Money market

Topic: Financial Markets, Instruments, Insurance and Pensions · NCERT: Beyond NCERT

Meaning

The money market is the market where banks, companies, mutual funds and the government borrow and lend money for up to one year. Its main instruments are call money, Treasury bills (T-bills), Commercial Paper (CP), Certificates of Deposit (CD) and repos.

It matters for two reasons. Banks use it every day to manage their cash. It is also where monetary policy transmission begins, meaning the path by which an RBI rate change reaches the whole economy.

Most money-market instruments are discount instruments. They are sold below face value (the amount repaid at maturity) and repaid at full face value. Their return is worked out with this formula:

Yield (%) = [(Face value − Price) ÷ Price] × (365 ÷ Days to maturity) × 100

Explanation

How it works: the two segments

• Money market vs capital market
• Money market: loans of up to 1 year.

• Capital market: shares and bonds that last longer than 1 year.

• Liquidity management (making sure there is enough ready cash)

• A bank with extra cash lends it in the money market.

• A bank that is short of cash borrows there.

• Uncollateralised (unsecured) segment: the borrower pledges no security. The lender relies only on the borrower's ability to repay.

• This segment is call, notice and term money.

• Collateralised (secured) segment: the borrower pledges securities.

• This segment is repo and tri-party repo (TREPS).
• It is safer, so its rates are usually a little lower than unsecured rates.

Types of instruments

Call, notice and term money: interbank loans with no security. They are grouped by tenor (how long the loan lasts).

Segment	Tenor
Call money	Overnight (1 day)
Notice money	2–14 days
Term money	15 days to 1 year

• Only banks and primary dealers (PDs) may take part. PDs are RBI-authorised firms that buy government securities at auctions and sell them on.

Treasury bills (T-bills): short-term debt of the Government of India.

• Tenors are 91, 182 and 364 days.
• They pay no coupon (no regular interest payment). They are sold at a discount.
• The RBI auctions them on behalf of the Centre.
• They carry no default risk, so the T-bill yield works as the risk-free short-term rate.

Cash Management Bills (CMBs): T-bills with a tenor of less than 91 days, in use since 2009. They cover the Centre's short cash gaps.

Commercial Paper (CP): an unsecured promissory note (a written promise to repay a fixed sum on a fixed date) issued by companies.

• Tenor is 7 days to 1 year.
• It is used for working capital, the money for day-to-day costs such as raw material and wages.

Certificate of Deposit (CD): a negotiable short-term bank deposit.

• Negotiable means it can be sold to someone else before maturity.
• Banks issue CDs to raise large sums quickly.

Repo (repurchase agreement): a loan made by selling securities with a promise to buy them back later at a fixed, higher price.

• Seen from the lender's side, the same deal is a reverse repo.

Worked examples

• 91-day T-bill
• Face value = ₹100. Price = ₹98.50.
• Yield = (1.50 ÷ 98.50) × (365 ÷ 91) × 100 ≈ 6.11% a year.

• If the price falls to ₹98.30, the yield rises to about 6.94%.

• 90-day CP

• Face value = ₹5,00,000. Price = ₹4,90,000.

• Yield = (10,000 ÷ 4,90,000) × (365 ÷ 90) × 100 ≈ 8.28% a year.

• Overnight repo

• Bank A borrows ₹100 crore against G-secs (government securities) at 6% a year.
• Interest = 100 × 0.06 × 1/365 ≈ ₹1.64 lakh.
• Tomorrow Bank A pays back about ₹100.0164 crore and gets its securities back.

What makes money-market rates rise or fall

• Liquidity in the banking system
• Too little cash → banks compete to borrow → the call rate rises.
• Too much cash → the call rate falls.

• So the call rate is the most sensitive daily reading of liquidity.

• RBI policy rate

• RBI changes the repo rate → overnight rates move → CP, CD and T-bill yields follow → bank loan and deposit rates change.

• Price and yield move in opposite directions

• The amount repaid at maturity is fixed.
• So if rates rise, the price of an existing bill falls, and if rates fall, its price rises.

In India

• RBI: regulates the money market and auctions T-bills as the government's debt manager. It adds or removes liquidity through the LAF (Liquidity Adjustment Facility) repo, where the RBI itself is the counterparty.
• CP rules: RBI Commercial Paper and NCD Directions, 2024
• The Directions were issued on 3 January 2024 and took effect on 1 April 2024 [1].
• Tenor is "not less than seven days or more than one year" [1].
• Minimum rating is A3 from a SEBI-registered credit rating agency [1].
• Minimum size is ₹5 lakh, then multiples of ₹5 lakh [1].
• Eligible issuers include companies, NBFCs, InvITs, REITs and AIFIs [1].
• The issuer's bank loans must be classified Standard (not in default) at the time of issue [1].

• No one may invest in a CP issued by a related party [1].

• CD rules: RBI Certificate of Deposit Directions, 2021 (4 June 2021)

• Issuers are Scheduled Commercial Banks, Regional Rural Banks and Small Finance Banks [2].
• Tenor is 7 days to 1 year. Minimum size is ₹5 lakh [2].
• A CD may be issued at a discount, or at a fixed or floating rate [2].

• CDs are demat only and settle on a DvP (Delivery versus Payment) basis [2]. DvP means the security and the money change hands together.

• CCIL and TREPS

• CCIL (Clearing Corporation of India Ltd) is the tri-party agent. It manages the collateral and guarantees that every trade settles.
• TREPS (Tri-party Repo Dealing and Settlement) replaced CBLO in November 2018. It is now the largest money-market segment.

• Mutual funds, which cannot enter the call market, lend their surplus cash here.

• Benchmarks (FBIL)

• FBIL-Overnight MIBOR started on 22 July 2015. It is based on actual traded rates and replaced the polled FIMMDA-NSE MIBID/MIBOR [3].
• On 6 December 2024, the RBI announced a new Secured Overnight Rupee Rate (SORR). It will be built from basket repo and TREPS deals, and FBIL will implement it [4].

• SORR follows the Committee on the MIBOR Benchmark, chaired by R. Subramanian [4].

• IL&FS crisis (2018)

• After IL&FS defaulted, mutual funds stopped buying CP.
• NBFCs could not roll over their CP (repay old paper by issuing new paper), and their lending slowed.

Don't confuse with

• Capital market: deals in shares and bonds of more than 1 year. The money market covers up to 1 year only.
• Call money vs repo: call money is unsecured and open only to banks and PDs. Repo is secured by securities and open to mutual funds, insurers and others. So repo/TREPS rates are usually ≤ the call rate.
• CD vs Fixed Deposit (FD): a CD is negotiable and can be sold in the secondary market. An FD cannot be sold. You can only break it with the bank.
• Market repo vs LAF repo: in a market repo, participants lend to each other. In an LAF repo, the RBI is the other side, and the deal is a monetary policy tool.

Prelims Hooks

• Call money = overnight. Notice money = 2–14 days. Term money = 15 days to 1 year. Only banks and PDs may take part.
• T-bill tenors are 91, 182 and 364 days. The issuer is the Government of India, not the RBI. NCERT Class 12 wrongly says RBI; the RBI only runs the auction. CMBs are under 91 days and have been used since 2009.
• CP: unsecured, 7 days to 1 year, minimum ₹5 lakh, minimum rating A3. InvITs and REITs are eligible issuers [1].
• CD: negotiable, minimum ₹5 lakh. RRBs and Small Finance Banks may issue CDs, and a CD may carry a floating rate [2].
• TREPS replaced CBLO in November 2018. CCIL is the tri-party agent. TREPS is now the largest segment.
• FBIL-MIBOR (22 July 2015) is based on traded rates [3]. SORR is secured and based on basket repo and TREPS (RBI, 6 December 2024) [4]. LIBOR ended in June 2023. The US replaced it with SOFR, and India replaced MIFOR with MMIFOR.

Mains Points

• Monetary transmission (GS-III)
• The RBI's policy signal first reaches call and TREPS rates, then CP, CD and T-bill yields, then bank loan rates.

• A deep, liquid money market makes RBI policy work faster. This supports inflation targeting.

• Short-term funding risk (the IL&FS lesson, 2018)

• NBFCs funded long-term loans with short-term CP. This is an asset-liability mismatch.
• When CP buyers pulled back, a cash shortage turned into a solvency crisis.

• The policy response: asset-liability management rules for NBFCs, scale-based regulation of NBFCs, and stricter CP issuer tests such as the 'Standard' asset condition [1].

• Benchmark integrity and the shift to secured markets

• The benchmark path runs from polled MIBOR to traded FBIL-MIBOR (2015) [3] to secured SORR (2024 decision) [4]. Each step makes rates harder to manipulate.
• Money has moved from unsecured to centrally cleared secured deals. This lowers counterparty risk (the risk that the other side fails to pay).
• The trade-offs: old contracts must be changed over, which costs money, and much of the market now depends on CCIL. That makes CCIL a point of systemic concentration, a single place whose failure would hit the whole system.

Related concepts

• Call money market
• Treasury bills
• Cash Management Bills
• Commercial Paper
• Certificate of Deposit
• Tri-party repo
• MIBOR
• LIBOR

Read more

• Money market: call money, T-bills, CPs, CDs and repo