1. Introduction 1.1. Financial System The term "finance" in our simple understanding it is perceived as equivalent to 'Money'.

However, finance is not exactly money; it is the source of providing funds for a particular activity. In this respect providing or securing finance by itself is a distinct activity or function, which results in Financial Management, Financial Services and Financial Institutions. Finance therefore represents the resources by way funds needed for a particular activity. We thus speak of 'finance' only in relation to a proposed activity. Finance goes with commerce, business, banking etc. Finance is also referred to as "Funds" or "Capital", when referring to the financial needs of a corporate body. When we study finance as a subject for generalizing its profile and attributes, we distinguish between 'personal finance" and "corporate finance" i.e. resources needed personally by an individual for his family and individual needs and resources needed by a business organization to carry on its functions intended for the achievement of its corporate goals. The word "system", in the term "financial system", implies a set of complex and closely connected or interlined institutions, agents, practices, markets, transactions, claims, and liabilities in the economy. The financial system is concerned about money, credit and finance-the three terms are intimately related yet are somewhat different from each other. Indian financial system consists of financial market, financial instruments and financial intermediation. 1.2. Constituents of a Financial System 1.2.1. Financial Markets A Financial Market can be defined as the market in which financial assets are created or transferred. As against a real transaction that involves exchange of money for real goods or services, a financial transaction involves creation or transfer of a financial asset. Financial Assets or Financial Instruments represents a claim to the payment of a sum of money sometime in the future and /or periodic payment in the form of interest or dividend. Money Market- The money market ifs a wholesale debt market for low-risk, highlyliquid, short-term instrument. Funds are available in this market for periods ranging from a single day up to a year. This market is dominated mostly by government, banks and financial
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institutions. Capital Market - The capital market is designed to finance the long-term investments. The transactions taking place in this market will be for periods over a year. Forex Market - The Forex market deals with the multicurrency requirements, which are met by the exchange of currencies. Depending on the exchange rate that is applicable, the transfer of funds takes place in this market. This is one of the most developed and integrated market across the globe. Debt Market- Credit market is a place where banks, FIs and NBFCs purvey short, medium and long-term loans to corporate and individuals. 1.2.2. Financial Instruments Financial instruments are those instruments which are traded in the financial markets. Some examples of financial instruments are: Call/Notice Money Market: Call/Notice money is the money borrowed or lent on demand for a very short period. When money is borrowed or lent for a day, it is known as Call (Overnight) Money. Intervening holidays and/or Sunday are excluded for this purpose. Thus money, borrowed on a day and repaid on the next working day, (irrespective of the number of intervening holidays) is "Call Money". When money is borrowed or lent for more than a day and up to 14 days, it is "Notice Money". No collateral security is required to cover these transactions. The entry into this field is restricted by RBI. It has taken steps to make the call/notice money market completely inter-bank market, following which the non-bank entities are not allowed access to this market since December 31, 2000. Inter-bank Term Money: Inter-bank market for deposits of maturity beyond 14 days is referred to as the term money market. The entry restrictions are the same as those for Call/Notice Money except that, as per existing regulations, the specified entities are not allowed to lend beyond 14 days. Treasury Bills: It is a promise by the Government to pay a stated sum after expiry of the stated period from the date of issue (14/91/182/364 days i.e. less than one year). They are
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issued at a discount to the face value, and on maturity the face value is paid to the holder. The rate of discount and the corresponding issue price are determined at each auction. Certificates of Deposit (CDs): Introduced since June 1989 - are negotiable term deposit certificates issued by a commercial banks/Financial Institutions at discount to face value at market rates, with maturity ranging from 15 days to one year. Commercial Paper: CPs are issued by companies in the form of usance promissory note, redeemable at par to the holder on maturity. The tangible net worth of the issuing company should not be less than Rs. 4 crores. Hybrid Instruments: Hybrid instruments have both the features of equity and debenture. This kind of instruments is called as hybrid instruments. Examples are convertible debentures, warrants etc. Government Securities: These are floated by the government as long-term borrowings. The maximum time period for maturity of government securities is 30 years. 1.2.3. Financial Intermediation Having designed the instrument, the issuer should then ensure that these financial assets reach the ultimate investor in order to garner the requisite amount. When the borrower of funds approaches the financial market to raise funds, mere issue of securities will not suffice. Adequate information of the issue, issuer and the security should be passed on to take place. There should be a proper channel within the financial system to ensure such transfer. To serve this purpose, Financial intermediaries came into existence. Financial intermediation in the organized sector is conducted by a widerange of institutions functioning under the overall surveillance of the Reserve Bank of India. In the initial stages, the role of the intermediary was mostly related to ensure transfer of funds from the lender to the borrower. This service was offered by banks, FIs, brokers, and dealers. However, as the financial system widened along with the developments taking place in the financial markets, the scope of its operations also widened. Some of the important intermediaries operating ink the financial markets include; investment bankers, underwriters, stock exchanges, registrars, depositories, custodians, portfolio managers, mutual funds, financial advertisers financial consultants, primary dealers, satellite dealers, self regulatory organizations, etc. Though the markets are different, there may be a few intermediaries offering their services in move than
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one market e.g. underwriter. However, the services offered by them vary from one market to another. 1.3. Ministry of Finance The Ministry of Finance is at the apex of the Indian Financial system and forms the chief regulatory and developmental authority within the financial structure of the country. The present Finance Minister of India is Mr. Pranab Mukherjee. The ministry of finance is responsible for formulating policies that govern not only the financial institutions but also their regulators and above all, the common man. These policies are formulated with the welfare of the general public in mind and direct the regulators and financial institutions to adopt policies which help in the overall development of society.

2. Reserve Bank of India

RBI is the banker to bankswhether commercial, cooperative, or rural. The relationship is established once the name of a bank is included in the Second Schedule to the Reserve Bank of India Act, 1934. Such bank, called a scheduled bank, is entitled to facilities of refinance from RBI, subject to fulfilment of the following conditions laid down in Section 42 (6) of the Act, as follows: it must have paid-up capital and reserves of an aggregate value of not less than an amount specified from time to time; and it must satisfy RBI that its affairs are not being conducted in a manner detrimental to the interests of its depositors. The classification of commercial banks into scheduled and non-scheduled categories that was introduced at the time of establishment of RBI in 1935 has been extended during the last two or three decades to include state cooperative banks, primary urban cooperative banks, and RRBs. RBI is authorized to exclude the name of any bank from the Second Schedule if the bank, having been given suitable opportunity to increase the value of paid-up capital and improve deficiencies, goes into liquidation or ceases to carry on banking activities. 2.1. Main Functions 1. Monetary Authority The Reserve Bank of India is the main monetary authority of the country and beside that the central bank acts as the bank of the national and state governments. It formulates, implements and monitors the monetary policy. It has to ensure an adequate flow of credit to productive sectors. Objectives are maintaining price stability and ensuring adequate flow of credit to productive sectors. The national economy depends on the public sector and the central bank promotes an expensive monetary policy to push the private sector since the financial market reforms of the 1990s. The institution is also the regulator and supervisor of the financial system and prescribes broad parameters of banking operations within which the country's banking and financial system functions. Objectives are to maintain public confidence in the system, protect depositors' interest and provide cost-effective banking services to the public. The Banking Ombudsman Scheme has been formulated by the Reserve Bank of India (RBI) for effective addressing of complaints by bank customers. The RBI controls the monetary supply,
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monitors economic indicators like the gross domestic product and has to decide the design of the rupee banknotes as well as coins. 2. Manager of exchange control The central bank manages to reach the goals of the Foreign Exchange Management Act, 1999. Objective: to facilitate external trade and payment and promote orderly development and maintenance of foreign exchange market in India. 3. Issuer of currency The bank issues and exchanges or destroys currency and coins not fit for circulation.The Objectives are giving the public adequate supply of currency of good quality and to provide loans to commercial banks to maintain or improve the GDP. The basic objectives of RBI are to issue bank notes, to maintain the currency and credit system of the country to utilize it in its best advantage, and to maintain the reserves. RBI maintains the economic structure of the country so that it can achieve the objective of price stability as well as economic development, because both objectives are diverse in themselves. 4. Developmental role The central bank has to perform a wide range of promotional functions to support national objectives and industries. The RBI faces a lot of inter-sectoral and local inflationrelated problems. Some of this problems are results of the dominant part of the public sector. 5. Related functions The RBI is also a banker to the Government and performs merchant banking function for the central and the state governments. It also acts as their banker. The National Housing Bank (NHB) was established in 1988 to promote private real estate acquisition. The institution maintains banking accounts of all scheduled banks, too. There is now an international consensus about the need to focus the tasks of a central bank upon central banking. RBI is far out of touch with such a principle, owing to the sprawling mandate described above. The recent financial turmoil world-over, has however, vindicated the Reserve Bank's role in maintaining financial stability in India.
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2.2.Means of Control RBI has various weapons of control which are listed below: (a) Bank Rate: RBI (Reserve Bank of India) lends to the commercial banks through its discount window to help the banks meet depositors demands and reserve requirements. The interest rate the RBI charges the banks for this purpose is called bank rate. If the RBI wants to increase the liquidity and money supply in the market, it will decrease the bank rate and if it wants to reduce the liquidity and money supply in the system, it will increase the bank rate. (b) Cash Reserve Requirements (CRR): Every commercial bank has to keep certain minimum cash reserves with RBI. RBI can vary this rate between 3% and 15%. RBI uses this tool to increase or decrease the reserve requirement depending on whether it wants to affect a decrease or an increase in the money supply. An increase in CRR will make it mandatory on the part of the banks to hold a large proportion of their deposits in the form of deposits with the RBI. This will reduce the size of their deposits and they will lend less. This will in turn decrease the money supply. (c) Statutory Liquidity Requirements (SLR): Apart from the CRR, banks are required to maintain liquid assets in the form of gold, cash and approved securities. RBI has stepped up liquidity requirements for two reasons: - Higher liquidity ratio forces commercial banks to maintain a larger proportion of their resources in liquid form and thus reduces their capacity to grant loans and advances thus it is an anti-inflationary impact. A higher liquidity ratio diverts the bank funds from loans and advances to investment in government and approved securities. In well developed economies, central banks use open market operations- buying and selling of eligible securities by central bank in the money market- to influence the volume of cash reserves with commercial banks and thus influence the volume of loans and advances they can make to the commercial and industrial sectors. In the open money market, government securities are traded at market related rates of interest. The RBI is resorting more to open market operations in the more recent years.

Generally RBI uses three kinds of selective credit controls:

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a) Minimum margins for lending against specific securities. b) Ceiling on the amounts of credit for certain purposes. c) Discriminatory rate of interest charged on certain types of advances. Direct credit controls in India are of three types: a) Part of the interest rate structure i.e. on small savings and provident funds, are administratively set. b) Banks are mandatorily required to keep 25% of their deposits in the form of government securities. c) Banks are required to lend to the priority sectors to the extent of 40% of their advances.

3. Banks and Financial Institutions 3.1. State bank group

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This consists of the State Bank of India (SBI) and Associate Banks of SBI. The Reserve Bank of India (RBI) owns the majority share of SBI and some Associate Banks of SBI. SBI has 13 head offices governed each by a board of directors under the supervision of a central board. The boards of directors and their committees hold monthly meetings while the executive committee of each central board meets every week. 3.2. Nationalized banks In 1969, the Government arranged the nationalization of 14 scheduled commercial banks in order to expand the branch network, followed by six more in 1980. A merger reduced the number from 20 to 19. Nationalized banks are wholly owned by the Government, although some of them have made public issues. In contrast to the state bank group, nationalized banks are centrally governed, i.e., by their respective head offices. Thus, there is only one board for each nationalized bank and meetings are less frequent (generally, once a month). The state bank group and nationalized banks are together referred to as the public sector banks. 3.3. Private sector After liberalization of the economy in the early 1990s, the Government opened the banking industry for private players also. Since then, a number of private banks have come up, a list of which is given below1:

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Axis Bank (Formerly UTI Bank) HDFC Bank ICICI Bank Kotak Mahindra Bank Yes Bank ING Vysya Bank South Indian Bank Bank of Rajasthan (Merged with ICICI Bank in 2010) Karnataka Bank Limited Dhanalakshmi Bank City Union Bank Jammu & Kashmir Bank
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http://en.wikipedia.org/wiki/List_of_banks_in_India

Karur Vysya Bank Saraswat Bank Federal Bank IndusInd Bank Tamilnad Mercantile Bank Limited Lakshmi Vilas Bank

3.4. Foreign Banks The banks whose head offices are located in foreign countries are known as foreign banks. These are also commercial banks and carry out the same operations as the public and private sector banks mentioned above. 3.5. Regional Rural Banks (RRBs) Regional Rural Banks (RRBs) were established in 1975 under the provisions of the Ordinance promulgated on the 26th September 1975 and the Regional Rural Banks Act, 1976 with a view to developing the rural economy as well as to create an alternative channel to the 'cooperative credit structure' so as to ensure sufficient institutional credit for the rural and agriculture sector. The Regional Rural Banks (RRBs), with a focus on serving the rural areas, are an integral segment of the Indian banking system. RRBs are jointly owned by Government of India, the concerned State Government and Sponsor Banks (27 Scheduled Commercial Banks and one State Cooperative Bank) in the proportion of 50%, 15% and 35%, respectively. The area of operation of the majority of RRBs is limited to a notified area comprising a few districts in the States. The RRBs grant loans and advances mostly to small and marginal farmers, agricultural labourers and rural artisans The Government initiated a process of structural consolidation of RRBs by amalgamating RRBs sponsored by the same bank within a State. The amalgamated RRBs would provide better customer service due to better infrastructure, computerization of branches, pooling of experienced work force, common publicity and marketing efforts etc. and will also reap benefits of large area of operation, enhanced credit exposure limits and undertake diverse banking activities. As a result of the amalgamation, the number of RRBs has been reduced from 196 in September 2005 to 83 and one new RRB was established in March, 2008 in the
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Union Territory of Puducherry, thereby totaling the number of RRBs to 83 as on 1st January, 2010. There are 15155 branches of RRBs as on 31st March, 2009 in 615 districts in the country. 3.6. Cooperative institutions Cooperative banks are an important constituent of the Indian financial system. They are the primary financiers of agricultural activities, some small-scale industries and selfemployed workers. Cooperative banks are allowed to raise deposits and give advances from and to the public. Urban cooperative banks are controlled by state governments and RBI, while other cooperative banks are controlled by NABARD and state governments. Except for certain exemptions in paying a higher interest on deposits, the urban cooperative banks' regulatory framework is similar to that of other banks.

3.7. Financial institutions Financial Institutions are development financial institutions (DFIs) which provide long-term funds for the industry and agriculture. All these institutions are under off-site and on-site surveillance of the RBI. Financial institutions raise their resources through long-term bonds from the financial system and borrowings from international financial institutions. Some examples of Development Financial Institutions: i) NABARD (National Bank for Agriculture and Rural Development): NABARD is set up as an apex Development Bank with a mandate for facilitating credit flow for promotion and development of agriculture, small-scale industries, cottage and village industries, handicrafts and other rural crafts. It also has the mandate to support all other allied economic activities in rural areas, promote integrated and sustainable rural development and secure prosperity of rural areas. In discharging its role as a facilitator for rural prosperity NABARD is entrusted with: 1. Providing refinance to lending institutions in rural areas 2. Bringing about or promoting institutional development and 3. Evaluating, monitoring and inspecting the client banks Besides this pivotal role, NABARD also:

Acts as a coordinator in the operations of rural credit institutions Extends assistance to the government, the Reserve Bank of India and other organizations in matters relating to rural development
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Offers training and research facilities for banks, cooperatives and organizations working in the field of rural development Helps the state governments in reaching their targets of providing assistance to eligible institutions in agriculture and rural development Acts as regulator for cooperative banks and RRBs ii) IDBI (Industrial Development Bank of India): IDBI was established in 1964 by an

Act of Parliament to provide credit and other facilities for the development of the fledgling Indian industry. iii) SIDBI (Small Industries Development Bank of India): It is an independent financial institution aimed to aid the growth and development of micro, small and medium scale enterprises in India. Set up on 2nd April, 1990 through an act of Parliament, it was incorporated initially as a wholly owned subsidiary of Industrial Development Bank of India. Current shareholding is widely spread among various state owned banks, insurance companies and financial institutions. Beginning as a refinancing agency to banks and state level financial institutions for their credit to small industries, it has expanded it's activities, including direct credit to the SME through 100 branches in all major industrial clusters in India. Besides, it has been playing the development role in several ways such as support to micro-finance institutions for capacity building and onlending. Recently it has opened 7 branches christened as Micro Finance branches, aimed especially at dispensing loans up to Rs. 5.00 lakh. It is an apex body and nodal agency for formulating, coordination and monitoring the policies and programme for promotion and development of small scale industries. 3.8. Nonbanking financial companies (NBFCs) NBFCs are allowed to raise money as deposits from the public and lend money through various instruments including leasing, hire purchase and bill discounting, etc. These are licensed and supervised by RBI. RBI prescribes that no NBFC can operate without a valid license.

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4. Capital market For starting any business, an entrepreneur or business enterprise need investment in the form of capital. They may choose to raise a major part of their required capital from the public by offering to the latter certain instruments like equity shares, debentures, bonds and so on. The market in which these instruments are issued and traded, is called as the capital market. The capital market is a market for long-term debt and equity shares. In this market, capital funds comprising both equity and debt are issued and traded. This also includes private placement sources of debt and equity as well as organized markets like stock

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exchanges2. The capital market has two primary segmentations: a.) Primary Market: In the primary market, securities (shares/debentures/bonds) are offered to the public for subscription, for the purpose of raising capital or fund. b.) Secondary Market: The secondary market refers to a market where securities are traded after being initially offered to the public in the primary market. 4.1. Securities and Exchange Board of India The Government of India enacted the SEBI Act, 1992, to provide for the establishment of a board, called the Securities and Exchange Board of India (SEBI), to protect the interests of investors in securities and to promote the development of and to regulate the securities market and for matters connected therewith or incidental thereto. SEBI has to be responsive to the needs of three groups, which constitute the market:

the issuers of securities the investors the market intermediaries.

SEBI has three functions rolled into one body quasi-legislative, quasi-judicial and quasiexecutive. It drafts regulations in its legislative capacity, it conducts investigation and enforcement action in its executive function and it passes rulings and orders in its judicial capacity. Though this makes it very powerful, there is an appeals process to create accountability. There is a Securities Appellate Tribunal which is a three-member tribunal and is presently headed by a former Chief Justice of a High court - Mr. Justice NK Sodhi 3. A second appeal lies directly to the Supreme Court. SEBI has enjoyed success as a regulator by pushing systemic reforms aggressively and successively (e.g. the quick movement towards making the markets electronic and paperless rolling settlement on T+2 basis). SEBI has been active in setting up the regulations as required under law.

Indian Institute of Banking and Finance, PRINCIPLES AND PRACTICES OF BANKING, 2nd ed. 3rd rep. 2010, p. 34
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http://en.wikipedia.org/wiki/Securities_and_Exchange_Board_of_India

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SEBI has also been instrumental in taking quick and effective steps in light of the global meltdown and the Satyam fiasco. It had increased the extent and quantity of disclosures to be made by Indian corporate promoters. More recently, in light of the global meltdown, it liberalised the takeover code to facilitate investments by removing regulatory strictures. In one such move, SEBI has increased the application limit for retail investors to Rs 2 lakh, from Rs 1 lakh at present.

5. Insurance The Insurance industry in India is as old as it is in any other part of the world. The first insurance company in India was started in 1818 n Kolkata. We had a number of foreign and Indian insurers operating in the Indian market till the nationalization of the industry took place. The reasons for nationalization of the industry are concerned mostly with the unethical practices adopted by some of the players against the interests of the insurance consumers. Nationalization has lent to the industry solidity, growth and outreach, which is unparalleled. Along with these achievements, however, there also grew a feeling of insensitivity to the needs of the market, tardiness in the adoption of modern practices to upgrade technical skills coupled with a sense of lethargy, which probably led to a feeling amongst the public that the insurance industry was not fully responsive to customer needs.
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The committee on reforms in the insurance sector dug deep into these questions in 1994 and suggested that opening the sector to private participation would induce a spirit of competition amongst the various insurance companies and will provide a choice to the consumers. 5.1. Insurance Regulatory and Development Authority (IRDA) The insurance sector was opened up in the year 1999, facilitating entry of private players into the industry. The regulatory framework, which was designed for the operation of insurance companies, laid down the ground rules for insurers and is equally applicable to both the state-owned and the private insurers. In the year 2000, the IRDA was constituted as an autonomous body to regulate and develop the business of insurance and reinsurance in the country in terms of the IRDA Act, 1999. The IRDA has been entrusted with the requisite regulations in the areas of registration of insurers, their conduct of business, solvency margins, conduct of reinsurance business, licensing and code of conduct intermediaries, etc. The Indian insurance market is thus run and regulated on globally acceptable standards.

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