Key Questions and Insights into the Indian Economy and Financial System

Bankersrise
Oct 21
13 min read

The Indian economy is a vibrant tapestry of opportunities and challenges. With a population of over 1.4 billion and a GDP growth rate of 7.5% in 2022, India stands as one of the fastest-growing economies globally. This growth is fueled by a mix of tradition and innovation, making it essential for anyone interested in financial management or investment in India to grasp its complexities. This blog post answers key questions about the Indian economy and its financial system, especially for those preparing for the JAIIB examination.

What are the key features of the Indian economy?

The Indian economy is uniquely characterized by several noteworthy features:

Mixed Economy: India’s economy combines capitalism and socialism. The private sector drives innovation, while the government plays a vital role in regulating and supporting various sectors.
Agricultural Base: Around 41% of the workforce is engaged in agriculture, which contributes about 18% to the GDP. Despite urbanization, agriculture remains a backbone of rural employment and food security.
Service Sector Dominance: The service sector contributes approximately 55% of the GDP. Sectors like IT and telecommunications are not only key components but also attract 48% of the total FDI inflows, showcasing their importance.
Diverse Industries: India boasts a wide range of industries, from textiles to automotive. For instance, the auto sector contributes about 7% to the GDP and employs over 37 million people.
Growing Middle Class: India’s middle class is projected to exceed 600 million by 2030. This has led to increased consumption, contributing significantly to economic growth.
Global Integration: FDI inflows reached around $84 billion in 2021, reflecting India's growing ties with global markets. International trade also plays a crucial role in boosting economic development.
Regulatory Framework: The economy operates within a robust regulatory structure designed to ensure stability and clarity for businesses, enhancing investor confidence.

How does the Indian financial system function?

The Indian financial system is an intricate framework involving multiple components:

Financial Institutions: India has over 150 commercial banks and around 1,600 NBFCs, which play a critical role in mobilizing savings. In 2022, the banking sector’s total assets were around $2.4 trillion.
Financial Markets: The money market and capital market facilitate transactions, including stocks and bonds. In fiscal year 2020-21, the total capital raised through the public issue of shares exceeded ₹56,000 crores.
Regulatory Bodies: The Reserve Bank of India (RBI) oversees the financial system, while SEBI regulates the stock market. Together, they help maintain order and protect investors.
Financial Instruments: Investors can access various instruments, from equity shares to government bonds. The market for mutual funds has seen growth, with asset under management (AUM) reaching ₹37 trillion in early 2023.
Payment Systems: Payment systems include traditional cheque services and modern digital payments. The Unified Payments Interface (UPI) saw transactions worth ₹84 trillion in the fiscal year 2021-22.

What are the challenges facing the Indian economy?

Even with its potential, the Indian economy is grappling with several significant challenges:

Unemployment: The unemployment rate was around 7.9% in 2022, with youth unemployment being particularly concerning, hindering sustainable growth.
Inflation: Inflation levels averaged 7.0% in 2022, significantly affecting purchasing power and savings rates.
Income Inequality: The richest 10% hold 77% of the nation’s wealth, creating visible social disparities that can lead to unrest.
Infrastructure Deficits: India requires nearly $1.5 trillion by 2040 to improve infrastructure. Lack of quality infrastructure in transportation and power affects economic efficiency.
Regulatory Hurdles: Navigating bureaucratic processes remains a barrier for entrepreneurs. The World Bank ranks India 63rd out of 190 countries in ease of doing business.
Global Economic Uncertainties: Factors like global economic shifts, trade wars, and geopolitical tensions can significantly disrupt progress.

How does the Indian government influence the economy?

The Indian government plays a pivotal role in shaping the economy through various strategies:

Monetary Policy: The RBI controls inflation through interest rates. In 2022, it raised rates multiple times to manage rising inflation.
Fiscal Policy: The government’s budget aims to improve infrastructure and boost sectors like health and education, impacting economic activity.
Regulatory Framework: By implementing laws that govern different sectors, the government fosters a competitive environment while protecting consumers.
Public Sector Enterprises: The government owns significant enterprises in sectors such as electricity and transportation, with companies like Bharat Heavy Electricals Limited contributing to the economy.
Social Welfare Programs: Initiatives like the Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA) have provided jobs for over 11 million households, improving living standards.
Trade Policies: Policies that encourage exports and regulate imports help manage the trade deficit. The government aims for a $5 trillion economy by 2025, emphasizing export-led growth.

What is the role of the Reserve Bank of India (RBI)?

The RBI is central to India's financial health and stability:

Monetary Authority: By regulating inflation and credit flow, the RBI supports economic stability. Its recent actions have focused on reducing inflation from above 6% to below this threshold.
Regulator of Financial Institutions: The RBI ensures the soundness of banks and financial institutions, including enforcing the Basel III standards for risk management.
Issuer of Currency: The RBI issues currency notes and ensures the money supply in the economy aligns with payment needs.
Manager of Foreign Exchange: It oversees the foreign exchange market, with foreign reserves amounting to $633 billion as of early 2023.
Banker to the Government: The RBI helps manage the government’s accounts and public debt, guiding fiscal policy strategies.
Developmental Role: Initiatives like the Pradhan Mantri Jan Dhan Yojana aim to enhance financial inclusion, bringing millions into the banking system.

How does the Indian stock market operate?

The Indian stock market is crucial for capital formation, functioning in various ways:

Stock Exchanges: The Bombay Stock Exchange (BSE) and National Stock Exchange (NSE) are the primary venues for trading shares, handling daily turnovers of over ₹75,000 crore.
Market Participants: Diverse participants include retail and institutional investors, with retail investors making up about 49% of trading volume.
Regulatory Oversight: SEBI ensures transparency and fairness, leading to increased investor confidence. In 2021-22, 76 companies listed their IPOs on Indian exchanges.
Initial Public Offerings (IPOs): Companies raised nearly ₹1 lakh crore through IPOs in 2021, reflecting strong market demand.
Market Indices: Key indices like Sensex and Nifty serve as barometers for market health, influencing investor decisions.
Trading Mechanism: The electronic order book system streamlines trading, allowing quick matching of buy and sell orders.

Eye-level view of a bustling stock exchange floor — A vibrant stock exchange floor with traders actively engaged in buying and selling stocks.

What is the significance of financial inclusion in India?

Financial inclusion plays a vital role in fostering a healthy economy. Some key aspects include:

Poverty Alleviation: With 200 million people gaining access to banking since 2014, financial services help in saving, investing, and managing risks, contributing to poverty reduction.
Economic Growth: Financially included citizens are more likely to start businesses. For instance, microfinance enables small-scale entrepreneurs to generate income and jobs.
Empowerment of Women: Initiatives, such as self-help groups, target women's access to credit, enhancing their economic and social standing.
Reduction of Informal Lending: Providing access to formal lenders helps lower reliance on informal loans, which can carry exorbitant interest rates, protecting borrowers.
Improved Financial Literacy: Financial inclusion initiatives often include educational programs about saving, investment, and budgeting, raising overall awareness.
Stability of the Financial System: A wider base of savers and investors strengthens the financial system, ensuring more robust economic resilience.

How does the Indian economy respond to global economic changes?

The Indian economy adapts to global shifts in several notable ways:

Trade Dynamics: Changes in global demand impact India's exports, including textiles and technology. In 2021, India's exports grew by 41% year-on-year.
Foreign Investment: Global conditions impact FDI, which was around $83 billion in 2022, highlighting India's attractiveness as an investment destination.
Commodity Prices: Volatility in global prices for essentials like oil can directly influence inflation and trade balances. For example, oil price increases can lead to higher transportation and manufacturing costs.
Currency Fluctuations: The Indian Rupee’s value against currencies like the U.S. dollar can fluctuate, affecting import costs. A 5% depreciation can increase import bills significantly.
Policy Adjustments: The RBI and the government may revise monetary and fiscal policies based on global trends to ensure stability, like reducing taxes on imports during price hikes.
Economic Resilience: India’s diverse economy allows it to withstand shocks better than many nations. Resilience was evident during the COVID-19 pandemic when the economy started rebounding by 2021, showcasing its adaptability.

Final Thoughts

Grasping the dynamics of the Indian economy and its financial system is crucial for anyone engaged in this evolving landscape. From the unique features that shape the economy to the pressing challenges and roles of key institutions, this post delves into critical insights. Staying updated is essential not just for investment or policymaking, but also for understanding how to navigate this complex environment effectively. For those preparing for the JAIIB examination, a firm understanding of these concepts will enhance your competence in addressing future economic opportunities and challenges.

Here is the Answers and questions related to Exams.:

Evolution of Indian Economy

Q: What was India’s share in global GDP around 1600 AD?
A: Approximately 23%.
Q: How did British colonialism affect the Indian economy?
A: It caused deindustrialization, decline in trade, and wealth drain leading to economic stagnation.
Q: What are the main characteristics of the Indian economy post-independence?
A: Rapid population growth, low per capita income, reliance on agriculture, and slow industrial development.
Q: What system replaced the Planning Commission in India?
A: NITI Aayog.
Q: What is the objective of economic planning?
A: To coordinate development for growth, equity, and poverty alleviation.

Sectors of Indian Economy

Q: What are the three primary sectors of the economy?
A: Primary (agriculture), Secondary (industry), and Tertiary (services).
Q: Which sector contributes the most to India’s GDP currently?
A: The Tertiary sector (services).
Q: Define the Quaternary sector.
A: Knowledge-based activities like education, research, and information technology.
Q: What is the Quinary sector?
A: High-level decision-making organizations like government officials and top corporate executives.

Economic Planning

Q: What is the focus of India’s Five-Year Plans historically?
A: Balanced growth, social justice, self-reliance, and poverty reduction.
Q: How does NITI Aayog differ from the Planning Commission?
A: It promotes cooperative federalism, innovation, and bottom-up planning.

Priority Sector Lending (PSL)

Q: What sectors are covered under Priority Sector Lending?
A: Agriculture, MSMEs, exports, education, housing, renewable energy, and weaker sections.
Q: What is the PSL target for banks?
A: Banks must allocate a certain percentage (currently 40%) of their total lending to these sectors.

Micro, Small, and Medium Enterprises (MSMEs)

Q: Why are MSMEs important?
A: They generate employment, promote exports, and stimulate innovation.
Q: Name one government scheme supporting MSMEs.
A: Emergency Credit Line Guarantee Scheme (ECLGS).

Infrastructure in India

Q: What is physical infrastructure?
A: Roads, ports, power plants, airports.
Q: What is social infrastructure?
A: Education, healthcare, sanitation facilities.
Q: Give one example of a government infrastructure initiative.
A: Bharatmala for highways.

Basic Economic Concepts

Q: What is microeconomics?
A: Study of individual economic agents' behavior.
Q: What is macroeconomics?
A: Study of economy-wide phenomena like inflation and GDP.
Q: State the law of demand.
A: Demand decreases as price increases, ceteris paribus.
Q: Define inflation.
A: A sustained increase in the general price level of goods and services.
Q: What are the two types of inflation?
A: Demand-pull and cost-push inflation.
Q: What is liquidity preference?
A: Demand for money for transaction, precautionary, and speculative motives.

Monetary Policy

Q: Name monetary policy tools used by RBI.
A: Repo rate, Cash Reserve Ratio (CRR), Statutory Liquidity Ratio (SLR), Open Market Operations.
Q: What is the role of Monetary Policy Committee (MPC)?
A: To set the policy repo rate to control inflation and growth.

Business Cycles

Q: What are the phases of a business cycle?
A: Expansion, Peak, Recession, Trough, Recovery.

Fiscal Policy

Q: What does fiscal policy involve?
A: Government’s use of taxation and spending to influence the economy.

Financial System Components

Q: What are the main components of the Indian financial system?
A: Financial institutions, financial markets, financial instruments, and regulatory authorities.
Q: Define Non-Banking Financial Company (NBFC).
A: Financial institutions functioning like banks but not authorized to accept demand deposits.
Q: What is the role of SEBI?
A: Regulate securities markets and protect investors.
Q: What is NABARD’s primary function?
A: Refinance and development of rural and agricultural credit.

Banking Structure

Q: Differentiate Scheduled from Non-Scheduled Banks.
A: Scheduled banks comply with RBI’s criteria and are listed in its schedule; non-scheduled banks do not.
Q: Name types of banks in India.
A: Public Sector Banks, Private Banks, Foreign Banks, Regional Rural Banks, Cooperative Banks, Payments Banks, Small Finance Banks.
Q: When was the first phase of bank nationalization in India?
A: 1969.

Banking Laws

Q: What is the purpose of the Reserve Bank of India Act, 1934?
A: To establish RBI as the central banking institution.
Q: What does the Banking Regulation Act, 1949 regulate?
A: Reserve requirements, opening/closing of banks, management, and control of banking companies.
Q: What is CRR?
A: Cash Reserve Ratio — the minimum fraction of deposits banks must hold as reserves.

Money Market

Q: Name instruments of the money market.
A: Treasury bills, Commercial paper, Certificates of deposit, Repurchase agreements.
Q: What is a commercial paper?
A: Unsecured short-term debt instrument issued by corporations.

Capital Market

Q: What is the primary market?
A: Market for new securities issuance.
Q: What is the secondary market?
A: Market for trading existing securities.
Q: Function of stock exchanges.
A: Facilitate buying/selling of securities, price discovery, liquidity.

Financial Instruments

Q: What are bonds?
A: Debt instruments issued by corporations/governments to raise funds.
Q: What is an equity share?
A: Ownership share in a company entitling the holder to a proportion of profits.

Insurance and Mutual Funds

Q: What is the role of IRDA?
A: Regulate and develop the insurance industry.
Q: Define mutual funds.
A: Pooled investment vehicles managed to invest in diversified assets.

Regulatory Bodies

Q: Functions of RBI.
A: Monetary authority, regulator of banks, issuer of currency, lender of last resort.

Financial Inclusion

Q: What is financial inclusion?
A: Ensuring accessible and affordable financial services for all.
Q: Give examples of financial inclusion initiatives.
A: Pradhan Mantri Jan Dhan Yojana, PMFBY (Crop Insurance), MUDRA loans.

Some more 50 Questions & Answers:

Q: Which economic indicator measures market prices of a fixed basket of goods?
A: Consumer Price Index (CPI).
Q: In which year was the Reserve Bank of India nationalized?
A: 1949.
Q: What does the term 'Fiscal Responsibility and Budget Management (FRBM) Act' refer to?A: A law to ensure fiscal discipline by limiting deficits.
Q: What kind of economy did India have immediately after independence?
A: Mixed economy with major government control and planning.
Q: Define the concept of 'Purchasing Power Parity' (PPP).
A: A measure comparing different countries' currencies through a basket of goods.
Q: What financial service facilitates the issuance of shares to the public?
A: Initial Public Offering (IPO).
Q: Name the major agricultural loan scheme introduced to support farmers in India.
A: Kisan Credit Card (KCC).
Q: Which body is responsible for regulating insurance sector in India?
A: Insurance Regulatory and Development Authority of India (IRDAI).
Q: What policy in India regulates import tariffs and duties?
A: Customs Duty Policy.
Q: What is the main purpose of the Insolvency and Bankruptcy Code (IBC), 2016?
A: To resolve insolvency and bankruptcy effectively.
Q: What are Scheduled Banks?
A: Banks included in the Second Schedule of the Reserve Bank of India Act.
Q: What is 'Cash Reserve Ratio' (CRR)?
A: Percentage of a bank’s total deposits to be kept as reserves with RBI.
Q: What is 'Statutory Liquidity Ratio' (SLR)?
A: Minimum percentage of deposits banks must maintain in specified liquid assets.
Q: Define the term 'Financial Inclusion.'
A: Providing affordable financial services to all sections of society.
Q: Which financial sector reform introduced 'Basel Norms'?
A: Banking regulation reforms to improve risk management.
Q: What is the Small Industries Development Bank of India (SIDBI)?
A: A financial institution aimed at promoting MSMEs.
Q: What role does NABARD play in India?
A: It provides refinancing for rural and agricultural credit.
Q: What does 'Monetary Policy' control?
A: Money supply, interest rates, and inflation regulation.
Q: What is repo rate?
A: The rate at which RBI lends short-term money to banks.
Q: What would an increase in repo rate usually indicate?
A: Tightening monetary policy to control inflation.
Q: What is the 'Goods and Services Tax' (GST)?
A: Unified indirect tax replacing multiple state and central taxes.
Q: What is the 'Current Account Deficit' (CAD)?
A: Situation when a country’s imports and foreign payments exceed exports.
Q: What is Microfinance?
A: Small loans provided to the economically weaker sections.
Q: Name the act that regulates banking companies in India.
A: The Banking Regulation Act, 1949.
Q: Explain what 'Non-Performing Asset' (NPA) means.
A: A loan on which the borrower is not making interest or principal payments for 90 days.
Q: What is Digital India program?
A: Initiative to improve digital infrastructure and digital literacy.
Q: Which sector contributes the largest share of employment in India?
A: Agriculture.
Q: Define the term 'Human Development Index' (HDI).
A: Composite statistic of life expectancy, education, and per capita income.
Q: What is 'Capital Market'?
A: Market for long-term securities like stocks and bonds.
Q: What does 'Fiscal Deficit' mean for a government?
A: Government's total expenditure exceeding its total receipts excluding borrowings.
Q: What is 'Balance of Payments'?
A: Record of all economic transactions between residents and the world.
Q: Which government policy promotes 'Make in India'?
A: Industrial and manufacturing promotion policy.
Q: What is 'Emission Reduction' in the context of environmental policies?
A: Efforts to lower the amount of greenhouse gases released.
Q: What is 'Public Sector Undertaking' (PSU)?
A: Government-owned corporation or company.
Q: Name the key benefit of the Start-up India initiative.
A: Provides tax exemptions and funding support to new businesses.
Q: What does 'Direct Benefit Transfer' (DBT) aim to do?
A: Transfer subsidies and benefits directly to citizens’ bank accounts.
Q: Explain the term 'Widening of Tax Base.'
A: Increasing the number of taxpaying entities.
Q: What does 'Liquidity' mean in finance?
A: How easily assets can be converted into cash without loss.
Q: Name the sectors classified in the Indian financial system.
A: Capital market, money market, banking, insurance, and mutual funds.
Q: What is the primary feature of a cooperative bank?
A: Owned and operated by members to serve them.
Q: What is 'Monetary Transmission Mechanism'?
A: Process through which monetary policy impacts the economy.
Q: Name a major challenge faced by Indian agriculture.
A: Dependency on monsoon rains.
Q: What is 'Quantitative Easing'?
A: Central bank policy to increase money supply by buying securities.
Q: What does the Government of India’s 'Fiscal Policy' encompass?
A: Taxation, government spending, and borrowing decisions.
Q: What are 'Small Finance Banks'?
A: Banks targeted at financial inclusion of underserved populations.
Q: Name the India-made payment system aimed at facilitating instant mobile payments.
A: Unified Payments Interface (UPI).
Q: What is 'Infrastructure Investment Trust' (InvIT)?
A: Trust that pools funds for investing in infrastructure projects.
Q: What is the main source of revenue for Indian states?
A: Goods and Services Tax (GST) and state taxes.
Q: What is 'Demonetization'?
A: Withdrawal of legal tender status of currency notes, e.g., ₹500 and ₹1000 notes in 2016.
Q: What was the primary aim of the Bombay Plan?
A: To promote state-led industrialization and economic planning in India.