Top 2 Types of Financial Market | Financial Management

This article throws light upon the top two types of financial market. The types are: 1. Money Market 2. Capital Market.

Financial Market: Type # 1. Money Market:

The term money market is used in a composite sense to mean financial institutions which deal with short-term funds in the economy. It refers to the institutional arrangements facilitating borrowing and lending of short-term funds. The money market brings together the lenders who have surplus short term investible funds and the borrowers who are in need of short-term funds.

In a money market, funds can be borrowed for a short period varying from a day, a week, a month, or 3 to 6 months and against different types of instruments, such as bill of exchange, bankers’ acceptances, bonds, etc., called ‘near money’. Thus money market has been defined by Crowther as, “the collective name given to the various firms and institutions that deal in the various grades of near money.”

The Reserve Bank of India describes the money market as, “the centre for dealings, mainly of a short term character, in monetary assets; it meets the short-term requirements of borrowers and provides liquidity or cash to the lenders”.

The borrowers in the money market are generally merchants, traders, manufacturers, business concerns, brokers and even government institutions. The lenders in the money market, on the other hand, include the Central Bank of the country, the commercial banks, insurance companies and financial concerns.

The organisation of the money market is formed. There is no definite place or location where money is borrowed and lent by the parties concerned, it is not necessary for the borrowers and the lenders to have a personal contact with each other.

Negotiations between the parties may be carried through telephone, telegraph or mail. Thus, money market is simply an arrangement that brings about a direct or indirect contact between the lender and the borrower.

The term money market should be distinguished from the capital market. Money market in essence is a short-term credit market that deals only in short-term finances, the capital market, on the hand, is the market for long term funds. However, the two markets are closely related as the same institution may many a times deal in both types of funds.

Functions of the Money Market:

The money market performs the following functions:

i. The basic function of money market is to facilitate adjustment of liquidity position of commercial banks, business corporations and other non-bank financial institutions.

ii. It provides outlets to commercial banks, business corporations, non-bank financial concerns and other investors for their short-term surplus funds.

iii. It provides short-term funds to the various borrowers such as businessmen, industrialists, traders etc.

iv. Money market provides short-term funds even to the government institutions.

v. The money market constitutes a highly efficient mechanism for credit control. It serves as a medium through which the Central Bank of the country exercises control on the creation of credit.

vi. It enables businessmen to invest their temporary surplus for a short-period.

vii. It plays a vital role in the flow of funds to the most important uses.

Financial Market: Type # 1. Capital Market:

A good capital market is an essential pre-requisite for industrial and commercial development of a country. Credit is generally, required and supplied on short-term and long-term basis. The money market caters to the short-term needs only.

The long term capital needs are met by the capital market. Capital market is a central coordinating and directing mechanism for free and balanced flow of financial resources into the economic system operating in a country.

The development of a good capital market in a country is dependent upon the availability of savings, proper organisation of its constituent units and the entrepreneurship qualities of its people.

Before independence, the capital market of India was ill-developed because of its certain defects. But, in recent years since independence, the capital market of India has substantially changed and has been changing for the better.

Meaning:

The term ‘capital market’ refers to the institutional arrangements for facilitating the borrowing and the lending of long-term funds. In the widest sense, it consists of a series of channels through which the savings of the community are made available for industrial and commercial enterprises and public authorities.

It is concerned with those private savings, individuals as well as corporate, that are turned into investments through new capital issues and also new public loans floated by government and semi-government bodies.

A capital market may be defined as an organised mechanism for effective and efficient transfer of money-capital or financial resources from the investing parties, i.e., individuals or institutional savers to the entrepreneurs (individuals or institutions) engaged in industry or commerce in the business either is in the private or public sectors of an economy.

Objectives and Importance of Capital Market:

An efficient capital market is a pre-requisite of economic development.

An organised and well developed capital market operating in a free market economy:

(i) Ensures best possible coordination and balance between the flow of savings on the one hand and the flow of investment leading to capital formation on the other;

(ii) Directs the flow of savings into most profitable channels and thereby ensures optimum utilisation of financial resources.

Thus, an ideal capital market is one where finance is used as a hand-made to serve the needs of industry. Finance is available at a reasonable rate of return for any proposition which offers a prospective yield sufficient to make borrowing worthwhile. The development of savings, proper organisation of intermediary institutions and the entrepreneurial qualities of the people.

The capital market must facilitate the movement of capital to the point of highest yield.

Thus a capital market strives for:

(i) The mobilisation or concentration of national savings or economic development, and

(ii) The mobilisation and import of foreign capital and investment to augment the deficit in the required financial resources so as maintain the expected rate of economic growth.

Functions of Capital Market:

The major functions performed by a capital market are:

(i) Mobilisation of financial resources on a nation-wide scale.

(ii) Securing the foreign capital and know-how to fill up the deficit in the required resources for economic growth at a faster rate.

(iii) Effective allocation of the mobilised financial resources, by directing the same to projects yielding highest yield or to the projects needed to promote balanced economic development.

Structure of the Indian Capital Market:

The capital market in India may be classified into two categories, viz., organised and unorganised. The structure of any capital market is composed of the sources of demand for and supply of long-term capital. In the organised sector of capital market demand for long-term capital comes from corporate enterprises, public sector enterprises, government and semi-government institutions.

The sources of supply of funds comprise individual investors, corporate and institutional investors, investment intermediaries, financial institutions, commercial banks and government.

In India, even the organised sector of capital market was ill developed till recently because of the following reasons:

(i) Agriculture was the main occupation which did not lend itself to the floatation of securities.

(ii) The foreign business houses hampered the growth of securities market.

(iii) Managing agency system also accounted for ill-development of capital market as managing agents performed both activities of promotion and marketing of securities.

(iv) The investment habit of individuals.

(v) Restrictions imposed on the investment pattern of various financial institutions.

The unorganised sector of the capital market consists of indigenous bankers and private money­lenders. The main demand in the unorganised capital market comes from the agriculturists, private individuals for consumption rather than production and even small traders. The supply of money-capital comes, usually from own resources of money lenders and falls short of the requirements made on them.