18 Apr 2020

Basics of Capital Market

Capital Market is the place where finance is raised by the corporate houses, Government and their agencies for meeting their requirements of funds for new projects, modernization, expansion and diversification programmes, long-term working capital requirements, repayment of loans and various other purposes. The savings of individuals are mobilized in Shares, Debentures, Derivative Instruments, Bonds, Units of Mutual Funds, Exchange Traded Funds and other financial instruments for deployment in productive economic activity.

The investors are ready to put their money in companies, and have vast resources, but it depends upon the corporate houses and others how they treat the investors’ money. Thus, development of efficient market system is necessary for creating conducive climate for investment and economic growth. Capital Market can grow in both size and shape with a variety of instruments which ensure minimum volatility and manipulations. The Securities Market mobilizes long-term savings of individuals for investments, which are ultimately deployed for productive purposes in various sectors of economy. It plays a vital role in channelizing the savings of individuals for investment for the economic development of the country.

Role of Capital Market in Economic Development

Broadly speaking, there are three types of players in the capital markets, first being corporate houses and the government who need finance; second being the market intermediaries; and third being the investors, who provide the much-needed finance. The corporate sector is increasing its dependence upon the capital market with each passing year. Similarly, the demand of government is also increasing for raising the finance from the public in order to reduce fiscal deficit, development projects and repayment of borrowings. The success of economy of any country depends upon the quantum of finance raised from the household investors and its rightful application to the core areas of the economy such as infrastructural development, manufacturing sector, services sector and social sector. It is a well-witnessed fact that the economies of countries have developed at much faster rates where the stock markets are more robust than those economies where the stock markets are defunct or neglected. Most of the economists are of the view that lack of capital has been the basic cause of under development of any economy.

Efficiency of Capital Market

The efficiency of capital market is often defined in terms of its ability to reflect the impact of all relevant information on the prices of securities. An efficient market is one, which ensures that the prices of the securities quickly adjust to the latest information. The information is reflected in the share prices with such speed that there is almost nil opportunity for investors to profit from publicly available information. The feature of efficient market is the large number of interplay of forces who act independently of one another. The investors react to this information immediately, then buy and sell the securities until they feel that the current market price correctly reflects the information. Whether the price adjustment turns out to be correct or not is not important, but what is important is that the adjustment is not biased. So, in an efficient capital market there is no reason to believe that the current price is too low or too high.

Factors that Influence the Growth of Capital Market

The capital market for the right kind of growth requires free & fair atmosphere, safe & sound government policies, safety of investments and other host of factors. The factors mentioned below directly influence the growth of the Capital Market of any country:

  • Level of household savings
  • Level of participation of retail investors
  • Participation by FIIs and FFIs
  • Robustness of regulatory framework
  • Effectiveness of Corporate Governance norms
  • Safety of investments
  • Return on investments
  • Regulatory Framework
  • Policy of Government towards Capital Market
  • Political Stability
  • Fiscal Policy of Government, and
  • Investors’ Confidence and Investor Protection

Thus, it becomes very important for the Government to provide a conducive atmosphere for development of the capital market, so that the level of household savings is encouraged, level of participation by the retail investors is increased, and the FFIs & FIIs are provided the right kind of atmosphere and freedom to play in the markets. But, at the same time the market regulator has to ensure fair play by various participants and adherence to corporate governance norms with the ultimate objective of safety of the investments. This would provide an orderly development of the markets.

Author –
Dr. Sandeep Kautish
Dean Academics
LBEF Campus