Introduction

In the previous chapter, we learned about India’s physical infrastructure, like roads, railways, and telecommunication, which support economic activities driven by money-related transactions. Do you recall the flow of money from shopkeepers to workers as salaries, who further spent it on essential items (chapter ‘From Barter to Money’ in Part 1 of this textbook)? How do these monetary transactions take place between people? Also, how is the development and maintenance of the vast physical infrastructure funded?

This is made possible by financial infrastructure — a network of banks, payment systems, stock markets, and other financial institutions that help people, businesses, and the government facilitate financial transactions and manage money. Let us find out more about them.

LET'S EXPLORE

This picture is from a bank. What do you think the people are doing? Ask your family members if they have visited a bank and learn more about the activities there.

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What are banks and what do they do?

Banks help make monetary transactions easy by offering services such as saving, withdrawing, and borrowing money. These services are used by a wide range of people, including farmers, shopkeepers, nurses, and also businesses and institutions. To use the services of a bank, one first needs to open a bank account. The person or business is then called a bank account holder, and the bank offers them several services. Let us learn about these services.

Hold deposits

A bank accepts and holds money (deposits) that people put into

Banks provide the following types of accounts:

the bank account. They not only keep it safe for us but also lend it to businesses or other people. In return, the banks give us some extra money over a regular period (say quarterly or monthly or annually) in the form of ‘interest’, which helps the amount of our money saved to grow over time. Through this, banks encourage individuals to save.

Let us understand how your savings would significantly increase if you save for a long time.

Imagine you get ₹1000 on your birthday from your mother. You take it to a bank and deposit it in your account. The bank pays 6% interest on this amount each year if you don’t withdraw it. At the end of one year, you will have:

Original amount + one year’s interest, i.e.,

₹1000 + 6% of 1000

= ₹1000 + (6/100 × 1000) = ₹1000 + 60 = ₹1060.

If you don’t spend this money next year as well, you earn interest on ₹1060, not just ₹1000, which is 6% of 1060 = ₹63.60.

So, the total money at the end of the second year would be:

1060 + 63.60 = ₹1,123.60

So, you earn an interest not just on the original amount of ₹1000 but on the amount including interest earned in previous years. As you can see, the interest earned in subsequent years increases, from ₹60 in the first year to ₹63.60 in the second year,and so on. This process of earning interest on previous interest is known as compounding. If you continue saving for 12 years, your money will grow to ₹2012.20. This highlights how compounding is a powerful f inancial concept that helps your money grow exponentially over time.

The Magic of Compounding – The story of a King and a Sage

A king from Ambalappuzha, Kerala, known for his love for chess, once challenged a visiting sage to a game. The king offered any reward to the sage if he defeated him. However, the sage asked for a simple reward — one grain of rice on the first square of the chessboard, two on the second, four on the third, doubling each time for all 64 squares. The king was surprised at the sage’s small demand and agreed. But he lost the game to the sage and asked his courtiers to place the rice grains on each square of the chessboard as promised. The eighth square had 128 grains, which was the last square of the top row. The ninth square had 256 grains, the 10th had 512, the 11th had 1024 and so on. But as the grains kept doubling, the total grew significantly. By the 16th square, it was already 32,768 grains, and by the 32nd square, over 210 crore! The king realised how powerful exponential growth can be — but only after paying a heavy price. This story shows how compounding works, and how small amounts can grow into large sums over time!

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Offer loans or credit

Banks lend money to borrowers as loans for specific purposes such as buying a house or vehicle, funding education, etc. Businesses borrow money for purchasing new machinery and raw materials, transporting products, launching new products in markets, among other purposes. Just as banks pay interest on savings to depositors, they charge interest from borrowers on the loans they provide. After a specified period, the borrower repays the loan amount, along with the interest charged by the bank.

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Other Financial Institutions

Apart from banks, Indian post offices offer a variety of financial services, including savings schemes such as National Savings Certificates (NSC), Kisan Vikas Patra accounts, and Sukanya Samriddhi accounts. Their vast network and presence, even in remote locations, make them a popular savings option.

There also exist other financial institutions that support specific sectors. For example, the Industrial Finance Corporation of India funds businesses in areas like power and textiles. National Bank for Agriculture and Rural Development (NABARD) supports rural development by funding banks that give loans for farming, village industries, and infrastructure like roads and irrigation.

With numerous banks and financial institutions, it is essential to have clear rules and regulations that everyone follows. But who sets these regulations?

How the Jan Dhan Yojana revolutionised banking in India

The Reserve Bank of India (RBI) is the bank that supervises the Indian banking system. It is also called India’s central bank. Countries have central banks which supervise and manage policies related to their banking system.

RBI was established in 1935 and performed some of the functions of a central bank. After Independence, the RBI was transferred to the Government of India, and has been functioning as the banker of banks, the central bank, since 1949. It maintains accounts of other banks and facilitates exchange of funds between them. It also provides loans to banks and the government.

RBI sets rules and regulations regarding —

• Printing and distributing Indian currency like banknotes
• Fixing of the benchmark interest rates

Interestingly, the entrance of the RBI office in Delhi is flanked by the statues of a yakṣha and yakṣhi. According to Hindu mythology, yakṣhas belong to a class of demigods who act as the guards of treasures for Kubera, the God of Wealth. RBI could be compared to Kubera, with its sole right of issuing currency and by being a banker to banks!

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Payment Modes and Systems

But first, let us understand how account holders can withdraw cash from bank deposits.

1. One can fill out a withdrawal slip at the bank, submit it at the cash counter, and withdraw cash at the bank from their account. You can try filling one for yourself at the end of this chapter!
2. Banks also provide debit cards to customers when they open an acoount. Debit cards can be used to withdraw cash from Automated Teller Machines (ATMs) at any time. These self-service machines are like mini-banks, available 24×7 at public places like bus depots, local shopping markets, railway stations, airports, malls, etc. To withdraw cash, one has to insert their debit card into the machine and input the PIN (Personal Identification Number) and the exact amount to be withdrawn.

How can money be transferred from one bank account to another?

Cheque

A cheque is a paper instrument that allows you to pay someone directly from your bank account. The bank provides a cheque book with multiple cheques. To pay ₹5,000 to your friend Rohan, you write a cheque with the exact amount, Rohan’s name, and your signature. Rohan can then deposit the cheque in his bank. The amount gets withdrawn (debited) from your account and is transferred (credited) to Rohan’s bank account.

Debit cards and Point of Sale (POS) machines

Debit cards can be used to make payments at retails stores such as a grocery or clothing store, and chemist. On one hand, they help withdraw cash from ATMs as seen above, and on the other hand, they enable the transfer of money from customers to the store owner. Customers use their debit card by swiping or inserting it into a POS machine, inputting the amount, and entering the PIN. The cashier can also enter the amount, while the customer enters their PIN. The amount is instantly deducted from the customer’s account.

Internet Banking (Netbanking)

Mobile payments

Unified Payments Interface (UPI) — India’s gift to the world of payment systems

Traditionally, transferring funds from one person’s bank account to another person’s account required filling out the cheque with the details of the receiver, dropping it into the bank’s drop box or handing it over to a bank official. It was time-consuming and discouraged a majority of people from using banking services, leading to heavy reliance on cash due to which billions of rupees were used every day without a record.

This changed in 2016 when the National Payments Corporation of India (NPCI) launched UPI, a fast and secure digital payment system that enables transfer of funds. See Fig. 8.18 to learn more about this with an example.

Do you see how effortlessly UPI allowed a digital transaction between Kumar and Piyush? You may remember that during the COVID-19 pandemic, maintaining social distancing became essential to prevent the spread of infection. During this period, UPI gained popularity for supporting cashless transactions. Moreover, its user-friendly design in multiple languages makes it accessible to everyone.

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Stock Market

Previously, you learned about various markets like retail, wholesale, online and so on. Imagine the stock market like a giant online book store — but instead of buying books — people buy and sell shares.

Suppose you own a small restaurant and wish to expand it with a variety of cuisines. However, if you do not have enough money, you can borrow it from friends in exchange for a share of profits, for which they become part-owners of your business. Similarly, a ‘share’ is a part-ownership in a company. So, when you buy a share of a company, you become a part-owner of that company due to your investment. The more shares you own, the higher your ownership. If a company is like a big chapati, each share is one piece. A collection of shares can be referred to as a stock. Holding stocks allows individuals to put their savings where they expect to see an increase in their value when the share price increases; on the other hand, issuing shares help companies raise funds for their operations.

The actual buying and selling of shares takes place at the stock exchange. In India, the Bombay Stock Exchange (BSE) was established in 1875 and is one of the oldest stock exchanges in the world. Back then, the share transactions were conducted manually using paper tickets, which in the modern world have been replaced by digital transactions using advanced computers and other devices.

Like commodity prices, share prices also rise and fall. When the share prices of many companies fall simultaneously, it results in a stock market crash. On the other hand, a rise leads to a stock market boom.

Trading shares can bring gains or losses, as their prices fluctuate due to many factors.

If a company is doing well and people think it will earn money, its shares become more valuable. But if the company has problems — like a bad product, a workers’ strike, or a big loss — fewer people want its shares, so the price of the share drops. Apart from a company’s performance, government’s policy changes like new laws, tax rules, political instability, wars, or economic shocks can also cause share price fluctuations.

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Financial frauds and how to prevent them

Digital payments have made life easier, but users must beware of fraud and scams. Fraudsters trick people through fake calls or messages to download harmful apps or mislead people into sharing bank details or One-Time Passwords (OTPs). This gives them access to the user’s mobile or computer, enabling them to steal personal data from the device and draining money from the bank accounts.

In case of fraud, report via helpline 1930 or the National Cybercrime Reporting Portal.

Before we move on …

-> Financial infrastructure comprises financial institutions like banks, payment systems, the stock market and so on. These help with the flow of money among people, businesses, and the government by enabling smooth financial transactions.

-> It also promotes savings, credit and investment that boosts economic activity, and ultimately contributes to the nation’s prosperity.