With reference to the Indian economy, consider the following statements: 1. 'Commercial Paper' is a short-term unsecured promissory note. 2. 'Certificate of Deposit' is a long-term instrument issued by the Reserve Bank of India to a corporation. 3. 'Call Money' is a short-term finance used for interbank transactions. 4. 'Zero-Coupon Bonds are the interest bearing short-term bond issued by the Scheduled Commercial Banks to corporations. Which of the statements given above is/are correct?
Contents13
- A1 and 2 only
- B4 only
- C1 and 3 only
- D2, 3 and 4 only
Show answer
Answer: (C) 1 and 3 only
Let's evaluate each money market instrument:
Statement 1 (Commercial Paper is short-term unsecured promissory note) — CORRECT:
Commercial Paper (CP) is issued by companies as an unsecured (no collateral) promissory note.
Its maturity ranges from 7 days to 1 year — making it short-term.
Statement 2 (Certificate of Deposit is a long-term instrument by RBI) — NOT CORRECT:
Two errors here.
- First, CDs are SHORT-TERM money market instruments, not long-term.
- Second, CDs are issued by banks and financial institutions, not by RBI.
They're negotiable instruments issued against deposits.
Statement 3 (Call money rate is rate between banks for overnight loans) — CORRECT:
Call money is the rate at which banks lend to each other on an overnight or very short-term basis.
Banks use this to manage their daily cash reserve (CRR) and statutory liquidity (SLR) requirements.
Statement 4 (Zero coupon bonds pay periodic interest) — NOT CORRECT:
Zero coupon bonds do NOT pay any periodic interest.
They are issued at a DISCOUNT (below face value) and redeemed at par (full face value) at maturity.
The difference between the purchase price and face value is the investor's return.
Answer: C (1 and 3 only).
Key Takeaway:
- Commercial Paper = short-term + unsecured.
- Certificate of Deposit = short-term + issued by banks (not RBI).
- Call money = overnight interbank lending.
- Zero coupon bonds = NO periodic interest (issued at discount).
Money market instruments like Commercial Paper and Call Money are crucial for corporate short-term funding and banks' daily liquidity management.
UPSC tests whether students can distinguish between issuers (banks vs RBI vs corporations) and maturity periods (short-term vs long-term) for each instrument.
The question specifically tests conceptual clarity on zero-coupon bonds, which earn returns through discount pricing rather than periodic interest payments.
Commercial Paper
Indian Economy Commercial Paper
Commercial Paper: Corporate Short-Term Financing
Commercial Paper is an unsecured, short-term promissory note issued by corporations
Maturity period: 7 days to 1 year
Minimum investment: ₹5 lakh, issued in multiples of ₹5 lakh
Regulated by RBI, only rated companies can issue
Commercial Paper (CP) is a money market instrument that allows creditworthy corporations to raise short-term funds directly from investors without bank intermediation.
Unsecured: No collateral backing required
Promissory note: Legal promise to repay on maturity
Discount instrument: Issued below face value, redeemed at par
Key Features
Issuer eligibility: Only companies with minimum net worth of ₹4 crore and rated by CRISIL/CARE/ICRA
Purpose: Bridge working capital gaps, fund seasonal inventory, manage cash flow mismatches
Secondary market: Fully negotiable, can be traded before maturity
Tax treatment: Discount earned is taxable as capital gains for investors
Backup facility: Issuers must arrange credit line equal to CP amount outstanding
Trap: Statement 1 correctly identifies CP as unsecured - many students confuse it with secured instruments
Common error: Mixing up CP (corporate) with Certificate of Deposit (bank) - both are short-term but different issuers
Remember: CP is always unsecured - if a statement says 'secured Commercial Paper', it's wrong
Certificate of Deposit
Indian Economy Certificate of Deposit
Certificate of Deposit: Bank-Issued Money Market Instrument
Certificate of Deposit is a short-term negotiable instrument issued by banks, not RBI
Maturity: 7 days to 1 year for banks, up to 3 years for financial institutions
Minimum amount: ₹1 lakh for individuals, ₹5 lakh for others
Certificate of Deposit (CD) is issued by banks and financial institutions against term deposits. Unlike regular fixed deposits, CDs are negotiable - they can be traded in the secondary market before maturity.
CD vs Fixed Deposit
Feature | Certificate of Deposit | Fixed Deposit |
|---|---|---|
Negotiability | Tradeable in secondary market | Non-negotiable |
Form | Dematerialized (electronic) | Account-based |
Premature withdrawal | Sell in market (no penalty) | Penalty charges apply |
Interest payment | On maturity | Monthly/quarterly/maturity |
Minimum amount | ₹1 lakh (individuals) | ₹1,000 typically |
Major trap: Statement 2 calls CD long-term - it's actually short-term (7 days to 1 year)
Wrong issuer: Statement 2 says RBI issues CDs - actually issued by commercial banks and FIs
Don't confuse: CD (Certificate of Deposit) vs CP (Commercial Paper) - both short-term but different issuers
Call Money Market
Indian Economy Call Money
Call Money Market: Interbank Overnight Lending
Call Money is overnight interbank lending to meet short-term liquidity needs
Maturity: 1 day (call) to 14 days (short notice)
Call money rate is key policy transmission mechanism for RBI
Call money market enables banks to borrow and lend funds on very short-term basis to maintain their Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR) requirements with RBI.
Call Money Terminology
Term | Maturity Period | Purpose |
|---|---|---|
Call Money | 1 day (overnight) | Meet CRR/SLR daily requirements |
Short Notice | 2-14 days | Manage weekly liquidity mismatches |
Term Money | 15 days to 1 year | Longer-term interbank funding |
Market Participants
Primary lenders: Public sector banks with surplus liquidity
Primary borrowers: Private banks, foreign banks facing liquidity shortage
Non-bank participants: Primary dealers, select financial institutions (limited access)
Exclusions: Corporates and individuals cannot participate directly
Correct identification: Statement 3 correctly identifies call money as interbank transactions
Don't confuse: Call money (interbank) vs repo rate (RBI-bank) - different market segments
Remember: Call money rate fluctuates daily based on banking system liquidity
Zero Coupon Bonds
Indian Economy Zero-Coupon Bonds
Zero Coupon Bonds: No Periodic Interest Payment
Zero coupon bonds pay NO periodic interest - issued at discount to face value
Return comes from difference between purchase price and maturity value
Treasury Bills are the most common example in Indian money market
Zero coupon bonds are debt securities that do not pay periodic interest. Instead, they are issued at a significant discount to their face value and redeemed at par value at maturity.
How Zero Coupon Bonds Work
%%{init: {"flowchart": {"wrappingWidth": 460}}}%%
flowchart TD
s1["`**Issue at Discount**
Bond issued below face value (e.g., ₹95 for ₹100 face value)`"]
s2["`**No Interest Payments**
No periodic coupon payments during bond's life`"]
s3["`**Maturity Redemption**
Redeemed at full face value (₹100)`"]
s4["`**Investor Gain**
Profit = Face Value - Purchase Price (₹100 - ₹95 = ₹5)`"]
s1 --> s2
s2 --> s3
s3 --> s4Examples in Indian Market
Treasury Bills: 91, 182, and 364-day T-Bills are zero coupon instruments
Deep discount bonds: Some corporate bonds issued at steep discounts
Stripped securities: Regular coupon bonds 'stripped' to create zero coupon components
Major trap: Statement 4 calls zero coupon bonds interest bearing - they pay NO periodic interest
Wrong issuer: Statement 4 says banks issue to corporations - typically government issues T-Bills
Remember: 'Zero coupon' literally means zero regular interest payments
Money Market Instruments Overview
Indian Economy
Money Market Instruments: Complete Classification
Money market deals with short-term debt instruments (up to 1 year maturity)
Key participants: RBI, banks, corporates, financial institutions
Primary functions: liquidity management and short-term financing
Money market provides short-term funding solutions and liquidity management for various participants in the financial system. All instruments mature within one year.
Major Money Market Instruments
Instrument | Issuer | Maturity | Security | Key Feature |
|---|---|---|---|---|
Treasury Bills | RBI (Govt) | 91, 182, 364 days | Government backing | Zero coupon, auctioned weekly |
Commercial Paper | Corporates | 7 days - 1 year | Unsecured | Only rated companies |
Certificate of Deposit | Banks/FIs | 7 days - 1 year | Bank guarantee | Negotiable instrument |
Call Money | Banks | 1-14 days | Unsecured | Interbank only |
Repo/Reverse Repo | RBI | Overnight+ | Government securities | Monetary policy tool |
Money Market Structure
# Money Market
## Government Securities
- Treasury Bills
- Cash Management Bills
- Dated Securities (short-term)
## Corporate Instruments
- Commercial Paper
- Corporate Bonds (short-term)
## Bank Instruments
- Certificate of Deposit
- Banker's Acceptance
## Interbank Market
- Call Money
- Repo/Reverse Repo
- CBLOMaturity confusion: All money market instruments are short-term (≤1 year) - if a statement says 'long-term', it's wrong
Issuer mix-up: RBI issues T-Bills, banks issue CDs, corporates issue CP - don't swap issuers
Security status: CP is unsecured, repo has collateral, T-Bills have government backing