Understanding the Financial System - A Complete Guide for Beginners

The financial system is the backbone of any economy. It enables money to flow from those who have it (surplus units) to those who need it (deficit units). Typically, households are surplus units, while corporations and governments are deficit units.

A well-functioning financial system helps allocate capital efficiently, supports growth, and fosters economic stability. It comprises financial markets, instruments, intermediaries, and infrastructure institutions.

Financial Markets: The Channels of Capital

Financial markets are platforms where financial assets - like stocks, bonds, and derivatives - are created and traded. They help investors buy, sell, and transfer risk efficiently.

Types of Financial Markets

• Money Market: For short-term funds and instruments like T-bills, commercial papers, repos, NCDs, and call/notice money with maturity of one year or less.
• Capital Market: For long-term funding. Divided into:
  • Stock Market: For raising equity capital. Explore how Tradomate’s screener helps you filter stocks in real time.
  • Bond Market: For raising debt capital. Bonds are issued by governments, corporates, and municipalities.

Capital markets also have:

• Primary Market: Where new securities are issued.
• Secondary Market: Where existing securities are traded.
• Forex Market: For currency exchange. Highly integrated and global.
• Credit Market: For loans via banks, FIs, and NBFCs.
• Insurance Market: For transferring risk to insurance companies.

Financial Market Infrastructure Institutions (MIIs)

MIIs ensure the smooth functioning of financial transactions.

• Depositories: Hold securities in dematerialized (electronic) form. Services are accessed via Depository Participants (DPs).
• Stock Exchanges: Regulate and facilitate trading of securities.
• Clearing Corporations: Handle clearing and settlement of trades.
• Social Stock Exchange: A segment that allows Not-for-Profit Organizations (NPOs) to raise funds via listed securities.

3. Financial Intermediaries: The Enablers of Market Access

Intermediaries are entities in the business of managing individual portfolios, executing orders, dealing in or distributing securities. They provide essential services for smooth financial market operations.

• Merchant Bankers: Advise companies on issuing securities and deal with regulators and exchanges.
• Bankers to Issues: Accept application money, handle refunds, and assist with payments during public issues.
• Registrars & Share Transfer Agents: Manage subscriptions, allotments, and demat transfers.
• Transfer Agents: Update records of share ownership and handle corporate actions.
• Stock Brokers: Execute trades on behalf of clients and provide market intelligence. Registered with SEBI.
• Portfolio Managers: Manage and advise on investment portfolios for a fee or profit-share.
• Mutual Funds: Pool investor money into units for investment according to specific goals. Can be open-ended or closed-ended.
• Custodians: Hold and manage assets for institutions like mutual funds and insurance companies.
• Warehouses: Provide secure storage for physical goods under regulated conditions.
• Credit Rating Agencies: Evaluate and rate the creditworthiness of securities and issuers.
• Debenture Trustees: Ensure security and compliance for debenture issues.
• Vault Managers: Provide vaulting services for gold stored for trading via Electronic Gold Receipts (EGRs).

Conclusion

A well-structured financial system connects savers with borrowers, facilitates investment, and ensures liquidity and transparency. Understanding its components-from markets to intermediaries-empowers individuals to participate in the economy more confidently.

Whether you’re investing, trading, or simply learning, knowing how the financial system works is your first step toward making informed financial decisions.

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