formal financial system comes under the purview of the Ministry of Finance
(MOF), Reserve Bank of India (RBI), Securities Exchange Board of India (SEBI)
and other regulatory bodies. Formal financial sector is characterized by the
presence of an organized institutional and regulative system.
Formal financial system
A financial institution is an establishment that is engaged in the business of
dealing with monetary transactions such as deposits, loans and exchange of currency.
They are the intermediaries of financial markets; they act as a middlemen
between savers and borrowers. They facilitate the allocation of funds in an
effective manner. Financial institutions mainly provide 3 transformation
services such as Liability, asset and size transformation, Maturity transformation
and Risk transformation.
are classified into Banking institutions, Non-banking institutions, Mutual
funds and Insurance and Housing Corporation.
Banking institutions include public and private
sector banks that collects deposits from the public in return for interest and
utilize that money for providing loans to customers. They are the creators of
credit in the country. They act as an intermediary between depositors and
borrowers. Banks are highly regulated in the country because of their importance
in controlling the financial stability of the country. Apart from accepting
deposits and lending, they also offer services like wealth management, currency
exchange and safe deposit locker facilities.
On the other hand, non-banking institutions are the
purveyors of credit in the country. They does not have a full banking license
and they are not supervised by any banking regulatory agency. They cannot issue
cheques to the customers. All the non-banking institutions in the country are
regulated by the Reserve Bank as in the case of banking institutions
Mutual fund is a professionally managed investment
fund that pools money from the investors and invests them in securities like shares,
bonds and other money market instruments by a professionally managed fund
manager who is specialized in the work. They generate revenue from the funds
and it is passed back to investors. It is an ideal investment for people who
wants to invest money but does not have much information about investing.
Insurance is an agreement or a contract where the
insurer undertakes to provide guarantee to pay a certain sum of money to the
insurer in the case of any unforeseen events or for any uncertain financial
loss as mentioned in the insurance contract. The insured pays a certain sum of
money known as premium to the insurer.
Banking institutions include Scheduled Commercial Banks
and Scheduled Cooperative banks. Scheduled Banks in India refer to those banks
which have been included in the 2nd schedule of RBI Act, 1934. Scheduled
Banks include Public Sector banks, Private Sector Banks, Foreign Banks and
Regional Rural Banks.
Public Sector Banks are those banks where more than
50% of the total stake will be held by the Government. There are total 21 PSBs
in the country. The shares of these banks are listed in the stock exchange. Some
of PSBs are State Bank of India, Punjab National Bank, etc… Private Sector
banks are those where majority of the stakes are held by the private parties,
not the Government. Some of the Private sector banks include Axis Bank, HDFC
Bank, etc… Foreign Banks are those banks which has its headquarters in another
country but has branches in other countries. Such banks are supposed to follow
all the rules and regulations of the country in which it is operating. Apart
from the ownership, all these banks provide equally better service and they
have almost the same rate of interest. It includes Royal bank of Scotland, Citi
Bank, etc… Regional Rural Banks or RRBs are local small level banks operating
in all the states of the country. The main aim of RRB is to serve the rural
areas which has basic banking and financial services. They have been formed to
cater the needs of weak and poorer sections of the society. RRBs are regulated
by the National Bank for Agriculture and Rural Development (NABARD).