This article is written by Aditya Anand, student at Symbiosis Law School, Noida. In this article, the author has analysed the regulatory framework of the capital market along with the recommendations.
Table of Contents
Introduction
The capital market is the backbone of every country as it can affect the financial position of the country and regulate the economy. The heart of economic growth lies in the capital market which helps in providing the allocation of funds and mobilization of resources. The major understanding and regulation of the capital market have been an important requirement for the industrial and commercial development of the country. The capital markets cater to the need for a long-term fund that is required for the development of the industrial and commercial sectors.
Capital market in India : a brief overview
The capital market is the place that acts as the platform between the suppliers and the buyers. The savings and investments are channelized between the persons who have capital and the person who needs capital. In simpler terms, the market where buyers and sellers engage in trading of financial securities like bonds, stocks, etc. However, the market is much wider than securities. The participants during such transactions can be an individual as well as an institution.
It includes all types of lending and borrowing. The capital market is generally for the raising of long-term funds. The markets deal mainly with debts and equity securities. There are different types of buyers such as businessmen, companies, government or it can be general people. The major regulatory body is the RBI(Reserve bank of India) assisted by the Ministry of Finance and the SEBI(Security Exchange Board of India).
Background
The capital markets of India have a golden history of approximately 200 years or more than 2 centuries. It dates back to the year 1875 when India was under the direct control of the British Government and the Queen of England, the first time the Bombay Stock Exchange was set up and led to the introduction of capital markets in India among the local people. There was hardly any existence and role of the capital market as agriculture was the primary sector of the economy.
The capital market was mostly dominated by government securities and there were a few individual investors. It started flourishing in the early nineties with the introduction of liberalization, globalization, and privatization and Sensex touched more than 4,000 points from hardly a thousand.
Functions of capital market
Many such functions depict the need for the capital market as they have primary functions such as mobilizing resources of investments, helps in the facilitation of buying and selling of securities, and formulation of effective and efficient price discovery. To settle the transactions as per the due date or within the given time frame. The market provides an effective source of investment as well as channels the funds of private and the government. The capital market has many such institutions which can be classified as holding capital and supply them as securities. For example:
1. Commercial banks such as SBI, Citi Bank, etc.
2. Insurance companies such as LIC, HDFC, Bajaj Finserv, etc.
3. Specialised financial institutions such as IFCI, IDBI, UTI, etc.
4. Provident Fund Societies and other such institutions. There are also individual investors in the market who supply their funds in the capital market. The market is based on lenders, ones who supply funds and the borrowers, ones who demand funds.
Classification of market
The capital market can be classified as primary market and secondary market. The primary market is also known as the Stock Market. This is also known as the new issue market as the investors can buy securities directly from the company that issues. The securities are also known as primary offerings or Initial Public Offerings (IPO) or they can also be raised through the right issue. The company sells its stocks or shares to the general public and investors for generating the fund. It deals with the securities that were not in existence previously and the fresh securities offered to the public to invest for the first time.
The secondary market is for the buying and selling of securities that are already existing and issued by the companies. They are also known as old capital markets. When the securities are first initially offered to the public or get listed in the stock exchanges then it is dealt exclusively in the stock exchange and further, the stock exchange is regulated by the Securities Exchange Board of India. The stocks, shares, and bonds are bought and sold by the general public.
The market can also be classified on the type of securities as the stock market and the bond market. The stock market is also known as the share market or equity market. It is a place where the shares are bought and sold or the economic transactions that have a certain monetary value. The price of shares is highly dynamic as it can change from the fluctuations of demand and supply or the status of the company. The stock market has all the publicly listed companies that can be owned by the private, government, or joint ventures.
The bond market is also known as the debt securities market in which the investors purchase the securities in terms of bonds. The credit market can have various types of issue markets such as the government issue market, the corporate debt issue market, etc.
The regulatory framework and legislation : a discussion
The regulation of capital markets has been very important for development and growth as they provide a stable, steady, and secure platform for both the suppliers and the buyers. If not then there can be massive loss or gain in finance which would be unfair for the general public. Various organizations regulate the market to keep the economy stable. The regulatory structure has been framed under the four pillars that are the Ministry of Finance, Reserve Bank of India, Security and Exchange Board of India, and the National Stock Exchange.
- Ministry of Finance(MoF)- The ministry depicts that the Government of India plays a very important role and their economic policies and manifestos help in market regulation and framework. They formulate rules and analyze them for the efficient and effective growth of the market. The Department of Economic Affair which manages the market works under certain sets of laws that are the Depositories Act, 1996, Securities Contract (Regulation) Act, 1956, and Securities and Exchange Board of India Act, 1992. There are many other laws such as the Companies Act, 2013, etc.
- Reserve Bank of India- The body that was established in 1934 frames the policies, formulates the bodies and regulates the rules as per the current situation. RBI has active participation in the stock market and also sets the various parameters that are used in the transactions of debt, equity, and other types of securities. They are the bank regulators also as they have access to many bank accounts as they have large funds to control the capital market since banks have the most generated capital on hold. They also set various parameters for regulation such as repo rate, reverse repo rate, etc. They are the intermediary body between the market and the government. They have other various functions in capital markets such as the implementation of various monetary policies, managing the foreign exchange system, settlement, and payments systems.
- Security Exchange Board of India (SEBI)- This body can also be considered as the apex body of capital market regulators. SEBI is a principal regulatory body that is also a statutory body established under the SEBI Act,1992. SEBI was earlier established as the non statutory body in 1988. They not only protect the interest of investors in securities but also promote the market. It supervises, controls, and manages several institutional brokers, investors, companies, and all other associated persons related to the market. The body’s primary function is to prohibit malpractice or unfair trade practices such as insider trading or manipulating funds. The stock exchanges work under the direct control of this body as they adopt the flexible and adaptable approach for regulating the market. They perform many other such regulatory functions such as training of intermediaries, auditing of stock exchanges, regulating and registering the mutual funds.
Recently, the review and merger of SEBI(Issue and Listing of Debt Securities) Regulations, 2008 and SEBI(non-convertible Redeemable preference shares) Regulations 2013 into a single regulation- SEBI(Issue and Listing of Non-Convertible Securities) Regulations, 2021.
Acts governing the capital markets
- The Depositories Act,1996- The Act regulates the depositories in Securities. The primary objective of this Act is to ensure free transferability of securities with speed, accuracy and security. The Act eases the ownership of transferability of ownership from one person to another in a convenient way. It has made the securities freely transferable in case of Public limited companies along with the securities.
- Securities Contract (Regulation) Act, 1956- The regulatory Act deals in all types of issues related to Stock trading. The Act aims at smooth functioning of the stock exchanges. It prevents any kind of defective transactions. It especially deals in listing of stock exchanges and contracts in securities.
- Security and Exchange Board of India Act,1992- This Act provides the statutory powers to the SEBI organisation. The governing body regulates the market in a multifarious manner by protecting the interest of the shareholders, preventing any kind of malpractices in the market and promoting the development of the Securities Market. The Act provides wide powers and scope to the SEBI in order to effectively and efficiently run the capital market.
Loopholes and recommendations
As the Indian economy is one of the fastest-growing economies of the world, many such challenges can hinder the growth as certain regulations have loopholes and there are several cases of embezzling funds, defrauding, and illegal channelizing of funds. The associates of the markets use it for unfair trade practices. There is no doubt that in the past few decades the country’s policymakers have promoted the capitalist theory of economy and eventually led to the rapid development of the capital market. Capitalism promotes the concentration of wealth by the few and they invest more and increase the profit up to a maximum extent.
Individual investors can also break the stability of the market by increasing the lending or borrowing capacity. Several such cases have depicted and identified the need for a more powerful regulating body. Some of the cases which have showcased the loopholes are Harshad S. Mehta vs Central Bureau Of Investigation on 1 October 1992, Harshad S. Mehta vs Central Bureau Of Investigation on 21 September 1998. The case of Harshad Mehta indicates the loopholes in the system that how the funds were channelized illegally and used to manipulate the stock market. He understood the gap in the money market. There was a similar story of Ketan Parekh scam 2001 in which he took a loan and channelized funds in the case Ketan Parekh vs Securities and Exchange Board of India on 14 July 2006.
There is also a provision to appeal in the special court named as Securities appellate tribunal and the example case is Ashwin K. Doshi, Pankaj G. Joshi, and others vs Securities and Exchange Board Of India on 25 October 2002. These cases and points depict that there is a problem of financial scams from the capital market which has caused massive loss and also reduced the confidence of investors and created distrust among the people. Such losses compel the system to reform the policies. Another major loophole is insider trading and the manipulation of price as if some investors take the unpublished information and use it for personal benefit. Such illegal use negatively impacts the functioning of markets.
The regional stock exchanges development is greatly affected due to the major and premium stock exchanges such as NSE( National Stock Exchange) and BSE (Bombay Stock Exchange) as investors prefer to invest in securities listed in major stock exchanges. There is also a lack of vigilance over the investors as the people can channelize the illegal funds in stock markets.
The market is generally held by a few investors that make the market biased as it diminishes the opportunity for new investors. There should be a ceiling over the holding of stocks to promote fairness and to provide the opportunity for new investors. Most of the financial scams that take place are due to the private dealings with the banks as they have a pool of funds so these should be strictly prohibited and a systematic way of regulating the funds in banks should be formulated.
Conclusion
The Indian capital market has undergone many changes after the challenges and the irreparable loss faced over years. There have been massive and revolutionary changes over years, and some significant changes that have reduced the financial scam cases. There has been a reduction of malpractices of trade over the years. The capital market has made tremendous progress in terms of institution building. They have transformed and developed the lives of investors and market intermediaries. The market has been friendlier by boosting performance and eliminating the challenges.
References
1.https://economictimes.indiatimes.com/definition/capital-market
2.http://www.legalservicesindia.com/article/2283/Working-of-Capital-Market-In-India.html
3.https://www.icsi.edu/media/webmodules/publications/CapitalMarketandSecuritesLaw.pdf
4.https://www.mondaq.com/india/economic-analysis/949428/capital-market-persevere
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