World Of Finance

You may remember that the main culprits of inflation last year were:   1.   Higher crude prices – Due to rapid growth of global economy in 2007 and early 2008 there was a huge demand for crude. Also, when stock market started showing weaknesses across the globe, investors started parking their money in commodities such as Crude.   2. Supply constraint – Unprecedented drought in Australia and some part of Americas caused shortage of food grains in the global market. India too had a very bad production year and we had to import grains from the global market. This led to increase in general increase in food grains prices.   3. Excess liquidity – High growth in emerging economies like India attracted huge amount of foreign capital. A situation like too much money chasing too few goods lead to inflation. This exactly what happenedin India. Why does rise in crude price lead to inflation? Let us begin with a brief discussion on crude prices. It is an extremely important commodity

Inflation is a rise in the general level of prices of goods and services in an economy over a period of time. Inflation can also be described as a decline in the real value of money—a loss of purchasing power in the medium of exchange which is also the monetary unit of account and the monetary store of wealth. When the general price level rises, each unit of currency buys fewer goods and services. A chief measure of price inflation is the inflation rate , which is the percentage change in a price index over time. Funny instance – “Son, in our time we use to take money (paisa) in pockets and carry goods to home in bags. But in your age you will carry money (rupees) in bags and carry goods to home in your pocket”. He was so right! This is inflation –which reduces the purchasing power of common man. Measuring Inflation In major economies, inflation is measured by CPI, which is Consumer Price Index . CPI is a measure of the average price of consumer goods and services purchased by

Inflation is when a currency decreases in value, and deflation is when a currency increases in value. Although inflation is generally viewed as worse than deflation, if either continue steadily for a long time, or occur drastically very quickly, it can lead to a depression. Currency can increase in value if the economy that is backed by the currency does well, and it can decrease in value if the economy does poorly. However, that covers only the 'demand' part of ' supply and demand '. The other factor that affects the value of a currency is how much of that currency is in circulation . The more currency there is in circulation, the less the currency is worth. Conversely, the less currency is in circulation, the more the currency is worth. Generally, governments control the amount of money in circulation so that the value of the currency stays steady. But sometimes, when governments need to raise money quickly, they print a lot more money than they should without t

Role of Government: To increase the constancy of Financial Institutions and Markets Government intervenes in the interest rates and money supply in the Money Markets. Government has several ways to control income and interest rates which can be divided into two broad groups such as, •        Fiscal policy  •        Monetary policy The government to adjust the exchange rate intervenes with the foreign exchange markets ; there may be a result on the financial base and the supply of money. When the currency is falling, foreign currencies should be sold and the currency should be bought to steady its price. The use of deposits of the national currency to do this suggest that the prepared deposits of the banking sector must be reduced, causing the financial base to fall, affecting the supply of money. Equally by selling thenational currency to decrease its rate, the monetary base will increase. Securities may be sold on the open market in an effort to dampen the effects of inflows of t

The market that borrows and lends short-term funds is called the money market. The instruments in the money market are short-term in nature and are highly liquid. Money market plays an important function of transferring funds to those economic units who have short-term requirements for funds. In money markets short-term debts instruments in particular are traded by individuals, corporations, government. The short-term instruments are with a maturity of one year or less is issued by those economic units that require short-term funds and lent by people who have surplus short-term funds. The need for money market arises due to the immediate cash requirements of people which do not necessarily match with their cash receipts. Participants in money market and their roles played   Government - Borrower/Issuers Central Bank- Intermediary Banks - Borrower/Issuers Financial Institutions - Borrower/Issuers Corporate Units - Issuers MF’s, - lenders/Investors Dealer

As you may know, I covered derivatives, types of derivatives, hedging and futures concepts in the previous article . I also explained the concept of Future Contracts and its uses. Options An option is a contract where the buyer has the “right” (depends on buyer to execute it), but not the “obligation” (legally bonded) to buy or sell an underlying asset (a stock or index) at a specific price on or before a certain date. An option is a security, just like a stock or bond, and constitutes a binding legal contract with strictly defined terms and conditions. Futures Vs Options Remember from the previous article, Futures are contracts where both the buyer and the seller have the obligation to honor the contract whereas option does not involve any obligation for both the parties. A contract is a zero sum game i.e. one party will book loss while the other take home the profit. Ifthe contract is futures, the losing party will pay the winning party. However, in options, the buyer will d