Money Market: Concept, Participants, Instruments & Nepalese Examples

TAKEAWAYS:

• The money market is a short-term (≤1 year) borrowing/lending market for liquidity needs, while the capital market handles long-term funds.
• Participants include banks (e.g., NMB, Global IME), NRB, corporates (e.g., NTC), and non-bank financial institutions (NBFIs).
• Key instruments in Nepal: Treasury bills (T-bills), commercial paper (CP), certificate of deposits (CDs), and repo agreements.
• Functions: Manages liquidity, sets short-term interest rates, and funds government/corporate working capital.
• Regulation: NRB monitors money market operations to ensure stability and prevent systemic risks.
• Real-world tie: Ncell uses T-bills to raise short-term funds for network expansion; eSewa relies on money market instruments for daily transaction settlements.

1. Concept of Money Market

The money market is a segment of the financial system where short-term funds (typically ≤1 year) are borrowed/lent at low risk and high liquidity. It acts as a clearinghouse for temporary liquidity mismatches between surplus and deficit units.

Key Features

mindmap
  root((Money Market))
    Short-term
    High liquidity
    Low risk
    Participants: Banks, NRB, Corporates, NBFIs
    Instruments: T-bills, CDs, CP, Repo
    Functions: Liquidity management, Interest rate benchmark, Government funding

Why does it exist?

• Banks need to park excess reserves overnight (e.g., NMB’s idle cash).
• Corporates (e.g., Daraz) need working capital for inventory.
• Government (NRB) issues T-bills to manage debt.

2. Participants in the Money Market

The money market involves borrowers (deficit units) and lenders (surplus units). In Nepal, key players include:

3. Money Market Instruments in Nepal

These are short-term, marketable securities used to raise or lend funds. Below are the four key instruments in Nepal:

A. Treasury Bills (T-bills)

• Issued by: Nepal Rastra Bank (NRB)
• Tenor: 91 days, 182 days, 364 days
• Purpose: Manage government debt, control money supply
• How it works:
  • Sold at discount (e.g., Rs 95 for Rs 100 face value).
  • Interest = Face value – Purchase price.
  • Secondary market: Traded on Nepal Stock Exchange (NEPSE).

Worked Example: Ncell’s T-bill Investment Ncell buys a 364-day T-bill with a face value of Rs 1,000,000 at Rs 950,000.

• Interest earned = Rs 1,000,000 – Rs 950,000 = Rs 50,000.
• Annualized yield = (Rs 50,000 / Rs 950,000) × (365/364) × 100 ≈ 5.37%.

Why Ncell uses T-bills:

• Safe, zero default risk (backed by NRB).
• Short-term parking for excess cash (e.g., from prepaid mobile top-ups).

B. Commercial Paper (CP)

• Issued by: High-rated corporates/banks (e.g., NMB, Ncell)
• Tenor: 7–180 days
• Purpose: Short-term funding for working capital
• Example: Daraz issues CP to fund inventory purchases before festive sales.

Worked Example: Daraz’s CP Issue Daraz issues Rs 50,000,000 CP at 8% annual interest for 90 days.

• Interest paid = (Rs 50,000,000 × 8% × 90)/365 = Rs 986,301.
• Total repayment = Rs 50,000,000 + Rs 986,301 = Rs 50,986,301.

Advantages for Daraz:

• Cheaper than bank loans (lower interest than long-term debt).
• No collateral required (if rated AA+ by credit agencies).

C. Certificate of Deposit (CD)

• Issued by: Banks (e.g., NMB, Standard Chartered)
• Tenor: 7 days to 1 year
• Purpose: Banks raise funds from retail/institutional investors
• Example: A Kathmandu shopkeeper invests Rs 500,000 in a 1-year CD at 7.5%.

Worked Example: Retail CD Investment

• Principal: Rs 500,000
• Interest: Rs 500,000 × 7.5% = Rs 37,500
• Maturity value: Rs 537,500

Why banks offer CDs:

• Attracts fixed deposits from small investors.
• Helps banks manage liquidity risk.

D. Repo (Repurchase Agreement)

• Mechanism: Sell securities (e.g., T-bills) today, repurchase tomorrow at a higher price.
• Purpose: Short-term borrowing/lending (e.g., banks lend excess reserves overnight).
• Example: NMB lends Rs 100 million to Global IME via repo at 6% overnight.

T-Account for Repo Transaction

Real-world use:

• NRB uses repo to inject liquidity into banks (e.g., during COVID-19).
• Banks use repo to borrow overnight to meet reserve requirements.

4. Money Market vs. Capital Market

5. Functions of the Money Market

1. Liquidity Management
   • Banks lend excess cash (e.g., NMB lends to Siddhartha Bank via repo).
2. Interest Rate Benchmark
   • T-bill yields set the base rate for loans (e.g., NRB’s repo rate).
3. Government Funding
   • NRB issues T-bills to finance budget deficits.
4. Working Capital Financing
   • Daraz issues CP to buy festive-season inventory.
5. Risk Mitigation
   • Corporates hedge against short-term cash crunches.

6. Regulation of the Money Market in Nepal

The Nepal Rastra Bank (NRB) regulates the money market through:

• Reserve Requirements: Banks must hold minimum cash reserves (e.g., 5% of deposits).
• Open Market Operations (OMOs): NRB buys/sells T-bills to control money supply.
• Credit Ceiling: Limits on loan-to-deposit ratios for banks.
• Monetary Policy: Adjusts repo rate to influence borrowing costs.

Example: NRB’s Response to COVID-19

• Cut repo rate from 6% to 4.5% to encourage lending.
• Increased T-bill issuance to inject liquidity.

In the Real World

1. Ncell’s Short-Term Funding

   • Instrument: Treasury bills (T-bills)
   • How it’s used: Ncell parks excess cash (from prepaid top-ups) in 91-day T-bills to earn risk-free returns while waiting for revenue cycles.

2. Daraz’s Working Capital Needs

   • Instrument: Commercial paper (CP)
   • How it’s used: During Dashain/Tihar, Daraz issues 3-month CP to fund inventory purchases before sales peak. This is cheaper than a bank loan.

3. eSewa’s Liquidity Management

   • Instrument: Repo agreements
   • How it’s used: eSewa borrows overnight funds via repo from banks (e.g., NMB) to settle high-volume transactions during festivals like Dashain.

4. NMB Bank’s CD Campaigns

   • Instrument: Certificates of Deposit (CDs)
   • How it’s used: NMB offers 1-year CDs at 7.5% to attract fixed deposits from retail customers (e.g., shopkeepers in Kathmandu), which it then lends to SMEs.

5. NTC’s Debt Management

   • Instrument: T-bills and CP
   • How it’s used: NTC issues short-term debt to fund network upgrades (e.g., 4G expansion) without straining its long-term balance sheet.

7. Worked Example: Kathmandu Retail Shop’s Money Market Investment

Scenario: Mr. Ram, a Kathmandu shopkeeper, has Rs 2,000,000 idle after Dashain sales. He wants to invest for 6 months with low risk.

Options Compared:

Decision:

• Best for safety: T-bill (Rs 49,626) – zero risk, backed by NRB.
• Best for yield: Daraz CP (Rs 64,650) – higher return, but slightly riskier (depends on Daraz’s credit rating).

T-Account for T-bill Investment

After 182 days:

• Maturity value = Rs 2,000,000 (face value).
• Profit = Rs 2,000,000 – Rs 1,950,374 (purchase price) = Rs 49,626.

Exam Tip

1. Define clearly: Money market = short-term (<1 year), high liquidity, low risk.
2. Compare with capital market: Use the tenor, risk, and instruments table in exams.
3. NRB’s role: Always mention T-bills, repo rate, and OMOs when asked about regulation.
4. Worked examples: Show calculations for T-bills, CDs, and CP (like the Ncell/Daraz examples above).
5. Real-world links: Connect instruments to Nepalese companies (e.g., Ncell’s T-bills, Daraz’s CP).
6. Diagrams: Draw T-accounts for repo/CD transactions or a flowchart of the money market cycle.

Common Mistakes to Avoid:

• Confusing money market (short-term) with capital market (long-term).
• Forgetting NRB’s regulatory tools (repo rate, reserve requirements).
• Incorrect interest calculations (e.g., mixing simple/compound interest).

flowchart TD
    A["Money Market Cycle"] --> B["Surplus Units<br/>(Banks, NRB, Individuals)"]
    B --> C["Lend via<br/>T-bills, CDs, Repo"]
    C --> D["Deficit Units<br/>(Corporates, Government)"]
    D --> E["Borrow for<br/>Working Capital, Liquidity"]
    E --> F["Repay + Interest"]
    F --> C
    G["NRB Regulates<br/>via OMOs, Repo Rate"] --> C
    H["Nepalese Example:<br/>Ncell buys T-bills"] --> C