Rise of American Accounts. "Hollywood. "

MONEY MARKET INSTRUMENTS

The following are the instruments that are available in the money market.

1.Commercial Bills

Commercial Bill or the bills of exchange, popularly known as bill is a written instrument containing an unconditional order. The bill is signed by the drawer, directing a certain person to pay a certain sum of money only to, or order of a certain person, or to the bearer of the instrument at a fixed time in future or on demand. Once the buyer signifies his acceptance on the bill itself it becomes a legal document. Bill of exchange is a very important document in commercial transactions. When the buyer is unable to make the payment immediately, the seller may draw a bill upon him payable after a certain period. The buyer accepts the bill and returns to the seller. The seller may either retain the bill till the due date or get it discounted or rediscounted from some banker and get immediate cash. Usually such bills are discounted or rediscounted by commercial banks to lend credit to the bill-holders or to borrow from the central bank.

Indian bill market is a underdeveloped one. A well organised bill market or discount market for short term bill is essential for establishing an effective link between credit agencies and Reserve Bank of India.

(1) preference for cash to bills.

(2) lack of uniform practices with regard to bills.

(3) excessive stamp duty.

(4) preference for cash credit and overdraft arrangements as a means of borrowing from commercial banks, and

(5) lack of specialised discount houses.

Reserve Bank of India started making efforts in this direction in 1952. However, a new and proper bill market was introduced in 1970. There has been substantial improvement since then.

2.Treasury Bills (TBs)

The treasury bill, on the other hand, is a short-term government security, usually of the duration of 91days, sold by the central bank on behalf of the government. There is no fixed rate of interest payable on the treasury bills. These are sold by the central bank on the basis of competitive bidding. The treasury bills are allotted to the person who is satisfied with the lowest rate of interest on the security. As treasury bills are government papers having no risk, these are good papers for commercial banks to invest short-term funds.

Treasury bills are highly secured and liquid because of guarantee of repayment assured by the RBI who is always willing to purchase or discount them. Treasury bills are government sector instruments and do not require any grading or further endorsement or acceptance.

Types of Treasury Bills. Treasury Bills are basically of two types :

(1)Ordinary/Regular.

(2)Adhoc.

(1)Ordinary/Regular TBs are issued to the public and the RBI by a process of auction or bidding. The objective is to meet the additional short-term financial needs of the government. Bids are invited usually for 14 days, 182 days, 91 days and 364 days treasury bills. The ordinary TBs can be got rediscounted with RBI.

(2) Adhoc-TBs are issued in favour of RBI with a view to replenish Government's cash balances by employing temporary surpluses of state government and semi-government departments.

Banks are the main subscribers to such treasury bills because they offer a stable and attractive returns, high liquidity and can be encashed at a very short notice with RBI.

3. Call and Short Notice Money

Call money refers to a money given for a very short-period. It may be taken for a day or overnight but not exceeding seven days in any circumstances. Surplus funds of the commercial banks and other institutions are usually given as call money. Banks are the borrowers as well as lenders for the call funds. Bank borrow call funds for a very short period to meet the Cash Reserve Ratio (CRR) requirements and repay back once the requirements have been met.

Sometimes, individuals of very high financial standing may borrow money for a very short period to meet their business financial needs. The rate of interest is very low in the bullion market and stock exchanges.

Another variation of call money is notice money which can be for a period upto 14 days.

'Money at call and Short Notice' appears on the assets side of a bank balance sheet and represents temporary loans to bill brokers, stock brokers and other banks. If the loan is given from one day, it is called 'money at call' and if the loan cannot be called back on demand and will require at least notice of three days, for calling back, it is called 'money at short notice'. It also includes deposits repayable within 10 days or less than 15 days notice but in the inter-bank call money market. The rate of interest on which money is lent fluctuates every day, sometimes, very quickly (more than 25%-30% ) depending upon the demand for and supply of money.

4.Certificate of Deposits(CDs)

Certificate of Deposits are marketable receipts in bearer or registered form of funds deposited in a bank for a specified period at a specified rate of interest. They are different from the fixed deposits in the sense that they are freely transferable, can be sold to someone else and can be traded on the secondary market. They are liquid and riskless in terms of default of payment of interest and principal.

Reserve Bank of India launched a scheme in June 1989 permitting banks to issue CDs "with a view to further widen the range of money market instruments and to give investors greater flexibility in the deployment of their short-term surplus funds". Originally, the CDs were issued in multiples of Rs 25 lakh subject to the minimum size of each issue being Rs 1 crore, having maturity period of 3 months to 1year and lock in period of 45 days after the date of issue. But in 1997-98, the RBI modified it's original scheme and following norms/guidelines were laid down in respect CDs.

(1) The minimum denomination of CDs is Rs 5 lakh.

(2) Minimum size of the issue of a single depositor is Rs 10 lakh, additional amounts can be issued in multiples of Rs 5 lakh.

(3) The maturity period of CDs of banks varies from 91days to 1year.

(4) CDs to be issued on discounting basis. Rate of discount is to be determined by the market.

(5) CDs are freely transferable or marketable after a lock-in-period of 30 days after the issue.

(6) All scheduled banks other than Regional Rural Banks (RRBs) are allowed to issue CDs without any ceiling.

(7) CDs are subject to CRR and SLR requirements.

(8) CDs can not be bought back nor any loan can be given against CDs by the issuing institutions.

(9) Term lending institutions can also issue CDs with maturity period of 1 to 3 years. During 1991-92, IDBI, ICICI, IFC were permitted to issue CDs.

In India, although the scheme of CDs has been in existence for quite sometime, yet it has to gain importance. Lack of active secondary market, high price of CDs lack of information to the investors are some of the reasons which cause holders to hold CDs till maturity.

5. Commercial Papers (CPs)

CPs are short-term usance promissory notes issued by reputed companies with good credit standing and having sufficient tangible assets. CPs are unsecured and are negotiable by endorsement and delivery. CPs are normally issued in a bearer form on discount to face value basis. The issuing companies normally can buy-back CPs if the need arises.

CPs are normally issued by the banks, public utilities, insurance and finance companies. The buyer of CPs include banking and non-banking financial institutions. CPs in India were launched by the RBIs notification in January, 1990 with a view to enable highly reputed companies to diversify their sources of short-term borrowings and also to provide an additional instrument to investors. " RBI guidelines were applicable to all non-banking and non-financial companies who wanted to raise funds through the issue of CPs. Even the companies governed by FERA, 1973 were granted permission by the RBI to issue CPs. Initially, CPs were allowed to be issued at a discount to their face value and the discount rate was freely determined by the company issuing the CPs. The issuing company is required to meet the stamp duty, credit rating agency fees, stand by facility charges etc. The maturity period of CPs was 30days.

Revised guidelines were issued by RBI in 1997-98 in respect of sale of CPs which are listed below :

1.The issuing company must have tangible net worth of Rs 4crore.

2. The fund based working capital limit of the company should not be less than Rs 4 crore.

3. A company can issue CPs to the extent of 75% of working capital limit.

4. The minimum size of an issue to a single investor is to be Rs 25 lakh and in denomination of Rs 5 lakh each.

5. The company should have a minimum credit rating of P2 from CRISIL and A2 from ICRA.

6. Prior approval of RBI is not required to make an issue of CPs.

7. The company need not get the issue underwritten or co-accepted.

8. The holders of CPs shall present CPs to the issuing company on maturity for payment.

While reviewing the monetary and credit policy measures for 2000-20001, RBI on Oct. 10,2000 announced changes in guidelines for issues of Commercial Paper.

(1) Eligibility. For a corporate to be eligible following conditions are to be satisfied :

(a) It must have the tangible networth of Rs 4crore.

(b) It must have a sanctioned working capital limit from a bank /financial institution.

(c) Its borrowal account is a standard asset.

(d) The company should have minimum credit rating of P-2 of CRISIL or such equivalent rating by other approved agencies.

(2) Maturity. A minimum of 15 days and a maximum upto one year will be the tenure of these instruments.

(3) Denomination. CPs can be issued in denominations of Rs 5lakh and multiples thereof.

(4) Issuing and Paying Agent (IPA). Only a scheduled bank can act as an issuing and paying agent.

(5) Investment in CP. CP may be held by individuals, banks, corporates, unincorporated bodies, NRIs and FIIs.

(6) Mode of Issuance. CP can be issued as a promissory note or in a dematerialised form. Underwriting is not permitted.

(7) Preference for Demat. Issuers and subscribers are encouraged to prefer exclusive reliance on demat form. Banks, FIs, Primary Dealers (PDs) and Satellite Dealers (SDs) are advsed to invest only in demat form as soon as arrangements are put in place.

(8) Stand-by-Facility. It is not obligatory for banks/FIs to provide Stand-by-Facility. They have the flexibility to provide credit enhancement facility within the prudential norms.

(9) Role and Responsibilities. The guidelines prescribe role and responsibilities for issuer, IPA and Credit Rating Agency. FIMMDA as an SRO may prescribe standardised procedure and documentation in consonance with the international best practices. Till then, the procedures/documentation prescribed by the IBA has to be followed.

The eligibility conditions laid down by RBI have limited the number of participants in the market. The requirement of obtaining credit rating every time whenever a company wants to issue CPs is providing to be costly and time-consuming. Individuals and small-size investors are not keen in CPs because it offers no tax-incentive on investment in CPs. The success of CPs lies in the existence and growth of secondary market for them. Creation of DFHI has given certain hope that such a market may grow in near future in India.

6.Repurchase Agreement (REPO)

The developed money markets of the world have experienced tremendous change in the use of purchase agreements (repos) as a money market instrument. It is very important instrument of the money market. It enables smooth adjustment of short term liquidity among varied categories of market participants. In all advanced financial markets it is extremely popular instrument and constitutes the major share of security transactions. It is much safer than call money market operations, as it is backed by collaterals. As it is a market based instrument, it serves the purpose of an indirect instrument of monetary control in a liberalised financial market.

In India, in the post 1992 securities scam, numerous restrictions were imposed on reposs transactions. However, recently market participants have been demanding widening the scope of repo transactions with a view to increase the depth and liquidity in the debt market and government securities market. Monetary policy of 1998-99 introduced one day repos as a significant monetary tool. The monetary policy of 1999-2000 recognised that the repo rates are being increasingly accepted by the market as signals for movement in the market rate of interests, especially the call money rates. To examine, various aspects of repos, the RBI, constituted a group which submitted its report in 1999.Before,looking at the recommendations of the group it will be worthwhile to understand basic concept of repos.

Concept

Repo (Repurchase Agreement) is a money market instrument, which enables collateralised short term borrowing and lending through sale/purchase operations in debt instruments. Under repo, a holder of securities sells them to an investor with an agreement to repurchase at a predetermined date and rate. The forward price set in advance at a level which is different from spot price by adjusting the difference between repo interest and coupon interest earned on the security .In money market it is collateralised lending and the cost of transaction is the repo rate. Repo rate is the annualised rate for the funds transferred by the lender to the borrower. Repo is also called ready forward transaction as it involves selling a security on spot basis and repurchasing the same on forward basis. When securities are acquired with a simultaneous commitment to reserve the transaction it is called reverse repo.

An active market leads to increase in the money market turnover and the central bank of the country can use it as an integral part of open market operations.

Recommendations

1.Withdrawn Govt. Notification dated June 27,1969. The group opined that it will not be possible for most of the intending parties to participate unless Govt. notification dated June 27,1969 which prohibits participation is withdrawn.

2. RBI needs to acquire regulatory powers under 29A of SCR Act. since repo is a short term money market instrument, this needs to be regulated by RBI. There is need to amend section 29A of Securities (Contract) Regulation Act, so as to enables Govt. to delegate regulatory powers to RBI for trading in Govt. securities and other instruments.

3.Replace Public Debt Act 1944. The Committee recommended replacement of Public Debt Act 1944 by a Government Securities Act to enable electronic transfer of gift securities.

4.'Over the Counter' and 'Tripartite ' repos to expand the market. It recommended introduction of 'over the counter ' and 'tripartite ' repos with adequate checks and balances.

5.Uniform Accounting Practices .It recommended uniform accounting and related practices to ensure transparency.

6.Uniform Accounting Practices. It recommended uniform accounting and related practices to ensure transparency.

7.Guidelines for constituents SGL account operations. It has recommended guidelines for maintenance of constituents securities general ledger accounts.

8.Specification of date of deal and settlement. It recommended that to avoid differences in practices and resultant confusion it will be desirable to stipulate deal date and settlement date in the contract.

9.Master repurchase agreement for repos. It felt that on international lines there should be master repurchase agreement which allows obligations under all outstanding repos to be set off against each other upon default or insolvency of the party.

10.Code of Conduct for Repo transactions. A code of conduct which refer to the issues which participants should address should be brought in place.

11.Supervision and monitoring by RBI. In view of the experience of securities scam, RBI should supervise and monitor the market. This shall not be difficult once a line tradings is put in place.

12.Roll over of Repos. Since it is collateralised borrowing, roll over on the prevailing market rates should be allowed.

13.Maximum eligibility duration of repos. At present there are no restrictions on the duration of repos. There is some confusion regarding maximum period of repos, which needs clarification by the Govt.

Implementations

The report was submitted in October, 1999.As a follow up of the report the Reserve Bank of India has already taken the following steps:

1.Amendment to SCR Act 1956. Section 29A of the Securities Contracts(Regulations) Act 1956 has been amended. Under the amended section, the Government of India has delegated regulatory powers to RBI w. e. f. March 2000 to regulate dealings in Government securities, money market securities, gold related securities and securities derived from these securities. It also covers forward contracts in debt securities.

2.Special facility for securities settlement. In view of the increased volumes in transactions, it is introducing a scheme for automatic invocation by the SGL account holder of underan refinance or liquidity support from RBI. This will result in smooth settlement of transactions even if there is insufficient balance in the account.

3.Debt Securities Clearing Corporation. Steps have been initiated to set up Debt Securities clearning corporation. This will deal with both in money and debt securities. It will open up repo market to PSU bonds and of Financial Institutions.

4.More towards pure inter bank money market. In tune with Narsimham Committee-2 recommendations. RBI is moving towards pure inter bank call money market subsequent to amendment of SCR Act, repo market has been widened to include non-bank entities having current of SGL accounts with RBI.

5.Intoduction of Liquidity Adjustment Facility(LAF). As a first step towards setting up of LAF, an Interim Liquidity Adjustment Facility (ILAF) was set up in April 1999. In operated through repos and reverse repos to set a corridor for money market interest rates. With the experience of this interim measure, steps have now been taken to implement full-fledged LAF in stages.

The first stage of LAF was operationalised as from June 5,2000. The LAF is a mechanism by which the RBI sucks liquidity from the money market. It provides liquidity whenever it senses a temporary shortage. The RBI makes banks and primary dealers bid for funds if there is a shortage in money market and by it borrows from them if there is a surplus.

6.ADRs and GDRs

American Depository Receipts (ADRs) are the forerunners of Global Depository Receipts (GDRs). These are the instruments in the nature of depository receipt or certificate. These instruments are negotiable and represent publicly traded, local currency equity shares issued by non-American Company. Non -resident Indians (NRIs) like to invest in their instruments. For Indian companies, it is a preferred source of raising capital.

ADRs are listed on American Stock Exchange whereas GDRs are listed in a stock exchange other than American Stock Exchanges, say Luxembourg or London.

The process of issue of ADR involves delivery of ordinary shares of Indian company to a Domestic Custodian Bank (DCB) in India, which instructs the Overseas Depository Bank (ODB) to issue ADR on the predetermined ratio.

DCB is a banking company acting as a custodian for the ordinary shares/bonds of an Indian company which are issued by it against global depository receipts or certificates. ODB (Overseas Depository Bank) refers to the bank authorised by the issuing company to issue global depository receipts against issue of bonds or ordinary shares of the issuing non-US company. A GDR/ADR is an evidence of either Global Depository Shares (GDS) or American Depository Shares (ADS).

Each GDS/ADS represents the underlying ordinary share of the issuing company. The holders of GDRs/ADRs are entitled to dividend, bonus shares and right issues. The holders may exercise their voting right through the ODB. These can be sold outside India in their existing form. The underlying shares can be sold in India after redemption of GDRs/ADRs outside India to non-residents is not taxable in India. Indian companies issuing ADRs/GDRs need not approach Ministry of Finance, Govt of India, for prior approval.

In America, strict disclosure and accounting norms have to be followed for getting the shares listed on stock exchanges. Accounts are to be prepared according to the US generally accepted accounting principles (GAAP). A combined balance sheet is to be prepared of all group companies. Some of the companies who have gone in for adrs are Infosys Technology, Satyam Infoway, ICICI Bank, Silverline Tech, Rediff.

MECHANISM

XY ltd is the issuing company having an authorised capital of INR 10 lac, issues 1 lac shares through depository mechanism. It releases ordinary shares to DCB who acts as a custodian and these shares remain in India. Against the underlying shares, the ODB, on the instructions of XY Ltd. issues dollar denominated receipts to the foreign investors.

Assuming an investor A purchases ADRs outside India. This foreign investor can sell these receipts in the foreign stock exchanges or back to the depository and get delivery of the underlying rupee denominated shares which can then be sold in Indian markets. This is generally done by the institutional investors who see an arbitrage opportunity arising out of a difference in prices on the US and Indian exchanges. The GDR market is mainly an institutional market, with lower liquidity.

FEATURES OF THE INDIAN MONEY MARKET

In money market short term surplus funds with banks, financial institutions and others are bid by borrowers i.e., individuals, companies and the Government. In the Indian money market RBI occupies the pivotal positions. The Indian money market can be divided into two sectors i.e., unorganised and organised. The organised sector comprises. of Reserve Bank of India, SBI group and commercial banks foreign, public sector and private sector. The financial institutions also participate to a limited extent. The unorganised sector consists of indigenous bankers and money lenders. The organised money market in India has number of sub-markets such as the treasury bills market, the commercial market and inter-bank call money market.

PLAYERS IN THE INDIAN MONEY MARKET

The following are the major players in the Indian money market :

(1) Reserve Bank of India

(2) Financial institutions like IFCI, IDBI, ICICI, IRBI, LIC, UTI, etc.

(3) Commercial banks including scheduled as well as non-scheduled commercial banks, private banks, foreign banks, State Bank of India and its subsidiaries, cooperative banks etc.

(4) Discount and Finance House of India.

(5) Brokers

(6) Provident Funds

(7) Public sector undertakings

(8) Corporate units, etc.

DEFECTS OF THE INDIAN MONEY MARKET

1.Existence of Unorganised Money Market. The most important defect of the Indian money market in the existence of unorganised segment. In this segment of the market the purpose as well period are not clearly demarcated. In fact, this segment of the market the purpose as well period are not clearly demarcated. In fact, this segment thrives on this characteristic.

This segment undermines the role of the RBI in the money market. Efforts of RBI to bring indigenous bankers within statutory frame work not yielded much result.

2.Lack of Integration. Another important deficiency is lack of integration of different segment or functionaries. However, with the enactment of the Banking Companies Regulation Act 1949, the position has changed considerably. The RBI is now almost fully effective in this area under various provisions of the RBI Act and the Banking Companies Regulation Act.

3.Disparity in interest rates. There have been too many interest rates prevailing in the market at the same time like borrowing rates of Government, the lending rates of commercial banks, the rates of co-operative banks and rates of financial institutions. This was basically due to lack of mobility of funds from one sub-segment to another. However, with changes in financial sector the different rates of interest have been quickly adjusting to changes in the bank rate.

4.Seasonal Diversity of Money Market. A notable characteristics is the seasonal diversity. There are very wide fluctuations in the rates of interest in the money market from one period to another in the year. November to June in the busy period. During this period crops from rural areas are moved to cities and parts. The wide fluctuations create problems in the money market. The Reserve Bank of India attempts to lessen the seasonal fluctuations in the money market.

5.Lack of Proper Bill Market. Indian Bill market is an underdeveloped one. A well organised bill market or a discount market for short term bills is essential for establishing an effective link between credit agencies and Reserve Bank of India. The reasons for the situation are historical, like preference for cash to bills etc.

Reserve Bank of India started making efforts in this direction in 1952. However, a new and proper bill market was introduced in 1970. There has been substantial improvement since then.

6. Lack of very well Organised Banking System. Till 1969, the branch expansion was very slow. There was tremendous effort in this direction after nationalisation. A well developed banking system is essential for money market. Even, at present the lack of branches in rural areas hinders the movement of funds. With imphasis on profitability, there may be some problems on this account.

In totality it can be said that Indian Money Market is relatively under developed. In no case it can be compared with London Money Market or New York Money Market. There are number of factors responsible for it in addition to the above discussed characteristics. For example, lack of continuous supply of bills, a developed acceptance market, commercial bills market, dealers in short term assets and co-ordination between different sections of the money market.

THE REFORMS IN THE INDIAN MONEY MARKET

Since its inception, particularly after independence, the Reserve Bank of India has been making efforts to remove the defects of the Indian money market. The organised sector of the market is relatively well knit and differences between various sectors of the market have been reduced. The bill market scheme was one very important step. But the Indian money market is still centred on the call money market although efforts have been made to develop secondary market in post 1991 period.

Vaghul Committee on Money Market, Sukhmoy Chakravarty Committee on the Review of the working of the Monetary System and Narasimham Committee on the working of Financial System have made important recommendations on the Indian money market. The Reserve Bank of India has started the process of implementation of these recommendations.

1.Development of Money Market Instruments. The Reserve Bank of India has played an important role in the introduction of new money market instruments. These new instruments are 182 days treasury bills, longer maturity bills, dated Government securities, certificates of deposits and commercial papers, 3-4 days repos and 1 day repos from 1998-99.

Traditionality, The 91 days treasury bills have been the main instrument used by Government of India for raising short term funds. The investments came from commercial banks. In January 1993, the Government of India, introduced the system of weekly auctions, which has become quite popular. The Government has been raising nearly Rs 16,000 crores through this instrument. The interest rate variations in these bills have been between 7.15 to 11 percent. Indian money market is following the unique practice of converting treasury bills into dated securities of 2years or 5years, normally carrying interest rate of 12 percent.

Reintroduction of 182 days treasury bills. The 182 days bills, which were discounted in 1992, have been reintroduced from 1998-99. Now Indian money market has 14 days, 91 days, 182 days and 364 treasury bills.

Demand for treasury bills is no longer exclusively linked with statutory liquidity rates considerations. The secondary market transactions aiming at effective management of short term liquidity are on the increase.

2. Deregulation of Interest Rates. Deregulation of interest rates help banks to accustom to better pricing of assets and liabilities and to the need to manage interest rates across their balance sheet.

The process of reduction of interest rate regulations started in 1988, when Reserve Bank of India removed the ceiling of 16.5 percent and fixed a minimum of 16 percent p. a. In 1989, the ceiling on the interest rates on inter bank call market, inter bank short term deposits etc was also removed and the interest rates get linked to market forces.

In accordance with the recommendations of Narsimham Committee in November 1991, the interest rates were further deregulated. The interest rates have been almost completely deregulated in April 1998.

3. Institutional Development. The post reforms period saw significant institutional development and procedural reforms aimed at developing a strong secondary market in government securities.

Discount and Finance House of India Ltd. has been set up as a part of the package of reform of the money market. It buys bills and other short term papers from banks and financial institutions. It provides short term investment opportunity to banks.

To develop a secondary market in Government securities, it started buying and selling securities to a limited extent in 1992. To enable Discount and Finance House of India Ltd (DFHI), to deal in Government securities, the Reserve Bank of India provides necessary refinance.

The institutional infrastructure in government securities has been strengthen with the system of Primary Dealers (PDs) announced in March 1955 and that of Satellite Dealers (SDs) in December 1996.

Similarly, Securities Trading Corporation of India was established in 1994, to provide better market and liquidity for dated securities, and to hold short term money market assets like treasury bills. The National Stock Exchange (NSE), has an exclusive trading floor for transparent and screen based trading in all types of debt instruments.

4. Money Market Mutual Funds. In 1992, setting up of Money Market Mutual Funds was announced to bring it within the reach of individuals. These funds gave been introduced by financial institutions and banks.

With these reforms the money market is becoming vibrant. There is further scope by introducing new market players and extending refinance from Reserve Bank of India.

Narsimham Committee has also proposed that well managed non-banking financial intermediaries and merchant banks should also be allowed to operate in the money market. As and when implemented this will widen the scope of money market.

5.Permission to Foreign Institutional Investors (FIIs), FIIs are allowed to operate in all dated government securities. The policy for 1998-99 has allowed to buy treasury Bills' within approved debt ceiling.