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Financial System Functions

1. Liquidity Provision 

The main function of the financial system is the Provision of money and monetary assets for the Production of goods and services. There should not be any shortage of money for productive ventures. In financial language, the money and monetary assets are referred to as liquidity. The term liquidity refers to cash or money and other assets which can be converted into cash readily without loss of values. So, all activities in a system are related to liquidity- either provision of liquidity or trading in liquidity. In fact in India the R.B.I. has vested with the monopoly power of issuing coins and currency notes.

Commercial banks can also create cash [deposit] in the form of  'credit creation' and other financial institutions also deal in monetary assets. Over supply of money is also dangerous to the economy.In India the R.B.I. is the leader of the financial system and hence it has to control the money supply and creation of credit by banks and regulate all the financial institutions in the country in the best interest to the nation. It has to shoulder the responsibility of developing a sound financial system by strengthening the institutional structure and by promoting  savings and investment in the country.

2. Savings Mobilisation 

 Other important activity of the financial system is to mobilise  savings and channelise them  into productive activities. The financial system should offer appropriate incentives to attract savings and make them available for more productive ventures. Thus, the financial system facilitates the transformation of savings into investment and consumption. The financial intermediaries have to play a dominant role in this activity.

3. Function of Size Transformation 

Generally, the savings of millions of small investors are in the nature of a small unit of capital which cannot find any fruitful avenue for investment unless it is transformed into a perceptible size of credit unit. Banks and other financial intermediaries perform this size transformation function by collecting deposits from a vast majority of small customers and giving them as loan of a sizeable quantity. Thus, this size transformation function is considered to be one of the very important functions of the financial system.

4. Function of Maturity Transformation 

Other function of the financial system is the maturity transformation function. The financial intermediaries accept deposits from public in different maturities according to their liquidity preference and lend them to the borrowers in different maturities according to their need and promote the economic activities of a country.

5. Function of Risk Transformation 

Most of the small investors are risk-averse with  their small holding of savings. So, they hesitate to invest directly in stock market. On the other hand, the financial intermediaries collect the savings from individual savers and distribute them over different investment units with their high knowledge and expertise. Thus, the risks of individual investors get distributed. The risk transformation function promotes industrial development. Moreover, various risk mitigating tools are available in the financial system like hedging, insurance, use of derivatives etc.

FINANCIAL CONCEPTS

An understanding of the financial system requires an understanding of the following important concepts:

1. Financial assets

2. Financial intermediaries

3. Financial markets

4. Financial rates of return

5. Financial instruments

Cash  Asset

 In India,all coins and currency notes are issued are by the R.B.I. and the Ministry of Finance, Government of India. Besides, commercial banks can also create money by means of creating credit. When loans are sanctioned, liquid cash is not granted. Instead, an account is opened in the borrower's name and a deposit is created. It is also a kind of money asset.

Debt Asset

Debt asset is issued by a variety of organisations for the purpose of raising their debt capital. Debt capital entails a fixed repayment schedule with regard to interest and principal. There are different ways of raising debt capital. Example; issue of debentures, raising of term loans, working capital advance etc.

Stock Asset

Stock is issued by business organisations for the purpose of raising their fixed capital. There are two types of stock namely equity and preference. Equity shareholders are the real owners of the business and they enjoy the fruits of ownership and at the same time they bear the risks as well. Preference shareholders, on the other hand get a fixed rate of dividend(as in the case of debt asset) and at the same time they retain some characteristics of equity.

FINANCIAL INTERMEDIARIES

The term financial intermediary includes all kinds of organisations which intermediate and facilitate financial transactions of both individuals and corporate customers. Thus, it refers to all kinds of financial institutions and investing institutions which facilitate financial transactions in financial markets. They may be in the organised sector or in the organised sector. The may also be classified into two

1. Capital market intermediaries

2. Money market intermediaries

Capital Market Intermediaries

These intermediaries mainly provide long term funds to individuals and corporate customers. They consist of term lending institutions like financial corporations and investing institutions like LIC.

Money Market Intermediaries

Money market intermediaries supply only short term funds to individuals and corporate customers. They consist of commercial banks, co-operative banks,etc.

FINANCIAL MARKETS

Generally speaking, there is no specific place or location to indicate a financial market. Wherever a financial transaction takes place, is deemed to have taken place in the financial market. Hence, financial markets are pervasive in nature since, financial transactions are themselves very pervasive throughout the economic system. For instance, issue of equity shares, granting of loan by term lending institutions, deposit of money into a bank, purchase of debentures, sale of shares and so on.

However, financial markets can be referred to as those centers and arrangements which facilitate buying and selling of financial assets, claims and services. sometimes, we do find the existence of a specific place or location  for a financial market as in the case of stock exchange.

Classification of  Financial Markets

The classification of financial markets in India are:

Maturity of claim

1. Capital Market

Capital market are divided into primary markets and secondary markets. Primary markets allow new listed company to issue new securities and shares.

2. Money Market 

Deposits certificates, treasury bills are available in these markets for tradings. These are usually short term financial holdings. These can be traded online but not exist physically.

Nature of Claim

1. Equity Market

These market are for residual claims.
Investors can deal in equity financial holdings 

2. Debt Market

These market offer fixed claim like bonds and debentures for trading. Traders can buy these financial holdings at debt markets for a fixed return and agreed-upon maturity period.

Organisational Structure 

1. Over-the-Counter Market 

These markets have customised procedures and no any centralised organization. Typically offering shares from small companies. Traders can trade without involving any broker in their transactions. Investors can trade in these markets online.

2. Exchange-Traded Market 

These are centralised trading market which record immense trading on a daily basis. These have standard procedures which regulates their functioning while trading financial holdings like shares.

Timing of Delivery 

1. Cash Market

These markets offer real time transactions which are immediately settled between different sellers and buyers.

2. Futures Market

These markets offer transactions where settled and commodities are delivered in future dates


Unorganized  Markets

In these markets, there are a number of money lenders, indigenous bankers, traders etc.,who lend money to the public. Indigenous bankers also collect deposits from the public. There are also private finance companies, chit funds etc., whose activities are not controlled by the RBI. Recently the RBI has taken steps to bring private finance companies and chit funds under its strict control by issuing non-banking financial companies (Reserve Bank) Directions,1998. The RBI has already taken some steps to bring the organised sector under the organised fold. They have not been successful. The regulations concerning their financial dealings are still inadequate and their financial instruments have not been standing.

Organised Markets

In the organised markets, there are standing  rules and regulations governing their financial dealings. There is also a high degree of institutionalisation and instrumentalisation There markets are subject to strict supervision and control by the RBI or other regulatory bodies.
These organised markets can be further classified into two. They are:

 1. Capital Market

 2. Money Market

 Capital  Market

The capital market is a market for financial assets which have a long or indefinite maturity. Generally, it deals with long term securities which have a maturity period of above one year. Capital market may be further divided into three namely:
       
 1. Industrial securities market

 2. Government securities market and

 3. Long term loans market

 Industrial Securities Market

As the very name  implies, it is a market for industrial securities namely:
Equity shares. Bonds, it is a market where industrial concerns raise their capital or debt by issuing appropriate instruments. It can be further subdivided into two. They are:

1. Primary market or New issue market

2. Secondary market or Stock exchange

Primary Market

Primary market is a market for new issues or new financial claims, Hence. it is also called New Issue market. The primary markets deals with those securities which are issued to the public for the first time. In the primary markets, borrowers exchange new financial securities for long term funds.Thus, primary market facilitate capital formation. There are three ways by which a company may raise capital in a primary market.They are:

 1. Public issue

 2. Rights issue

3. Private Placement

The most common method of raising capital by new companies is through sale of securities to the public. It is called public issue. When an existing company wants to raise additional capital, securities are first offered to the existing shareholders on a pre-emptive basis. It is called rights issue. Private placement is a way of selling securities privately to a small group of investors.

Secondary Market

Secondary market is a market for secondary sale of securities. In other words, securities which have already passed through the new  issue market are traded in this market. Generally, such securities are quoted in the Stock Exchange and it provides a Continuous and regular market for buying and selling of securities. This market consists of all stock exchanges recognized by the Government of India. The stock exchanges in India are regulated under  the securities contracts(Regulation) Act, 1956. The Bombay Stock Exchange is the principal stock exchange in India Which sets the tone of the other stock market.  
                  
Market of Government Securities 

In is otherwise called Gilt-Edged securities market. It a market where Government securities are traded. India there are many kinds of Government  securities -Short-term and long-term. Long-term securities are traded in this market while short term securities are traded in the money market. Securities issued by the like city Corporations, Port Trusts etc. Improvement Trusts, State Electricity Boards, All India and State level financial institutions and public sector enterprises are dealt in this market.

Government securities are issued in denomination's of Rs.100.payable half-yearly and the carry tax  exemptions also. The role of brokers in marketing these securities is practically very limited and the major participant in this market is the "commercial bank" because they hold a very substantial portion of these securities to satisfy their S.L.R. requirements.

The secondary market for these securities is narrow since, most of the institutional investors tend to retain these securities until maturity.

The Government securities are in many form's. These are generally:

  1. Stock certificates or inscribed stock

  2. Promissory Note
           
  3. Beater Bonds which can discounted.

Government securities are sold through the public Debt Office of the RBI while Treasury's Bills (short term securities) are sold through auctions.

Government securities offer a good source of raising inexpensive finance for the Government exchequer and the interest on these securities influences the Prices and yields in this market. Hence, this market also Plays a vital role in monetary management.

3. STRIPS-Separate Trading of Registered Interest and Principal of Securities

With a to improving liquidity and Widening the investor base of the government securities market, stropping and reconstruction of government securities have been Permitted under the government securities ACt, 2006. Stepping in nothing but the process of separating a standard coupon leaving bond into its constituents interest and Principal components. For example example, stripping 15 year security Would yield 30 maturing on the respective coupon dates and one principal security representing the principal amount maturing on the redemption date of the 15 year security. All the 30 coupon securities and the Principal security Would thereafter be come zero coupon bounds. The reverse of stripling in called reconstitution. The is, When all the coupon STRIPS and the principal STRIPS are reassembled in the original government security, it is called reconstitution.

The special features of STRIPS is that the coupon STRIPS of the same date, thought form different stocks are exchangeable since they are identical by their maturity dates. STRIPS provide additional instruments to institutional investors for their assets liability management. Again, STRIPS have zero investment risk (discounted instruments With no Periodic interest Payment). Stripping / Reconstitution can be done at the option of the holder at any time from the date of issues of a government security till its maturity.

The minimum amount of securities that needs to the submitted for stropping / it Will be Rs.1 crore (Face value) and multiples thereof.

4. Long-Term Loans Market

Development banks and commercial banks play a significant role in this market by supplying long term loans to corporate customers. Long- term loans market may further be classified into:

   1. Term loans market

   2. Mortgages market

   3. Financial guarantees market.

Term Loans Market

In India many industrial financing institutions have been created by the Government both at the national and regional levels to supply long- term and medium term loans to corporate customers directly as Well as indirectly.
These development banks dominate the industrial finance in India. Institutions like IRBI, IFCI, and other state financial corporations come under this category. These institutions meet the growing and varied  long- term financial requirements of industries by supplying long- term loans. They also help in identifying investment opportunities, encourage new entrepreneurs and support modernisation efforts.

Mortgages market

The mortgages market prefers to those centres Which supply mortgage loan mainly to individual customers. A mortgage loan is a loan against the security of immovable property like  real estate. The transfer of interest in a Specific immovable Property to secure a loan is called mortgage. This mortgage may be equitable mortgage or legal one. Again, it may be a first charge or second charge. Equitable mortgage is created by a mere deposit of title deeds to properties as security whereas in the case of a legal mortgage the title in the property is legally transferred to the lender by the borrower. Legal mortgage is less risky.

Similarly, in the first charge,the mortgage transfers his interest in the specific property to the mortgagee as security. When the property in question is already mortgaged once to another creditor, it becomes a second charge when it is subsequently mortgaged to somebody else. The mortgagee can also further transfer his interest in the mortgaged property to another. In such a case, it is called a sub-mortgage.

The mortgage market may have primary market as well secondary market. The primary market consists of original extension of credit and secondary market has sales and re- sales of existing mortgages at prevailing prices.

In India, residential mortgages are the most common ones. The Housing and Urban Development Corporation (HUDCO) and the LIC play a dominant role in financing residential projects. Besides, the Land Development Bank provide cheap mortgage loans for the development of lands, purchase of equipment etc. These development banks raise finance through the sale of debentures which are treated as trustee securities.

Financial Guarantees market

A Guarantee market is a center where finance is provided against the guarantee of a reputed person in the financial circle. Guarantee is a contract to discharge the liability of third party in case of his default. Guarantee acts as a security from the creditor's point of view. In case the borrower fails to repay the loan, the liability falls on the shoulders of the guarantor. Hence the guarantor must be knows to both the borrower and the lender and he must have the means to discharge the liability.

Though there are many types of guarantees, the common form are:
 
1. Performance Guarantee

2. Financial Guarantee
 
Performance guarantees cover the Payment of earnest money, retention money, advance payments, non- completion of contracts etc. On the other hand, financial guarantees cover only financial contracts.

In India, the market for financial guarantees is well organised. The financial guarantees in India relate to:

1. Deferred payments for imports and exports.

2. Medium and long- term loans raised abroad.

3. Loans advanced by banks and other financial institutions.

These guarantees are provided mainly by commercial banks, development banks, Governments, both central and States and other specialized guarantee institutions like ECGC (Export Credit Guarantee Corporation). This guarantee financial services is available to both individual this guarantee service is absolutely essential.

IMPORTANCE OF CAPITAL MARKET

Absence of capital market acts as a deterrent factor to capital formation and economic growth. Resources would remain idle  if finances are not funneled through the capital market. The importance of capital market can be briefly summarized as follows:

1. The capital market services as an important source for the productive use of economy's savings. It mobilizes the savings of the people for further investment and thus, avoids their wastage in unproductive uses.

2. It provides incentives to saving and facilitates capital formation by offering suitable rates of interest as the Price of capital.

3. It provides an avenue for investors, particularly the household sector to invest in financial assets which are more productive than physical assets.

4. It facilitates increase in production and productivity in the economy and thus,enhances the economic welfare of the society. The movement of stream of command over capital to the point of highest yield. Towards those who can apply them productively and profitably to enhance the national income in the aggregate.

5. The operations of different institutions in the capital market induce economic growth. The give quantitative and qualitative directions to the flow of funds and bring about rational allocation of scarce resources.
 
6. A healthy capital market consisting of expert intermediaries promoters stability in values of securities representing capital

 7. Moreover, it serves as an important source for technological up gradation in the industrial sector by utilising the funds invested by the public.

Thus, a capital market serves as an important link between those who save and those who aspire to invest their savings.

Money Market

Money market is a market for dealing with financial assets and securities which have a maturity  period of up to one year. In other words, it is a market for purely Short term funds. The money market may be subdivided into four. They are:

       1. Call money market

       2. Commercial bills market

      3. Treasury bills market

      4. Short-term loan market.

Call Money Market

The call money market is a market for extremely short period loans say one day to fourteen days. So, is highly liquid. The loans are repayable on demand at the options of either the lender or the borrower.In India,call money. Markets are associated with the presence of stock exchanges and hence, they are located in major industrial towns like Mumbai, Kolkata, Chennai, Delhi, Ahmadabad etc. The special feature of this market is that the interest rate varies from day- to- day and even form hour- to- hour and centre- to- centre. It is very sensitive to changes in demand and supply of call loans.

Commercial Bills Market

It is a market for Bills of Exchange arising out of genuine trade transactions. In the case of credit sale, the seller may draw a bill of exchange on the buyer. The buyer accepts such a bill, promising to pay at a later date the amount specified in the bill. The seller need not wait until the due date of the bill. Instead, he can get immediate payment by discounting the bill.

In India the bill market is under- developed. The RBI has taken many steps to develop a sound bill market. The RBI has enlarged the list of participants in the bill market. The Discount and Finance House of India was set up in 1988 to promote secondary market in bills. In spite of all these, the growth of the bill market RBI slow in India. There are no specialised agencies for discounting bills. The commercial banks play a significant role in this market.

Treasury Bills market

It is market for treasury bills which have 'short-term' maturity. A treasury bill is a promissory note or a finance B Treasured by the  Government. It is highly liquid because its repayment is guaranteed by the Government. It is an important instrument for short-term borrowing of the Government. There are two types of Treasury bills namely
                                   
1. Ordinary or regular 

2. Ad hoc treasury bills popularly known as 'ad hocs'.

Ordinary treasury bills are issued to the public, banks and other financial institutions with a view to raising resources for the Central Government to meet its  short-term financial needs. Ad hoc treasury bills are issued in favour of the RBI only. The are not sold through tender or auction.They can be purchased by the RBI only. Ad hoc are not marketable in India but holders of these bills can sell the intermediaries hi. Treasury bills have y maturity period of 91 days or 182 days or 364 days only. Financial intermediaries can park their temporary surpluses in these instruments and earn income.

Short-Term Loan market

It is market where short-term loans are given to corporate customers for meeting their working capital requirements. Commercial banks play a significant role in this market. Commercial banks provide short term loans in the form of cash credit and overdraft. Overdraft facility is mainly given to business people whereas cash credit is given to industrialists. Overdraft is purely a temporary accommodation and it is given in the current account itself. But, cash credit is for a period of one year and it is sanctioned in a separate account.

FOREIGN EXCHANGE MARKET

The term foreign exchange refers to the process of converting home currencies into foreign currencies and vice versa. According to Dr. Paul Einzing "Foreign exchange is the system or process of converting one national currency into another, and of transferring money from one country to another".

The market where foreign exchange transactions take place is called a foreign exchange market. It does not refer to a market place in the physical sense of the term. In fact, it consists of number or dealers, bank and brokers engaged in the business of buying and selling foreign exchange. It also includes the Central bank of each country and the treasury authorities who enter into this market as controlling authorities. Those engaged in the foreign exchange business are controlled by the Foreign Exchange Maintenance Act. (FEMA) 
The most important functions of this market are:

Functions

 A. To make necessary arrangement to transfer  power from one country to another.

 1. To provide adequate credit facilities for the promotion of foreign trade.

2. To cover foreign exchange risks by providing hedging facilities.

 3. To cover foreign exchange risks by providing hedging facilities.

In India,the foreign exchange business has a three-tiered structure consisting of:

1. Trading between bank and their commercial customers.

2. Trading between banks through authorised brokers.

3. Trading with banks abroad.

Brokers play a significant role in the foreign exchange market In India. Apart from Authorized Dealers, the RBI has permitted licensed hotels and individuals (Known as Authorized Money Changers) to deal in foreign exchange business. The FEMA helps to smoothen the flow of foreign currency and to prevent any misuse of foreign exchange which is a scarce commodity.

FINANCIAL RATES OF RETURN

Most households in India still prefer to invest on physical assets like land, buildings, gold, silver etc.But, studies have shown that investment in

FINANCIAL INSTRUMENTS
                      
Financial instruments refer to those documents which represent financial claims on assets.As discussed earlier, financial asset refers to a claim to the repayment of a certain sum of money at the end of a specified period together with interest or dividend. Examples: Bill of Exchange, promissory Note,Treasury Bill, Government Bond, Deposit Receipt, Share, Debenture, etc.The innovative instruments introduced in India have been discussed later in the chapter 'Financial Service'.

 Financial instruments can also be called financial securities. Financial securities can be classified into:

 1. Primary or direct securities.

 2. Secondary or indirect securities.

Primary securities

There are securities directly issued by the ultimate investors to the ultimate savers e.g., shares and debentures issued directly to the public.

Secondary Securities

These are securities issued by some intermediaries called financial intermediaries to the ultimate savers e.g. Unit Trust of the money pooled is invested in companies.

Again these securities may be classified on the basis of duration as follows:

  1. Short-term securities

  2. Medium term securities

  3. Long-term securities

 Short-term securities are those which mature within a period of one year. e.g. Bill of Exchange, Treasury bill, etc. Medium term securities are those which have a maturity period ranging between one and five years. e.g. Debentures maturing within a period of 5 years. Long-term securities are those which have a maturity period of more than five years. e.g. Government Bonds maturing after 10 years.

Characteristic Features of Financial Instruments

Generally speaking, financial instruments possess the following characteristic features:

1. Most of the instruments can be easily transferred from one hand to another without many cumbersome formalities.

 2. They have a ready market, i.e., they can be bought and sold frequently and thus, trading in these securities is made possible.

 3. They possess liquidity, i. e., some instruments can be converted into Cash readily. For instance, bill of exchange can be converted into cash readily by means of discounting and re -discounting.

 4. Most of the securities possess security  value, i. e., they can be given as security for the purpose of raising loans.

5. Some securities enjoy tax status, i. e., investments in these securities are exempted from Income Tax, wealth Tax etc. subject to certain limits. e. g. public Sector Tax Free Bonds, Magnum Tax saving Certificates.

 6. Carry risk in the sense that there is uncertainty with regard to payment of principal or interest or dividend as the case may be.

 7. These instruments facilitate futures trading so as to cover risks due to price fluctuations, interest rate fluctuations etc.

 8. These instruments involve less handling costs since expenses involved in buying and selling these securities are generally much less

9. The return on these instruments is directly in proportion to the risk undertaken.

10. These instruments may be short- term or medium term or long,-term depending upon the maturity period of these instruments.

DEVELOPMENT OF FINANCIAL SYSTEM IN INDIA

Some serious attention was paid to the development of a sound financial system in India only after the launching of the planning era in the country. At the time of Independence in 1947, there was strong financial institutional mechanism in the country. There was absence of issuing institutions and non- participation of intermediary financial institutions.The industrial sector also had no access to the savings of the community. The capital market was very primitive and shy. The private as well as the unorganized sector played a key role in the provision of 'liquidity'. On the whole, chaotic conditions prevailed in the system.

With the adoption of the theory of mixed economy. the development of the financial system took a different turn so as to fulfill the socioeconomic and political objectives. The Government started creating new financial institutions to supply finance for agricultural and industrial development  and it also progressively started nationalising some important financial institutions so thy the flow of finance might be in my right direction.

Nationalization of Financial Institutions
 
As stated earlier the RBI is the leader of the financial system. But, it was established as a private institution in 1935. It was nationalized in 1948. It was followed by the nationalization of the Imperial Bank of India in 1956 by renaming it as State Bank of India. In the same year, 245 Life Insurance Companies were brought under Government control by merging all of them into a single corporation called Life Insurance Corporation of India. Another significant development in our financial system was the nationalization of 14 major commercial banks in 1969. Again, 6 banks were nationalized in 1980. This process was then extended to General Insurance Companies which were reorganised under the name of General Insurance Corporation of India. Thus, the important financial institutions were brought under public control.

Starting of Unit Trust Of India

 Another landmark in the history of development of our financial system is the establishment of new financial institutions to strengthen our system and to supply institutional credit to industries.

The Unit Trust of India was established in 1964 as a public sector institution. To collect the savings of the people and make them available for productive ventures. It is the oldest and largest mutual fund in India. It is governed by its own statutes and regulations. However, since 1994,the schemes of UTI have to be approved by the SEBI. It has introduced a number of open-ended and close-ended schemes. It also provides repurchase facility of units of the various income schemes after a minimum lock in period of one year. Some of the unit schemes of UTI are linked with stock exchanges. Its investment is confined to both corporate are non-corporate sectors. In recent years it has established the following subsidiaries:

  1. The UTI Bank Ltd., in April 1994.

  2. The UTI Investor Service Ltd., to ATC as UTI's own Registrar and Transfer agency.

  3. The UTI Security Exchange Ltd.

Establishment Of  Development Bank 

Many development banks were started not only to excited credit facilities to financial institutions by also to render advisory services. These banks are multipurpose institutional which provide medium and long-term credit to industrial  undertaking, discover investment projects, undertake the preparation of project reports, provide technical advice and managerial services and assist in the management of industrial units.Thesis institutions entrepreneurs.

The Industrial Finance Corporation of India (IFCI) was set up in 1948 with the object of "marketing medium and long-term credit more readily available to industrial concerns in India, particularly under circumstances where normal banking accommodation is inappropriate or recourse to capital issue method is impracticable". At the regional level, State Financial Corporations were established under my State Financial Corporation Act,1951 with a view to providing medium and long-term finance to medium and small industries. It was followed by the establishment of the Industrial Credit and Investment Corporation of India (ICICI) in 1955 to develop large and medium industries in private sector, on the initiative. Of the world Bank. It adopted a more dynamic and modern approach in industrial financing. Subsequently, the Government of India set up the Refinance Corporation of India (RCI) in 1958 with a view to providing refinance facilities to backs against term loans granted by them to medium and small units. Later on it was merged with the Industrial  Development Bank of India.

The Industrial Development Bank of India (IDBI) was established on July 1,1964 as a wholly owned subsidiary of the RBI.The ownership of IDBI was then transferred to the Central Government with effect from February 16,1976. The IDBI was the apex institution in the area of development banking and as such it had to co- ordinate the activities of all the other financial institutions. However, it ha been converted into a commercial bank and so it has lost the status of a. development bank now. At the State level, the State industrial Development Corporations (SIDCO)/ State Industrial Investment Corporations were created to meet the financial requirements of the States and to promote regional development.

In 1971, the IDBI and LIC jointly set up the Industrial Reconstruction Corporation of India (IRCI) with the main objective of reconstruction and rehabilitation of sick industrial undertakings.The IRCI was converted into a statutory  corporation in March 1985 and renamed as the Industrial Reconstruction Bank of India (IRBI). In 1997, the IRBI has to be completely restructured since it itself has become sick due to financing of sick industries. Now, it is converted into a limited company with a new name of Industrial Investment Bank of India (IIBI). Its objective is to finance only expansion, diversification, modernisation etc.,Of industries and thus it has become a development bank.

 The small Industries Development Bank of India (SIDBI) was set up as a wholly owned subsidiary of IDBI. It commenced operations on April 2, 1990.The SIDBI has taken over the responsibility of administrating the small Industries Development fund and the National Equity fund.

Institution for Financing Agriculture

In 1963, the TBI set up the Agricultural Refinance and Development corporation (ARDC) to provide refinance support to banks to finance Major development projects such as minor irrigation, farm mechanisation, land development, horticulture,dairy development etc. However, in July 1982, the National Bank for Agriculture and Rural Development (NABARD) was established and the ARDC was merged with it. The whole sphere of agriculture finance has been handed over to NABARD. The functions of the Agricultural Credit Department and Rural planning and credit Call of the RBI have been taken over by NABARD.

Institution for Foreign Trade

The Export and Import Back of India (EXIM Bank) was set up on January 1,1982 to take over the operations of International Finance wing of the IDBI. It functions as the principal financial institution for co-ordinating the working of other institutions engaged in financing of foreign trade. It also provides refinance facilities to other financial institutions against their export-import financing activities.

 Institution for Housing Finance

The National Housing Bank (NHB) has been set up on July 9,1988 as an apex institution to mobilize resources for the housing sector and to promote housing finance institutions both at regional and local levels. It provides refinance facilities to housing finance institutions and scheduled banks. It also provides guarantee and underwriting facilities to housing finance institutions. Again, technological the working of all agencies connected with housing.

Stock Holding Corporation of India Ltd. (SHCIL)

Recently in 1987 another institution viz.,Stock Holding Corporation of India Ltd. Was set up to tone up the stock and capital markets in India. Its main objective is to provide quick share transfer facilities, clearing services, depository services, support services, management information services and development services to investors both individuals and corporates. The SHCIL was set up by seven All India financial institutions viz., IDBI, IFCI, ICICI, LIC, GIC, UTI and IRBI.

Mutual Funds Industry

Mutual funds refer to the funds raised by financial services companies by pooling the savings of the public and investing them in a diversified portfolio. They provided investment avenues for small investors who cannot participate in the equities of big companies. Mutual funds have been floated by some public sector banks, LIC, GIC and recently by private sector also.

Venture Capital Institutions

Venture capital is another method of financing in the form of equity participation. A venture capitalist finances a project based on the potentialities of a new innovative project. Much thrust is given to new ideas or technological innovations. Indeed it is a long term risk capital to finance high technology projects. The IDBI venture capital fund was set up in 1986.The IFCI has started a subsidiary to finance venture capital viz.,The Risk Capital and Technology Finance Corporation (RCTC). Likewise the ICICI and the UTI have jointly set up Technology Development and Information Company of India Limited (TDICI) in 1988 to provide venture capital. Similarly, many State Finance Corporations and commercial banks have started subsidiaries to provide venture capital. The Indus venture Capital Fund and the Credit Capital venture Fund Limited come under the private sector.

Credit Rating Agencies

Of late, many credit rating agencies have been established to help investors to make a decision of their investment in various instruments and to protect them from risky ventures. At the same time it has the effect of improving the competitiveness of the companies so that one can excel the other. Credit rating is now mandatory for all debt instruments. Similarly, for accepting deposits, non-banking companies have to compulsorily go for credit rating. Some of the credit rating agencies established are:

 1. Credit Rating and Information Services of India Ltd. (CRISIL).

2. Investment Information and Credit Rating Agency of India Ltd. (ICRA).

3. Credit Analysis and Research Ltd. (CARE).

The rating is confined to fixed deposits, debentures, preference shares and Short-term instruments like commercial paper. The rating of equity shares will come into effect soon. The establishment of various credit rating agencies will go a long way in stabilising the financial system in India by supplying vital credit information about corporate customers.

Multiplicity of Financial Instruments

The expansion in size and number of financial institutions has consequently led to a considerable increase in the financial instruments also. New instruments have been introduced in the form of innovative schemes of LIC, UTI, Banks, Post Office savings Bank Accounts, Shares and debentures of different varieties, Public Sector Bonds, National Savings scheme, National savings Certificates, provident Funds, Relief Bonds, India vikas patra, etc. Thus different types of instruments are available in the financial system so as to meet the diversified requirements of varied investors and thereby making the system more healthy and vibrant.

Legislative Support

The India financial system has been well supported by suitable legislative measures taken by the Government then and there for its proper growth and smooth functioning. Though there are many enactments, some of them are very important. The Indian Companies Act was passed in 1956 with a view to regulating the functioning of companies from birth to death. It mainly aims at giving more protection to investors since there is a diversity of ownership and management in companies. It was a follow up to the Capital Issues Control Act passed in 1947. Again, in 1956, the Securities Contracts (Regulations) ACG was passed to prevent undesirable transaction in securities. It mainly regulates the business of training in the stock exchanges. The Act permitted only recognised stock exchanges to function.

To ensure the proper functioning of the economic system and to prevent concentration of economic power in the hands of a few, the Monopolies and Restrictive Trade practices Act was passed in 1970. In 1973,the Foreign Exchange Regulations Act was enacted to regulate the foreign exchange dealings and go control Indian investments abroad and vice versa.

The Capital Issues Control Act was replaced by setting up of the Securities Exchange Board of India. Its main objective is to protect the interest of investors by suitably regulating the dealings in the stock market and money market so as to achieve efficient and fair trading in these markets.When the Government adopted the New Economic policy, many of these Acts were amended so as to remove many unwanted controls. Bank and financial institutions have been permitted to float mutual funds, undertake leasing business, carry out factoring services lines.

Besides the above, the Indian Contract Act, The Negotiable Instruments Act, The Law of Limitation Act, The Banking Regulations Act, The Stamp Act  etc., deserve a special mention. When the financial system grows, the necessity of regulating it also grows side- by-side by means of bringing suitable legislations. These legislative measures have re-organised the Indian financing system to a greater extent and have restored  confidence in the minds of the investing public as well.

However to avoid overlap in certain Key areas between SEBI and other bodies such as Company Law, Board, RBI etc. It is necessary to classify the respective jurisdiction. At present, the jurisdiction is divided between the RBI (money, market, repos, debt market) and SEBI. It would be advisable to consolidate the securities laws into one comprehensive legislation on the lines of the British Financial Services and Market Act.2000.

Financial system and economic development 

The financial system plays a important role in the process of a economic development of a country. The financial system comprises of a network of commercial banks. Non banking companies, development banks and other financial and investment institutions offer a varieties of financial products and services to suit to the varied requirements of different categories of people Since they function in a fairly developed capital and money markets, they play a crucial role in economic growth. 

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