Money market

For other uses, see Money market (disambiguation).

As money became a commodity, the money market became a component of the financial markets for assets involved in short-term borrowing, lending, buying and selling with original maturities of one year or less. Trading in money markets is done over the counter and is wholesale.

There are several money market instruments, including treasury bills, commercial paper, bankers' acceptances, deposits, certificates of deposit, bills of exchange, repurchase agreements, federal funds, and short-lived mortgage-, and asset-backed securities.[1] The instruments bear differing maturities, currencies, credit risks, and structure and thus may be used to distribute exposure.[2]

Money markets, which provide liquidity for the global financial system, and capital markets make up the financial market.

Participants

The money market consists of financial institutions and dealers in money or credit who wish to either borrow or lend. Participants borrow and lend for short periods, typically up to thirteen months. Money market trades in short-term financial instruments commonly called "paper". This contrasts with the capital market for longer-term funding, which is supplied by bonds and equity.

The core of the money market consists of interbank lending—banks borrowing and lending to each other using commercial paper, repurchase agreements and similar instruments. These instruments are often benchmarked to (i.e., priced by reference to) the London Interbank Offered Rate (LIBOR) for the appropriate term and currency.

Finance companies typically fund themselves by issuing large amounts of asset-backed commercial paper (ABCP), which is secured by the pledge of eligible assets into an ABCP conduit. Examples of eligible assets include auto loans, credit card receivables, residential/commercial mortgage loans, mortgage-backed securities and similar financial assets. Some large corporations with strong credit ratings, such as General Electric, issue commercial paper on their own credit. Other large corporations arrange for banks to issue commercial paper on their behalf.

In the United States, federal, state and local governments all issue paper to meet funding needs. States and local governments issue municipal paper, while the U.S. Treasury issues Treasury bills to fund the U.S. public debt:

Functions of the money market

Money markets serve five functions—to finance trade, finance industry, invest profitably, enhance commercial banks' self-sufficiency, and lubricate central bank policies.[3][4]

Financing trade

The money market plays crucial role in financing domestic and international trade. Commercial finance is made available to the traders through bills of exchange, which are discounted by the bill market. The acceptance houses and discount markets help in financing foreign trade.

Financing industry

The money market contributes to the growth of industries in two ways:

Profitable investment

The Money Market enables the commercial banks to use their excess reserves in profitable investment. The main objective of the commercial banks is to earn income from its reserves as well as maintain liquidity to meet the uncertain cash demand of the depositors. In the money market, the excess reserves of the commercial banks are invested in near-money assets (e.g., short-term bills of exchange), which are easily converted into cash. Thus, commercial banks earn profits without sacrificing liquidity.

Self-sufficiency of commercial bank

Developed money markets help the commercial banks to become self-sufficient. In the situation of emergency, when the commercial banks have scarcity of funds, they need not approach the central bank and borrow at a higher interest rate. On the other hand, they can meet their requirements by recalling their old short-run loans from the money market.

Help to central bank

Though the central bank can function and influence the banking system in the absence of a money market, the existence of a developed money market smoothens the functioning and increases the efficiency of the central bank.

Money markets help central banks in two ways:

Money market instruments

Discount and accrual instruments

There are two types of instruments in the fixed income market that pay interest at maturity, instead of as coupons—discount instruments and accrual instruments. Discount instruments, like repurchase agreements, are issued at a discount of face value, and their maturity value is the face value. Accrual instruments are issued at face value and mature at face value plus interest.[5] short terms investment

See also

References

External links

Look up money market in Wiktionary, the free dictionary.
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