RBI and it's role

 In India, the role of Central bank of the country is being

performed by Reserve bank of India. RBI established by RBI Act
1934.

 Preamble of the RBI is :

 An Act to constitute a Reserve Bank of India.

 Whereas it is expedient to constitute a Reserve Bank for India to

regulate the issue of Bank notes and the keeping of reserves with
a view to securing monetary stability in India and generally to
operate the currency and credit system of the country to its
advantage;

 AND WHEREAS it is essential to have a modern monetary policy

framework to meet the challenge of an increasingly complex
economy;

 AND WHEREAS the primary objective of the monetary policy is to

maintain price stability while keeping in mind the objective of
growth;

 AND WHEREAS the monetary policy framework in India shall be

operated by the Reserve Bank of India;].

A) Monetary policy - Under the Reserve Bank of India, Act,1934 (RBI

Act,1934) (as amended in 2016), RBI is entrusted with the responsibility
of conducting monetary policy in India with the primary objective of
maintaining price stability while keeping in mind the objective of
growth. (chapter III F - 45 Z to 45 ZO)

 In May 2016, the RBI Act, 1934 was amended to provide a

statutory basis for the implementation of the flexible inflation
targeting framework.

 Inflation Target: In Feb 2015, RBI entered an agreement on the

monetary policy framework with the Central government. As per
this agreement, the RBI need to target an inflation of 4% as
measured by the Consumer Price Index (CPI), with a leeway of 2%
on either side. That means inflation needs to be within a band of
2% to 6% for the next 5-year period – April 1, 2021 to March 31,
2026.

D) Foreign Exchange management - With the transition to a market-

based system for determining the external value of the Indian rupee
the foreign exchange market in India gained importance in the early
reform period. Extensive relaxations in the rules governing foreign
exchange were initiated, prompted by the liberalisation measures
introduced since 1991 and the Act was amended as a new Foreign
Exchange Regulation (Amendment) Act 1993. Significant developments
in the external sector, such as, substantial increase in foreign exchange
reserves, growth in foreign trade, rationalisation of tariffs, current
account convertibility, liberalisation of Indian investments abroad,
increased access to external commercial borrowings by Indian
corporates and participation of foreign institutional investors in Indian
stock market, resulted in a changed environment. Keeping in view the
changed environment, the Foreign Exchange Management Act (FEMA)
was enacted in 1999 to replace FERA. FEMA became effective from
June 1, 2000.

 The Reserve Bank issues licenses to banks and other institutions

to act as Authorised Dealers in the foreign exchange market. In
keeping with the move towards liberalisation, the Reserve Bank
has undertaken substantial elimination of licensing, quantitative
restrictions and other regulatory and discretionary controls.

E) Debt management i,e. Management of public debt - The union

budget decides the annual borrowing needs of the Central
Government. Parameters, such as, interest rate, timing and manner of
raising of loans are influenced by the state of liquidity and the
expectations of the market. The Reserve Bank’s debt management
strategy aims at minimising the cost of borrowing, reducing the roll-
over and other risks, smoothening the maturity structure of debt, and
improving depth and liquidity of Government securities markets by
developing an active secondary market.

 As banker to the Government, the Reserve Bank works out the

overall funds position and sends daily advices showing the
balances in its books, Ways and Means Advances granted to the
government and investments made from the surplus fund. The
daily advices are followed up with monthly statements.

 The Reserve Bank manages public debt on behalf of the Central

and the State Governments. It involves issue of new rupee loans,
payment of interest and repayment of these loans and other
 operational matters such as debt certificates and their
registration.

F) Currency management - Along with Government of India, RBI is

responsible for the design, production and overall management of the
nation’s currency, with the goal of ensuring an adequate supply of
clean and genuine notes.

 The Government of India is the issuing authority of coins and

supplies coins to the Reserve Bank on demand. The Reserve Bank
puts the coins into circulation on behalf of the Central
Government.

 In consultation with the Government of India, RBI work towards

maintaining confidence in the currency by constantly endeavoring
to enhance integrity of banknotes through new design and
security features.

G) Payment and settlement systems - Oversight of the payment and

settlement systems is a central bank function whereby the objectives
of safety and efficiency are promoted by monitoring existing and
planned systems, assessing them against these objectives and,
where necessary, inducing change. By overseeing payment and
settlement systems, central banks help to maintain systemic stability
and reduce systemic risk, and to maintain public confidence in
payment and settlement systems. The Payment and Settlement
Systems Act, 2007 and the Payment and Settlement Systems
Regulations, 2008 framed thereunder, provide the necessary
statutory backing to the Reserve Bank of India for undertaking the
 Oversight function over the payment and settlement systems in the
country.

 Digital payments – NEFT, RTGS, Prepaid payment instruments

(PPIs), NACH, POS Terminals, Online transactions, Plastic cards

H) Financial Inclusion and Development - This role encapsulates the

essence of renewed national focus on Financial Inclusion, promoting
financial education and literacy and making credit available to
productive sectors of the economy including the rural and MSME
sector.

 Credit flow to priority sector / MSME

 Financial inclusion and financial literacy

 Credit Delivery to SHGs, SC/ST community and Minority

Communities

 Credit flow to agriculture and allied activities

 Institutions – SLBCs, Lead Bank scheme

Monetary policy in detail –

 Covered under section 45 ZA to 45 ZO of RBI Act 1934.
 45ZA – Inflation target

The Central Government has notified the following as the factors

that constitute failure to achieve the inflation target: (a) the
 average inflation is more than the upper tolerance level of the
inflation target for any three consecutive quarters; or (b) the
average inflation is less than the lower tolerance level for any three
consecutive quarters.

Where the Bank fails to meet the inflation target, it shall set out in
a report to the Central Government:
a. the reasons for failure to achieve the inflation target;

b. remedial actions proposed to be taken by the Bank; and

c. an estimate of the time-period within which the inflation target

shall be achieved pursuant to timely implementation of proposed
remedial actions.

45ZB – Monetary policy committee

 The first such MPC was constituted on September 29, 2016. The
present MPC members, as notified by the Central Government in
the Official Gazette of October 5, 2020, are as under:


1. Governor of the Reserve Bank of India—Chairperson, ex officio;

2.Deputy Governor of the Reserve Bank of India, in charge of

Monetary Policy—Member, ex officio;

3.One officer of the Reserve Bank of India to be nominated by the

Central Board—Member, ex officio;

4.Prof. Ashima Goyal, Professor, Indira Gandhi Institute of

Development Research —Member;
 5.Prof. Jayanth R. Varma, Professor, Indian Institute of Management,
Ahmedabad—Member; and

6.Dr. Shashanka Bhide, Senior Advisor, National Council of Applied

Economic Research, Delhi—Member.

(Members referred to at 4 to 6 above, will hold office for a period of

four years or until further orders, whichever is earlier)

 The MPC determines the policy repo rate required to achieve the
inflation target.

 The MPC is required to meet at least four times in a year. The

quorum for the meeting of the MPC is four members.

 Each member of the MPC has one vote, and in the event of an
equality of votes, the Governor has a second or casting vote.

 Each Member of the Monetary Policy Committee writes a

statement specifying the reasons for voting in favour of, or against
the proposed resolution.

 The Bank shall publish, after the conclusion of every meeting of

the Monetary Policy Committee, the resolution adopted by the
said Committee

Monetary Policy was implemented with an initiative to provide

reasonable price stability, high employment, and a faster economic
growth rate. The major four objectives of the Monetary policy are
mentioned below:

 To stabilize the business cycle.

 To provide reasonable price stability.

  To provide faster economic growth.

 Exchange Rate Stability.

Q) Financial Markets – Functions

Business units have to raise short-term as well as long-term funds

to meet their working and fixed capital requirements from time to
time.

It necessitates not only the ready availability of such funds but

also a transmission mechanism with the help of which, the
providers of funds (investors/ lenders) can interact with the
business units (borrowers/users) and transfer the funds to them
as and when required.

This aspect is taken care of by the financial markets which provide

a place where or a system through which, the transfer of funds by
investors/lenders to the business units is adequately facilitated

a) It provides facilities for interaction between the investors and the

borrowers.

(b) It provides pricing information resulting from the interaction

between buyers and sellers in the market when they trade the financial
assets.

(c) It provides security to dealings in financial assets

(d) It ensures liquidity by providing a mechanism for an investor to sell
the financial assets.

(e) It ensures low cost of transactions and information

Q) Functions of primary and secondary market

 Ans:- primary market

The stock market offers different financial instruments, such as

shares, bonds, mutual funds, and derivatives, that offer
investors a wide range of securities to invest in, as per their risk
appetite and financial goals.

 Companies and government entities sell new issues of common

and preferred stock, corporate bonds and government bonds,
notes, and bills on the primary market to fund business
improvements or expand operations. Although an investment
bank may set the securities' initial price and receive a fee for
facilitating sales, most of the money raised from the sales goes
to the issuer.

 Types of primary market issues:

 IPO

 FPO / Rights offer

 Private placement

Secondary market
A secondary market is a platform wherein the shares of companies
are traded among investors. It means that investors can freely buy
and sell shares without the intervention of the issuing company.

 In these transactions among investors, the issuing company does

not participate in income generation, and share valuation is
rather based on its performance in the market. Income in this
market is thus generated via the sale of the shares from one
investor to another.

 Participants – Retail investors, Bulk investors, Advisory service

providers, Brokers, Security dealers, Financial intermediaries etc.

Fixed Income instruments

Variable income instruments
Hybrid instruments

Q)Distinction between Money Market and Capital

Market
Ans:-
1. Maturity Period:
 The money market deals in the lending and borrowing of short-term
finance (i.e., for one year or less), while the capital market deals in the
lending and borrowing of long-term finance (i.e., for more than one year).
2. Credit Instruments:
 The main credit instruments of the money market are call money,
collateral loans, acceptances, bills of exchange. On the other hand, the
 main instruments used in the capital market are stocks, shares,
debentures, bonds, securities of the government.
3. Institutions:
 Important institutions operating in the money market are central banks,
commercial banks, acceptance houses, nonbank financial institutions, bill
brokers, etc. Important institutions of the capital market are stock
exchanges, commercial banks and nonbank institutions, such as insurance
companies, mortgage banks, building societies, etc.
4. Purpose of Loan:
 The money market meets the short-term credit needs of business; it
provides working capital to the industrialists. The capital market, on the
other hand, caters the long-term credit needs of the industrialists and
provides fixed capital to buy Land,& Building, Plant & Machinery, etc.

5. Risk:
 The degree of risk is small in the money market. The risk is much greater
in capital market. The maturity of one year or less gives little time for a
default to occur, so the risk is minimised. Risk varies both in degree and
nature throughout the capital market.
6. Basic Role:
 The basic role of money market is that of liquidity adjustment. The basic
role of capital market is that of putting capital to work, preferably to long-
term, secure and productive employment.
7. Relation with Central Bank:
 The money market is closely and directly linked with central bank of the
country. The capital market feels central bank's influence, but mainly
indirectly and through the money market.
8. Market Regulation:
 In the money market, commercial banks are closely regulated. In the
capital market, the institutions are not much regulated.
Q) Characteristics of stock market
Ans:-
 1. It is an organised market.

 2. It provides a place where existing and approved securities can be

bought and sold easily.
 3. In a stock exchange, transactions take place between its members or
their authorised agents.
 4. All transactions are regulated by rules and by laws of the concerned
stock exchange.
 5. It makes complete information available to public in regard to prices
and volume of transactions taking place every day.
 Similarly, on account of the system of scrip-less trading and rolling
settlement, the delivery of securities and the payment of amount
involved also take very little time, say, 2 days (T+1)

Q) Functions of stock market

ANS:-
1. Provides ready and continuous market:
By providing a place where listed securities can be bought and sold
regularly and conveniently, a stock exchange ensures a ready and
continuous market for various shares, debentures, bonds and
government securities. This lends a high degree of liquidity to holdings
 in these securities as the investor can encash their holdings as and when
they want.
2. Better Allocation of funds:
As a result of stock market transactions, funds flow from the less profitable
to more profitable enterprises and they avail of the greater potential for
growth. Financial resources of the economy are thus better allocated

3. Provides information about prices and sales:

A stock exchange maintains complete record of all transactions taking place
in different securities every day and supplies regular information on their
prices and sales volumes to press and other media. In fact, now-a-days, you
can get information about minute to minute movement in prices of selected
shares on TV channels like CNBC, Zee News, NDTV and Headlines Today etc.
This enables the investors in taking quick decisions on purchase and sale of
securities in which they are interested. Not only that, such information helps
them in ascertaining the trend in prices and the worth of their holdings. This
enables them to seek bank loans, if required.
4. Provides safety to dealings and investment:
Transactions on the stock exchange are conducted only amongst its members
with adequate transparency and in strict conformity to its rules and regulations
which include the procedure and timings of delivery and payment to be
followed. This provides a high degree of safety to dealings at the stock
exchange. There is little risk of loss on account of non-payment or non delivery.
Stock exchange allows trading only in securities that have been listed with it;
and for listing any security, it satisfies itself about the genuineness and
soundness of the company and provides for disclosure of certain information on
regular basis.
Though this may not guarantee the soundness and profitability of the company,
it does provide some assurance on their genuineness and enables them to keep
track of their progress.

5. Helps in mobilisation of savings and capital formation:

Efficient functioning of stock market creates a conducive climate for an active
and growing primary market.
Good performance and outlook for shares in the stock exchanges imparts
buoyancy to the new issue market, which helps in mobilising savings for
investment in industrial and commercial establishments.
Not only that, the stock exchanges provide liquidity and profitability to dealings
and investments in shares and debentures. It also educates people on where
and how to invest their savings to get a fair return. This encourages the habit of
saving, investment and risk-taking among the common people. Thus it helps
mobilising surplus savings for investment in corporate and government
securities and contributes to capital formation.
6. Barometer of economic and business conditions:
Stock exchanges reflect the changing conditions of economic health of a
country, as the shares prices are highly sensitive to changing economic, social
and political conditions. It is observed that during the periods of economic
prosperity, the share prices tend to rise. Conversely, prices tend to fall when
there is economic stagnation and the business activities slowdown as a result of
depressions.
Thus, the intensity of trading at stock exchanges and the corresponding rise on
fall in the prices of securities reflects the investors’ assessment of the economic
and business conditions in a country, and acts as the barometer which indicates
the general conditions of the atmosphere of business

Q)Advantages of stock market

ANS:-
 To the Investors:

 (i) The investors enjoy the ready availability of facility and

convenience of buying and selling the securities at will and at an
opportune time.
  (ii) Because of the assured safety in dealings at the stock
exchange the investors are free from any anxiety about the
delivery and payment problems.
 (iii) Availability of regular information on prices of securities
traded at the stock exchanges helps them in deciding on the
timing of their purchase and sale.
(iv) It becomes easier for them to raise loans from banks against their
holdings in securities traded at the stock exchange because banks
prefer them as collateral on account of their liquidity and convenient
valuation.

To the Companies
 (i) The companies whose securities have been listed on a stock
exchange enjoy a better goodwill and credit-standing than other
companies because they are supposed to be financially sound.
 (ii) The market for their securities is enlarged as the investors all
over the world become aware of such securities and have an
opportunity to invest
 (iii) As a result of enhanced goodwill and higher demand, the
value of their securities increases and their bargaining power in
collective ventures, mergers, etc. is enhanced.
(iv) The companies have the convenience to decide upon the size,
price and timing of the issue.

To the Society
(i) The availability of lucrative avenues of investment and the liquidity
thereof induces people to save and invest in long-term securities. This
leads to increased capital formation in the country.
(ii) The facility for convenient purchase and sale of securities at the
stock exchange provides support to new issue market. This helps in
promotion and expansion of industrial activity, which in turn
contributes, to increase in the rate of industrial growth.
(iii) The Stock exchanges facilitate realisation of financial resources to
more profitable and growing industrial units where investors can
easily increase their investment substantially.
iv) The volume of activity at the stock exchanges and the movement
of share prices reflect the changing economic health.
(v) Since government securities are also traded at the stock
exchanges, the government borrowing is highly facilitated. The bonds
issued by governments, electricity boards, municipal corporations and
public sector undertakings (PSUs) are found to be on offer quite
frequently and are generally successful
Exchange traded market
Trading takes place in an exchange or
electronically through a centralized
marketplace
Contracts are standardized and
defined by the exchange
Exchange clearing house assumes
credit risk
Subject to regulations
Other than large financial institutions,
the participants include retail
investors
A trader can easily close out his
position prior to maturity by
acquiring exactly offsetting positions
with any market participant
OTC market
Trading takes place over-the-counter
via interdealer brokers or directly
through phone or email
Contracts may be customized and
there is more negotiating flexibility
with respect to features
Trades may be cleared bilaterally or
through a Central counterparties
(CCP) which assumes the credit risk
Largely unregulated
Banks, other large financial
institutions, fund managers, and
corporations are the main
participants
Traders can attempt to negotiate an
early termination of a particular
contract, but it is may be more
difficult to find a counterparty with
exactly offsetting positions.
Equity Market
Primary source of owned capital
It is a financial market in which
shares are issued and traded
through exchanges.
Participation in Equity Market
shows interest of ownership in a
corporation.
Enables raising funds without
debt
Participation is risky
Investors can claim ownership
Income by way of Dividend
Q)Main functions of sebi related to capital market regulation
ANS:-
Debt Market
Primary source of borrowed
capital
It is a financial market in which
the investors are provided with
issues/bonds and trading of debt
securities.
Participation in Equity Market
shows interest of ownership in a
corporation.
Raise funds with Debt obligation
Participation is less risky
Investors can not claim ownership
Income by way of Interest
SEBI has been vested with necessary powers concerning various
aspects of capital market such as:
(i) regulating the business in stock exchanges and any other securities
market;
(ii) registering and regulating the working of various intermediaries
and mutual funds;
(iii) promoting and regulating self regulatory organisations;
(iv) promoting investors education and training of intermediaries;
(v) prohibiting insider trading and unfair trade practices

Q)Salient features of forward contract

ANS:-
Forward Contracts
A forward contract is an agreement to buy or sell an asset on a
specified date for a specific price.
One of the parties to the contract assumes long position and agree to
buy the underlying asset on a certain specified future date, for a
certain specified price.
The other party assumes a short position and agrees to sell the asset
on same date for the same price.
 Other contract details like delivery date, price and quantity are
negotiated bilaterally by the parties to the contract.
 Mostly traded in OTC market.
Salient features:
 Since FC are bilateral contracts, it is exposed to counterparty risk
 Each contract is customer designed and hence is unique in terms
of contract size, expiration date and asset type and quality
 Spot transfer of ownership, delivery on future date.
  No money changes hands at the time of the deal is signed.
 The contract price is generally not available on public domain
 On expiry date contract has to be settled by delivery of the asset
 If a party wishes to reverse the contract, it has to compulsorily
go to the same counterparty, which often results in a high price
being charged.
 Forward contracts in forex markets have become very
standardised, thereby reducing transaction cost and increasing
transaction volume.
 FCs are useful in Hedging and Speculation
 Hedging for Exporters and Importers
 Speculation for the speculators

Futures Forwards

Contract price is transparent Contract price is not publically

disclosed and hence not
 transparent
Standardised contract terms Customised contract terms

Requires margin payment, no No margin payment, Liquidity

liquidity problem, no default risk problem
Follows daily settlement, cash Settlement happens at the end of
basis period

Definition
 Spot Price – The price at which an instrument / asset is traded in
the spot market
 Future price – The price at which the future contracts are traded
in future market
 Contract cycle – The period over which a contract trades. Index
future contracts typically have one month, two months and
three months expiry cycles that expires on the last Thursday of
the month
 Expiry date – It is the last day on which the contract will be
traded, at the end of which it will cease to exist.
 Contract size – It is the amount of the asset that has to be
delivered under one contract. E.g. contract size of NSE future is
200 Nifties
 Basis – It is defined as the future price minus the spot price.
There will be a different basis for each delivery month for each
contract. In a normal market, basis will be positive.
  Cost of carry – It measures the storage cost plus the interest that
is paid to finance the asset, Insurance cost and Transport costs
less the income earned on the asset
 Initial margin – It is the amount that is deposited in margin
account at the time of futures contract is first entered into.
 Marking to market – At the end of each trading day, the margin
account is adjusted to reflect the investor’s gain or loss
depending upon the futures closing price. This is called as
marking to market.
 Maintenance margin – This is lower than initial margin. It is set
to ensure that the balance in margin account never becomes
negative. Top up needs to be done before next trading day.
 Pay off for futures – It is the likely profit / loss that would accrue
to a market participant with change in the price of underlying
asset.

Q)Explain role of financial intermediary

ANS:-
 The financial intermediation process channels funds between
third parties with a surplus and those with a lack of funds.
 A financial intermediary does not only act as an agent for other
institutional units, but places itself at risk by acquiring financial
assets and incurring liabilities on its own account.
 Financial intermediaries (FIs) are financial institutions that
intermediate between ultimate lenders and ultimate borrowers.
Funds flow from ultimate lenders to ultimate borrowers either
directly or indirectly through financial institutions.
  FIs are commercial banks, cooperative credit societies and
banks, mutual savings banks, mutual funds, hedge funds, savings
and loan associations, building societies and housing loan
associations, insurance companies, merchant banks, unit trusts,
and other financial institutions

Role:
 Helps reduction in hoarding of money supply
 Helps household sector
 Helps business sector
 Helps Government
 Helps both i.e. Lenders and FIs in earning
 Reduction of risk by spreading the exposure
 Provide liquidity
 Helps correction in interest rates
 Brings stability in Capital market
 Benefit to economy

Q)Role of merchant banker

ANS:-
Merchant bankers not only provide advisory services to corporate
enterprises but also advise the investors of the incentives available in
the form of tax relief and other statutory obligations. Thus, the
merchant bankers help industry and trade to raise funds, and the
investors to invest their saved money in sound and healthy concerns
with confidence, safety and expectation of higher yields
Traditional merchant banks primarily perform international financing
activities such as foreign corporate investing, foreign real estate
investment, trade finance and international transaction facilitation.
Some of the activities that a pure merchant bank is involved in, may
include issuing letters of credit, transferring funds internationally,
trade consulting and co-investment in projects involving trade of one
form or another.
ROLE
 1.Corporate Counseling
 2.Project Counseling And Pre-Investment Studies
 3.Credit Syndication And Project Finance
 4.Issue Management
 5.Underwriting
 6.Bankers to the issue
 7.Portfolio Management
 8.Venture Capital Financing
 9.Leasing
 10.Non-Resident Investment Counseling And Management
 11.Acceptance Credit And Bill Discounting
 12.Advising On Mergers, Amalgamations And Take-Over 
 13.Arranging Offshore Finance
 14.Fixed Deposit Broking
 15.Relief To Sick Industries