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A Financial System is a composition of various institutions, markets, regulations, laws, practices, money managers, analysts and transactions.
The financial system performs the essential economic function of channelling funds from those who are net savers (i.e. who spend less than their income) to those who are net spenders (i.e. who wish to spend or invest more than their income). In other words, the financial system allows net savers to lend funds to net spenders.
Funds are intermediated by banks and other credit institutions, and directly via financial markets through the issuance of securities. An efficient allocation of funds, together with financial stability, contribute to economic growth and prosperity.
The most important lenders are normally households, but firms, public entities and non-residents may also lend out excess funds. The principal borrowers are typically non-financial corporations and government, but households and non-residents also sometimes borrow to finance their purchases.
Funds flow from lenders to borrowers via two routes. In direct or market-based finance, debtors borrow funds directly from investors operating on the financial markets by selling them financial instruments, also called securities (such as debt securities and shares), which are claims on the borrower’s future income or assets. If financial intermediaries play an additional role in the channeling of funds, one refers to indirect finance. Financial intermediaries can be classified into credit institutions, other monetary financial institutions and other financial intermediaries, and they are part of the financial system.
Banking Financial Institutions
Banking institutions are those institutions, which participate in the country’s payment system, i.e. they provide transaction services. They play an important role in the mobilization of deposits and distribution of credit to various sectors of the economy. A sound banking system ensures that deposits accumulated from people are productively utilized. Banking sector is dominant in India as it accounts for nearly half of the total financial assets in the financial sector.
Non-Banking Financial Institutions
Non-banking financial institutions are those institutions which act as mere providers of credit and they do not create credit, e.g., LIC, UTI, and IDBI.
Composition of Indian Financial System
Indian Financial System is composed of the following:
1. Scheduled Commercial Banks
2. Insurance Companies
3. NBFCs
4. Mutual Funds
5. Foreign Institutional Investors
6. Urban Cooperative Banks
7. Regional Rural Banks
8. National Pension System Fund
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