Financial Markets & financial services

UNIT 1: Financial System and Its Components

1.1 Financial System Overview
 Definition: A system organizing fund flows between savers and borrowers via
institutions and markets to facilitate investments, liquidity, trade, and economic
growth.
 Role: Encourages savings, investments, production, trade, employment, and wealth
generation through efficient mobilization and allocation of resources in the economy.
 Components: Includes financial institutions, markets, instruments, services, and
regulatory bodies ensuring systemic discipline, liquidity, and investment management.
 Importance: Ensures optimal allocation of savings, promotes productive investments,
stabilizes economic cycles, and supports national financial stability and growth.
1.2 Components of Financial System
 Financial Institutions: Entities like banks, NBFCs, and insurance companies channel
savings into productive uses and facilitate financial intermediation.
 Financial Markets: Platforms like stock exchanges where securities are traded,
aiding in liquidity provision, price discovery, and fund mobilization.
 Financial Instruments: Contracts like shares, bonds, and T-bills representing
ownership or debt claims used for funding or investing.
 Financial Services: Encompass advisory, leasing, insurance, factoring, and credit
rating that support efficient functioning of financial markets.
 Regulatory Bodies: RBI, SEBI, and IRDAI regulate institutions and markets
ensuring transparency, efficiency, and investor protection.
1.3 Financial Intermediation
 Meaning: Process of transferring funds from savers (surplus units) to borrowers
(deficit units) through intermediaries to enhance investment opportunities.
 Types:
o Direct: Borrowers and lenders interact directly (e.g., stock markets) without
financial intermediaries.
o Indirect: Banks and financial institutions act as intermediaries between savers
and borrowers.
 Benefits: Lowers transaction costs, improves capital allocation, spreads investment
risks, promotes savings and investment habits among public.
1.4 Flow of Funds Matrix

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 Definition: A table showing fund movements among sectors, revealing how savings
are channeled into investments across the economy.
 Sectors: Households, firms, government, financial institutions, and external sector are
key sectors interacting within the flow matrix.
 Uses: Helps policymakers understand sectoral deficits and surpluses, guiding
monetary and fiscal policy decisions for economic balance.
1.5 Financial System and Economic Development
 Contribution: Financial systems mobilize savings, channel investments, encourage
entrepreneurship, support industrialization, infrastructure, and employment, fueling
economic growth.
 Outcome: Strong financial systems correlate with poverty reduction, increased per
capita income, economic inclusiveness, and better living standards.
1.6 Overview of Indian Financial System
 Organized Sector: Includes RBI, SEBI, scheduled banks, insurance firms, and
organized capital markets like NSE, BSE.
 Unorganized Sector: Consists of moneylenders, chit funds, indigenous bankers
lacking formal regulatory supervision.
 Post-Liberalization: 1991 reforms liberalized financial markets, increased FDI,
improved regulation, competition, transparency, and foreign participation.
 Modern Trends: Rise of fintechs, digital payment platforms, financial inclusion
initiatives like PMJDY, Aadhaar-linked services revolutionized the landscape.

UNIT 2: Financial Markets

2.1 Money Market – Functions, Organisation, Instruments
 Definition: Short-term funds and securities market offering liquidity and fulfilling
funding needs for banks, corporations, and governments.
 Functions: Maintains short-term liquidity, funds deficits, manages monetary policies,
and stabilizes interest rates within the economy.
 Organization:
o Organized: RBI, banks operating under formal regulatory frameworks.

o Unorganized: Moneylenders and informal financiers outside regulatory

purview.
 Instruments: Treasury bills, Commercial papers, Certificates of Deposit, Call money,
and Repos used for short-term fund transactions.

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2.2 Role of Central Bank in Money Market

 Regulator: RBI manages liquidity using monetary policy tools ensuring financial
system stability and macroeconomic balance.
 Lender of Last Resort: RBI supplies emergency funds to banks facing liquidity
crises, maintaining trust in the banking system.
 Policy Implementation: Conducts open market operations (OMO) influencing
money supply, interest rates, and inflation control.
 Price Stability: Controls short-term rates stabilizing inflation and encouraging
sustainable economic growth.
2.3 Indian Money Market Overview
 Structure: Dual nature comprising organized RBI-regulated sector and unorganized
informal credit providers.
 Developments: Introduction of new instruments, electronic trading platforms, and
broadening of participant base post-1991 reforms.
 Challenges: Limited penetration, fragmented structure, dominance of few players
hindering full efficiency.
 Opportunities: Rapid digitization, fintech innovations, and regulatory upgrades
enhancing market depth and inclusivity.
2.4 Capital Markets – Functions, Organisation, Instruments
 Definition: Markets for long-term funding through equities and debt instruments
supporting industrial, commercial, and infrastructural development.
 Functions: Mobilizes long-term funds, offers investment opportunities, assists in
wealth creation, and promotes corporate growth.
 Organization:
o Primary Market: Facilitates issuance of new securities (IPOs).

o Secondary Market: Enables trading of existing securities providing liquidity

(NSE, BSE).
 Instruments: Equity shares, debentures, bonds, derivatives including futures and
options used for trading and investment.
2.5 Indian Debt Market
 Segments: Comprises government securities (G-Secs) and corporate bond segments
catering to public and private funding needs.
 Participants: RBI, banks, mutual funds, insurance companies actively involved in
debt issuance and trading.

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 Growth: Enhanced transparency, regulatory oversight, participation expansion,

though corporate bond market remains less liquid.
2.6 Indian Equity Market – Primary and Secondary
 Primary Market: Companies raise fresh capital through IPOs and private placements
by selling new shares to investors.
 Secondary Market: Trading of previously issued shares ensuring liquidity, price
discovery, and efficient capital reallocation (NSE, BSE).
 Regulation: SEBI governs fair practices, mandatory disclosures ensuring investor
confidence and market transparency.
 Trends: Digital trading platforms, increased retail investor participation, and global
capital inflows energize the market.
2.7 Role of Stock Exchanges in India
 Functions: Offer platforms for secure, efficient trading, facilitate price discovery,
liquidity, and capital raising for firms.
 Major Exchanges: BSE (oldest), NSE (largest by volume) offering equity, debt, and
derivatives trading opportunities.
 Indices: Sensex and Nifty benchmarks reflecting overall market health, used by
investors and fund managers.
 SEBI's Role: Monitors exchanges ensuring integrity, preventing malpractices, and
protecting investor interests.

UNIT 3: Financial Institutions

3.1 Commercial Banking – Introduction, Role in Project and Working Capital Finance
 Definition: Institutions accepting public deposits and extending credit to individuals,
businesses, and governments boosting economic activity.
 Project Finance: Funding long-term, capital-intensive projects like infrastructure
development post rigorous financial and risk appraisal.
 Working Capital Finance: Provides short-term loans for meeting daily business
operational expenses like wages, raw materials, utilities.
3.2 Development Financial Institutions (DFIs) – Overview and Role
 Purpose: Fill gaps in industrial and infrastructure financing neglected by commercial
banks prioritizing short-term profitability.
 Major DFIs: NABARD (agriculture), SIDBI (small industries), EXIM Bank (export
promotion), NHB (housing finance) supporting sectoral growth.

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 Impact: Fostered industrialization, rural upliftment, infrastructural modernization,

and international trade competitiveness in India.
3.3 Life and Non-Life Insurance Companies in India
 Life Insurance: Covers life risks offering savings cum investment products ensuring
financial security post-death or retirement.
 Non-Life Insurance: Protects against loss from events like illness, accidents, thefts
safeguarding personal, business assets.
 Key Players: LIC (dominant player), HDFC Life, ICICI Lombard among notable
contributors in insurance market landscape.
 Regulator: IRDAI ensures fair competition, customer protection, and operational
transparency in the insurance sector.
3.4 Mutual Funds – Introduction and Role in Capital Market Development
 Definition: Collective investment schemes pooling savings from retail/institutional
investors into diversified securities portfolios.
 Purpose: Provide small investors access to professionally managed, diversified
investment avenues enhancing returns.
 Categories: Equity funds, debt funds, hybrid funds, ELSS offering varied risk-return
profiles catering to different investors.
 Role: Increase market liquidity, widen investor base, stabilize stock markets during
volatile conditions.
3.5 Non-Banking Financial Companies (NBFCs)
 Definition: Financial firms offering banking-like services without full-fledged
banking license, often targeting underserved markets.
 Functions: Personal loans, vehicle finance, gold loans, leasing, infrastructure funding
expanding credit access.
 Key Examples: Bajaj Finance, Muthoot Finance among major players reaching semi-
urban, rural markets.
 Regulation: Governed by RBI guidelines ensuring solvency, risk control, operational
transparency.
UNIT 4: Financial Services (Part 1)
4.1 Overview of Financial Services Industry
 Definition: Financial services include banking, investment, insurance, leasing,
factoring, helping individuals and firms manage, invest, borrow, and protect financial
assets efficiently.

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 Importance: They mobilize savings, facilitate investments, manage risk, ensure

liquidity, and contribute to economic stability and growth by enhancing financial
sector depth.
 Types: Merchant banking, leasing, factoring, venture capital financing, insurance,
investment advisory, mutual funds form core parts of modern financial services
ecosystem.
 Innovation: Fintech advancements like digital wallets, mobile banking, robo-advisors
are revolutionizing financial services accessibility, convenience, and efficiency across
demographics.
4.2 Merchant Banking – Pre and Post Issue Management
 Pre-Issue Management: Involves preparing prospectus, obtaining regulatory
approvals, arranging underwriting, marketing public issues, and building investor
confidence before securities are offered.
 Post-Issue Management: Includes share allotment, refund processing, listing
securities on stock exchanges, and post-listing compliance ensuring successful public
offerings.
 Role: Merchant bankers bridge companies with capital markets, manage complex
regulatory processes, ensure transparency, and minimize risks for issuing firms and
investors.
4.3 Regulatory Framework Related to Merchant Banking
 Governance: SEBI (Merchant Bankers) Regulations, 1992 mandate registration,
disclosure standards, underwriting obligations ensuring merchant banker
professionalism, accountability, and integrity.
 Compliance: Mandatory submission of offer documents, risk disclosures, due
diligence certificates protecting investor interests and maintaining capital market
transparency and discipline.

UNIT 5: Financial Services (Part 2)

5.1 Leasing and Hire-Purchase
 Leasing: Arrangement where lessor retains asset ownership; lessee uses asset for
periodic rental payments, commonly used for equipment and vehicle financing.
 Hire-Purchase: Buyer obtains asset immediately but ownership transfers after
payment completion; structured through installments facilitating access to high-cost
goods without lump sums.
 Benefits: Flexibility, tax advantages, asset access without heavy initial investments,
supporting businesses' operational growth and modernization.

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5.2 Consumer and Housing Finance

 Consumer Finance: Loans offered to individuals for purchasing durables like
vehicles, electronics, boosting consumption and quality of life.
 Housing Finance: Long-term loans for buying, constructing, or renovating residential
properties; crucial for real estate and infrastructure sector expansion.
 Institutions: HDFC, LIC Housing Finance, SBI Home Loans, ICICI Bank dominate
India’s structured housing finance sector.
5.3 Venture Capital Finance
 Definition: Equity financing to startups with high-risk, high-return potential by
venture capitalists seeking innovation-driven returns.
 Functions: Provide financial support, strategic mentoring, networking, and
management expertise fostering entrepreneurial ecosystem and economic dynamism.
 Examples: SIDBI Venture Capital, Sequoia India backing technology, healthcare,
education startups accelerating India’s startup revolution.
5.4 Factoring Services
 Factoring: Financial service where a company sells its accounts receivable to a factor
at a discount, improving liquidity and reducing credit risk exposure.
 Types:
o Recourse factoring: Seller retains default risk.

o Non-recourse factoring: Factor assumes complete risk of debtor default.

5.5 Bank Guarantees and Letter of Credit

 Bank Guarantee: A bank assures payment to beneficiary if applicant defaults;
commonly used in infrastructure, government contracts.
 Letter of Credit: Bank assures payment to exporter on behalf of importer ensuring
trust and payment security in international trade transactions.
5.6 Credit Rating
 Definition: Independent evaluation of a borrower's ability to repay debt on time;
crucial for investment decisions and debt instrument pricing.
 Agencies: CRISIL, ICRA, CARE assign ratings influencing borrowing costs and
market reputation of companies and governments.
5.7 Financial Counselling
 Definition: Personalized advisory services helping individuals manage budgeting,
savings, investments, debt restructuring, insurance planning enhancing financial
literacy and personal financial security.
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 Importance: Reduces bankruptcy cases, improves credit behavior, promotes long-

term wealth creation and financial independence among individuals and households.

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