Understanding the Money Market: Characteristics, Functions, and Instruments

Understanding the Money Market Characteristics, Functions, and Instruments

Nikereact.org – When you hear the word market, might imagine a place where the circulation of money is bustling with sellers and buyers. Basically, the market is indeed a place where economic activity takes place between buyers and sellers. However, more than that, various types of markets have emerged in this modern era.

One example of a modern market is the financial market. According to Eko Sudarmanto, et al in a book entitled “Money Markets and Capital Markets”, the financial market is a market mechanism that allows a person or corporation to easily make buying and selling transactions in the form of financial securities. Financial markets exist to meet the need for investment for investors and capital for capital seekers.

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The role of the financial market is very important because it manages the funds and finances of investors who often determine the fate of a company or individual. For this reason, financial markets must be run in a transparent and effective manner. This is because financial market failures can disrupt national and even global economic stability.

There are different types of financial markets that sell commodities with different timeframes. The financial market according to the maturity period is divided into two, namely the money market and the capital market. The following is an in-depth explanation of the money market.

Understanding Money Market

Understanding the Money Market Characteristics, Functions, and Instruments

According to Eko Sudarmanto, et al, the money market or what is also known as the money market is an abstract meeting place where owners of short-term funds can offer to potential users who need them either directly or through intermediaries. money market is part of the financial system related to trading activities, lending and borrowing, or short-term funding of up to one year in rupiah and foreign currencies, which plays a role in the transmission of monetary policy, achieving financial system stability, and smoothing the payment system.

In short, the money market is a place where short-term funding instruments are traded by owners of capital to borrowers of capital. The money market exists to answer the need for a number of costs or short-term funds that must be met as quickly as possible. This market is also referred to as the short-term credit market because the instruments traded have a short time period of up to one year.

Money market instruments can be converted into cash quickly and at relatively low cost. In addition, transactions in the money market also carry low price risk due to their short maturity.

The money market occupies a central place in the modern financial system. As a source of funding, the money market is expected to be able to support an efficient funding climate. The money market also plays an important role in determining the sustainability of monetary policy, national economic stability, and the smooth circulation of the rupiah.

Money Market Characteristics

1. Abstract Location

Money markets do not have a physical location or place where sellers, intermediaries, and potential buyers meet. Therefore, the money market is often referred to as an abstract place. This is due to transactions in the money market carried out in the Over the Counter Market (OCTC). That is, buying and selling activities are carried out behind the desk or room of each of the actors.

2. Not Organized

Due to the absence of a special place for transactions and a direct regulatory authority, the management of the money market has become less organized. Even so, the sustainability of the money market is still monitored and protected by laws derived from the central bank of each country.

In Indonesia itself, the highest authority on the money market is Bank Indonesia as the national central bank. Every money market transaction needs to pay attention to the laws and regulations regarding the state treasury regarding the use of Government Securities instruments. Market participants are also required to have competence and credibility as evidenced through Treasury Certification.

3. Short-Term Instruments

The money market has a short term ranging from overnight to one year. For this reason, instruments traded in the money market are also short-term with primary liquidity.

4. Short Term Goals

Capital seekers through the money market need funds that can be disbursed or used immediately because they are intended to finance short-term needs.

5. Low risk and return

Every investment has parallel natural characteristics, namely the level of risk (risk) will be balanced with the value of the benefit (return) received. The money market has low price risk as well as low costs due to the short financing period.

Money Market Function

1. Source of Funding

The money market is a means of bringing capital owners together with capital borrowers. For capital seekers, money or funds owned by investors can be used to finance working capital or business expansion. Thus, the money market is one source of funding that can be utilized by capital seekers. This is also in line with Bank Indonesia’s expectation that the money market in Indonesia can become an alternative source of funding.

There are two types of short-term funding involved in money market transactions; spontaneous funding and funding that requires negotiation. Spontaneous funding is a type of funding that occurs due to changes in circumstances during economic activity. Funding that requires negotiation is the type of funding that requires formal discussion and agreement throughout the process.

2. Investment Facility

Owners of capital can channel their funds in the money market so that the money can spin and even make profits at a later date. This activity is also called investing.

3. Involving Community Participation

With the money market, people can put their excess funds through the sale of short-term securities. These short-term securities are issued by the government in order to obtain additional capital to support the country’s development. This is also one of the government’s efforts to involve the role of the community in the development of the country as investors or investors.

4. Maintaining Economic Stability

One of the main objectives of the seeker of capital in the short term is to meet the urgent need for financing. This can apply to both companies and individuals. If these needs are not met, a company’s income can be disrupted and even go bankrupt. The unemployment rate is unavoidable and has an impact on the economic growth deficit.

5. Become a Facilitator and Mediator

The money market brings together parties who have excess funds (investors or owners of capital) and those who need funds (borrowers or capital seekers). With this, the money market functions as a facilitator that bridges the distribution of funds from capital owners to capital borrowers.

Main Participants of Money Market

There are several parties involved in trading the money market. The following are the main or major actors who play an important role in a transaction in the money market.

1. Commercial Bank

According to the Financial Services Authority (OJK), a commercial bank is a bank that conducts business activities conventionally and/or based on sharia principles, with activities that provide services in payment transfers. Commercial banks are also often called commercial banks. Banks that we usually encounter in Indonesia fall into this category.

Banks play three important roles in the money market. First, banks borrow in money markets to fund their loan portfolios and to raise funds. The important role of the two banks in the money market is as a dealer in the interest rate derivative market without going through an exchange. The third role of banks in money markets is to provide—in exchange for fees—commitments that help ensure that investors in money market securities are paid on time.

2. Government

The government’s role in the money market is to raise large amounts of funds. This can be done in various ways, such as issuing securities or selling short-term obligations.

3. Company

Non-financial businesses and non-bank financial businesses raise funds in the money market primarily by issuing securities. In recent years, more and more companies have gained access to this market. Business firms—mostly those involved in international trade—also raise funds in the money market through bankers’ acceptances.

4. Futures Exchange

Money market futures contracts and futures options are traded on organized exchanges that establish and enforce trading rules. A money market futures contract is a standard agreement to buy or sell money market securities at a specified price on a specified future date. A money market futures option gives the holder the right, but not the obligation, to buy or sell a money market futures contract at a specified price on or before a specified date.

5. Brokers and Dealers

The smooth functioning of the money market is highly dependent on brokers (brokers) and dealers, who play a key role in marketing money market instruments and provide a secondary market where outstanding liabilities can be sold before maturity.

Dealers use repurchase agreements to finance their stock of securities. Dealers also act as intermediaries between other participants in the repurchase agreement market by providing loans to those wishing to borrow in the market and borrowing from those wishing to lend in the market.

Brokers match buyers and sellers of money market instruments on a commission basis. Brokers play a major role in connecting borrowers and lenders in the money market and are also active in a number of other markets as intermediaries in trade between dealers.

In simple terms, dealers manage trades or make transactions on their own behalf. Meanwhile, brokers trade money market instruments on behalf of others or on behalf of others in exchange for being paid to them.

6. Central Bank

Central banks are key participants in financial markets. A central bank controls the supply of reserves available to banks and other depository institutions primarily through the buying and selling of bills, either directly on the bill market or on an interim basis for repurchase agreements.

In addition to ensuring the supply of funds, the central bank also implements a number of regulations for the sustainability of the money market. It aims to provide a legal basis that is used as a guide for money market players. The highest authority on the money market in Indonesia is Bank Indonesia, while in the United States, this authority is also held by the central bank, the Federal Reserve (The Fed).

Money Market Instrument Funding Source

The money market only trades short term instruments. Therefore, money market funding sources are short-term sources of funding. The following are some sources of funding that are transacted in the money market.

1. Trade Credit

Accounts payable is money owed to suppliers of goods and services as a result of purchasing goods or services on one date, but paying for the goods at a later date. Accounts payable is viewed as a free source of finance because interest is not usually charged by the supplier unless payment is due. However, accounts payable may incur hidden costs.

2. Short-term loans

A short-term loan is a certain nominal agreed to be provided by the bank to the applicant along with an arrangement fee that must be paid depending on the amount borrowed in a period of less than one year. There are two types of short-term loans offered by banks, namely unsecured loans and secured loans. Secured loans require the borrower to meet administrative requirements such as the ability to pay the debt along with the interest along with the consequences that must be met if it fails to pay. While unsecured loans are loans that are made without collateral, but require the borrower to meet the minimum balance set by the bank every month.

3. Factoring

Factoring is short-term funding made by spending cash receipts related to unpaid invoices. This method is usually applied by companies waiting for payment and is offered to companies that buy receivables (factor companies).

Money Market Instruments in Indonesia

  • Bank Indonesia Certificate (SBI) is one of the money market instruments in the form of securities issued by Bank Indonesia in a certain amount. SBIs have a maturity of less than one year and must be paid to the holder according to a pre-agreed date.
  • Money Market Securities (SBPU) are money market instruments in the form of securities which are usually issued by commercial banks. However, SBPU is only transacted between the issuing institution and BI.
  • Certificates of Deposit have been used by banks and other depository institutions as a source of purchased funds and as a means to manage their liability positions. This instrument is also in the form of securities issued by commercial banks in a nominal, period, and interest rate.
  • Commercial Paper Promissory Notes are short-term, unsecured promissory notes issued by foreign companies and governments. For many large credit-worthy issuers, commercial paper promissory notes are a low-cost alternative to bank loans. Issuers can efficiently raise large amounts of funds quickly, either directly or through independent dealers, to a large and diverse pool of institutional buyers. Commercial paper promissory notes investors get competitive and market-determined returns in the form of notes that mature and the amount can be tailored to their specific needs.
  • Call Money, according to Eko Sudarmanto, et al. is an activity of borrowing and borrowing funds between one bank and another for a short period of time.
  • A repurchase agreement refers to a type of transaction in which a money market participant obtains immediately available funds by selling securities and simultaneously agrees to repurchase the same or similar securities after a certain time at a specified price, which usually includes interest at an agreed rate.
  • Banker’s Acceptance is a note drawn and received by the bank. Prior to acceptance, the note is not an obligation of the bank; but only a drawing order to the bank to pay a certain amount of money on a certain date to the named person or to the bearer of the money order. At the time of acceptance, which occurs when an authorized bank employee stamps the note “accepted” and signs it, the note becomes the primary and unconditional obligation of the bank.

That’s a complete review of the money market.

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