Definition of Role of Financial Intermediaries

The role of financial institution is to provide intermediation between financial and real sector and savers and investors and promote capital formation and economic growth. The study of the national balance sheet shows that over any period, how the ratio of financial assets to total assets has been growing. This ratio is one of the indicators of economic growth.

Over the planned period in India, this indicator has been rising, as reflected in the ratio of financial assets total assets, attributed to expanded role of public sector during 1950 to 1990 and large capital investments in capital intensive projects. But more importantly there was more active financial intermediation and widening and deepening of the financial system in terms of range of financial instruments and magnitude of funds raised. During Nineties and later, the importance of financial sector increased due to ongoing economic and financial reforms, privatization, regulation and globalization.

The various financial institutions which trade in these stocks and capital markets are all-India financial institutions like IFC, ICICI and IDBI and various SFCs for which the apex institutions is the IDBI.I institutions which issue primary securities to collect the savings from the public directly are UTI,GIC,LIC, etc., They collect savings of the public directly in the form of units or premiums. These are called investment institutions. More recently some public sector banks such as SBI Indian bank, bank of India, canara bank, etc., have started their mutual funds, as also the LIC and GIC. These are also part of the stock and capital market. These institutions trade and invest in these markets. The securities traded by them may be the claims of the government or of the private corporate sector. The securities traded by them any be the claims of the government or of the private corporate sector.

The all- India institutions and state financial institutions like the ICICI, IFC or SFCs, etc., raise resource directly from the public in the form of deposits or by issue of bonds/debentures. They may also borrow from the bank and other financial institutions as also from the RBI. These are called Development Corporations. The use of their funds is investments in corporate shares, securities and bonds/debentures and loans and advances to corporate units. More recently an number of new finance companies have cropped up newly lease finance, house finance, etc., The range of instruments offered to the public has accordingly widened and the capital market has been deepened and broadened enormously in recent years.

Savings and investment

The household sector is the major saver in India and contributors to the bulk of the total savings that flow into financial asset which may take any of the forms of currency, deposits with banks and companies, PF, insurance and corporate shares, Bonds, etc,.

In addition to providing liquidity to investments, the stock and capital markets promote mobilization of savings and canalize them into investment. As already referred to the major borrowers are government and business sectors in the economy, which invest more than they save. The net savings flow from the household and foreign sectors. The financial system helps the process of institutional of these savings for promoting investment and production in the economy. The financial intermediaries play a crucial role in the stock and capital markets in the India. The importance of underwriting of share and stock- broking activities of brokers and dealers is to be appreciated in this context, as brooklets are financial intermediaries like banks and financial institutions.

Interest Rate Structure

The government and RBI fix the Interest rates paid on these various securities. The reserve bank and the others fix the bank rate and other interest rates as applicable to the banks by the government in consultation with the RBI. In India, the interest rates are administered and all the rtes in the organized financial system are controlled. The peculiar feature of the structure is that interest rated does not reflect the free market forces nor do they reflect the scarcity value of capital in the economy. Most of these rates are determined on an adhoc basis, in tune with the exigencies of monetary and credit policy or fiscal policy or fiscal policy. Normally interest is a reward for risk and return for abstaining from present consumption. In India, certain priority sectors like borrowings by the government and operations of agriculture, exports and other priority sectors are financed at confessionals rates on considerations. Other than risk/return. More recently there has been some regulation of the financial system and many interest rates have been freed from controls. These and other details are discussed.

Capital Market

As referred to earlier, in the category of financial institutions there are some which issue primary securities. Besides the corporate sector which issues primary securities in the form of new issued and further issues there are also financial institutions like LIC and GIC, which sell insurance certificate for collecting the savings form public directly. They also collect the premiums and mobilize savings of the public. They also collect the premiums and mobilize savings of the public. These funds are mobilized for channeling them ultimately into the stock and capital markets. The brokers, banks and the financial institutions referred to above are all intermediaries operating in the primary and secondary markets.

In the primary markets, the brokers act as underwriter’s managers, registrars and even merchant bankers to the new issues. In the secondary market, the claims of a long-term nature of one year and above are traded both on spot or forward basis. This trading imparts liquidity to investments and thus promotes savings and investment. These financial intuitions can only change the velocity of circulations of money, while dealing in the primary and secondary markets, but the banks can influence both creation of money and its velocity.