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FINANCIAL MARKETS: MONEY MARKET

INTRODUCTION

Finance is the pre-requisite for modern business and financial institutions play a vital role in the economic system. It is through financial markets and institutions that the financial system of an economy works. Financial markets refer to the institutional arrangements for dealing in financial assets and credit instruments of different types such as currency, cheques, bank deposits, bills, bonds, etc.

Financial markets may be broadly classified as negotiated loan markets and open markets. The negotiated loan market is a market in which the lender and the borrower personally negotiate the terms of the loan agreement, e. g. a businessman borrowing from a bank or from a small loan company. On the other hand, the open market is an impersonal market in which standardized securities are treated in large volumes. The stock market is an example of an open market. The financial markets, in a nutshell, are the credit markets catering to the various credit needs of the individuals, firms and institutions. Credit is supplied both on a short as well as a long term basis.

FUNCTIONS

The main functions of the financial markets are :

(1) to facilitate creation and allocation of credit and liquidity.

(2) to serve as intermediadiaries for mobilisation of savings.

(3) to assist the process of balanced economic growth.

(4) to provide financial convenience, and

(5) to cater to the various credit needs of the business houses.

TYPES OF FINANCIAL MARKET

On the basis of credit requirement for short-term and long term purposes, financial markets are divided into two categories :

1.Money Market

2.Capital Market

MONEY MARKET

The money market is a place for trading in money and short-term financial assets that are close substitutes for money. It provides an opportunity for balancing the short-term surplus funds of the lenders/investors with the short-term requirements of borrowers. An important feature of the money market instruments is that they are liquid with varying degree and can be traded in the money market at low cost.

MEANING AND THE CONCEPT

The money market is a market for short term loans, i.e. less than one year. The very name, in fact, suggests that it is money that is being bought and sold. Business firms use it for the purchase of inventories, the sales finance companies use it to finance as consumer credit, the banks use it to finance temporary reserves shortages and the government uses it to bridge the gap between tax receipts and expenditure ( in other words, for deficit financing). A noteworthy point is that in the money market we deal not in money but near money assets.

The money market is not a place but an activity, the transactions are carried out by telephone, mail, etc. among people who may have never met one another. Almost all big cities have local money markets, say in Bombay there is Bombay Money Market, in New York, there is the New York Money Market and in London there is the London Money Market.

There are some money markets which are international in scope. For example, the London Money Market or the New York Money Market. The major parties of the London Money Market are discount houses, the Bank of England and the commercial banks including acceptance houses, overseas, foreign and other banks in London. Madden, Naddler and Heller in their 'Money Market Primer' have stated that the components of money market are Federal Reserve System, the U. S. Treasury, the banks, the foreign bank agencies, the stock and commodity exchanges, the insurance companies, the investment trusts, the finance companies, the discount houses, the brokers and dealers in government securities and in domestic and foreign securities.

To the money market, a supplier is one who has temporary excess of funds. For example, a corporation may be accumulating funds for a quarterly income tax payment. The corporation instead of holding these funds is non-interest bearing may decide to lend them out at a short term. Similarly, a state treasurer may have temporary excess of tax receipts over expenditure and decide to invest them. The commercial bank may have large seasonal deposit withdrawals, otherwise it may invest the money in earning assets.

DEFINITION OF MONEY MARKET

J. M. Culbertson, in his book 'Money and Banking' , has defined money market as "a network of markets that are grouped together because they deal in financial instruments that have a similar function in the economy and are to some degree substitutes from the point of view of holders. The instruments of the money market are liquid assets : interest bearing debts that mature within a short period of time or callable on demand ".

Geoffrey Crowther in his book "An outline of Money " has stated : "Money market is a collective name given to the various forms and institutions that deal with the various grades of near money. "

The money market, in a nutshell, is a short term credit market. It deals in assets of relative liquidity such as treasury bills, bills of exchange, short term government securities, etc. The Reserve Bank of India :'Functions and Working ' describes money market as "the centre for dealings, mainly short term character, in monetary assets, it meets the short term requirements of borrowers and provides liquidity or cash to lenders. It is the place where short term surplus investible funds at the disposal of financial and other institutions and individuals are bid by borrowers , again compromising institutions and individuals and also government itself. "

_S. N. Sen, in his book 'Central Banking in Underdeveloped Money Market ', has aptly stated that the short term money market is " the place where the strain on the banking system is first felt in periods of pressure, and it is the place where ease in the banking system is first felt in periods of pressure, and it is the place where ease in the banking system is first felt in periods of monetary superfluity. "

The money market is thus a reservoir of short term funds. It is a region where short term funds are brought and sold through telephone or mail. Funds are borrowed in the market for a short period ranging from a day to six months or less than one year. The assets which are used as credit instruments are known as "near money assets. "

CHARACTERISTIC OF A DEVELOPED MONEY MARKET

A well-developed money market is an essential condition for any developed or developing economy. The development of money markets varies from the country to country. Some money markets are developed where as others are less developed. If the essential characteristics of any developed money market do not exist in any economy, it is called an undeveloped money market. A developed money market is one which is comparatively efficient. It means it is responsive to changes in demand for and supply of funds in any of its sub-markets. The effects in one part quickly spread to others without much loss of time. An example of a developed money market is the United Kingdom and that of less developed money market is in India. Let us now discuss the characteristics of a developed money market. Their non-existence will refer to a less developed money market. The following are the characteristics of developed money markets.

1. A developed commercial banking system. For a developed money market not only the banking system should be well-developed and organised, but the public should also have banking habits. These two things are complementary. The commercial banks are the most important suppliers of short term funds. So their policy pertaining to loans, advances and investment would have its impact on the entire money market. S. N. Sen in his book 'Central Banking in Undeveloped Money Market' rightly calls them "the nucleous of the whole money market. " Thus for any developed money market, the foremost feature is well coordinated and well-integrated money market. Further, the commercial banks are intimately related to the central bank, so they provide a better link between the central bank and other components of money supply and borrowers, brokers, discount houses and acceptance houses.

In India we have organised and developed commercial banks but their activities are confined to urban areas only. As there are a large number of financial institutions working in their own ways, the interest rates charged differ from institution to institution. In India ,there is unorganised money market because of indigenous bankers, say money lenders in rural areas and Marwari and Multani in urban areas. Thus it is clear that money market is not well-organised or integrated because of less developed commercial banking system.

2. Presence of a central bank. In a developed money market, there is always an apex central bank. It means the central bank is both dejure and defacto the head of money and banking authority. A central bank is the lender of the last resort. It means other member banks can borrow from the central bank during emergency. It is because of this reason that it is called guardian of the money market. According to Prof. Sen, " It provides the ultimate liquidity without which a money market cannot function efficiently. " It is a very powerful bank to control money supply as per needs of the economy. The central bank is the reservoir of all types of funds short, medium, and long term. It can definitely act in a more professional manner as compared to the government. The central bank has a wider look to understand the economy and judging its monetary requirements. As per the needs of the economy, it can follow its monetary policy to suit the pre-designed objectives. It is correctly stated that a strong central bank is as necessary a characteristic of the money market as the heart in the human body. Thus it is clear that a powerful central bank controls, regulates and guides the money market.

On the other hand, if the central bank cannot influence the money market, it means the money market is not developed. In India we find that the presence of indigenous banks obstructs the adoption of an effective monetary policy or controls.

We know that for a well-developed money market the two conditions discussed above are necessary but not sufficient. Prof. S. N. Sen has pointed out that in Australia, both these conditions exist but Australian money market is not well-developed. It means besides these two characteristics, there are some other characteristics which are as a under.

3.Sub-markets. A developed money market has the most developed and sensitive sub markets. The money market is a group of various sub-markets, each dealing in loans of various maturities. There will be markets for call loans, the collateral loans, acceptances, foreign exchange, bills of exchange and commercial and treasury bills. If these sub-markets are non-existent or there is less responsiveness to small changes in the interest and discount rates, it means under no circumstances a money market will be developed. These sub-markets are found in the London Money Market and the New York Money Market. There must be a large number of dealers and bidders in different sub-markets. According to Professor S. N. Sen, "The larger the number of sub markets, the broader and more developed will be the structure of the money market. " But besides it, the sub-markets must be integrated with each other. It means if the interest rate is high in one market, the borrowers will move to those sub-markets which can provide them higher interest rate. Thus it will facilitate the mobilisation of resources from one market to another.

In under-developed countries like India various sub-markets are either non-existent or not integrated. There is lack of co-ordination and integration among different sub-markets. The interest rates in different sub-markets in India vary considerably. The undeveloped money market does not possess all the important and essential sub-markets, particularly the bill market. However, in recent years greater integration in various markets have been observed.

4.Near money-assets. In a developed money market, there is a large quantity and variety of financial instruments such as bills of exchange, treasury bills, promissory notes, short dated government bonds, etc. If the number of near money assets are more, the money market will be more developed. The bills are drawn in a standard form and are accepted and discounted. The money market should have the regular supply of these assets. There should also be a large number of people desirous of buying and selling these credit instruments.

If the near-money assets or credit instruments are not available in sufficient number, the money market cannot be developed. It is the dealers in near money assets who actually infuse life into the money market.

5.Availability of ample resources. Another feature of a developed money market is the availability of ample resources. A developed money market has easy access to financial resources from both within and without the country. The London Money Market attracts the adequate funds from both sources, i.e. internal and external. Persons in the foreign countries think it safe and profitable to invest money in highly liquid assets in the developed countries. It is the availability of cheap facilities for the remittance of funds from one place to another, which has resulted in raising the resources. Availability of ample funds is essential for the smooth and efficient working of the money market. So all the money markets aim at raising their resources.

Under-developed money markets do not attract foreign funds because of political instability and absence of stable exchange rates. A money market may be developed even if it can-not attract short term funds from foreign countries.

6.Integrated interest-rate structure. Another feature of developed money market is that it has an integrated interest rate structure. The interest rates which prevail in the different sub markets are integrated with each other. To clarify it, a change in the bank rate results in equi-proportionate change in the interest rates which exist in case of different sub-markets. It is due to this structure of interest rates that the central bank can exercise control on the functioning of the money market.

7.Other-factors. There are many other factors which are responsible for the money market to be a developed one. The contributory factors are volume of international trade, bills of exchange, great industrial development, stable political condition, economic crisis, boom, depression, war, absence of discrimination, etc.

Thus from the above discussion it is clear that keeping in view the characteristics of a developed money market, it is only the London Money Market which can be called as the most developed money market. Skyes in his book 'The London Money Market' compares it to a cart wheel, "whose axle is the bank of England and the hub of the wheel is represented by the joint stock banks, the spokes by the other types of banks and the rim by the discount houses". The central bank must keep close relationship with other parts of money market for an efficient working. Any characteristics missing from the above would be regarded as symbol of a less developed money market. Once these characteristics are found absent in toto, we can say that money market is undeveloped. The features of an undeveloped money market hence can be stated as an unorganised commercial banking system, weak central bank, lack of credit instruments, non existence of specialised sub-markets, diversified interest rates, etc. An undeveloped money market is a stumbling block in the way of monetary authority.