, RBI also undertake
Repo.
In November 1996, RBI introduced Reverse Repo. It means
buying a security on a spot basis with a commitment to resell
on a forward basis. Reverse Repo transactions are affected
with scheduled commercial banks and primary dealers.
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In March 2003, to broaden the Repo market, RBI allowed
NBFCs, Mutual Funds, Housing Finance and Companies and
Insurance Companies to undertake REPO transactions.
8) Discount And Finance House Of India (DFHI)
In 1988, DFHI was set up by RBI. It is jointly owned by RBI,
public sector banks and all India financial institutions which
have contributed to its paid up capital.It is playing an
important role in developing an active secondary market in
Money Market Instruments. In February 1996, it was
accredited as a Primary Dealer (PD). The DFHI deals in
treasury bills, commercial bills, CDs, CPs, short term deposits,
call money market and government securities.
Unorganised Sector Of Money Market :-
The economy on one hand performs through organised
sector and on other hand in rural areas there is continuance of
unorganised, informal and indigenous sector. The unorganised
money market mostly finances short-term financial needs of
farmers and small businessmen. The main constituents of
unorganised money market are:-
1) Indigenous Bankers (IBs)
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Indigenous bankers are individuals or private firms who
receive deposits and give loans and thereby operate as banks.
IBs accept deposits as well as lend money. They mostly
operate in urban areas, especially in western and southern
regions of the country. The volume of their credit operations is
however not known. Further their lending operations are
completely unsupervised and unregulated. Over the years, the
significance of IBs has declined due to growing organised
banking sector.
2) Money Lenders (MLs)
They are those whose primary business is money lending.
Money lending in India is very popular both in urban and rural
areas. Interest rates are generally high. Large amount of loans
are given for unproductive purposes. The operations of money
lenders are prompt, informal and flexible. The borrowers are
mostly poor farmers, artisans, petty traders and manual
workers. Over the years the role of money lenders has
declined due to the growing importance of organised banking
sector.
3) Non - Banking Financial Companies (NBFCs)
They consist of :-
1. Chit Funds
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Chit funds are savings institutions. It has regular members
who make periodic subscriptions to the fund. The beneficiary
may be selected by drawing of lots. Chit fund is more popular
in Kerala and Tamilnadu. Rbi has no control over the lending
activities of chit funds.
2. Nidhis :-
Nidhis operate as a kind of mutual benefit for their
members only. The loans are given to members at a reasonable
rate of interest. Nidhis operate particularly in South India.
3. Loan Or Finance Companies
Loan companies are found in all parts of the country. Their
total capital consists of borrowings, deposits and owned funds.
They give loans to retailers, wholesalers, artisans and self
employed persons. They offer a high rate of interest along with
other incentives to attract deposits. They charge high rate of
interest varying from 36% to 48% p.a.
4. Finance Brokers
They are found in all major urban markets specially in
cloth, grain and commodity markets. They act as middlemen
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between lenders and borrowers. They charge commission for
their services.
FEATURES AND DEFICIENCIES OF INDIAN
MONEY MARKET
20
Indian money market is relatively underdeveloped when
compared with advanced markets like New York and London
Money Markets. Its' main features / defects are as follows
1. Dichotomy:-
A major feature of Indian Money Market is the existence of
dichotomy i.e. existence of two markets: -Organised Money
Market and Unorganised Money Market. Organised Sector
consist of RBI, Commercial Banks, Financial Institutions etc.
The Unorganised Sector consist of IBs, MLs, Chit Funds,
Nidhis etc. It is difficult for RBI to integrate the Organised and
Unorganised Money Markets. Several segments are loosely
connected with each other. Thus there is dichotomy in Indian
Money Market.
2. Lack Of Co-ordination And Integration :-
It is difficult for RBI to integrate the organised and
unorganised sector of money market. RBT is fully effective in
organised sector but unorganised market is out of RBI’s
control. Thus there is lack of integration between various sub-
markets as well as various institutions and agencies. There is
less co-ordination between co-operative and commercial banks
as well as State and Foreign banks. The indigenous bankers
have their own ways of doing business.
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3. Diversity In Interest Rates :-
There are different rates of interest existing in different
segments of money market. In rural unorganised sectors the
rate of interest are high and they differ with the purpose and
borrower. There are differences in the interest rates within the
organised sector also. Although wide differences have been
narrowed down, yet the existing differences do hamper the
efficiency of money market.
4. Seasonality Of Money Market :-
Indian agriculture is busy during the period November to
June resulting in heavy demand for funds. During this period
money market suffers from Monetary Shortage resulting in
high rate of interest. During slack season rate of interest falls
&s there are plenty offunds available. RBI has taken steps to
reduce the seasonal fluctuations, but still the variations exist.
5. Shortage Of Funds :-
In Indian Money Market demand for funds exceeds the
supply. There is shortage of funds in Indian Money Market an
account of various factors like inadequate banking facilities,
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low savings, lack of banking habits, existence of parallel
economy etc. There is also vast amount of black money in the
country which have caused shortage of funds. However, in
recent years development of banking has improved the
mobilisation of funds to some extent.
6. Absence Of Organised Bill Market :-
A bill market refers to a mechanism where bills of
exchange are purchased and discounted by banks in India. A
bill market provides short term funds to businessmen. The bill
market in India is not popular due to overdependence of cash
transactions, high discounting rates, problem of dishonour of
bills etc.
7. Inadequate Banking Facilities :-
Though the commercial banks, have been opened on a
large scale, yet banking facilities are inadequate in our
country. The rural areas are not covered due to poverty. Their
savings are very small and mobilisation of small savings is
difficult. The involvement of banking system in different scams
and the failure of RBI to prevent these abuses of banking
system shows that Indian banking system is not yet a well
organised sector.
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CAPITAL MARKET
Capital market is a market where buyers and sellers engage in
trade of financial securities like bonds, stocks, etc. The
buying/selling is undertaken by participants such as
individuals and institutions.
Capital markets help channelise surplus funds from savers to
institutions which then invest them into productive use.
Generally, this market trades mostly in long-term securities.
Capital market consists of primary markets and secondary
markets. Primary markets deal with trade of new issues of
stocks and other securities, whereas secondary market deals
with the exchange of existing or previously-issued securities.
Another important division in the capital market is made on
the basis of the nature of security traded, i.e. stock market and
bond market.
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Capital market in any country consists of equity and the debt
markets. Within the debt market there are govt securities and
the corporate bond market. For developing countries, a liquid
corporate bond market can play a critical role in supporting
economic development as
It supplements the banking system to meet corporate sector’
requirements for long-term capital investment and asset
creation.
It provides a stable source of finance when the equity market
is volatile.
A well structures corporate bond market can have implications
on monetary policy of a country as bond markets can provide
relevant information about risks to price stability
Despite rapidly transforming financial sector and a fast
growing economy India's corporate bond market remains
underdeveloped. It is still dominated by the plain vanilla bank
loans and govt securities. The dominance of equities and
banking system can be gauged from the fact that since 1996,
India's stock market capitalisation as a percentage of GDP has
increased to 108% from 32.1%, while the banking sector's
ratio to GDP has risen from 46.3% to 78.2% in 2008. In
contrast, the bond markets grew to a modest 43.4 percent of
GDP from 21.3 percent. Of this corporate bonds account for
around 3.2% of GDP and government bond market accounts
for 38.3% of GDP.
India’s government bond market stands ahead of most East-
Asian emerging markets but most of it is used as a source of
25
financing the deficit. The size of the Indian corporate debt
market is very small in comparison with not only developed
markets, but also some of the emerging market economies in
Asia such as Malaysia, Thailand and China
Characteristics and features
Innovation and a Plethora of options:
Over time great innovations have been witnessed in the
corporate bond issuances, like floating rate instruments,
convertible bonds, callable (put-able) bonds, zero coupon
bonds and step-redemption bonds. This has brought a variety
that caters to a wider customer base and helps them maintain
strike a risk-return balance.
Preference for private placement:
26
In India, issuers tend to prefer Private Placement over public
issue as against USA where majority of corporate bonds are
publically issued.
In India while private placement grew 6.23 times to Rs.
62461.80 crores in 2000-01 since 1995-96, the corresponding
increase in public issues of debt has been merely 40.95
percent from the 1995-96 levels.This leads to a crunch in
market liquidity. A number of factors are responsible for such
preference. First, the companies can avoid the lengthy
issuance procedure for public issues. Second is the low cost of
private placement. Third, the amounts that can be raised
through private placements are typically larger. Fourth, the
structure of debt can be negotiated according to the needs of
the issuer. Finally, a corporate can expect to raise debt from
the market at finer rates than the PLR of banks and financial
institutions only with an AAA rated paper. This limits the
number of entities that would find it profitable to enter the
market directly. Even though the listing of privately placed
bonds has been made mandatory, a proper screening
mechanism is missing to take care of the quality and
transparency issues of private placement deals.
Dominance of financial institutions:
The public issues market has over the years been dominated
by financial institutions. The issuers who are the main
participants in other corporate bond markets (that is, private
sector, non-financial), represent only a small proportion of the
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corporate debt issues in the Indian market. Most of the
privately placed bonds (which are about 90% of the total issue
of corporate bonds) are issued by the financial and the public
sector.
Inefficient secondary market:
Further the secondary market for non-sovereign debt,
especially corporate paper still remains plagued by
inefficiencies. The primary problem is the total lack of market
making in these securities, which consequently leads to poor
liquidity. The biggest investors in this segment of the market,
namely LIC, UTI prefer to hold these instruments to maturity,
thereby holding the supply of paper in the market.
The listed corporate bonds also trade on the Wholesale Debt
Segment of NSE. But the percentage of the bonds trading on
the exchange is small. Number of trades in debt compared to
equity on average for August 2007 is just 0.003%.
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DEVELOPMENT OF INDIAN FINANCIAL
MARKETS
As all the Financial Markets in India together form the Indian
Financial Markets, all the Financial Markets of Asia together
form the Asian Financial Markets; likewise all the Financial
Markets of all the countries of the world together form the
Global Financial Markets. Financial Markets deal with trading
(buying and selling) of financial securities (stocks and bonds),
commodities (valuable metals or food grains), and other
exchangeable and valuable items at minimum transaction
costs and market efficient prices. Financial Markets can be
domestic or international. The Global Financial Markets work
as a significant instrument for improved liquidity.
Financial Markets can be categorized into six types:
Capital Markets: Stock markets and Bond markets
Commodity Markets
Money Markets
Derivatives Markets: Futures Markets
Insurance Markets
Foreign Exchange Markets
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In recognition of the critical role of the financial markets, the
initiation of the structural reforms in the early 1990s in India
also encompassed a process of phased and coordinated
deregulation and
liberalisation of financial markets. Financial markets in India
in the period before the early 1990s were marked by
administered interest rates, quantitative ceilings, statutory
pre-emptions, captive market for government securities,
excessive reliance on central bank financing, pegged exchange
rate, and current and capital account restrictions. As a result
of various reforms, the financial markets have transited to a
regime characterised by market-determined interest and
exchange rates, price-based instruments of monetary policy,
current account convertibility, phased capital account
liberalisation and an auction-based system in the government
securities market.
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Money market
The Reserve Bank has accorded prime attention to the
development of the money market as it is the key link in the
transmission mechanism of monetary policy to financial
markets and finally, to the real economy (Annex I). In the past,
development of the money market was hindered by a system of
administered interest rates and lack of proper accounting and
risk management systems. With the initiation of reforms and
the transition to indirect, market-based instruments of
monetary policy in the 1990s, the Reserve Bank made
conscious efforts to develop an efficient, stable and liquid
money market by creating a favourable policy environment
31
through appropriate institutional changes, instruments,
technologies and market practices. Accordingly, the call
money market was developed into primarily an inter-bank
market, while encouraging other market participants to
migrate towards collateralised segments of the market,
thereby increasing overall market integrity.
In line with the objective of widening and deepening of the
money market and imparting greater liquidity to the market
for facilitating efficient price discovery, new instruments, such
as collateralised lending and borrowing obligations (CBLO),
have been introduced. Money market instruments such as
market repo and CBLO have provided avenues for non-banks
to manage their short-term liquidity mismatches and
facilitated the transformation of the call money market into a
pure inter-bank market.
Furthermore, issuance norms and maturity profiles of other
money market instruments such as commercial paper (CP) and
certificate of deposits (CDs) have been modified over time to
encourage wider participation while strengthening the
transmission of policy signals across the various market
segments. The abolition of ad hoc Treasury Bills and
introduction of regular auctions of Treasury Bills paved the
way for the emergence of a risk free rate, which has become a
benchmark for pricing the other money market instruments.
Concomitantly, with the increased market orientation of
monetary policy along with greater global integration of
domestic markets, the Reserve Bank’s emphasis has been on
setting prudential limits on borrowing and lending in the call
32
money market, encouraging migration towards the
collateralised segments and developing derivative instruments
for hedging market risks. This has been complemented by the
institutionalisation of the Clearing Corporation of India
Limited (CCIL) as a central counterparty. The upgradation of
payment system technologies has also enabled market
participants to improve their asset liability management. All
these measures have
After the adoption of the full-fledged LAF in June 2000, call
rates, in general, witnessed a declining trend up to 2004-05.
The institution of LAF has also enabled the Reserve Bank to
manage liquidity more efficiently and reduce volatility in call
rates. Volatility, measured by the coefficient of variation (CV)
of call rates, has declined significantly in the current decade as
compared with that in the 1990s, with some increase in 2006-
07, as already noted. BIS Review 51/2007. The reduction in
bid-ask spread in the overnight rates indicates that the Indian
money market has become reasonably deep, vibrant and
liquid. During April 2004−February 2007, the bid-ask spread
has varied within a range of -0.37 to +1.32 basis points with
an average of 16 basis points and standard deviation (SD) of
11 basis points (coefficient of variation being 68.8). Despite a
higher degree of variation, however, the bid-ask spread
remained within the 2-SD band around the average during
most of the period.
Interim Liquidity Adjustment Facility (ILAF) in April 1999,
under which liquidity injection was done at the Bank Rate and
liquidity absorption was through fixed reverse repo rate. The
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ILAF gradually transited into a full-fledged liquidity
adjustment facility (LAF) with periodic modifications based on
experience and development of financial markets and the
payment system. The LAF was operated through overnight
fixed rate repo and reverse repo from November 2004, which
provided an informal corridor for the call money rate. Though
the LAF helped to develop interest rate as an instrument of
monetary transmission, two major weaknesses came to the
fore. First was the lack of a single policy rate, as the operating
policy rate alternated between repo during deficit liquidity
situation and reverse repo rate during surplus liquidity
condition. Second was the lack of a firm corridor, as the
effective overnight interest rates dipped (rose) below (above)
the reverse repo (repo) rate in extreme surplus (deficit)
conditions. Recognising these shortcomings, a new operating
procedure was put in place in May 2011.
These are the key features of the new operating procedure.
First, the weighted average overnight call money rate was
explicitly recognised as the operating target of monetary
policy. Second, the repo rate was made the only one
independently varying policy rate. Third, a new Marginal
Standing Facility (MSF) was instituted under which scheduled
commercial banks (SCBs) could borrow overnight at 100 basis
points above the repo rate up to one per cent of their
respective net demand and time liabilities (NDTL). This limit
was subsequently raised to two per cent of NDTL and in
addition, SCBs were allowed to borrow funds under MSF on
overnight basis against their excess SLR holdings as well.
34
Moreover, the Bank Rate being the discount rate was aligned
to the MSF rate. Fourth, the revised corridor was defined with
a fixed width of 200 basis points. The repo rate was placed in
the middle of the corridor, with the reverse repo rate at 100
basis points below it and the MSF rate as well as the Bank
Rate at 100 basis points above it. Thus, under the new
operating procedure, all the three other rates announced by
the Reserve Bank, i.e., reverse repo rate, MSF rate and the
Bank Rate, are linked to the single policy repo rate. The new
operating procedure was expected to improve the
implementation and transmission of monetary policy for the
following reasons. First, explicit announcement of an operating
target makes market participants clear about the desired
policy impact. Second, a single policy rate removes the
confusion arising out of policy rate alternating between the
repo and the reverse repo rates, and makes signalling of
monetary policy stance more accurate. Third, MSF provides a
safety valve against unanticipated liquidity shocks. Fourth, a
fixed interest rate corridor set by MSF rate and reverse repo
rate, reduces uncertainty and communication difficulties and
helps keep the overnight average call money rate close to the
repo rate.
Since May 2011, the liquidity conditions can be broadly
divided into three distinct phases.
After generally remaining within the Reserve Bank’s comfort
zone during the first phase during May–October 2011, the
35
liquidity deficit crossed the one per cent of NDTL level during
November 2011 to June 2012. This large liquidity deficit was
mainly caused by forex intervention and increased divergence
between credit and deposit growth. The deficit conditions were
further aggravated by frictional factors like the build-up of
government cash balances with the Reserve Bank that
persisted longer than anticipated and the increase in currency
in circulation. Accordingly, the Reserve Bank had to actively
manage liquidity through injection of liquidity by way of open
market operations (OMOs) and cut in cash reserve ratio (CRR)
of banks. This was supported by decline in currency in
circulation and a reduction in government cash balances with
the Reserve Bank. As a result, there was a significant easing of
liquidity conditions since July 2012 with the extent of the
deficit broadly returning to the Reserve Bank’s comfort level of
one per cent of NDTL.
Second, the repo rate and weighted call rate are far more
closely aligned under the new operating procedure than
earlier; implying improved transmission of monetary policy in
terms of movement in call money market interest rate
Third, the call money rate in turn is observed to be better
aligned with other money market interest rates after the
implementation of new operating procedure than before
36
As a result of various reform measures, the money market in
India has undergone significant transformation in terms of
volume, number of instruments and participants and
development of risk management practices. In line with the
shifts in policy emphasis, various segments of the money
market have acquired greater depth and liquidity. The price
discovery process has also improved. The call money market
has been transformed into a pure inter-bank market, while
other money market instruments such as market repo and
CBLO have developed to provide avenues to non-banks for
managing their short-term liquidity mismatches. The money
market has also become more efficient as is reflected in the
narrowing of the bid-ask spread in overnight rates. The
abolition of ad hoc Treasury Bills and introduction of Treasury
Bills auction have led to the emergence of a risk free rate,
which acts as a benchmark for the pricing of other money
market instruments.
In the development of various constituents of the money
market, the most significant aspect was the growth of the
collateralised market vis-à-vis the uncollateralised market.
Over the last decade, while the daily turnover in the call
money market either stagnated or declined, that of the
collateralised segment, market repo plus CBLO, increased
manifold. Since 2007–08, both the CP and CD volumes have
also increased very significantly. Furthermore, issuance of 91-
treasury bills has also increased sharply. The overall money
market now is much larger relative to GDP than a decade ago.
37
Major Developments in Money Market since the
1990s
1. Abolition of ad hoc treasury bills in April 1997
2. Full fledged LAF in June 2000.
3. CBLO for corporate and non-bank participants introduced in
2003
4. Minimum maturity of CPs shortened by October 2004
5. Prudential limits on exposure of banks and PDs to call/notice
market in April 2005
6. Maturity of CDs gradually shortened by April 2005
7. Transformation of call money market into a pure inter-bank
market by August 2005
8. Widening of collateral base by making state government
securities (SDLs) eligible for LAF operations since April 2007
9. Operationalisation of a screen-based negotiated system
(NDS-CALL) for all dealings in the call/notice and the term
money markets in September 2006. The reporting of all such
38
transactions made compulsory through NDS-CALL in
November 2012.
10. Repo in corporate bonds allowed in March 2010.
11. Operationalisation of a reporting platform for secondary
market transactions in CPs and CDs in July 2010.
Government securities and Capital market
The Reserve Bank has actively pursued the development of the
government securities market since the early 1990s for a
variety of reasons (Annex II). First, with the Reserve Bank
acting as the debt manager to the Government, a well-
developed and liquid government securities market is essential
to ensure the smooth passage of Government’s market
borrowings to finance its deficit. Second, the development of
the government securities market is also necessary to
39
facilitate the emergence of a risk free rupee yield curve to
serve as a benchmark for pricing other debt instruments.
Finally, the government securities market plays a key role in
the effective transmission of monetary policy impulses in a
deregulated environment.
In order to foster the development of the government
securities market, it was imperative to migrate from a regime
of administered interest rates to a market-oriented system.
Accordingly, in the early 1990s, the Reserve Bank initiated
several measures. First, it introduced the auction system for
issuance of government securities. While initially only yield-
based multiple price auctions were conducted, uniform price-
based auctions were also employed during uncertain market
conditions and while issuing new instruments. Second, as the
captive investor base was viewed as constraining the
development of the market, the statutory prescription for
banks’ investments in government and other approved
securities was scaled down from the peak level in February
1992 to the statutory minimum level of 25 per cent by April
1997. As a result, the focus shifted towards the widening of
the investor base. A network of intermediaries in the form of
primary dealers was developed for this purpose. Retail
participation has been promoted in the primary market
(through a system of non-competitive bidding in the auctions)
as well as in the secondary market (by allowing retail trading
in stock exchanges). Simultaneously, the Reserve Bank also
introduced new instruments with innovative features to cater
to perse market preferences, although the experience in this
40
regard has not been encouraging. Third, with the
discontinuance of the process of unconstrained recourse by
the Government to the Reserve Bank through automatic
monetisation of deficit and conversion of non-marketable
securities to marketable securities, the Reserve Bank gained
more operational freedom. Fourth, in an effort to increase
liquidity, the Reserve Bank has, since the late 1990s, pursued
a strategy of passive consolidation of debt by raising
progressively higher share of market borrowings through re-
issuances. This has resulted in critical mass in key maturities,
and is facilitating the emergence of market benchmarks. Fifth,
improvement in overall macroeconomic and monetary
management that has resulted in lower inflation, lower
inflation expectations, and price stability has enabled the
elongation of the yield curve to maturities upto 30 years.
Finally, the Reserve Bank has also undertaken measures to
strengthen the technological infrastructure for trading and
settlement. A screen-based anonymous trading and reporting
platform has been introduced in the form of NDS-OM, which
enables electronic bidding in primary auctions and
disseminates trading information with a minimum time lag.
Furthermore, with the setting up of CCIL, an efficient
settlement mechanism has also been institutionalised, which
has imparted considerable stability to the government
securities market. With the withdrawal from the primary
market from April 1, 2006 in accordance with the FRBM
(Fiscal Responsibility and Budget Management Act)
stipulations, the Reserve Bank introduced various institutional
41
changes in the form of revamping and widening of the
coverage of the Primary Dealer (PD) system to meet the
emerging challenges. Other measures taken to deepen the
market and promote liquidity include introduction of “when
issued” trading, “short selling” of government securities and
active consolidation of government debt through buy backs.
Various policy initiatives taken by the Reserve Bank over the
years to widen and deepen the government securities market
in terms of instruments as well as participants have enabled
successful completion of market borrowing programmes of the
Government under varied circumstances. In particular, a
smooth transition to the post-FRBM phase has been ensured.
The system of automatic monetisation through ad hoc Treasury
Bills was replaced with Ways and Means Advances in 1997,
because of which the Government resorted to increased
market borrowings to finance its deficit. Accordingly, the size
of the government securities market has increased
significantly over the years.
One of the key issues in the development of the market for a
better price discovery is liquidity of securities. It was observed
that, of the universe of a large number of outstanding
securities, only a few securities are actively traded in the
secondary market. The Reserve Bank has been following a
policy of passive consolidation through re-issuance of existing
securities with a view to enhancing liquidity in the secondary
segment of the government securities market. The share of re-
issuances in the total securities issued was 97.7 per cent
during 2005-06. Active consolidation of government securities
42
has also been attempted under the debt buyback scheme
introduced in July 2003, which is expected to be more actively
pursued now. As a result of the developmental measures
undertaken, the volume of transactions has increased manifold
over the past decade.
To keep the markets liquid and active even during the bearish
times, and more importantly, to give the participants a tool to
better manage their interest rate risk, intra-day short selling in
government securities was permitted among eligible
participants, viz., scheduled commercial banks (SCBs) and
primary dealers (PDs) in February 2006. Subsequently, the
short positions were permitted to be carried beyond intra-day
for a period of five trading days, effective January 31, 2007. To
further improve the liquidity in the government securities
market, guidelines for trading in when issued “WI” market
were issued by the Reserve Bank in May, 2006. Trading in
“WI” segment, which commenced in August 2006, was initially
permitted in reissued securities. It takes place from the date of
announcement of auction till one day prior to allotment of
auctioned securities. The revised guidelines extending “WI”
trading to new issuances of Central Government securities on
a selective basis were issued in November 2006.
In developed economies, bond markets tend to be bigger in
size than the equity market. A well-developed capital market
consists of both the equity market and the bond market. In
India, equity
43
markets are more popular and far developed than the debt
markets. The Indian debt market is composed of government
bonds and corporate bonds. However, the government bonds
are
predominant (constituting 92% of the volume) and they form
the liquid component of the bond market. An active corporate
bond market is essential for India Inc. The corporate bond
market is still at the nascent stage. Although we have the
largest number of listed companies on the capital market, the
share of corporate bonds in GDP is merely 3.3%, compared to
10.6% in China 41.7% in Japan, 49.3% in Korea among others.
Further, close to 80% of corporate bonds comprises privately
placed debt of public financial institutions. The secondary
market, therefore, has not developed commensurately. Though
there has been an increase in the volumes, the trading activity
is still negligible in the secondary markets. If we look at the
ratio of secondary market volume to primary market volume,
the ratio is below 1 indicating very low trading activity in the
secondary market.
Over the past few years, some significant reforms have been
undertaken to develop the bond market and particularly the
corporate bond market. The listing requirements for corporate
debt have been simplified. Issuers now need to obtain rating
from only one credit rating agency unlike earlier. Further, they
are permitted to structure debt instruments, and are allowed
to do a public issue of below investment grade bonds. One
more welcome change was, the exemption of TDS on corporate
44
debt instruments issued in demat form and on recognized
stock exchanges.Data released by SEBI indicates that
companies raised Rs 2.12 lakh crore through corporate bonds
in 2009-10, up 22.71% from Rs 1.73 lakh crore in 2008-09.
India has witnessed a boost in trading in the recent past. Total
trading in corporate bonds more than doubled from an average
of Rs. 1,550 crore in October 2009 to Rs 3,356 crore in March
2010, as reported by the National Stock Exchange and the
Bombay Stock Exchange
45
Foreign exchange market
Happenings in the foreign exchange market (henceforth forex
market) form the essence of the international finance. The
foreign exchange market is not limited by any geographical
boundaries. It does not have any regular market timings,
operates 24 hours 7 days week 365 days a year, characterized
by ever-growing trading volume, exhibits great heterogeneity
among market participants with big institutional investor
46
buying and selling million of dollars at one go to individuals
buying or selling less than 100 dollar.
Traditionally Indian forex market has been a highly regulated
one. Till about 1992-93, government exercised absolute control
on the exchange rate, export-import policy, FDI ( Foreign
Direct Investment) policy. The Foreign Exchange Regulation
Act(FERA)enacted in 1973, strictly controlled any activities in
any remote way related to foreign exchange. FERA was
introduced during 1973, when foreign exchange was a scarce
commodity. Post independence, union government’s socialistic
way of managing business and the license raj made the Indian
companies noncompetitive in the international market, leading
to decline in export. Simultaneously India import bill because
of capital goods, crude oil &petrol products increased the
forex outgo leading to sever scarcity of foreign exchange.
FERA was enacted so that all forex earnings by companies and
residents have to reported and surrendered (immediately after
receiving) to RBI (Reserve Bank of India) at a rate which was
mandated by RBI. FERA was given the real power by making
“any violation of FERA was a criminal offense liable to
imprisonment”. It a professed a policy of “a person is guilty of
forex violations unless he proves that he has not violated any
norms of FERA”. To sum up, FERA prescribed a policy –
“nothing (forex transactions) is permitted unless specifically
mentioned in the act”. Post liberalization, the Government of
India, felt the necessity to liberalize the foreign exchange
policy. Hence, Foreign Exchange Management Act (FEMA)
47
2000 was introduced. FEMA expanded the list of activities in
which a person/company can undertake forex transactions.
Through FEMA, government liberalized the export-import
policy, limits of FDI (Foreign Direct Investment) & FII (Foreign
Institutional Investors) investments and repatriations, cross-
border M&A and fund raising activities. Prior to 1992,
Government of India strictly controlled the exchange rate.
After 1992, Government of India slowly started relaxing the
control and exchange rate became more and more market
determined. Foreign Exchange Dealer’s association of India
(FEDAI), set up in 1958, helped the government of India in
framing rules and regulation to conduct forex exchange
trading and developing forex market In India.
The Indian foreign exchange market has witnessed far
reaching changes since the early 1990s following the phased
transition from a pegged exchange rate regime to a market
determined exchange rate regime in 1993 and the subsequent
adoption of current account convertibility in 1994 and
substantial liberalisation of capital account transactions
(Annex III). Market participants have also been provided with
greater flexibility to undertake foreign exchange operations
and manage their risks. This has been facilitated through
simplification of procedures and availability of several new
instruments.
There has also been significant improvement in market
infrastructure in terms of trading platform and settlement
mechanisms. As a result of various reform measures, liquidity
48
in the foreign exchange market increased by more than five
times between 1997-98 and 2006-07.
In relative terms, turnover in the foreign exchange market was
6.6 times the size of India's balance of payments during 2005-
06 as compared with 5.4 times in 2000-01. With the deepening
of the foreign exchange market and increased turnover,
income of commercial banks through such transactions
increased significantly. Profit from foreign exchange
transactions accounted for more than 20 per cent of total
profit of scheduled commercial banks in the last 2 years.
Efficiency in the foreign exchange market has also improved
as reflected in the decline in bid-ask spreads. The bid-ask
spread of Rupee/US$ market has almost converged with that
of other major currencies in the international market. On some
occasions, in fact, the bid-ask spread of Rupee/US$ market
was lower than that of some major currencies
The EMEs’ experience, in general, in the 1990s has
highlighted the growing importance of capital flows in
determining the exchange rate movements as against trade
flows and economic growth in the 1980s and before. In the
case of most developing countries, which specialise in labour-
intensive and low and intermediate technology products, profit
margins in the highly competitive markets are very thin and
vulnerable to pricing power by large retail chains.
Consequently, exchange rate volatility has significant
employment, output and distributional consequences. Foreign
49
exchange market conditions have remained orderly in the post-
1993 period, barring occasional periods of volatility. The
Indian approach to exchange rate management has been to
avoid excessive volatility. Intervention by the Reserve Bank in
the foreign exchange market, however, has been relatively
small compared to total turnover in the market.
As a result of various measures, the Indian foreign exchange
market has evolved into a relatively mature market over a
period of time with increase in depth and liquidity. The
turnover in the market has increased over the years. With the
gradual opening up of the capital account, the forward premia
are getting increasingly aligned with the interest rate
differential. There is also evidence of enhanced efficiency in
the foreign exchange market as is reflected in low bid-ask
spreads. The gradual development of the foreign exchange
market has helped in smooth implementation of current
account convertibility and the phased and gradual opening of
the capital account. The availability of derivatives is also
helping domestic entities and foreign investors in their risk
management. This approach has helped India in being able to
maintain financial stability right through the period of
economic reforms and liberalisation leading to continuing
opening of the economy, despite a great degree of volatility in
international markets, particularly during the 1990s.
1947 to1977: During 1947 to 1971, India exchange rate
system followed the par value system. RBI fixed rupee’s
50
external par value at 4.15 grains of fine gold. 15.432grains of
gold is equivalent to 1 gram of gold. RBI allowed the par value
to fluctuate within the permitted margin of ±1 percent. With
the breakdown of the Bretton Woods System in 1971 and the
floatation of major currencies, the rupee was linked with
Pound-Sterling. Since Pound-Sterling was fixed in terms of US
dollar under the Smithsonian Agreement of 1971, the rupee
also remained stable against dollar.
1978-1992: During this period, exchange rate of the rupee was
officially determined in terms of a weighted basket of
currencies of India’s major trading partners. During this
period, RBI set the rate by daily announcing the buying and
selling rates to authorized dealers. In other words, RBI
instructed authorized dealers to buy and sell foreign currency
at the rate given by the RBI on daily basis. Hence exchange
rate fluctuated but within a certain range. RBI managed the
exchange rate in such a manner so that it primarily facilitates
imports to India. As mentioned in Section 5.1, the FERA Act
was part of the exchange rate regulation practices followed by
RBI. Joint Initiative IITs and IISc – Funded by MHRD - 4 -
NPTEL International Finance Vinod Gupta School of
Managment , IIT. Kharagpur India’s perennial trade deficit
widened during this period. By the beginning of 1991, Indian
foreign exchange reserve had dwindled down to such a level
that it could barely be sufficient for three-week’s worth of
imports. During June 1991, India airlifted 67 tonnes of gold,
pledged these with Union Bank of Switzerland and Bank of
England, and raised US$ 605 millions to shore up its
51
precarious forex reserve. At the height of the crisis, between
2nd and 4th June 1991, rupee was officially devalued by 19.5%
from 20.5 to 24.5 to 1 US$. This crisis paved the path to the
famed “liberalization program” of government of India to make
rules and regulations pertaining to foreign trade, investment,
public finance and exchange rate encompassing a broad gamut
of economic activities more market oriented.
1992 onwards: 1992 marked a watershed in India’s economic
condition. During this period, it was felt that India needs to
have an integrated policy combining various aspects of trade,
industry, foreign investment, exchange rate, public finance
and the financial sector to create a market-oriented
environment. Many policy changes were brought in covering
different aspects of import-export, FDI, Foreign Portfolio
Investment etc. One important policy changes pertinent to
India’s forex exchange system was brought in -- rupees was
made convertible in current account. This paved to the path of
foreign exchange payments/receipts to be converted at
market-determined exchange rate. However, it is worthwhile
to mention here that changes brought in by government of
India to make the exchange rate market oriented have not
happened in one big bang. This process has been gradual.
52
Commodity Market
Commodity futures markets largely remain underdeveloped in
India. This is in spite of the country‘s long history of
commodity derivatives trade as compared to the US and UK. A
major contributor to this fact is the extensive government
intervention in the agricultural sector in the post-
independence era. In reality, the production and distribution of
several agricultural commodities is still governed by the state
and forwards as well as futures trading have only been
selectively introduced with stringent regulatory controls. Free
trade in many commodity items remains restricted under the
Essential Commodities Act (ECA), 1955, and forwards as well
53
as future contracts are limited to specific commodity items
listed under the Forward Contracts (Regulation) Act (FCRA),
1952.
The evolution of the organized futures market in India
commenced in 1875 with the setting up of the Bombay Cotton
Trade Association Ltd. Following widespread discontent
among leading cotton mill owners and merchants over the
functioning of the Bombay Cotton Trade Association, a
separate association, Bombay Cotton Exchange Ltd., was
constituted in 1983. Futures trading in oilseeds originated
with the setting up of the Gujarati VyapariMandali in 1900,
which carried out futures trading in ground nuts, castor seeds
and cotton. The Calcutta Hessian Exchange Ltd. and the East
India Jute Association Ltd. were set up in 1919 and 1927
respectively for futures trade in raw jute. In 1921, futures in
cotton were organized in Mumbai under the auspices of East
India Cotton Association (EICA). Before the Second World War
broke out in 1939, several futures markets in oilseeds were
functioning in the states of Gujarat and Punjab. Futures
markets in Bullion began in Mumbai in 1920, and later, similar
markets were established in Rajkot, Jaipur, Jamnagar, Kanpur,
Delhi and Calcutta. In due course, several other exchanges
were established in the country, facilitating trade in diverse
commodities such as pepper, turmeric, potato, sugar and
jaggery.
54
Post independence, the Indian constitution listed the subject of
―Stock Exchanges and Future Markets under the union list.
As a result, the regulation and development of the
commodities futures markets were defined solely as the
responsibility of the central government. A bill on forward
contracts was referred to an expert committee headed by Prof.
A.D. Shroff and selected committees of two successive
parliaments and finally, in December 1952, the Forward
Contracts (Regulation) Act was enacted. The Forward
Contracts (Regulation) rules were notified by the central
government in 1954. The futures trade in spices was first
organised by the India Pepper and Spices Trade Association
(IPSTA) in Cochin in 1957. However, in order to monitor the
price movements of several agricultural and essential
commodities, futures trade was completely banned by the
government in 1966. Subsequent to the ban of futures trade,
many traders resorted to unofficial and informal trade in
futures. However, in India‘s liberalization epoch as per the
June 1980 Khusro committee‘s recommendations, the
government reintroduced futures on selected commodities,
including cotton, jute, potatoes, etc.
Following the introduction of economic reforms in 1991, the
Government of India appointed an expert committee on
forward markets under the chairmanship of Prof. K.N. Kabra
in June 1993. The committee submitted its report in
September 1994, championing the reintroduction of futures,
which were banned in 1966, and expanding its coverage to
55
agricultural commodities, along with silver. In order to boost
the agricultural sector, the National Agricultural Policy 2000
envisaged external and domestic market reforms and
dismantling of all controls and regulations in the agricultural
commodity markets. It also proposed an expansion of the
coverage of futures markets to minimize the wide fluctuations
in commodity prices and for hedging the risk arising from
extreme price volatilities.
STRUCTURE, CONDUCT & CURRENT STATUS
Broadly, the commodities market exists in two distinct forms—
the over-the-counter (OTC) market and the exchange based
market. Further, as in equities, there exists the spot and the
derivatives segments. Spot markets are essentially OTC
markets and participation is restricted to people who are
involved with that commodity, such as the farmer, processor,
wholesaler, etc. A majority of the derivatives trading takes
56
place through the exchange-based markets with standardized
contracts, settlements, etc. The exchange-based markets are
essentially derivative markets and are similar to equity
derivatives in their working, that is, everything is standardized
and a person can purchase a contract by paying only a
percentage of the contract value. A person can also go short
on these exchanges. Moreover, even though there is a
provision for delivery, most contracts are squared-off before
expiry and are settled in cash. As a result, one can see an
active participation by people who are not associated with the
commodity. The typical structure of commodity futures
markets in India is as follows:
At present, there are 26 exchanges operating in India and
carrying out futures trading activities in as many as 146
commodity items. As per the recommendation of the FMC, the
Government of India recognized the National Multi Commodity
Exchange (NMCE), Ahmadabad; Multi Commodity Exchange
(MCX), National Commodity and Derivative Exchange
(NCDEX), Mumbai and Indian Commodity Exchange ( ICEX) as
nation-wide multi-commodity exchanges.
As compared to 59 commodities in January 2005, 94
commodities were traded in December 2006 in the commodity
futures market. These commodities included major agricultural
commodities such as rice, wheat, jute, cotton, coffee, major
pulses (such as urad, arahar and chana), edible oilseeds (such
as mustard seed, coconut oil, groundnut oil and sunflower),
57
spices (pepper, chillies, cumin seed and turmeric), metals
(aluminium, tin, nickel and copper), bullion (gold and silver),
crude oil, natural gas and polymers, among others. Gold
accounted for the largest share of trade in terms of value. A
temporary ban was imposed on futures trading in urad and tur
dal in January 2007 to ensure orderly market conditions. An
efficient and well-organised commodities futures market is
generally acknowledged to be helpful in price discovery for
traded commodities.
COMMODITIES TRADED
58
World-over one will find that a market exits for almost all the
commodities known to us. These commodities can be broadly
classified into the following:
METAL
Aluminium, Copper, Lead, Nickel,
Sponge Iron, Steel Long (Bhavnagar),
Steel Long (Govindgarh), Steel Flat,
Tin, Zinc
BULLIONGold, Gold HNI, Gold M, i-gold,
Silver, Silver HNI, Silver M
FIBERCotton L Staple, Cotton M Staple,
Cotton S Staple, Cotton Yarn, Kapas
ENERGY
Brent Crude Oil, Crude Oil, Furnace
Oil, Natural Gas, M. E. Sour Crude
Oil
SPICESCardamom, Jeera, Pepper, Red Chilli,
Turmeric
PLANTATIONSArecanut, Cashew Kernel, Coffee
(Robusta), Rubber
PULSES Chana, Masur, Yellow Peas
PETROCHEMICAL
SHDPE, Polypropylene(PP), PVC
OIL & OIL SEEDS Castor Oil, Castor Seeds, Coconut
Cake, Coconut Oil, Cotton Seed,
Crude Palm Oil, Groundnut Oil,
KapasiaKhalli, Mustard Oil, Mustard
Seed (Jaipur), Mustard Seed (Sirsa),
RBD Palmolein, Refined Soy Oil,
59
Refined Sunflower Oil, Rice Bran
DOC, Rice Bran Refined Oil, Sesame
Seed, Soymeal, Soy Bean, Soy Seeds
CEREALS Maize
OTHERS
Guargum, Guar Seed, Gurchaku,
Mentha Oil, Potato (Agra), Potato
(Tarkeshwar), Sugar M-30, Sugar S-
30
BENEFITS OF COMMODITY FUTURES MARKETS
The primary objectives of any futures exchange are authentic
price discovery and an efficient price risk management. The
beneficiaries include those who trade in the commodities being
offered in the exchange as well as those who have nothing to
do with futures trading. It is because of price discovery and
risk management through the existence of futures exchanges
that a lot of businesses and services are able to function
smoothly.
1. Price Discovery:-Based on inputs regarding specific
market information, the demand and supply equilibrium,
weather forecasts, expert views and comments, inflation
rates, Government policies, market dynamics, hopes and
fears, buyers and sellers conduct trading at futures
exchanges. This transforms in to continuous price discovery
mechanism. The execution of trade between buyers and
60
sellers leads to assessment of fair value of a particular
commodity that is immediately disseminated on the trading
terminal.
2. Price Risk Management: - Hedging is the most common
method of price risk management. It is strategy of offering
price risk that is inherent in spot market by taking an equal
but opposite position in the futures market. Futures markets
are used as a mode by hedgers to protect their business from
adverse price change. This could dent the profitability of their
business. Hedging benefits who are involved in trading of
commodities like farmers, processors, merchandisers,
manufacturers, exporters, importers etc.
3. Import- Export competitiveness: - The exporters can
hedge their price risk and improve their competitiveness by
making use of futures market. A majority of traders which are
involved in physical trade internationally intend to buy
forwards. The purchases made from the physical market might
expose them to the risk of price risk resulting to losses. The
existence of futures market would allow the exporters to
hedge their proposed purchase by temporarily substituting for
actual purchase till the time is ripe to buy in physical market.
In the absence of futures market it will be meticulous, time
consuming and costly physical transactions.
4. Predictable Pricing: - The demand for certain
commodities is highly price elastic. The manufacturers have to
61
ensure that the prices should be stable in order to protect
their market share with the free entry of imports. Futures
contracts will enable predictability in domestic prices. The
manufacturers can, as a result, smooth out the influence of
changes in their input prices very easily. With no futures
market, the manufacturer can be caught between severe short-
term price movements of oils and necessity to maintain price
stability, which could only be possible through sufficient
financial reserves that could otherwise be utilized for making
other profitable investments.
5. Benefits for farmers/Agriculturalists: - Price
instability has a direct bearing on farmers in the absence of
futures market. There would be no need to have large reserves
to cover against unfavorable price fluctuations. This would
reduce the risk premiums associated with the marketing or
processing margins enabling more returns on produce. Storing
more and being more active in the markets. The price
information accessible to the farmers determines the extent to
which traders/processors increase price to them. Since one of
the objectives of futures exchange is to make available these
prices as far as possible, it is very likely to benefit the farmers.
Also, due to the time lag between planning and production, the
market-determined price information disseminated by futures
exchanges would be crucial for their production decisions.
6. Credit accessibility: - The absence of proper risk
management tools would attract the marketing and processing
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of commodities to high-risk exposure making it risky business
activity to fund. Even a small movement in prices can eat up a
huge proportion of capital owned by traders, at times making
it virtually impossible to payback the loan. There is a high
degree of reluctance among banks to fund commodity traders,
especially those who do not manage price risks. If in case they
do, the interest rate is likely to be high and terms and
conditions very stringent. This posses a huge obstacle in the
smooth functioning and competition of commodities market.
Hedging, which is possible through futures markets, would cut
down the discount rate in commodity lending.
7. Improved product quality: - The existence of
warehouses for facilitating delivery with grading facilities
along with other related benefits provides a very strong reason
to upgrade and enhance the quality of the commodity to grade
that is acceptable by the exchange. It ensures uniform
standardization of commodity trade, including the terms of
quality standard: the quality certificates that are issued by the
exchange-certified warehouses have the potential to become
the norm for physical trade.
63
Derivatives Market
64
A derivative is a financial product which has been derived from
another financial product or commodity.
D.G. Gardener defined the derivatives as “A derivative is a
financial product which has been derived from market for
another product.”The securities contracts (Regulation) Act
1956 defines “derivative” as under section 2(ac).As per this
“Derivative” includes
(a) “a security derived from a debt instrument, share, loan
whether secured or unsecured, risk instrument or contract for
differences or any other form of security.”
(b) “a contract which derived its value from the price, or index
of prices at underlying securities.”
The above definition conveys that the derivatives are financial
products. Derivative is derived from another financial
instrument/ contract called the underlying. A derivative
derives its value from underlying assets.
Accounting standard SFAS133 defines a derivative as “a
derivative instrument is a financial derivative or other contract
will all three of the following characteristics:
(i) It has (1) one or more underlying, and (2) one or more
notional amount or payments provisions or both. Those terms
determine the amount of the settlement or settlements.
(ii) It requires no initial net investment or an initial net
investment that is smaller than would be required for other
65
types of contract that would be expected to have a similar
response to changes in market factors.
(iii) Its terms require or permit net settlement. It can be
readily settled net by a means outside the contract or
itprovides for delivery of an asset that puts the recipients in a
position not substantially different from net settlement.From
the aforementioned, derivatives refer to securities or to
contracts that derive from another whose value depends on
another contract or assets. As such the financial derivatives
are financial instrument whose prices or values are derived
from the prices of other underlying financial instruments or
financial assets. The underlying instruments may be an equity
share, stock, bond, debenture, treasury bill, foreign currency
or even another derivative asset.Hence, financial derivatives
are financial instruments whose prices are derived from the
prices of other financial instruments.
1. Management of risk : One of the most important services
provided by the derivatives is to control, avoid, shift and
manage efficiently different types of risk throughvarious
strategies like hedging, arbitraging, spreading etc. Derivative
assist the holders to shift or modify suitable the risk
characteristics of the portfolios. These are specifically useful in
highly volatile financial conditions like erratic trading, highly
flexible interest rates, volatile exchange rates and monetary
chaos.
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2. Measurement of Market: Derivatives serve as the
barometers of the future trends in price which result in the
discovery of new prices both on the spot and future markets.
They help in disseminating different information regarding the
future markets trading of various commodities and securities
to the society which enable to discover or form suitable or
correct or true equilibrium price in the markets. As a result,
they assets in appropriate and superior allocation of resources
in the society.
3. Efficiency in trading: Financial derivatives allow for free
trading of risk components and that leads to improving market
efficiency. Traders can use a position in one or more financial
derivatives as a substitute for a position in underlying
instruments. In many instances, traders find financial
derivatives to be a more attractive instrument than the
underlying security. This is mainly because of the greater
amount of liquidity in the market offered by derivatives as well
as the lower transaction costs associated with trading a
financial derivative as compared to the costs of trading the
underlying instruments in cash market.
4. Speculation and arbitrage : Derivatives can be used to
acquire risk, rather than to hedge against risk. Thus, some
individuals and institutions will enter into a derivative contract
to speculate on the value of the underlying asset, betting that
the party seeking insurance will be wrong about the future
value of the underlying asset. Speculators look to buy an asset
in the future at a low price according to a derivative contract
when the future market price is high, or to sell an asset in the
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future at a high price according to derivative contract when
the future market price is low. Individual and institutions may
also look for arbitrage opportunities, as when the current
buying price of an asset falls below the price specified in a
futures contract to sell the asset.
5. Price discovery : The important application of financial
derivatives is the price discovery which means revealing
information about future cash market prices through the
future market. Derivative markets provide a mechanism by
which diverse and scattered opinions of future are collected
into one readily discernible number which provides a
consensus of knowledgeable thinking.
6. Hedging : Hedge or mitigate risk in the underlying, by
entering into a derivative contract whose value moves in the
opposite direction to their underlying position and cancels part
or all of it out. Hedging also occurs when an individual or
institution buys an asset and sells it using a future contract.
They have access to the asset for a specified amount of time,
and can then sell it in the future at a specified price according
to the futures contract of course, this allows them the benefit
of holding the asset.
7. Price stabilization function : Derivative market helps to keep
a stabilizing influences on spot prices by reducing the short
term fluctuations. In other words, derivatives reduces both
peak and depths and lends to price stabilization effect in the
cash market for underlying asset.
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8. Gearing of value : Special care and attention about financial
derivatives provide leverage (or gearing), such that a small
movement in the underlying value can cause a large difference
in the value of the derivative.
9. Develop the complete markets : It is observed that
derivative trading develop the market towards “complete
markets” complete market concept refers to that situation
where no particular investors be better of than others, or
patterns of returns of all additional securities are spanned by
the already existing securities in it, or there is no further scope
of additional security.
10. Encourage competition : The derivatives trading encourage
the competitive trading in the market, different risk taking
preference at market operators like speculators, hedgers,
traders, arbitrageurs etc. resulting in increase in trading
volume in the country. They also attract young investors,
professionals and other experts who will act as catalysts to the
growth of financial market.
11. Liquidity and reduce transaction cost : As we see that in
derivatives trading no immediate full amount of the
transaction is required since most of them are based on
margin trading. As a result, large number of traders,
speculators, arbitrageurs operates in such markets. So,
derivatives trading enhance liquidity and reduce transaction
cost in the markets of underlying assets.
69
Derivative markets in India have been in existence in one form
or the other for a long time. In the area of commodities, the
Bombay Cotton Trade Association started future trading way
back in 1875. This was the first organized futures market.
Then Bombay Cotton Exchange Ltd. in 1893, Gujarat
VyapariMandall in 1900, Calcutta Hesstan Exchange Ltd. in
1919 had started future market.
After the country attained independence, derivative market
came through a full circle from prohibition of all sorts of
derivative trades to their recent reintroduction. In 1952, the
government of India banned cash settlement and options
trading, derivatives trading shifted to informal forwards
markets. In recent years government policy has shifted in
favour of an increased role at market based pricing and less
suspicious derivatives trading. The first step towards
introduction of financial derivatives trading in India was the
promulgation at the securities laws (Amendment) ordinance
1995. It provided for withdrawal at prohibition on options in
securities. The last decade, beginning the year 2000, saw
lifting of ban of futures trading in many commodities. Around
the same period, national electronic commodity exchanges
were also set up. The more detail about evolution of
derivatives are shown in table No.1 with the help of the
70
chronology of the events. This table is presenting complete
historical developments
The NSE and BSE are two major Indian markets have shown a
remarkable growth both in terms of volumes and numbers of
traded contracts. Introduction of derivatives trading in 2000,
in Indian markets was the starting of equity derivative market
which has registered on explosive growth and is expected to
continue the same in the years to come. NSE alone accounts
99% of the derivatives trading in Indian markets. Introduction
of derivatives has been well received by stock market players.
Derivatives trading gained popularity after its introduction in
very short time.If we compare the business growth of NSE and
BSE in terms of number of contracts traded and volumes in all
product categories with the help of table no.4, table no.5 and
table no.12 which shows the NSE traded 636132957 total
contracts whose total turnover is Rs.16807782.22 cr in the
year 2012-13 in futures and options segment while in currency
segment in 483212156 total contracts have traded whose total
turnover is Rs.2655474.26 cr in same year.In case of BSE the
total numbers of contracts traded are 150068157 whose total
turnover is Rs.3884370.96 Cr in the year 2012-13 for all
segments. In the above case we can say that the performance
of BSE is not encouraging both in terms of volumes and
numbers of contracts traded in all product categories. The
table no.4, table no.5 and table no.12 summarily specifies the
updated figures since 2003-04 to 2012-13 about number of
contracts traded and total volumes in all segments
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1952 - Enactment of the forward contracts (Regulation)
Act.
1953 - Setting up of the forward market commission.
1956- Enactment of SCRA
1969 -Prohibition of all forms of forward trading under
section 16 of SCRA.
1972 -Informal carry forward trades between two
settlement cycles began on BSE.
1980-Khuso Committee recommends reintroduction of
futures in most commodities.
1983- Govt. ammends bye-laws of exchange of Bombay,
Calcutta and Ahmedabad and introduced carry forward
trading in specified shares.
1992 -Enactment of the SEBI Act.
1993 -SEBI Prohibits carry forward transactions.
1994 -Kabra Committee recommends futures trading in 9
commodities.
1995- G.S. Patel Committee recommends revised carry
forward system.
14th Dec. 1995 NSE asked SEBI for permission to trade
index futures
1996 -Revised system restarted on BSE.
18th Nov. 1996- SEBI setup LC Gupta committee to draft
frame work for index futures
11th May 1998- LC Gupta committee submitted report
1st June 1999- Interest rate swaps/forward rate
agreements allowed at BSE
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7th July 1999- RBI gave permission to OTC for interest
rate swaps/forward rate agreements
24th May 2000 - SIMEX chose Nifty for trading futures
and options on an Indian index
25th May 2000- SEBI gave permission to NSE & BSE to
do index futures trading
9th June 2000-Equity derivatives introduced at BSE
12th June 2000- Commencement of derivatives trading
(index futures) at NSE
31st Aug. 2000-Commencement of trading futures &
options on Nifty at SIMEX
1st June 2001-Index option launched at BSE
Jun 2001- Trading on equity index options at NSE
July 2001 -Trading at stock options at NSE
9th July 2001-Stock options launched at BSE
July 2001 -Commencement of trading in options on
individual securities
1st Nov. 2001-Stock futures launched at BSE
Nov. 2001 -Commencement of trading in futures on
individual security
9th Nov. 2001-Trading of Single stock futures at BSE
June 2003 -Trading of Interest rate futures at NSE
Aug. 2003- Launch of futures & options in CNX IT index
13th Sep. 2004-Weekly options of BSE
June 2005 -Launch of futures & options in Bank Nifty
index
Dec. 2006 '-Derivative Exchange of the Year by Asia risk
magazine
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June 2007 -NSE launches derivatives on Nifty Junior &
CNX 100
Oct. 2007- NSE launches derivatives on Nifty Midcap -50
1st Jan. 2008-Trading of Chhota (Mini) Sensex at BSE
1st Jan. 2008-Trading of mini index futures & options at
NSE
3rd March 2009-Long term options contracts on S&P
CNX Nifty index
NA Futures & options on sectoral indices ( BSETECK,
BSE FMCG, BSE Metal, BSE Bankex
& BSE oil & gas)
29th Aug. 2008-Trading of currency futures at NSE
Aug. 2008- Launch of interest rate futures
1st Oct. 2008-Currency derivative introduced at BSE
10th Dec. 2008-S&P CNX Defty futures & options at NSE
Aug. 2009- Launch of interest rate futures at NSE
7th Aug. 2009-BSE-USE form alliance to develop
currency & interest rate derivative markets
18th Dec. 2009-BSE's new derivatives rate to lower
transaction costs for all
Feb. 2010- Launch of currency future on additional
currency pairs at NSE
Apr. 2010 -Financial derivatives exchange award of the
year by Asian Banker to NSE
July 2010- Commencement trading of S&P CNX Nifty
futures on CME at NSE
74
Oct. 2010- Introduction of European style stock option at
NSEJournal of Business Management & Social Sciences
Research (JBM&SSR) ISSN No: 2319-5614
Oct. 2010 -Introduction of Currency options on USD INR
by NSE
July 2011- Commencement of 91 day GOI trading Bill
futures by NSE
Aug. 2011 -Launch of derivative on Global Indices at NSE
Sep. 2011- Launch of derivative on CNX PSE & CNX
infrastructure Indices at NSE
30th March 2012-BSE launched trading in BRICSMART
indices derivatives
Insurance Market
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Indian Insurance Industry has got the deep-rooted history.
These evidences are from the writings of Manu (Manusmrithi),
Yagnavalkya (Dharmasastra) and Kautilya (Arthasastra). The
writings speak about pooling of resources that could be re-
distributed in times of calamities such as fire, floods,
epidemics and famine. Ancient Indian history has preserved
the very earliest traces of insurance in the form of marine
trade loans and carriers contracts. In India the Insurance has
evolved over time heavily drawing from other countries,
England particularly.
In India the advent of Life Insurance started in the year 1818
with the establishment of the Oriental Life Insurance Company
in Calcutta. In the year 1829, the Madras Equitable had began
the life insurance business in the Madras Presidency. British
Insurance Act enactment was done in the year 1870. In the
last three decades of the nineteenth century, the Bombay
Mutual (1871), Oriental (1874) and Empire of India (1897)
76
were started in the Bombay Residency. This era, however, was
dominated by foreign insurance offices which did good
business in India, namely Albert Life Assurance, Royal
Insurance, Liverpool and London Globe Insurance and the
Indian offices were up for hard competition from the foreign
companies.
History of general insurance was during the 17th century to
the Industrial Revolution in the west and the consequent
growth of sea-faring trade and commerce in the 17th century.
The General Insurance has its roots in the year 1850 in
Calcutta from the establishment of Triton Insurance Company
Ltd., by British. The Indian Mercantile Insurance Ltd was set
up in the year 1907. As this was the first company to transact
all classes of general insurance business. In the year 1957
General Insurance Council, a wing of the Insurance
Association of India was established.
With the emergence of growing demand for insurance, more
and more insurance companies are now emerging in the Indian
Insurance Industry. With the opening up of the economy, there
are several international leaders in the insurance of India are
trying to venture into the India insurance industry. In the year
1993, Malhotra Committee was formed which initiated reforms
in the Indian Insurance Industry. The aim of which was to
assess the functionality of the industry. It was incharge of
recommending the future path of insurance in India.It even
attempted to improve various aspects, making them more
appropriate and effective for the Indian market.
77
In the year 1999 The Insurance Regulatory and Development
Authority Act was formulated which brought about several
crucial policy changes in the India. In 2000 it led to the
formation of the Insurance Regulatory and Development
Authority. The goals of IRDA are to safeguard the interests of
insurance policyholders, as well as to initiate different policy
measures to help sustain growth in the industry. This Authority
has notified 27 Regulations on various issues like Registration
of Insurers, Regulation on insurance agents, Re-insurance,
Solvency Margin, Obligation of Insurers to Rural and Social
sector, Investment and Accounting Procedure, Protection of
policy holders' interest, etc.
Indian Insurance Industry is flourishing with several national
and international players competing and growing at rapid
rates. The success comes usually from the easing of policy
regulations, and India has become more familiar with different
insurance products and the period from 2010 - 2015 is
projected to be the 'Golden Age' for the Indian insurance
industry.
Indian Insurance companies today offer a comprehensive
range of insurance plans, a range which is growing as the
economy matures and the wealth of the middle classes
increases. The most common types of insurance includes: term
life policies, endowment policies, joint life policies, whole life
policies, loan cover term assurance policies, unit-linked
insurance plans, group policies, pension plans, and annuities.
Those like the General insurance plans are also available to
78
cover motor insurance, home insurance, travel insurance and
health insurance.
Types of Insurance
1. Life Insurance is all about guaranteeing a specific sum of
money to a designated beneficiary upon the death of the
insured, or to the insured if he or she lives beyond a
certain age.
2. Health Insurance - it is Insurance against expenses
incurred through illness of the insured or the person who
takes up the insurance.
3. Liability Insurance usually insures property such as
automobiles, property and professional/business mishaps
and others.
Latest developments
In November 2009 According to the industry body report
publication, the medical insurance sector would account
for US$ 3 billion in the next three years.
In the year 2008-09 the IRDA in its annual report said
that the Health insurance premium collections touched
US$ 1.45 billion compared with US$ 1.13 billion in the
previous year.
Further in 2009 the total premium between April and
December was US$ 1.35 billion, up from US$ 1.12 billion,
79
an increase of 20 %, as per figures released by the
regulator.
According to IRDA guidance note released by IRDA, the
regulator has increased the lock-in period for all unit-
linked insurance plans (ULIPS) to five years from the
current three years, which makes them long-term
financial instruments and provide risk protection. The
commission and expenses have also been reduced by
evenly distributing them throughout the lock-in period.
In the year 2010-2011 The Indian insurance unit of Dutch
financial services firm ING plans to invest US$ 51 million
to fund expansion in the country. 100 branches will be
opened by Private life insurer Future General India will
expand its distribution network in addition to its existing
network of 91 branches during 2010. There will also be
increase in the agency force by 21,000 to 65,000 people.
In next five year Max Groups to invest a further US$
134.9 Million by Max Buda, the health insurance JV
between UK's Buda. Besides the existing six cities, it
plans to open up into Surat, Jaipur and Ludhiana by the
end of 2010.
The total market size of the insurance sector in India was US$
66.4 billion in FY 13. It is projected to touch US$ 350-400
billion by 2020.
India was ranked 10th among 147 countries in the life
insurance business in FY 13, with a share of 2.03 per cent. The
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life insurance premium market expanded at a CAGR of 16.6
per cent from US$ 11.5 billion to US$ 53.3 billion during FY
03-13. The non-life insurance premium market also grew at a
CAGR of 15.4 per cent in the same period, from US$ 3.1 billion
to US$ 13.1 billion.
Digital@Insurance-20X By 2020, by Boston Consulting Group
(BCG) and Google India forecasts that insurance sales from
online channels will grow 20 times from present day sales by
2020, and overall internet influenced sales will touch Rs
300,000-400,000 crore (US$ 49.63-66.18 billion).
Investment corpus in India's pension sector is projected to
cross US$ 1 trillion by 2025, following the passage of the
Pension Fund Regulatory and Development Authority (PFRDA)
Act 2013, as per a joint report by CII-EY on Pensions Business
in India.
Government Initiatives
The Union Budget 201 4-15 increased the FDI limit in
insurance to 49 per cent. The increase in the FDI limit could
help the insurance industry in two ways. One, this could help
companies access capital more easily and, two, it could act as
a trigger for listing of insurance players, which will offer a
better benchmark to value these companies.
In a bid to facilitate banks to provide greater choice in
insurance products through their branches, a proposal could
be made which will allow banks to act as corporate agents and
tie up with multiple insurers. A committee established by the
81
Finance Ministry of India is likely to suggest this model as an
alternative to the broking model.
Road Ahead
The future of India's insurance sector looks good, driven by the
country's favourable demographic, greater awareness,
supportive government which enacts policies that improve
business, customer-centric products, and practices that give
businesses the best environment to grow. India's insurable
population is anticipated to touch 75 crore in 2020, with life
expectancy reaching 74 years. Life insurance is projected to
comprise 35 per cent of total savings by the end of this
decade, compared to 26 per cent in 2009-10.
Problems with the Indian Financial Market
The Indian stock markets till date have remained stagnant due
to the rigid economic controls. It was only in 1991, after the
liberalization process that the India securities market
witnessed a flurry of IPOs serially.
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India embarked on substantial economic liberalization in 1991.
In the field of finance, the major themes were the scaling back
of capital controls and the fostering of a domestic financial
system. This was part of a new framework of embracing
globalization and of giving primacy to market-based
mechanisms for resource allocation.
From 1991 to 2002, progress was made in four areas,
reflecting the shortcomings that were then evident. First,
capital controls were reduced substantially to give Indian firms
access to foreign capital and to build nongovernment
mechanisms for financing the current account deficit. Second,
a new defined-contribution pension system, the New Pension
System, was set up so that the young population could achieve
significant pension wealth in advance of demographic
transition. Third, a new insurance regulator, the Insurance
Regulation and Development Agency, was set up, and the
public sector monopolies in the field of insurance were broken
to increase access to insurance. Fourth and most important,
there was a significant burst of activity in building the equity
market because of the importance of equity as a mechanism
for financing firms and the recognition of infirmities of the
equity market. This involved establishing a new regulator, the
Securities and Exchanges Board of India, and new
infrastructure institutions, the National Stock Exchange and
the National Securities Depository. The reforms of the equity
market involved ten acts of parliament and one constitutional
amendment, indicative of the close linkage between deeper
economic reforms and legislative change.
83
While all these moves were in the right direction, they were
inadequate. A large number of problems with the financial
system remain unresolved. In cross-country rankings of the
capability of financial systems, India is typically found in the
bottom quartile of countries. A financial system can be judged
on the extent to which it caters to growth, stability, and
inclusion, and the Indian system is deficient on all of those
counts. By misallocating resources, it hampers growth. The
entire financial system suffers from high systemic risk.
The households and firms of India are extremely diverse, and
often have characteristics not seen elsewhere in the world. For
finance to reach a large fraction of firms and households,
financial firms need to energetically modify their products and
processes, and innovate to discover how to serve customers.
But in the field of finance, the forces of competition and
innovation have been blocked by the present policy
framework. This means there are substantial gaps between the
products and processes of the financial system, and the needs
of households and firms.
It is likely that around 2053, India’s GDP will exceed that of
the United States as of 2013. In the coming forty years, India
will need to build up the institutional machinery for markets as
complex as the financial system seen in advanced economies
today. The IFC puts India on that path.
84
Solutions
By 2004, it was becoming increasingly clear that while some
elements of modernization of the financial system had taken
place from 1992 to 2004, financial economic policy needed to
be rethought on a much larger scale to address the problems
facing the system. As is the convention in India, the consensus
on desired reforms was constructed through reports from four
expert committees on:
1. International finance, led by Percy Mistry in 2007
2. Domestic finance, led by Raghuram Rajan in 2008
3. Capital controls, led by U. K. Sinha in 2010
4. Consumer protection, led by DhirendraSwarup in 2010
These four reports add up to an internally consistent and
comprehensive framework for Indian financial reforms. The
findings were widely discussed and debated in the public
discourse (see table 1 for the main recommendations of these
expert committees). The four reports diagnosed problems,
proposed solutions, and reshaped the consensus.
85
Primary Data
86
I spoke to close relatives who have had experience with the
financial markets. They have seen the Indian markets
transform from the 1980’s till the current day.
Q. What were the markets like in the 1980’s as compared to
the current day?
A. In the 1980’s there was much less use of technology. The
open outcry was still in existence which made the market
place really chaotic. Now everything is computarised therefore
making trading much more convenient and also removing the
chances of human error.
Q. How has globalization affected the markets?
A. The SEBI has taken many efforts to remove restrections on
foreign players entering the markets. There are less issues
when it comes to FDI’s and FFI’s and thus the Indian forex
market has boomed and it has also made India a very well
recognized economy in the world. Foreign investors realize
that there is no better place to invest as the Indian economy is
on the massive rise and seems that it will continue this trend.
Q. Have you noticed any change in the way investors trade due
to the changes made by the government?
A. The government has introduced many methods via which
companies are required to be more transparent and hence
they have to reveal their financials in a more detailed way.
87
This has helped investors to change their method of analysis
from technical to fundamental thus helping investors make
decisions on number which always proves to be a more
informed decision.
Q. The value of securities traded has obviously gone up from
back in the day. Did you expect such a massive increase in the
volume of trade?
A. To be honest, this increse in trade does not come as a shock
to me because of the various ammendments made in the
different markets. All these changes made have been positive
ones and were designed in a way to increase the value of
securities traded. I would be more taken aback if the volume of
trade had not been as much as it is today.
88
89
90
91
92
93
Conclusion
The Indian Financial System has been in existence for
centuries. From the existence of barter trading to trading with
gold to the current high tech modes of e-finacining and
trading. The current heights that the Indian Fiancial System
has reached have obviously not been attained overnight. As
the popular saying goes “Rome wasn’t built in a day” in the
same way the Indian Financial Markets have gradually
expanded and improved step by step. This project clearly
outlines the strides that have been taken by the government
and the financial instituitions to improve and modernize the
markets. The numbers that have been given in the project are
a clear proof of the positive changes that have been made. If
the trend that has been set in the last 35 years or so continues
in the years to come then truly the sky is the limit for the
Indian economy. The improvement of technology and
enactment of new acts has set the economy in the right
direction and the only direction is upwards. The main markets
that have been covered in the project are :
Capital Markets: Stock markets and Bond markets
Commodity Markets
Money Markets
Derivatives Markets: Futures Markets
Insurance Markets
Foreign Exchange Markets
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The resesarch methods that I have used also reiterate my faith
in the indian economy. As a youth of the nation I know that
India is headed in the right direction and I can feel safe in this
nation. The above mentioned markets are the main places
where investments take place.
The seeds have been sown years back and with the
introduction of the new government and the imrpovement of
technology and awareness of the investors increasing, our
nation seems destined for economic stability and greatness!
95
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http://www.marketoperation.com/index.php?
option=com_content&view=article&id=117&Itemid=113
http://borjournals.com/Research_papers/Nov_2012/1048%20M.pdf
(http://www.indianmirror.com/indian-industries/insurance.html)
(http://www.ibef.org/industry/insurance-sector-india.aspx)
Media Reports, Press Releases, IRDA Journal
http://www.icai.org/post.html?post_id=994
http://carnegieendowment.org/2014/01/29/reforming-india-s-financial-
system
http://www.indianmba.com/Faculty_Column/FC1063/fc1063.html
http://shodhganga.inflibnet.ac.in/bitstream/10603/3798/9/09_chapter
%203.pdf
http://www.slidesandnotes.com/2011/02/history-of-forex-market-in-
india.html
http://www.indianmba.com/Occasional_Papers/OP62/op62.html
http://www.iosrjournals.org/iosr-jef/papers/vol3-issue3/D0332542.pdf
https://www.dnb.co.in/BFSISectorInIndia/LifeIn2.asp
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