Introduction

to Indian
Financial
System
MODULE 1
CO 1: DISCUSS THE STRUCTURE OF
INDIAN FINANCIAL SYSTEM
What are we going to learn
❖Indian Financial System Structure
❖Financial market
❖Financial institutions
❖Financial instruments
❖Financial services

❖Financial intermediaries

❖Financial services Industry emergence and developments

❖Financial innovation

❖Current scenario and challenges in the financial services sector in India.

Indian Financial System
❖The Indian Financial System is one of the most important aspects of the economic development of
our country. This system manages the flow of funds between the people (household savings) of the
country and the ones who may invest it wisely (investors/businessmen) for the betterment of both the
parties.

❖Features of IFS include:

❖Economic development: It plays a vital role in the economic development of the country as it encourages both
savings and investment
❖Linking rod: It helps form a link between the investor and the one saving
❖Mobilize savings: It helps in mobilizing and allocating one’s savings
❖Capital formation: Plays a key role in capital formation
❖Expansion of financial service: It facilitates the expansion of financial institutions and market
1. Financial Institutions
Financial institutions are the intermediaries who facilitate the smooth functioning
of the financial system by making investors and borrowers meet.

They mobilize savings of the surplus units and allocate them in productive
activities promising a better rate of return.

They provide whole range of services to the entities who want to raise funds
from the markets or elsewhere.

The financial Institutions is very important for the function of a financial system.
Banks & NBFI
 Banking Non Banking
institutions institutions

Development
Commercial Cooperative Non Banking
Financial
Banks Banks Financial entities
Institutes

Registered under
Public Sector State level and
cooperative NBFCs
banks central level
society act

1. Financial
Institutions
Private sector
banks

Regional Rural
Banks

Foreign Banks
2. Financial Markets
The marketplace where buyers and sellers interact with each other and participate in
the trading of money, bonds, shares and other assets is called a financial market.

Financial markets catering to the various credit needs of the individuals, links and
institutions. Credit is supplied both on a short as well as a long

CAPITAL Market - Designed to finance the long term investment, the Capital market
deals with transactions which are taking place in the market for over a year

MONEY Market - Mostly dominated by Government, Banks and other Large

Institutions, the type of market is authorized for small-term investments only
2. Financial Markets
Capital Money
Market Market

Primary Secondary Derivative Call Money Treasury Commercial

market market market market bills Paper
✓ Primary market includes new issue market, Offer ✓ Call money market maturity period of one to
for sale, Private placement. Refers to stock purchase. fourteen days or overnight to a fortnight
✓ Secondary market is all about stock exchange. ✓ T-Bills short term debt instruments issued by the
✓ Part of secondary market is derivative market. Government of India and are presently issued in
three tenors, namely, 91 days, 182 days and 364
days
✓ Commercial papers are unsecured promissory note
with a fixed maturity of rarely more than 270 days
3. Financial Instruments
Financial instruments are monetary contracts between parties. The products
which are traded in a financial market are financial assets, securities or other
types of financial instruments.

Financial instruments can be real or virtual documents representing a legal

agreement involving any kind of monetary value.

It can be based on time or type. Short term, Long term, Equity, Derivative, Crypto
etc.
4. Financial Services

It consists of services provided by Asset Management and Liability Management Companies.

They help to get the required funds and also make sure that they are efficiently invested.

They assist to determine the financing combination and extend their professional services up to
the stage of servicing of lenders.

FUND BASED – Providing capital in various forms to the company

FEE BASED – Providing financial consultancy at nominal fee

 4. Financial Services
Fee Based Fund Based
FS FS

Merchant Stock Mutual

Banking Broking Funds Forfaiting
Hire
Purchasing
Credit Leasing
Rating Venture
Capital
Factoring Bills
Discounting
Possible testing questions for the CO
1. Suresh limited is planning to purchase a machinery whose cost is very high. Suggest the
company to get the machinery by stating the possibilities in Indian financial system.

2. Gems is currently working as a private company. It is planning it self to become public.

What is the option available in the Indian financial system to meet this requirement?

3. Demonstrate the Indian financial system and elucidate how it acts as a link between
borrowers and suppliers. (Case study will be provided)
Financial Intermediaries – Small
activity
❖Find out who are the various financial intermediaries and what is their role
in Indian Financial system. Why it is important?
Financial Intermediaries
❖A financial intermediary is an entity that acts as the middleman between two parties in a financial
transaction, such as a commercial bank, investment bank, mutual fund.
Financial Service – Emergence &
Developments
❖History of Financial services traced back 200 years ago

❖4 major components: Indian financial system comprises of 4 major components (Ins, Market,
Instruments, Services)

❖CAGR: One of the oldest financial sector growing 6 % p.a. Currently at 15 % p.a.

❖Emergence of stock market: BSE and NSE emergence paved way for development in the late 19th
century

❖Regulation: Strong financial regulatory control by RBI & SEBI

Financial Service – Emergence &
Developments
Pre-Independence era: Was highly informal with elementary financial market structures.
Financial intermediaries were taking some shape and capital flow for long-term financing was
non-existent.
Approach of
14 banks were General
Post-Independence: planned
nationalized in Insurance
economic
1969 Company 1972
development
(1947-1991)

RBI of 1935 was Growth of UTI for 6 more banks

nationalized in mutual funds in were nationalized
1949 1964 in 1980

Imperial Bank Insurance

became SBI in company
1956 emergence 1956
NATIONALISATION
1969

Allahabad Bank, Canara Bank, United Bank of India, UCO Bank, Syndicate Bank, Indian Overseas Bank,
Bank of Baroda, Punjab National Bank, Bank of India, Bank of Maharashtra, Central Bank of India,
Indian Bank, Dena Bank, Union Bank

1980

Punjab and Sind Bank. Vijaya Bank (Now Bank of Baroda) Oriental Bank of Commerce (now
Punjab National Bank) Corporation Bank (now Union Bank of India) Andhra Bank (now Union
Bank of India) New Bank of India (now Punjab National Bank)
Financial Service – Emergence &
Developments
1991 Onwards (New economic policy)
•SEBI – 1992
•NSDL – 1996
•CDSL - 1999
•IRDA – 1999
•PFRDA – 2003
•(Pension Fund Regulatory and Development Authority)
•Birth of credit rating agencies
Financial Service – Emergence &
Developments - Facts
Banking sector
• India’s banking sector assets were worth $ 4.7 trillion in the 2021-22 financial year.
• According to a report by KPMG-CII, India’s banking sector is on the way to becoming the fifth largest in the world by
2025.
• India once had a heavily government-dominated financial services industry, and most services were provided by
nationalized banks.
Insurance sector
• The country’s life insurance sector is the biggest in the world, and the market size is expected to touch about $ 600
billion by 2023.
Mutual fund sector
• The assets of the mutual fund industry are worth $790 billion. The pension corpus fund is projected to record $1
trillion by 2025.
Financial sector reforms were initiated in 1991 with the aim of accelerating economic growth.
Financial Service – Emergence &
Developments
❖Contribution to GDP: The financial services sector in India, which accounts for 6.07 percent of the
nation’s GDP, is growing rapidly.

❖Main domination: Although the sector consists of commercial banks, development finance institutions,
nonbanking financial companies, insurance companies, cooperatives, mutual funds, and the new “payment
banks,” it is dominated by banks, which holds over 60 percent share.

❖Regulator: The Reserve Bank of India (RBI) is the apex bank of the country, controlling all activities in the
financial sector. Commercial banks include public sector and private sector banks and are under the
regulatory supervision of the RBI. Development finance institutions include industrial and agriculture
banks.

❖NBFC: Non-banking finance companies (NBFC) provide loans, purchase stocks and debentures, and offer
leasing, hire purchase, and insurance services.
Financial Service – Emergence &
Developments - Reforms
❖Narasimham Committee – Evaluated weakness of banking system in 1991

❖CRR & SLR was reduced to pump in money

❖SLR was slashed from 39 % to 24%

❖CRR was slashed from 15 % to 4.5% in 2003

❖Capital adequacy ratio was increased to 9 %

❖Private banks were allowed in India – Emergence of plastic money

❖Promotion of Microfinance using SHG-Bank linkage models

❖Setting up Rural Infra Development Fund

Financial Innovation
❖Financial innovation is the process of creating new financial products, services, or processes.
Financial innovation has come via advances in financial instruments, technology, and payment
systems.

Plastic money

Fintech Digitalization

Financial
Innovati
on

Cryptocurrenc
y (Block UPI
chain)
 Fin. Innovation
❖Demographic dividend: More than 65% of India’s population is under the age of 35 years and more
than 50% smartphone users in India are aged between 18 and 30 years. These consumers are tech-
savvy and ready to experiment with unconventional digital financial services products that promise
speed and convenience.

❖Internet-enabled mobiles: A majority of the low-income population in India is leapfrogging into

internet usage via mobiles, bypassing fixed line internet. The increasing affordability of mobile phones
and decreasing cost of data has resulted in a highly digital populace. The emergence of smartphones is
enhancing mobiles from a simple communication device to a full-fledged payment device.

❖JAM Trinity: Jan Dhan–Aadhar–Mobile is a win-win combination that has created the building blocks
for a cashless pathway to financial inclusion. Mobile phone, bank account and unique digital IDs are
the pillars on which the DFS environment is being built in India.
Fin. Innovation
❖E-commerce boom: The rapid growth in e-commerce has seen lakhs of proprietors and wholesalers
become online sellers. It is estimated that every month roughly 30,000 retailers are inducted as online
sellers on e-commerce platforms This offline-to-online migration is enabling FinTech companies to tap
into the digital trails of these merchants – social media footprint, customer ratings/reviews, purchase
history and other factors – and make credit decisions based on machine learning algorithms.

❖Significant advancement in ICT: Higher computing capability and storage capacity have given rise
to ‘big data’ analytics, facilitating better risk assessment and trend discovery. The access to wider and
richer consumer data has allowed players to extract behavioral insights and develop targeted
solutions. The SMAC (social media, mobile, analytics and cloud) and API technologies have allowed
different data streams to ‘talk’ to each other in a highly efficient manner. This has led to the
amalgamation of multiple services into a common platform, thus creating different use cases for
delivery of financial services and a parallel ‘app economy’.
Challenges – Indian Financial sector
❖Penetration – To digital mediums are comparatively low. Innovative products are not tasted by most
of the people in India. But time is changing

❖Wealth Management – The wealth management scenario especially the bank loans are not up to the
mark. There are several reasons thrusting it

❖Saving Habits pattern– The savings and investment pattern of educated millennial work force focus
more on risk free / low risk assets like real estate, FDs and Gold. Stock markets and mutual funds
contribute only around 6%

❖Bad Credits – NPAs increase due to default in payment of loans. Many waiver of loans put pressure
on good loans

❖Low profit margins – Indian companies has comparatively low profit margins. It leads to the
reduction in availing credit facilities. It again leads to poor credit creation amongst society
Challenges – Indian Financial sector
❖Agrarian Society – India’s primary income is from agriculture. Un-educated agrarian society needs
to be made aware about the financial schemes and financial literacy. The purchasing pattern differs.
Economic purchase.

❖Falling Private investment – Private investment is comparatively lower in India. It directly affects
Indian Financial System

❖Poor Liquidity – Liquidity crunch of the unavailability of cash in the financial sectors as well as
individuals trigger liquidity crisis

❖Poor performance of PSU Banks – Loan books and asset quality of PSU banks are deteriorating due
to bad loans. The work-force and no target for employees boost this condition

❖Unemployment levels – Unemployment leads to meet only the basic needs of people. It reduces
purchasing power especially hire purchase, EMI etc.
Solutions to the challenges
❖Awareness programmes: Regarding various financial instruments. NSE is conducting such
programmes which should be more consistent

❖Tapping untapped markets: Make use of digitalization to tap rural markets and attract them to
invest in innovative financial products.

❖Microfinance: Ensuring financial inclusion using micro credits and micro finance

❖Stimulating domestic consumption: By providing tax incentives and reducing the interest rates.

❖Solutions to unemployment: Increased public-private partnership and participation of FDI and a

higher allocation of funds by the Finance Minister towards these core areas could provide long term
sustainable solutions to the job crisis. Further focus on large scale skill building would help mitigate
the unemployment crisis.

❖ Stimulating Foreign investments: It ensures more liquidity in the country

 Financial Services
(a) fund based services (b) non-fund services (or fee-based services)
Fund based Services Fee based services

1. Underwriting 1. Merchant banking

2. Dealing in secondary market activities 2. Credit rating
3. Participating in money market 3. Loan syndication
4. Equipment leasing or lease financing 4. Business opportunity related services
5. Hire purchase 5. Project advisory services
6. Venture capital 6. Services to foreign companies and NRIs.
7. ill discounting. 7. Portfolio management
8. Insurance services 8. Merger and acquisition
9. Factoring 9. Capital restructuring
10.Forfaiting 10.Debenture trusteeship
11.Housing finance 11.Custodian services
12.Mutual fund 12.Stock broking
Capital Market Services
Characteristics of Capital Market
1. It is a vehicle through which capital flows from the investors to borrowers.
2. It generally deals with long term securities.
3. All operations in the new issues and existing securities occur in the capital market.
4. It deals in many types of financial instruments. These include equity shares, preference shares,
debentures, bonds, etc. These are known as securities. It is for this reason that capital market is
known as ‘Securities Market’.
5. It functions through a number of intermediaries such as banks, merchant bankers, brokers,
underwriters, mutual funds etc. They serve as links between investors and borrowers.
Functions of a Capital Market
1. Mobilise long term savings for financing long term investments.
2. Provide risk capital in the form of equity or quasi-equity to entrepreneurs.
3. Provide liquidity with a mechanism enabling the investor to sell financial assets.
4. Improve the efficiency of capital allocation through a competitive pricing mechanism.
5. Enable quick valuation of instruments – both equity and debt.
6. Provide insurance against market risk through derivative trading and default risk through investment
protection fund.
7. Provide operational efficiency through: (a) simplified transaction procedures, (b) lowering settlement
times, and (c) lowering transaction costs.
Major Players or Participants (or
Intermediaries) in the Capital Market
1. Merchant bankers:
2. Bankers:
3. Brokers:
4. Underwriters:
Procedure for Dealing at Stock
Exchange (Trading Mechanism or
Method of Trading on a Stock Exchange)
1. Selection of a broker:
2. Placing an order:
3. Making the contract:
4. Contract Note:
5. Settlement:
Depository Services
A depository is an organization which holds securities in electronic book
entries at the request of the shareholder through the medium of a
depository participant. A depository keeps the scrips on behalf of the
investors. It undertakes the custodian role. A depository participant is
an agent of the depository through which it interfaces with the investor.
➢ NSDL.
➢ CDSL.
Constituents of Depository
System
(1) Depository Participant,
(2) Investor (Beneficial owner),
(3) Issuer,
(4) Depository.
 National Securities Depository
Ltd. (NSDL)
NSDL was registered by SEBI on June 7, 1996 as India’s first depository to facilitate trading and
settlement of securities in the dematerialized form. It was promoted by IDBI, UTI and NSE
(National Stock Exchange).
Functions / Services of NSDL
1. Maintenance of individual investors’ beneficial holdings in an electronic form.
2. Trade settlement
3. Automatic delivery of securities to the clearing corporation
4. Dematerialisation and rematerialisation of securities.
5. Allotment in the electronic form in case of IPOs.
6. Distribution of dividend
Central Depository Services
(India) Ltd. (CDSL)
The CDSL is the second depository set up by the Bombay Stock Exchange and
co-sponsored by the SBI, Bank of India, Union bank of India, and Centurian
Bank. The CDSL commenced operations on March 22, 1996. The CDSL was
set up with the objectives of providing convenient, dependable and secure
depository services at affordable cost to all market participants. All leading
stock exchanges such as Bombay Stock Exchange, National Stock Exchange,
and Kolkata Stock Exchange etc. have established connectivity with CDSL.
Thank You ☺