Interlink between Capital market and Money market

10/05/2021 0 By indiafreenotes

The money market and capital market are closely interrelated because most corporations and financial institutions are active in both. Firms may borrow funds from the money market for a short period or for a loan period from the capital market.

Differences

  1. The money market uses such instruments as promissory notes, bills of exchange, treasury bills, certificates of deposits, commercial papers, etc. On the other hand, the capital market uses long-term securities such as shares, debentures and bonds of industrial concerns, and bonds and securities of the government.
  2. The money market deals in short-term funds which are used for financing current business operations and short-term needs of the government. On the other hand, the capital market deals in long-term funds required by industry and government.
  3. The institutions operating in the money market and the capital market also differ from each other. The central bank, commercial banks, non bank financial intermediaries and bill brokers deal in money market instruments. On the other hand, stock exchanges, mutual funds, leasing companies, investment banks, investment trusts, insurance companies, etc. dealing capital market instrument.
  4. Short-term funds in the money market refer to a period of less than a year, while in the capital market long-term funds refer to a period up to 25 years.

Interrelations between Money and Capital Markets:

The money market and capital market are closely interrelated because most corporations and financial institutions are active in both. Firms may borrow funds from the money market for a short period or for a loan period from the capital market. A number of factors may prompt borrowers and lenders to resort to either the money market or the capital market which reflect the interdependence of the two markets.

  1. Some corporations and financial institutions serve both markets by buying and selling short-term and long-term securities.
  2. Borrowers may obtain their funds from either or both markets according to their requirements. A firm may borrow short-term funds by selling commercial paper or it may float additional shares or bonds.
  3. Funds flow back and forth between the two markets whenever the treasury finances maturing bills with treasury securities or whenever a bank lends the proceeds of a maturing loan to a firm on a short-term basis.
  4. All long-term securities become short-term instruments at the time of maturity. So, some capital market instruments also become money market instruments.
  5. Yields in the money market are related to those of the capital market. A fall in the short-term interest rates in the money market shows a condition of essay credit which is likely to be followed or accompanied by a more moderate fall in the long-term interest rates in the capital market. However, money market interest rates are more sensitive than are long-term interest rates in the capital market.
  6. Lenders may choose to direct their funds to either or both markets depending on the availability of funds, the rates of return, and their investment policies.