IFS Unit 1.pdf

Unit 1 Introduction to Financial system  INTRODUCTION OF THE TERM “FINANCE”: The term "finance" in our simple understanding, is perceived as equivalent to 'Money'. But finance exactly is not money; it is the source of providing fund for a particular activity. Finance is a fa...

Unit 1 Introduction to Financial system  INTRODUCTION OF THE TERM “FINANCE”: The term "finance" in our simple understanding, is perceived as equivalent to 'Money'. But finance exactly is not money; it is the source of providing fund for a particular activity. Finance is a facility that built the Gap between deficit sectors to surplus sector by shifting funds.  INTRODUCTION OF THE TERM “FINANCIAL SYSTEM”: Every country aiming at its progress depends on the efficiency of this economic system which depends upon financial system. The economic development of a nation is reflected by the progress of the various economic units. These units are broadly classified into corporate sector, government and household sector. While performing their activities these units will be placed in a surplus, deficit, balanced budgetary situations. There are organisations or people with surplus funds and there are those with a deficit. A financial system or financial sector functions as an intermediary and facilitates the flow of funds from the areas of surplus to the areas of deficit. It is a composition of various institutions, markets, regulations and laws, practices, money manager, analysts, transactions and claims and liabilities. It is the network of institutions and individuals who deal in financial claims to various instruments. Financial System of any country consists of financial markets, financial intermediation and financial instruments and financial products.  DEFINITION OF FINANCIAL SYSTEM: 1) H.R. Machiraju defined Financial System as “It is a set of institutions instruments and markets which fosters saving and channels them to their most efficient use”. 2) In the worlds of Van Horne, “financial system allocates savings efficiently in an economy to ultimate users either for investment in real assets or for consumption”. 3) According to Prasanna Chandra, “financial system consists of a variety of institutions, markets and instruments related in a systematic manner and provides the principal means by which savings are transformed into investments”. 4) According to Robinson, the primary function of the system is "to provide a link betweensavings and investment for the creation of new wealth and to permit portfolio adjustment in the composition of the existing wealth." From the above definitions, it may be said that the primary function of the financial system is the mobilisation of savings, their distribution for industrial investment and stimulating capital formation to accelerate the process of economic growth.  FUNCTIONS/IMPORTANCE/ROLE OF FINANCIAL SYSTEM: 1) Pooling of funds: In the financial system, the savings of people are transferred from households to business organisations. With this, the production increases and better goods are manufactured which, in turn, increases the standard of living of the people. 2) Capital formation: It helps in mobilizing and allocating the savings efficiently and effectively. It plays a crucial role in economic development through saving-investmentprocess. This savings – investment process is called capital formation. 3) Facilitates payment: The financial system offers convenient modes of payment for goods and services. New methods of payment like credit cards, debit cards, cheques, e-banking, mobile banking, UPI, etc, facilitates quick and easy transactions. 4) Provides liquidity: In the financial system, liquidity means the ability to convert into cash. The financial markets provide the investors the opportunity to liquidate their investments which are in instruments like shares, debentures, bonds, etc. Prices of theseinstruments are determined on daily basis according to the operations of the market forces of demand and supply. 5) Short-term and long-term needs: The financial market takes into account the variousneeds of different individuals and organisations. This facilitates optimum use offinances for productive purposes. 6) Risk function: The financial markets provide protection against life, health and incomerisks. Risk management is an important component of a growing economy.  7) Better decisions: Financial markets provide information about the market and variousfinancial assets. This helps the investors to compare different investment options and choose the best one. It helps in decision making in choosing portfolio allocations of their wealth. 8) Finances government needs: Government needs huge amount of money for the development of defence infrastructure. It also requires finance for social welfareactivities, public health, education, etc. This is supplied to them by financial markets. 9) Economic development: India is a mixed economy. The government intervenes in thefinancial system to influence macro-economic variables like interest rate or inflation. Thus, credits can be made available to corporate at cheaper rates. This leads toeconomics development of the nation. 10) Other functions/roles: i. It helps to monitor corporate performance. ii. It provides a mechanism for the transfer of resources across geographical boundaries iii. It offers portfolio adjustment facilities (provided by financial markets and financial intermediaries). iv. It helps in lowering the transaction costs and increase returns. This will motivate peopleto save more. v. It helps in promoting the process of financial deepening and broadening. Financial deepening means increasing financial assets as a percentage of GDP and financial broadening means building an increasing number and variety of participants andinstruments. In short, a financial system contributes to the acceleration of economic development. It contributes to growth through technical progress. EVOLUTION OF FINANCIAL SYSTEM IN INDIA Some serious attention was paid to the development of a sound financial system in India only after the launching of the planning era in the country. At the time of Independence in 1947, there was no strong financial institutional mechanism in the country. There was absence of issuing institutions and non-participation of intermediary financial institutions. The industrial sector also had no access to the savings of the community. The capital market was very primitive and shy. The private as well as the unorganised sector played a key role in the provision of „liquidity‟. On the whole, chaotic conditions prevailed in the system. With the adoption of the theory of mixed economy, the development of the financial system took a different turn so as to fulfil the socioeconomic and political objectives. The government started creating new financial institutions to supply finance both for agricultural and industrial development and it also progressively started nationalising some important financial institutions so that the flow of finance might be in the right direction. Nationalisation of Financial Institutions: As stated earlier the RBI is the leader of the financial system. But, it was established as a private institution in 1935. It was nationalised in 1948. It was followed by the nationalisation of the Imperial Bank of India in 1955 by renaming it as State Bank of India. In the same year, 245 Life Insurance Companies were brought under government control by merging all of them into a single corporation called Life Insurance Corporation of India. Another significant development in our financial system was the nationalisation of 14 major commercial banks in 1969. Again, six banks were nationalised in 1980. This process was then extended to General Insurance Companies which were reorganised under the name of General Insurance Corporation of India. Thus, the important financial institutions were brought under public control. Starting of Unit Trust of India: Another landmark in the history of development of our financial system is the establishment of new financial institutions to strengthen our system and to supply institutional credit to industries. The Unit Trust of India was established in 1964 as a public sector institution to collect the savings of the people and make them available for productive ventures. It is the oldest and largest mutual fund in India. It is governed by its own statutes and regulations. However, since 1994, the schemes of UTI have to be approved by the SEBI. It has introduced a number of open-ended and close-ended schemes. It also provides repurchase facility of units of the various income schemes after a minimum lock-in period of one year. Some of the unit schemes of UTI are linked with stock exchanges. Its investment is confined to both corporate and non-corporate sectors. In recent years it has established the following subsidiaries: (i) The UTI Bank Ltd., in April 1994. (ii) The UTI Investor Service Ltd., to act as UTI‟s own Registrar and Transfer agency. (iii) The UTI Security Exchange Ltd. Establishment of Development Banks: Many development banks were started not only to extend credit facilities to financial institutions but also to render advisory services. These banks are multipurpose institutions which provide medium and long-term credit to industrial undertakings, discover investment projects, undertake the preparation of project reports, provide technical advice and managerial services and assist in the management of industrial units. These institutions are intended to develop backward regions as well as small and new entrepreneurs. The Industrial Finance Corporation of India (IFCI) was set-up in 1948 with the object of “making medium- and long-term credits more readily available to industrial concerns in India, particularly under circumstances where normal banking accommodation is inappropriate or recourse to capital issue method is impracticable”. At the regional level, State Financial Corporations were established under the State Financial Corporation Act, 1951 with a view to providing medium- and long-term finance to medium and small industries. It was followed by the establishment of the Industrial Credit and Investment Indian Financial System Corporation of India (ICICI) in 1955 to develop large and medium industries in private sector, on the initiative of the World Bank. It adopted a more dynamic and modern approach in industrial financing. Now, it has been merged with the ICICI bank. Subsequently, the Government of India set-up the Refinance Corporation of India (RCI) in 1958 with a view to providing refinance facilities to banks against term loans granted by them to medium and small units. Later on it was merged with the Industrial Development Bank of India. The Industrial Development Bank of India (IDBI) was established on July 1, 1964 as a whollyowned subsidiary of the RBI. The ownership of IDBI was then transferred to the Central Government with effect from February 16, 1976. The IDBI is the apex institution in the area of development banking and as such it has to coordinate the activities of all the other financial institutions. In 1971, the IDBI and LIC jointly set-up the Industrial Reconstruction Corporation of India (IRCI) with the main objective of reconstructing and rehabilitating sick industrial undertakings. The IRCI was converted into a statutory corporation in March 1985 and renamed as the Industrial Reconstruction Bank of India (IRBI). In 1997, the IRBI has to be completely restructured since it itself has become sick due to financing of sick industries. Now, it is converted into a limited company with a new name of Industrial Investment Bank of India (IIBI). Its objective is to finance only for expansion, diversification, modernisation, etc., of industries and thus it has become a development bank. The Small Industries Development Bank of India (SIDBI) was set-up as a wholly-owned subsidiary of IDBI. It commenced operations on April 2, 1990. The SIDBI has taken over the responsibility of administrating the Small Industries Development Fund and the National Equity Fund. Institution for Financing Agriculture: In 1963, the RBI set-up the Agricultural Refinance and Development Corporation (ARDC) to provide refinance support to banks to finance major development projects such as minor irrigation, farm mechanisation, land development, horticulture, daily development, etc. However, in July 1982, the National Bank for Agriculture and Rural Development (NABARD) was established and the ARDC was merged with it. The whole sphere of agricultural finance has been handed over to NABARD. The functions of the Agricultural Credit Department and Rural Planning and Credit Cell of the RBI have been taken over by NABARD. Institution for Foreign Trade: The Export and Import Bank of India (EXIM Bank) was set-up on January 1, 1982 to takeover the operations of International Finance wing of the IDBI. Its main objective is to provide financial assistance to exporters and importers. It functions as the principal financial institution for coordinating the working of other institutions engaged in financing of foreign trade. It also provides refinance facilities to other financial institutions against their export-import financing activities. The National Housing Bank (NHB) has been set-up on July 9, 1988 as an apex institution to mobilise resources for the housing sector and to promote housing finance institutions both at regional. It also provides refinance facilities to housing finance institutions and scheduled banks. It also provides guarantee and underwriting facilities to housing finance institutions. Again, it coordinates the working of all agencies connected with housing. Stock Holding Corporation of India Ltd. (SHCIL) Recently in 1987 another institution, viz., Stock Holding Corporation of India Ltd., was set-up to tone up the stock and capital markets in India. Its main objective is to provide quick share transfer facilities, clearing services, depository services, support services, management information services and development services to investors both individuals and corporates. The SHCIL was set-up by seven All India financial institutions, viz., IDBI, IFCI, ICICI, LIC, GIC, UTI and IRBI. Mutual Funds Industry: Mutual funds refer to the funds raised by financial service companies by pooling the savings of the public and investing them in a diversified portfolio. They provide investment avenues for small investors who cannot participate in the equities of big companies. Mutual funds have been floated by some public sector banks, LIC, GIC and recently by private sector also. Venture Capital Institutions: Venture capital is another method of financing in the form of equity participation. A venture capitalist finances a project based on the potentialities of a new innovative project. Much thrust is given to new ideas or technological innovations. Indeed it is a long-term risk capital to finance high technology projects. The IDBI venture capital fund was set-up in 1986. The IFCI has started a subsidiary to finance venture capital viz., The Risk Capital and Technology Finance Corporation (RCTC). Likewise the ICICI and the UTI have jointly set-up the Technology Development and Information Company of India Limited (TDICI) in 1988 to provide venture capital. Similarly many State Financial Corporations and commercial banks have started subsidiaries to provide venture capital. Credit Rating Agencies Of late, many credit rating agencies have been established to help investors to make a decision of their investment in various instruments and to protect them from risky ventures. At the same time it has the effect of improving the competitiveness of the companies so that one can excel the other. Credit rating is now mandatory for all debt instruments. The Indian financial system has been well supported by suitable legislative measures taken by the government then and there for its proper growth and smooth functioning. Though there are many enactments, some of them are very important. The Indian Companies Act was passed in 1956 with a view to regulating the functioning of companies from birth to death. It mainly aims at giving more protection to investors since there is a diversity of ownership and management in companies. It was a follow-up to the Capital Issues Control Act passed in 1947. Again, in 1956, the Securities Contracts (Regulation) Act was passed to prevent undesirable transactions in securities. It mainly regulates the business of trading in the stock exchanges. This Act permitted only recognised stock exchanges to function. To ensure the proper functioning of the economic system and to prevent concentration of economic power in the hands of a few, the Monopolies and Restrictive Trade Practices Act was passed in 1970. In 1973, the Foreign Exchange Regulations Act was enacted to regulate the foreign exchange dealings and to control Indian investments abroad and vice versa. The Capital Issues Control Act was replaced by setting up of the Securities Exchange Board of India. Its main objective is to protect the interest of investors by suitably regulating the dealings in the stock market and money market so as to achieve efficient and fair trading in these markets. When the government adopted the New Economic Policy, many of these Acts were amended so as to remove many unwanted controls. Banks and financial institutions have been permitted to become members of the stock market in India. They have been permitted to float mutual funds, undertake leasing business, carry-out factoring services, etc. Besides the above, the Indian Contract Act, The Negotiable Instruments Act, The Law of Limitation Act, The Banking Regulations Act, The Stamp Act, etc., deserve a special mention. When the financial system grows, the necessity of regulating it also grows side-by-side by means of bringing suitable legislations. These legislative measures have reorganised the Indian financing system to a greater extent and have restored confidence in the minds of the investing public as well. However, to avoid overlap in certain key areas between SEBI and other bodies such as Company Law Board, RBI, etc., it is necessary to classify the respective jurisdictions. At present, the jurisdiction is divided between the RBI (money, market, repos, debt market) and SEBI. It would be advisable to consolidate the securities laws into one comprehensive legislation on the lines of the British Financial Services and Market Act, 2000.  STRUCTURE/COMPONENTS OF INDIAN FINANCIAL SYSTEM: INDIAN FINANCIAL SYSTEM 1. FINANCIAL 2. FINANCIAL 3. FINANCIAL 4. FINANCIAL MARKETS INTERMEDIA ASSETS/ SERVICES RIES INSTRUMENTS a) Money Market a) Financial a) Capital Market a) Banking Institutions instruments services b) Capital Market b) Other b) Money market b) Non – intermediaries instruments banking services c) Forex Market c) Hybrid instruments c) others c) Credit Market 1) Financial Market: It is a system through which funds are transferred from surplus sector to the deficit sector. Onthe basis of the duration of financial Assets and nature of product, Financial market can be classified into 3 types: a) Money Market: It is the institutional arrangement of borrowing and lending forshort-term i.e. for a period of less than or upto 1 year. It is classified into 2 sectors i.e. i. Organised sector regulated by RBI and ii. Unorganized sector which is not controlled by RBI. b) Capital Market: It deals with long term lending and borrowing i.e. for a period of more than 1 year. It is a market for long term instruments such as shares, debentures and bonds.It also deals with term loans. This market is also divided into 2 types: i) Primary or New Issue Market - New issue market represents the primary market where new securities i.e., shares or bonds that have never been previously issued, are offered. ii) Secondary Market or Stock exchange - Stock market represents thesecondary market where existing securities (shares and debentures) are traded. Stock exchange provides an organized mechanism for purchase and sale of existing securities. c) Foreign Exchange market: It deals with foreign exchange. It is a market where theexchanging of currencies will take places. It is the market where currencies of different countryare purchased and sold. Depending on the exchange rate that is applicable, the transfer of fundstakes place in this market. This is one of the most developed and integrated market across the globe. d) Credit Market - Credit market is a place where banks, Financial Institutions and NBFCs purvey short, medium and long-term loans to corporate and individuals. 2) Financial Intermediaries: a) Financial Institution: Financial institutions are financial intermediaries who intermediate between savers and investors. They lend money also mobilise savings. They are further classified into following categories: i. Banking Institution: It includes commercial banks, private banks and foreignbanks that are operating in India. It also includes Development Banks (example; ICICI,IDBI), Agriculture Bank (example; RRB, Cooperative Banks, NABARD) and other specialised financial Institutions (example; SFC-State Financial Corporation). ii. Non-Banking Institution: These are established to mobilise savings in different modes. These institutions do not offer banking services such as accepting deposit and Lending Loans. For example, LIC, UTI, GIC. b) Other intermediaries: The various financial intermediaries, their performing areasand respective roles are given in following table: Intermediary Market Role 1) Stock exchanges Capital Market Provide Secondary Market to securities 2) Investment Bankers Capital Market, Credit Corporate advisory services, Market Issue of securities 3) Underwriters Capital Market, Money Subscribe to unsubscribed Market portion of securities 4) Registrars, Capital Market Issue securities to the Depositories, investors on behalf of the Custodians company and handle share transfer activity 5) Primary Dealers Money Market Market making in (Satellite Dealers) government securities 6) Forex Dealers Forex Market Ensure exchange in currencies 3) Financial Instruments: It includes those instruments through which financial Institution mobilise savings. These areof 3 types, namely; a) Long Term (Capital Market Instruments): These instruments have their maturityperiod more than 1 year. Examples include Shares, Debenture, Mutual Funds, Term Loans. b) Short Term (Money Market Instruments): These instruments have their maturityperiod less than or equal to 1 year. Examples include Call money Market, Promissory Notes, Bills of exchange etc. c) Hybrid Instruments: These instruments possess features of both equity and debt.They can be issued for long as well as short term. Examples include convertible debentures, convertible preference shares, warrants, options, etc. 4) Financial Services: a) Banking services: These are provided by Commercial banks and Development banks. It majorly includes services of Accepting Deposits and lending loans. b) Non-Banking Services: These services are provided by Non- Banking Companies such as LIC and GIC. They accept saving in different modes and mobilise it to various channelsof investments. c) Other Services: In modern days, banks are providing various new services such as ATM, Credit Cards, Debit Cards, Electronic Transfer of Funds (ETF), Internet Banking, E- Banking, off shore Banking. FINANCIAL INTERMEDIARIES INTRODUCTION: The Institutions in the financial market such as Banks & other non-banking financial intermediaries undertakes the task of accepting deposits of money from the public at large and employing them deposits so pooled in the forms of loans and investment to meet the financial needs of the business and other class of society i.e. they collect the funds from surplus sector through various schemes and channelized them to the deficit sector. These financial intermediaries act as mobilisers of public saving for their productive utilization. Funds are transferred through creation of financial liabilities such as bonds and equity shares. Among the financial institutions commercial banks accounts for more than 64% of the total financial sector assets. Thus, financial intermediaries can enhance the growth of economy by pooling funds of small and scattered savers and allocating them for investment in an efficient manner by using them in the loan market. They are the principal mobilisers of surplus funds to productive activity and utilize these funds for capital formation, hence promote the growth. TYPES OF FINANCIAL INTERMEDIARIES: 1. Banks – Commercial Banks are the most well-known and major financial intermediaries that simplifies the lending and borrowing process along with providing various other services to its customers on a large scale. 2. Credit unions – These are co-operative societies which facilitate lending and borrowing funds to provide financial assistance to its members. 3. Non-Banking Finance Companies (NBFCs) – They are financial companies engaged in activities such as advancing loans to its clients at a very high rate of interest. They do not accept deposits from general public. 4. Stock Exchanges – They facilitate the trading of securities and stocks on the stock markets. On every trading activity, it charges brokerage from each party which is its profit margin. 5. Mutual fund Companies – They club the amount collected from various investors and these funds are then collectively invested in the securities, bonds and other investment options to ensure capital gain in the long run. These investors have similar investment objectives and risk-taking ability. 6. Insurance Companies – These companies provide insurance policies to the  individuals and business entities to secure them against accidents, death, risk, uncertainties and defaults. For this purpose, they accept deposits in the form of premiums which is pooled into profitable investments to gain returns. 7. Financial Advisors/Brokers – They collect the funds from various investors to invest it in the securities, bonds, equities, etc. They also provide guidance and expert opinions to the investors. 8. Investment Bankers – These banks specialise in services like Initial Public offerings (IPO), underwriting, mergers and acquisitions, institutional clients‟ broker services, issue of debt instruments, etc. They act as mediator between investors and the companies issuing securities. 9. Escrow Companies – It is third party acting as an intermediary and responsible for getting all conditions fulfilled at the time of loan provided by one party to the other for the real estate mortgage. 10. Pension funds – The government entities initiate pension funds. A certain amount is deducted from the salary of the employees each month. This collected amount is then invested in different schemes to gain profits. The investors‟ funds are returned with interest after their retirement. **************************** Reforms in the Indian Capital Markets The journey of reforms in the Indian capital market started in 1991 with the establishment of SEBI. We saw some game-changing reforms like the Setting up of Private Mutual Funds, Opening up to Foreign Capital, and Access to International Capital Markets and Banks. Learning from the experience and making the capital market a safe investment destination, Sebi has unleashed many reforms. 1) In the last 2 years, we have seen major reforms like pledge - re-pledge to make sure that the security given for margin remains in client accounts, upfront margin requirements for all trades, Peak margin system to avoid over leverage, and segregation of client funds and securities. 2) Taking commodity markets under the Sebi fold will also ensure orderly development. The recent relaxation of permitting FPI and mutual funds to participate in commodity markets will further boost liquidity and volume. 3) With digitisation and the use of technology, the Indian capital market is considered to be the most advanced. Capital markets could ensure seamless service to investors during the entire covid period. The growth of the capital market is visible from participation by new age investors, growing Demat accounts and SIP. It was retail participation that helped to absorb selling by FII/FPIs. India has outperformed global markets. Morgan Stanley in a recent report mentioned that the next decade. 4) Introduction of Unified Payment Interface (UPI) for IPOs: In 2019, the Securities and Exchange Board of India (SEBI) allowed investors to apply for initial public offerings (IPOs) through the UPI platform. This has made the IPO process faster, easier, and more efficient. 5) Introduction of Unified Regulator for Commodity Derivatives: In 2018, the government of India merged the Forward Markets Commission (FMC) with SEBI, creating a unified regulator for commodity derivatives. This has led to better regulation, standardization, and transparency in commodity derivatives trading. 6) Introduction of Corporate Bond Market: In 2016, SEBI introduced a new framework for the issuance and listing of corporate bonds. This has helped to deepen the corporate bond market in India, providing companies with an alternative source of funding and investors with new investment opportunities. 7) Introduction of Real Estate Investment Trusts (REITs): In 2014, SEBI introduced regulations for the formation and listing of REITs. This has enabled investors to participate in the real estate sector without having to own property directly. 8) Introduction of Electronic Book Building (EBB) mechanism: In 2012, SEBI introduced the EBB mechanism for IPOs, replacing the traditional paper-based book building process. This has made the IPO process more transparent, efficient, and investor-friendly. 9) Introduction of Securities Lending and Borrowing (SLB): In 2008, SEBI introduced the SLB mechanism, allowing investors to lend or borrow securities in the capital market. This has increased market liquidity and improved price discovery. 10) Overall, these reforms have made the Indian capital market more investor-friendly, transparent, and efficient, making it more attractive to domestic and foreign investors alike. Financial Regulators Financial Regulatory Bodies are the public authorities or government agency that is responsible for exercising autonomous authority over specific areas. Wherein, individuals are engaged in any activity, supervisory, or regulatory capacity. Financial Regulatory Bodies is hence a crucial topic for general banking awareness preparation of various competitive exams.  Different financial regulatory agencies set up the regulatory framework of the Indian financial system. They are entrusted with the responsibility to ensure equality and responsibility among the participants in that specific financial domain.  Each financial regulator plays a key role in making sure that the interests of the investors and all other stakeholders are not adversely affected and that there is fairness in the financial system of the country. Following are the prime objectives of the financial regulators in India:  Financial Stability: protection and enhancement of financial stability in the country  Consumer Protection: protecting the appropriate degree of consumers  Market Confidence: maintaining the confidence in the financial system  Reduction in financial fraud/ crimes: reducing the possibilities of businesses to face finance-related crimes or frauds RBI The RBI‟s primary responsibility is to ensure price stability in the economy and control credit flow in the various sectors of the economy. Commercial banks and the non-banking financial sector are most affected by the RBI‟s pronouncements since they are at the forefront of lending credit. The RBI is the money market and the banking regulator in India. Its functions include: Printing and circulating currency throughout the country Maintaining banking sector reserves by setting reserve ratios Inspecting bank financial statements to keep an eye on any stresses in the financial sector Regulating payments and settlements as well as their infrastructure Instrumental in deciding interest rates and maintaining inflation rates in the country Managing the country‟s foreign exchange (FX) reserves Regulating and controlling interest rates, which affects money market liquidity SEBI Established in 1992, SEBI was a response to increasing malpractices in the capital markets that eroded investors‟ confidence in the market back then. As a statutory body, its functions include protective as well as regulatory ones. Protection: To protect investors and other participants by preventing insider trading, price rigging, and other malfeasances Regulation: To implement codes of conduct and guidelines for the various market participants; auditing various exchanges, registering brokers, and investment bankers; deciding on the various fees and fines SEBI has the power to supervise the stock exchanges‟ functioning. It regulates the business of exchanges. It has complete access to the exchanges‟ financial records and the companies listed on the exchange. It oversees the listing and delisting process of companies from any exchange in the country. It can take disciplinary action, including fines and penalties against malpractices. It also promotes investor education. It undertakes inspections, and conducts audits and inquiries when it spots any wrongdoing. IRDA Set up in 1999, the IRDA regulates the insurance industry and protects the interests of insurance policyholders. Since the insurance sector is a constantly changing scene, IRDA advisories are critical for insurance companies to keep up with changes in rules and regulations. The IRDA has strict control over insurance rates, beyond which no insurer can go. The IRDA specifies the qualifications and training required for insurance agents and other intermediaries, which then have to be followed by the insurer. It can levy fees and modify them as well, as per the IRDA Act. It regulates and controls premium rates and terms and conditions that insurers are allowed to provide. Any benefit provided by an insurer has to be ratified by the IRDA. This regulator also provides the critical function of grievance redressal in an industry where claims can be disputed endlessly. PFRDA The PFRDA was set up in 2013 as the sole regulator of India‟s pension sector. Its services extend to all citizens, including non-resident Indians (NRIs). Its main objective is to ensure income security for senior citizens. To this end, it regulates pension funds and protects pension scheme subscribers. PFRDA regulates the pension schemes: NPS and Atal Pension Yojana. PFRDA Act is applicable to these schemes. The PFRDA scope includes: Setting up guidelines for investing in pension funds Settling disputes between intermediaries and pension fund subscribers Increasing awareness about retirement and pension schemes Investigating intermediaries and other participants for malpractice Ministry of Corporate Affairs (MCA) The MCA concerns itself with administering the Companies Act and its various iterations. It sets up the rules and regulations for the lawful functioning of the corporate sector. Apart from the Companies Act, MCA also administered the Limited Liability Partnership Act 2008. It oversees all Acts and rules that regulate the functioning of the corporate sector in India. Its objective is to help the growth of companies. The MCA‟s Registrar of Companies authorizes company registrations as well as their functioning as per law. Non-Statutory Bodies Of the various entities discussed here, the Association of Mutual Funds in India (Amfi) is different as it is a non-statutory body. Set up in 1995, it is a non-profit entity that is self- regulatory. Its main aim is the development of the mutual fund industry in the country. One of the main things it does is make mutual funds more accessible and transparent to the public. To this end, it has done well in spreading awareness and critical information about mutual funds to the investing public. Practically all asset management companies and other financial entities involved in mutual funds are members of AMFI and adhere to the AMFI code of ethics. All members have to follow this code. The AMFI‟s most crucial function is to update the net asset values (NAVs) of funds, which it does daily on its website. Like the AMFI, other such non-regulatory bodies nevertheless influence corporate behaviour due to their influence. One such body is the non-profit National Association of Software and Services Companies (NASSCOM), which serves the $194 billion Indian IT sector. Similarly, the Federation of Hotels & Restaurant Associations of India (FHRAI) “lobbies for better privileges and more concessions” for the hotel and restaurant industry in the country. Many such entities in the country cater to their specific sectors, using the weight of their membership and bully pulpit to ensure high standards of behaviour and service.  CHAPTER 1 The Financial System: An Introduction 9 FINANCIAL SYSTEM DESIGNS Afinancial system is a vertical arrangement of a well-integrated chain of financial markets andinstitu Financial System tions that provide financial intermediation. Different designs of financial systems are found in different Designs countries. The structure of the economy, its pattern of evolution, and political, technical, and cultural dif. " Bank-based ferences aflect the design (type)of financial system. " Market-based Two prominent polar designs can be identified among the variety that exists. At one extreme is the bank-dominated system, such as in Germany, where a few large banks play a dominant role and the stock market is not important. At the other extreme is the market-dominated financial system, as in the US, where financial markets play an important role while the banking industry is much less concen trated. The other major industrial countries fall in between these two extremes (Figure 1.2),. Demirguc Kunt and Levine (1999) have provided explanations of bank-based and market-based financial systems. In bank-based financial systems, banks play a pivotal role in mobilizing savings, allocating capital, overseeing the investment decisions of corporate managers, and providing risk management facilities. In market-based financial systems, the securities markets share centre stage with banks in mobilizing the society's savings for firms, exerting corporate control, and easing risk management. Bank-based systems tend to be stronger in countries where governments have a direct hand in indus trialdevelopment. In India, banks have traditionally been the dominant entities of financial intermedia tion. The nationalization of banks, an administered interest rate regime, and the government policy of favouring banks led to the predominance of a bank-based financial system. Demirguc Kunt and Levine, using a database of I50 countries, have classified countries according to the structure and level of financial development (Table 1.I). Their comparison of financial systems across diferent income groups reveals several patterns. First, financial systems are, on an average, more developed in rich countries. There is atendency for a finan cial system become more market-oriented as the country becomes richer. Second, countries with a common-law tradition, strong protection of shareholders' rights, and low levels of corruption tend to be more market-based and have well-developed fnancial systems. Arnold and Walz (2000) have attempted to identify factors leading to the emergence of bank-based or market-based financial systems. When problems relating to information persist but banks are competent TABLE 1.1 Classification of Financial Structure and Level of Development of Select Economies Bank-based Market-based Extent of Development Developed Japan, Germany, France, Italy US, UK, Singapore, Malaysia, Korea Under-developed Argentina, Pakistan, Sri Lanka, Bangladesh Brazil, Mexico, the Philippines, Turkey Financial System: Cross-Country Comparisons. World Bank Policy Source: Demirquc Kunt. A, and R. Levine (1999), Bank-based and Market-based Research Working Paper No. 2143. US UK Japan France Germany Financial Markets Central Central Developed Fairly lmportant Unimportant Banks Competitive Concentrated Financial Financial Trade-offs Intermediaries Markets Insurance Competition Efficiency Stability Public Information Private Information but Free-riding but no Free-riding External Control Autonomy Source: Allen and Gale (2000), Comparing Financial Systems, MIT Press, Cambridge, Mass. Figure 1.2 Overview and Trade-offs of Financial Systems  1 0 PART I. ,11 ,, 'ste f'ii__1;1nci ·,/ ~) -- -- -- - m e m ore. ic nc c to be co t t , 11 I pcr. pe c n " <.. m:, I c,.1 m 1/l ro ug.h, cx c initially ,n co m : o l 111. of a m arket- Market-based 11/ 1 ,., ,1 , 1 ·· I heg 111111.11g ;111d. w11/1lli l' p;1~.\;1g.. 1v..:1.~d y, ,t b,1 nk s ar10 1/J e growth 1 cn111 c:- g 1 io n , I 1c I/re /i11 am;i;rl sy stL'lll.