UPSC CSE Prelims
Financial Markets and Institutions Previous Year Questions (PYQs)
Showing solved Previous Year Questions for Chapter: Financial Markets and Institutions
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Consider the following statements:
- In India, credit rating agencies are regulated by Reserve Bank of India.
- The rating agency popularly known as ICRA is a public limited company.
- Brickwork Rating is an Indian credit rating agency.
Which of the statements given above are correct?
Detailed Explanation:
Answer: Option 2 — 2 and 3 only
This question tests knowledge about the regulatory framework and nature of credit rating agencies in India. Statement 1 is incorrect as credit rating agencies are regulated by SEBI, not RBI. Statements 2 and 3 are correct regarding ICRA's status as a public limited company and Brickwork Ratings being an Indian credit rating agency.
❌ Statement 1 – Incorrect: Credit rating agencies in India are regulated by the Securities and Exchange Board of India (SEBI) under the SEBI (Credit Rating Agencies) Regulations, 1999, not by the Reserve Bank of India.
✅ Statement 2 – Correct: ICRA Limited (formerly Investment Information and Credit Rating Agency of India Limited) is indeed a public limited company, established in 1991 and listed on both BSE and NSE.
✅ Statement 3 – Correct: Brickwork Ratings (BWR) is a SEBI-registered Indian credit rating agency established in 2007, promoted by Canara Bank, and recognized as an External Credit Assessment Institution (ECAI) by RBI.
📝 Short Notes: Credit Rating Agencies in India
- Regulatory Authority: SEBI regulates credit rating agencies through SEBI (Credit Rating Agencies) Regulations, 1999
- Major CRAs in India: CRISIL, CARE, ICRA, India Ratings and Research, Brickwork Ratings, SMERA, Infomerics
- ICRA: Established in 1991, public limited company, listed on stock exchanges, subsidiary of Moody's Investors Service
- Brickwork Ratings: Established in 2007, promoted by Canara Bank, SEBI-registered and RBI-recognized as ECAI
- Function: CRAs assess creditworthiness of debt instruments, companies, and governments; ratings help investors make informed decisions
- RBI's Role: While RBI does not regulate CRAs, it recognizes certain agencies as ECAIs for bank capital adequacy calculations
With reference to Convertible Bonds consider the following statements:
- As there is an option to exchange the bond for equity, Convertible Bonds pay a lower rate of interest.
- The option to convert to equity affords the bondholder a degree of indexation to rising consumer prices.
Which of the statements given above is / are correct?
Detailed Explanation:
Answer: Option 3 — Both 1 and 2
A convertible bond is a hybrid debt security that gives the bondholder the right to convert the bond into a predetermined number of equity shares of the issuing company. Because of this valuable conversion feature, convertible bonds typically offer lower coupon rates compared to regular bonds, making them attractive to issuers seeking to reduce interest expenses. Additionally, the conversion option provides bondholders with protection against inflation, as equity prices tend to rise with inflation, offering a degree of indexation to consumer prices.
✅ Statement 1 – Correct: Convertible bonds pay a lower rate of interest because investors are willing to accept reduced coupon payments in exchange for the valuable option to convert the bond into equity shares, which can potentially appreciate significantly.
✅ Statement 2 – Correct: The conversion option acts as an inflation hedge because equity prices generally rise with inflation, providing bondholders with indexation to rising consumer prices that fixed-interest bonds cannot offer.
📝 Short Notes: Convertible Bonds
- Definition: Hybrid securities combining features of debt (fixed interest) and equity (conversion option).
- Lower Coupon Rate: Investors accept 1-2% lower interest compared to regular bonds due to the conversion feature.
- Conversion Ratio: Predetermined number of shares the bondholder receives upon conversion.
- Benefits to Issuer: Lower interest costs and delayed equity dilution until conversion.
- Benefits to Investor: Fixed income with upside potential if company's stock price appreciates; inflation protection through equity exposure.
- Conversion Price: Usually set at a premium (15-30%) above the stock price at issuance.
- Types: Vanilla convertibles (bondholder's option), mandatory convertibles (automatic conversion), and reverse convertibles.
India Government Bond Yields are influenced by which of the following?
- Actions of the United States Federal Reserve.
- Actions of the Reserve Bank of India.
- Inflation and short-term interest rates.
Which of the statements given above is/are correct?
Detailed Explanation:
Answer: Option 4 — 1, 2 and 3
Indian Government Bond Yields are influenced by multiple domestic and international factors. All three statements correctly identify key determinants of bond yields in India.
✅ Statement 1 – Correct: The US Federal Reserve's monetary policy decisions, especially interest rate changes, affect global capital flows and can make US assets more or less attractive relative to Indian bonds, thereby influencing yields.
✅ Statement 2 – Correct: The Reserve Bank of India directly influences bond yields through monetary policy tools like repo rate adjustments, open market operations (OMOs), and liquidity management measures.
✅ Statement 3 – Correct: Inflation expectations and short-term interest rates are fundamental determinants of bond yields, as investors demand higher yields to compensate for inflation risk and benchmark against prevailing short-term rates.
📝 Short Notes: Factors Influencing Government Bond Yields
- Monetary Policy: Central bank actions (RBI's repo rate, CRR, SLR, OMOs) directly impact liquidity and interest rate environment, affecting bond demand and yields.
- Inflation: Higher inflation expectations lead to higher yields as investors demand compensation for erosion of real returns.
- Global Factors: US Fed policy, global risk sentiment, and foreign portfolio investor (FPI) flows significantly influence emerging market bond yields including India.
- Fiscal Deficit: Higher government borrowing increases bond supply, potentially pushing yields higher.
- Economic Growth: Strong growth prospects can lead to expectations of tighter monetary policy, affecting yields.
- Currency Movement: Rupee depreciation concerns can lead to FPI outflows, increasing yields.
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With reference to India, consider the following statements:
- Retail investors through demat account can invest in ‘Treasury Bills’ and ‘Government of India Debt Bonds’ in primary market.
- The ‘Negotiated Dealing System-Order Matching’ is a government securities trading platform of the Reserve Bank of India.
- The ‘Central Depository Services Ltd.’ is jointly promoted by the Reserve Bank of India and the Bombay Stock Exchange.
Which of the statements given below is/are correct?
Detailed Explanation:
Answer: Option 2 — 1 and 2
Statements 1 and 2 are correct as they accurately describe the RBI Retail Direct scheme for retail investors and the NDS-OM platform for government securities trading. Statement 3 is incorrect because CDSL was promoted by BSE with commercial banks, not the RBI.
✅ Statement 1 – Correct: Under the RBI Retail Direct scheme launched in November 2021, retail investors can invest in Treasury Bills and Government of India Debt Bonds in the primary market through their demat accounts or by opening a Retail Direct Gilt (RDG) account.
✅ Statement 2 – Correct: The Negotiated Dealing System-Order Matching (NDS-OM) is an anonymous, electronic, screen-based trading platform for government securities owned by the Reserve Bank of India and operated by the Clearing Corporation of India Limited (CCIL).
❌ Statement 3 – Incorrect: Central Depository Services Ltd (CDSL) was promoted by the Bombay Stock Exchange (BSE) in association with leading commercial banks like State Bank of India, Bank of India, and HDFC Bank, not by the RBI.
📝 Short Notes: Government Securities Market Infrastructure
- RBI Retail Direct Scheme: Launched in November 2021 to enable direct retail participation in government securities markets through online portal.
- NDS-OM Platform: Electronic trading platform for G-Secs operated since 2005; provides anonymous order matching for primary dealers, banks, and other eligible participants.
- Central Depositories in India: Two depositories - NSDL (promoted by NSE, IDBI Bank, and Unit Trust of India) and CDSL (promoted by BSE with commercial banks).
- Treasury Bills: Short-term government securities with maturities of 91 days, 182 days, and 364 days; issued at discount and redeemed at face value.
- Government of India Bonds: Long-term debt instruments issued by the Central Government with varying maturities ranging from 5 to 40 years.
In the context of the Indian economy, non-financial debt includes which of the following?
- Housing loans owed by households
- Amounts outstanding on credit cards
- Treasury bills
Select the correct answer using the code given below:
Detailed Explanation:
Answer: Option 4 — 1, 2 and 3
Non-financial debt encompasses all debt obligations incurred by non-financial sectors of the economy, including households, businesses, and government. All three statements represent legitimate components of non-financial debt.
✅ Statement 1 – Correct: Housing loans owed by households are credit obligations of the non-financial sector and constitute non-financial debt.
✅ Statement 2 – Correct: Credit card outstanding amounts represent consumer debt owed by households (non-financial sector) to financial institutions and are included in non-financial debt.
✅ Statement 3 – Correct: Treasury bills issued by the Government of India represent government borrowing; since government is part of the non-financial sector, T-bills and similar government securities are classified as non-financial debt.
With reference to the Indian economy, consider the following statements:
- ‘Commercial Paper’ is a short-term unsecured promissory note.
- ‘Certificate of Deposit’ is a long-term instrument issued by the Reserve Bank of India to a corporation.
- ‘Call Money’ is a short-term finance used for interbank transactions.
- ‘Zero-Coupon Bonds’ are the interest bearing short-term bonds issued by the Scheduled Commercial Banks to corporations.
Which of the statements given above is/are correct?
Detailed Explanation:
Answer: Option 3 — 1 and 3 only
This question tests knowledge of various money market instruments in the Indian economy. Statements 1 and 3 correctly describe Commercial Paper and Call Money, while statements 2 and 4 contain factual inaccuracies regarding Certificate of Deposit and Zero-Coupon Bonds.
✅ Statement 1 – Correct: Commercial Paper (CP) is indeed a short-term unsecured promissory note issued by highly rated corporations to raise short-term funds, introduced in India in 1990.
❌ Statement 2 – Incorrect: Certificate of Deposit (CD) is a short-term (not long-term) negotiable instrument issued by Scheduled Commercial Banks and select All-India Financial Institutions, not by the Reserve Bank of India.
✅ Statement 3 – Correct: Call Money refers to overnight borrowing/lending between banks (1 day), used for interbank transactions; funds borrowed for more than 1 day up to 14 days are called Notice Money.
❌ Statement 4 – Incorrect: Zero-Coupon Bonds do not bear periodic interest; they are issued at a deep discount to face value and redeemed at par, with the difference representing the return. They are not specifically issued by Scheduled Commercial Banks to corporations.
📝 Short Notes: Money Market Instruments
| Instrument | Nature | Issuer | Key Features |
|---|---|---|---|
| Commercial Paper (CP) | Short-term unsecured promissory note | Highly rated corporations | Maturity: 7 days to 1 year; introduced in 1990 |
| Certificate of Deposit (CD) | Short-term negotiable instrument | Scheduled Commercial Banks & select FIs | Maturity: 7 days to 1 year; cannot be withdrawn before maturity |
| Call Money | Very short-term interbank loan | Banks to banks | Overnight (1 day); Notice Money: 2-14 days |
| Treasury Bills (T-Bills) | Short-term government security | Government of India | Zero-coupon; maturity: 91, 182, 364 days |
| Zero-Coupon Bonds | Long-term debt instrument | Government/Corporations | No periodic interest; issued at discount, redeemed at par |
Consider the following statements:
- The Reserve Bank of India manages and services Government of India Securities but not any State Government Securities.
- Treasury bills are issued by the Government of India and there are no treasury bills issued by the State Governments.
- Treasury bills are issued at a discount from the par value.
Which of the statements given above is/are correct?
Detailed Explanation:
Answer: Option 3 — 2 and 3 only
Only statements 2 and 3 are correct. The RBI manages securities for both Central and State Governments, making statement 1 incorrect. Treasury Bills are exclusively issued by the Government of India (not by states), and they are zero-coupon instruments issued at a discount to face value and redeemed at par on maturity.
❌ Statement 1 – Incorrect: RBI manages and services both Government of India Securities and State Government Securities (State Development Loans).
✅ Statement 2 – Correct: Treasury Bills are issued only by the Government of India; State Governments issue State Development Loans (SDLs) instead.
✅ Statement 3 – Correct: Treasury Bills are zero-coupon instruments issued at a discount from par value and redeemed at par on maturity.
📝 Short Notes: Government Securities and Treasury Bills
- RBI as Debt Manager: RBI acts as banker and debt manager for both Central Government and State Governments under agreements.
- Treasury Bills (T-Bills): Short-term money market instruments issued only by the Government of India through RBI. Maturities: 91 days, 182 days, and 364 days.
- Zero-Coupon Instruments: T-Bills do not carry any interest payment; they are issued at a discount and redeemed at face value. The difference represents the implicit interest.
- State Government Borrowing: States cannot issue Treasury Bills. They issue State Development Loans (SDLs) for their borrowing requirements, which are dated securities with coupon payments.
- Government Securities (G-Secs): Long-term debt instruments issued by both Central and State Governments. Central G-Secs and SDLs are managed by RBI.
What does venture capital mean?
Detailed Explanation:
Venture capital is long-term equity financing provided to start-ups and new entrepreneurial ventures with high growth potential but higher risk.
Option 1 is incorrect as venture capital is long-term, not short-term; Option 3 refers to bailout funds or emergency financing, not venture capital; Option 4 describes replacement/modernization capital, which is different from venture funding for new businesses.
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