A financial system is a network of financial institutions, financial markets, financial

instruments and financial services to facilitate the transfer of funds. The system consists of
savers, intermediaries, instruments and the ultimate user of funds. The level of economic
growth largely depends upon and is facilitated by the state of financial system prevailing in
the economy. Efficient financial system and sustainable economic growth are corollary. The
financial system mobilises the savings and channelizes them into the productive activity and
thus influences the pace of economic development. Economic growth is hampered for want
of effective financial system. Broadly speaking, financial system deals with three inter-
related and interdependent variables, i.e., money, credit and finance.

The functions of financial system can be enumerated as follows:

 Financial system works as an effective conduit for optimum allocation of financial

resources in an economy.
 It helps in establishing a link between the savers and the investors.
 Financial system allows ‘asset-liability transformation’. Banks create claims
(liabilities) against themselves when they accept deposits from customers but also
create assets when they provide loans to clients.
 Economic resources (i.e., funds) are transferred from one party to another through
financial system.
 The financial system ensures the efficient functioning of the payment mechanism in
an economy. All transactions between the buyers and sellers of goods and services are
effected smoothly because of financial system.
 Financial system helps in risk transformation by diversification, as in case of mutual
funds.
 Financial system enhances liquidity of financial claims.
 Financial system helps price discovery of financial assets resulting from the
interaction of buyers and sellers. For example, the prices of securities are determined
by demand and supply forces in the capital market.
 Financial system helps reducing the cost of transactions.

Functions performed by a financial system are :

 Saving function: Public saving find their way into the hands of those in production
through the financial system. Financial claims are issued in the money and capital
markets which promise future income flows. The funds with the producers result in
production of goods and services thereby increasing society living standards.
 Liquidity function: The financial markets provide the investor with the opportunity
to liquidate investments like stocks bonds debentures whenever they need the fund.
 Payment function: The financial system offers a very convenient mode for payment
of goods and services. Cheque system, credit card system etc are the easiest methods
of payments. The cost and time of transactions are drastically reduced.
 Risk function: The financial markets provide protection against life, health and
income risks. These are accomplished through the sale of life and health insurance
and property insurance policies. The financial markets provide immense opportunities
for the investor to hedge himself against or reduce the possible risks involved in
various investments.
  Policy function: The government intervenes in the financial system to influence
macroeconomic variables like interest rates or inflation so if country needs more
money government would cut rate of interest through various financial instruments
and if inflation is high and too much money is there in the system then government
would increase rate of interest.

 Financial intermediation consists of “channeling funds between surplus and deficit

agents”. A financial intermediary is a financial institution that connects surplus and
deficit agents. The classic example of a financial intermediary is a bank that
transforms bank deposits into bank loans.[1]

 Through the process of financial intermediation, certain assets or liabilities are

transformed into different assets or liabilities.[2] As such, financial intermediaries
channel funds from people who have extra money (savers) to those who do not have
enough money to carry out a desired activity (borrowers).[3]

 In the U.S., a financial intermediary is typically an institution that facilitates the

channeling of funds between lenders and borrowers indirectly. That is, savers
(lenders) give funds to an intermediary institution (such as a bank), and that institution
gives those funds to spenders (borrowers). This may be in the form of loans or
mortgages. Alternatively, they may lend the money directly via the financial markets,
which is known as financial disintermediation.

Here are some of the various process and their purposes:

 Maturity transformation: This process is one in which short term liabilities are
converted to long term assets.
 Risk transformation: Risk transformation is a great product of a financial
intermediation because it converts risky investments into no or low risk ones.
 Convenience denomination: This is the process of matching small deposits with large
loans and large deposits with small loans.

 Financial intermediaries perform important function of maturity intermediation to

make investment from savers and money borrowing for borrowers seamless. Maturity
intermediation involves a financial intermediary issuing liabilities against it that have
maturity different from the assets it acquires with the fund raised. An example is a
commercial bank that issues certificate of deposit and invests in assets with a longer
maturity than those liabilities. Maturity intermediation offers more choice concerning
maturity for their investments to investors and reduces cost of long term borrowing
for borrowers. Financial intermediaries issue their own debt claims to the saver in
forms more attractive to savers, and in turn, lend to borrowers on terms satisfactory to
the borrowers.

Merchant Banker has been defined under the Securities & Exchange  Board of India
(Merchant Bankers) Rules,  1992  as "any person who is engaged in the business of
 issue  management either by making arrangements regarding selling, buying or
subscribing to securities as manager, consultant, advisor or rendering corporate advisory
service in relation to such issue management".

1.
o GUIDELINES FOR MERCHANT BANKERS :
o SEBI’s authorization is a must to act as merchant bankers.Authorisation criteria include
o Professional qualification in finace,law or business management
o Infrastructure like office space,equipment and man power
o Capital adequacy
o Past track of record,experience,general reputation and fairness in all
o transactions
o Every merchant banker should maintain copies of balance sheet,Profit and loss
account,statement of financial position
o Half-yearly unaudited result should be submitted to SEBI
o Merchant bankers are prohibited from buying securities based on the unpublished price
sensitive information of their clients
2.
o SEBI has been vested with the power to suspend or cancel the authorisation in case of
violation of the guidelines
o Every merchant banker shall appoint a ‘Compliance Officer‘ to monitor compliance of the
Act
o SEBI has the right to send inspecting authority to inspect books of accounts,records etc… of
merchant bankers
o Inspections will be conducted by SEBI to ensure that provisions of the regulations are
properly complied
o An initial authorisation fee,an annual fee and renewal fee may be collected by SEBI
o A lead manager holding a certificate under category I shall accept a minimum underwriting
obligation of 5% of size of issue or Rs.25 lakhs whichever is less
3. CODE OF CONDUCT : Should make all efforts to protect the interest of investors Should maintain high
standards of integrity,dignity and fairness in conduct of business Should fulfill all obligations in a professional and
ethical manner Should not discriminate among the clients Should ensure that prospectus, letter of offer etc.. is
available to investors at the time of issue Should render best possible advice to its clients Any penal action taken
by SEBI should be informed to its clients
4.
o Should inform the board about any legal proceedings initiated against it
o Should abide by the rules of ‘‘Securities and Exchange Board of India Regulations,2003 “
o Shall develop its own internal code of conduct for governing its internal operations
o Should ensure that any person it employs should have the capacity to be a merchant
banker
o It is responsible for the act of its employees and agents
o Should not create false market
What Does Market Maker Mean?
A broker-dealer firm that accepts the risk of holding a certain number of shares of a particular
security in order to facilitate trading in that security. Each market maker competes for customer
order flow by displaying buy and sell quotations for a guaranteed number of shares. Once an
order is received, the market maker immediately sells from its own inventory or seeks an
offsetting order. This process takes place in mere seconds.

What Does Depository Mean?

On the simplest level, depository is used to refer to any place where something is deposited for
storage or security purposes. More specifically, it can refer to a company, bank or an institution
that holds and facilitates the exchange of securities. Or a depository can refer to a
depository institution that is allowed to accept monetary deposits from customers.