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Call Money Market: Call money are overnight funds in the banking system, which are
generally borrowed or advanced for not more than one day. For banks which need short
term money to adjust their liquidity needs or have surplus funds, call money market
provides an avenue to borrow or lend funds. The transactions are not collateralized,
meaning, no security is offered or taken for borrowing or lending respectively. If the
period of borrowing is longer then it is called notice money or term money.
Call money rates are negotiated between the parties and are ruled by purely demand and
supply of funds in the system on a given date. Call rates are barometer of short term
liquidity in the economy and hence watched very closely by the Central Bank of a
country. Too much volatility in call rates is indicative of liquidity mismatches in the
banking system and improper fund management which is not advisable from the point of
stability of economy. In our Indian market, Reserve Bank of India keeps a tight control
over call money operations and has placed mechanism in place to ensure curbs and
controls over the rates by creating several avenues for the banks so that they resort to call
money borrowings only in the emergent circumstances. Features of call markets are:
• The call market enables the banks and institutions to even out their day to day
deficits and surpluses of funds,
• Commercial banks and co-operative banks are allowed to borrow as well as lend
money in call market.
• Specified All India Financial Institutions, Mutual Funds and certain specified
entities such as insurance companies are allowed access to
call money market only as lenders,
• Non-bank entities such as Corporates are not allowed to operate in call market.
• Interest rates in call money are negotiated by the parties concerned and on any
given date several transactions may take place at different
rates.
• No brokers are permitted to deal in call market.
• The transactions in call market are routed through current account of the parties
with RBI.
RBI is gradually moving towards a system where only banks would be allowed to operate
in call market, phasing out the other entities from the market.
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Apart from call money, following instruments are available in the Indian financial
system, which fall in the category of money market instruments.
• Treasury Bills (T. Bills) of 91/364 days
• Commercial Papers (C.Ps.)
• Bills Rediscounting (BRDs) or Commercial Bills Market
• Certificate of Deposits (C.Ds.)
• Participation Certificates P.Cs.)
• REPOs/Ready Forward(R/F) / Buy Back
Participants in money market instruments:
• Commercial Banks
• Financial Institutes (IDBI, NABARD etc.), Primary Dealers
• UTI / other mutual funds.
• Insurance Companies (LIC/GIC etc.)
• Regional Rural Banks/Co-op banks/Urban banks
• Discount and Finance House of India (DFHI), and Securities Trading Corporation
of India (STCI)
• RBI
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viii. DFHI acts as market makers for T. Bills by giving “two way”
quotes i.e. they offer to sale and buy T. Bills in secondary market
simultaneously.
Response to auction of Treasury Bills is indicative of liquidity in the system and yields
on Treasury Bills serve as bench mark for the market since the rates on this instrument
are market related. Key factors influencing yields on T Bills are:
In a situation where banks are flushed with funds, demand for T. Bills will be very high
which will drive down the rates of return (yield).
In case liquidity in the system is low, the returns will be high since response for the
auction would be low for want of funds and therefore, returns will be comparatively high.
Formula for calculation of yield on T. Bills is as follows:
Yield = [(Face value – Issue price) X 365 / (Price x no. of days to maturity)] X 100.
Certificate of Deposits: Whereas CPs are issued by companies to raise short term
resources, for investment of short term surplus funds, companies and high net worth
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individuals (HNIs) use CDs issued by banks as an instrument of investment. Special
features of CDs are,
i. It is a negotiable, short term instrument issued by banks and development
financial institutions.
ii. CDs are issued by banks and DFIs to augment their resources by paying
attractive rate of interest on large deposits of money by companies and
wealthy individuals. The rates may vary from depositor to depositor as
different from retail depositors who do not have freedom of demanding higher
rates on their normal deposits.
iii. Deposit rates depend on funds position of banks and liquidity available in the
system. Higher the liquidity, the rates would drop, since banks would not be
interested in mobilizing deposits when they are flushed with funds.
iv. Although they can be traded in secondary market, currently there is not much
depth to the secondary market for CDs.
v. Although CDs were permitted to be issued only at discounted price, RBI has
now allowed banks to issue CDs at par with a coupon (interest).
vi. As in case of CPs stamp duty is payable on CDs at prescribed rates.
vii. Period of issue is 15 days to one year. However, DFIs are allowed to issue
CDs for longer period up to 3 years.
Formula for calculation of discounted value and yield for CD is same as in case of CP
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In recent years, RBI’s Reverse Repo rate has emerged as a benchmark rate for short term
transactions in the market since RBI uses this rate for adjusting liquidity in the banking
system. When liquidity is excess, they raise the Reverse Repo rate to discourage the
banks from borrowing from RBI. However, when they desire to release more funds in the
market, they reduce the Reverse Repo rate which enables the banks to borrow at a
cheaper rate from RBI and lend to trade and industries to give boost to industrial
production.
Repo can be undertaken only in a) dated Government Securities and b) Treasury Bills as
per current regulations.
Bills Rediscounting: Banks discount for their customers, bills of exchange which arise
out of genuine trade transactions. When a trader buys goods from the supplier, he
demands credit. Supplier in such circumstances draws a bill of exchange on the trader for
the cost of goods so supplied. After bill is formally “accepted” by the drawee (trader) for
payment after specified period, the drawer of the bill (supplier) presents the bill to his
banker for discounting and receives discounted value so that he can continue his
operations unhindered. On due dates banker presents these bills to the drawee and
receives payment on behalf of his customer.
On any day, bankers hold large number of such bills which are yet to become due for
payment. They utilize these bills in times of need to raise funds either from RBI or inter-
bank market by rediscounting them. The rate at which RBI rediscounts these bills is
called “Bank Rate”.
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Primary Dealers:
System of Primary Dealers was set up by RBI in 1994 for,
a. Strengthening the trading in government securities to make the securities market
vibrant, liquid and broad based.
b. Ensuring development of underwriting and market making capabilities for
government securities outside RBI so that it can concentrate on their own
responsibilities.
c. Improving secondary market trading system which would contribute to price
discovery, enhance liquidity and turnover and encourage voluntary holding of
government securities amongst wider investor base.
d. Making PDs an effective conduit for conducting Open Market Operations
(OMO).
RBI grants licences to the subsidiaries of commercial banks and FIs, formed specifically
for this purpose and to companies incorporated under Companies Act, 1956 and engaged
in securities business and in particular, the government securities market, provided they
fulfill specific conditions as to the net worth, infrastructure, qualification of key officials,
the annual turn over, success rate in the auctions etc. These players have contributed
significantly to the money market and government securities market since inception.
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