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History of call money market

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Sunanda K. Chavan
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History of call money market - September 16th, 2010

History of call money market

During the 1970s, a new development occurred in the call money market: the direct participation in it by the term lending institutions like LIC, GIC and UTI and the indirect participation by other term lending institutions such as IDBI, ICICI and IFC. The RBI can gauge the extent of call loans to banks by LIC and UTI from the item “borrowing” under “liabilities to others” in the “Business in India” table of banks in the RBI Bulletin or Report on Currency and Finance.

Owing to the participation of LIC, UTI and other institutions, the supply of call loans on the money market by these institutions has been advantageous in certain ways. Earlier, these institutions were keeping their funds with a very small number of big banks that had a sort of “monopoly use” of the vast cash resources of these institutions.

Through the call market, it has now become possible for many other banks to fall back upon these institutions in times of financial stringency. On the other hand, these institutions now have a greater flexibility in investing their funds. It has also become possible for them to increase the income on their resources and thereby benefit the unit and policyholders. Further, continuous participation in the call market by them would help to integrate the long-term and short-term money markets in the economy.

This development, however, raised certain important issues. First, whether institutions with long-term funds should enter at all into the short-term market? From point of view of solvency or risk, no difficulty is likely to arise by such participation.

The problem of matching of maturities becomes difficult when institutions with predominantly short-term liabilities create long-term assets. Similarly, as banks can always approach RBI as a lender of last resort, the possibility of their not honoring the call provisions is extremely remote, which means that the lenders risk involved in this activity is almost nil. It is also to be noted that call loans by UTI still form an insignificant proportion of its total assets in any given year. Second, these institutions direct participation in the call money market along with the growth of the market for participation certificates has a potential for weakening the monetary policy of RBI. An access to funds by banks outside the banking system means that they can weaken the effect of monetary techniques such as, changes in reserve requirements, bank rate, and selective credit controls.

In this context, the Working Group on the Money Market (Vaghul Working Group) appointed by the RBI in 1987 had recommended that the call market should be the exclusive preserve of commercial banks without any ceiling on call rates. It recommended that LIC, UTI and others can be temporarily be allowed to stay in the market and that their funds be subject to a ceiling rate of interest of 10% per year.

The authorities have removed the ceiling on the call rate for all the participants but they have banned LIC, UTI, and others from participating in the market. As per the latest RBI policy, LIC, UTI, GIC, IDBI, and NABARD are allowed to participate in the call market as lenders but not as borrowers. Further, in April 1991, the RBI announced that the access to the call market as lenders would be provided to such entities as are able to provide evidence to RBI about their having bulk lendable resources, and which have no outstanding borrowings from the banks.

They will be required to observe a minimum size of Rs. 20 crore per transaction. They can participate with the prior permission of RBI, and only through the DFHI. In 1996-97, the RBI permitted four primary dealers (PDs) to participate in this market as both borrowers and lenders. Seven mutual funds have also been allowed to participate as lenders only. It has been observed that the participation on the supply side of the market is almost limited. There is a view that there are imperfections in the call market in the sense that only a few cash rich banks supply funds and make quick gains by pushing up call rates by forming informal cartels. Another view is that even if cartels may not exist, there is no call market in India because there is a very small group of lenders and a large number of borrowers in this market.
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Re: History of call money market - April 13th, 2016

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Originally Posted by sunandaC View Post
History of call money market

During the 1970s, a new development occurred in the call money market: the direct participation in it by the term lending institutions like LIC, GIC and UTI and the indirect participation by other term lending institutions such as IDBI, ICICI and IFC. The RBI can gauge the extent of call loans to banks by LIC and UTI from the item “borrowing” under “liabilities to others” in the “Business in India” table of banks in the RBI Bulletin or Report on Currency and Finance.

Owing to the participation of LIC, UTI and other institutions, the supply of call loans on the money market by these institutions has been advantageous in certain ways. Earlier, these institutions were keeping their funds with a very small number of big banks that had a sort of “monopoly use” of the vast cash resources of these institutions.

Through the call market, it has now become possible for many other banks to fall back upon these institutions in times of financial stringency. On the other hand, these institutions now have a greater flexibility in investing their funds. It has also become possible for them to increase the income on their resources and thereby benefit the unit and policyholders. Further, continuous participation in the call market by them would help to integrate the long-term and short-term money markets in the economy.

This development, however, raised certain important issues. First, whether institutions with long-term funds should enter at all into the short-term market? From point of view of solvency or risk, no difficulty is likely to arise by such participation.

The problem of matching of maturities becomes difficult when institutions with predominantly short-term liabilities create long-term assets. Similarly, as banks can always approach RBI as a lender of last resort, the possibility of their not honoring the call provisions is extremely remote, which means that the lenders risk involved in this activity is almost nil. It is also to be noted that call loans by UTI still form an insignificant proportion of its total assets in any given year. Second, these institutions direct participation in the call money market along with the growth of the market for participation certificates has a potential for weakening the monetary policy of RBI. An access to funds by banks outside the banking system means that they can weaken the effect of monetary techniques such as, changes in reserve requirements, bank rate, and selective credit controls.

In this context, the Working Group on the Money Market (Vaghul Working Group) appointed by the RBI in 1987 had recommended that the call market should be the exclusive preserve of commercial banks without any ceiling on call rates. It recommended that LIC, UTI and others can be temporarily be allowed to stay in the market and that their funds be subject to a ceiling rate of interest of 10% per year.

The authorities have removed the ceiling on the call rate for all the participants but they have banned LIC, UTI, and others from participating in the market. As per the latest RBI policy, LIC, UTI, GIC, IDBI, and NABARD are allowed to participate in the call market as lenders but not as borrowers. Further, in April 1991, the RBI announced that the access to the call market as lenders would be provided to such entities as are able to provide evidence to RBI about their having bulk lendable resources, and which have no outstanding borrowings from the banks.

They will be required to observe a minimum size of Rs. 20 crore per transaction. They can participate with the prior permission of RBI, and only through the DFHI. In 1996-97, the RBI permitted four primary dealers (PDs) to participate in this market as both borrowers and lenders. Seven mutual funds have also been allowed to participate as lenders only. It has been observed that the participation on the supply side of the market is almost limited. There is a view that there are imperfections in the call market in the sense that only a few cash rich banks supply funds and make quick gains by pushing up call rates by forming informal cartels. Another view is that even if cartels may not exist, there is no call market in India because there is a very small group of lenders and a large number of borrowers in this market.
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