Description

Financial Institutions and Markets

April 2025 Examination

 

 

Q1. Mr. Arjun is the Chief Financial Officer (CFO) of ABC Bank, a leading private sector bank. Recently, the banking sector has been grappling with increasing non-performing assets (NPAs) and financial instability. ABC Bank is also expected to release its quarterly financial results in the coming weeks, which indicate a significant rise in NPAs. Mr. Arjun, being privy to sensitive financial data, shares this information with a close associate, who then liquidates their significant holdings in the bank’s stocks to avoid losses from the anticipated market reaction. Upon investigation, the Reserve Bank of India (RBI) uncovers the violation and penalizes both Mr. Arjun and his associate for breaching ethical and legal standards under banking regulations.

In light of the above case, explain the importance of the Reserve Bank of India (RBI) and discuss its key functions in regulating and supervising the banking and financial sectors.  (10 Marks)

Ans 1.

Introduction

The Reserve Bank of India (RBI), established in 1935 under the Reserve Bank of India Act, is the central banking institution of India, entrusted with the responsibility of regulating and supervising the nation’s financial system. Its primary objective is to ensure monetary stability, maintain public confidence in the financial system, and foster economic growth. In the given case, Mr. Arjun’s unethical dissemination of sensitive financial information underscores the critical role of RBI in maintaining the integrity of the banking system. RBI’s regulatory framework aims to prevent such malpractices, safeguard investor interests, and enhance financial stability. Through stringent guidelines and enforcement of ethical standards, RBI

 

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Q2. Mr. Ajay, a risk-averse investor, is considering Treasury Bills (T-bills) as a secure financial asset that offers guaranteed returns. However, he is unfamiliar with the details of this instrument. Could you explain Mr. Ajay about the Treasury Bills, Its features and functions in detail. Also, explain how T-bills contribute to economic stability.   (10 Marks)

Ans 2.

Introduction

Treasury Bills (T-bills) are short-term financial instruments issued by the Government of India to meet its short-term borrowing needs. They are considered one of the safest investment options as they are backed by the sovereign guarantee of the government. T-bills are issued at a discount to their face value and redeemed at par upon maturity, with the difference representing the investor’s return. These risk-free securities are popular among conservative investors like Mr. Ajay, seeking guaranteed returns without exposure to market volatility. Understanding the features and functions of T-bills can help Mr. Ajay make informed investment decisions. Moreover, T-bills play a crucial role in maintaining economic

 

Q3a. Mr. Ravi, working in the portfolio management department of Alpha Ltd., was tasked with training new recruits about the risks inherent in the financial market. Recognizing the importance of understanding both returns and risks, he decided to broadly classify risks into two categories and explain each type to the trainees. As part of the session, he focused on systematic risk and its various types. If you were Mr. Ravi, how would you explain the different types of risks associated with systematic risk?   (5 Marks)

Ans 3a.

Introduction

Systematic risk refers to the inherent risk that affects the entire financial market or economy, influencing all investments within the market. Unlike unsystematic risk, which is specific to a company or industry, systematic risk cannot be eliminated through diversification. It is caused by macroeconomic factors such as inflation, interest rates, geopolitical events, and economic recessions. Understanding systematic risk is crucial for investors and financial

 

 

Q3b. Illustrate one real-world example of unsystematic risk, explaining its cause, impact on the company, and how it could have been mitigated through diversification.   (5 Marks)

Ans 3b.

Introduction

Unsystematic risk is the risk specific to a company, industry, or sector that does not impact the entire financial market. It arises from internal factors such as management decisions, operational inefficiencies, or competitive pressures. Unlike systematic risk, unsystematic risk can be mitigated through diversification. A real-world example illustrates how unsystematic risk can impact a company’s financial performance and how a well-diversified investment