The evolution of the securities markets in India in the 1990s

 

 Introduction 


 

The evolution of the securities markets in India was one of the most impressive developments in this market in the 1990s. The reforms to financial markets were high on the priorities of policy makers when India embarked on market-oriented reforms in the early 1990s. These efforts had several motivations: the broad idea of markets playing a dominant role in resource allocation, an awareness of the opportunity cost that India was suffering by not being open to global capital flows, and an immediate reaction to the fixed income and equity market scandal of 1992.

As India embarked on market-oriented reforms in the early 1990s, various changes were introduced in the financial markets. The reforms have seen significant changes, including greater transparency and efficiency of all financial intermediaries in India, better capitalisation levels and better flow of foreign exchange into the Indian equity market. Over the decade of the 1990s, the equity market enjoyed a complete transformation at the infrastructure level. All stock exchanges in India switched to order matching by computers, which worked extremely well as compared with market designs based on human market makers which were utilised previously.

The development of the Indian stock exchange has been a story of continuous changes. Two kinds of changes - those that have taken place in terms of technology and those that have taken place in terms of structure - are highlighted. The history of the Indian stock exchange from the 1950s to the 1990s is described in which two critical developments came about within that period, namely, computerisation and extensive deregulation.

What can we learn from these experiences?

Why did NSE succeed?

As the equity markets grew in India, there were numerous critics of NSE. First, the government of India has a dubious record for starting new organisations. Specifically, the OTCSR was a recent state-sponsoredexchange which had not fared well. Second, the NSE would be going up in competition against the entrenched liquidity of the BSE.
The idea of NSE was first conceived in 1993. Initially, there were many arguments on why it would be a bad idea. The government at that time had a dubious record of starting new organisations without adequately planning their implementation. There was also much skepticism on whether an expansion at this scale would be possible without substantial data support and infrastructure. Yet within one year of the first equity trading at NSE, it became India’s most liquid stock market. This was a remarkable outcome because it defied all predictions and no precedent had preceded such an outcome anywhere else in the world.

Why did the equity market lurch from crisis to crisis?

In the Indian setting, a vulnerability to manipulation on the secondary market seems to comeabout from a combination of (a) difficulties with disclosure, (b) collusion between top management of the firm and securities firms, (c) leveraged positions on the secondary market, (d) limitations to the supervisory capacity at exchanges and SEBI.

The equity market has always been a volatile one. Often, it has exhibited behavior characterized as boom-bust, as well as boom-boom pattern with each new stage of growth and maturity. As reflected in the early years of non-equity markets, the hyper-growth phase witnessed by the Indian equity market (from pre-2000) is more notable for its booms than busts, which have been occurring from time to time. While, in some cases such as during the dotcom boom and bust (1999-2001), the Indian equities failed to sustain above-average growth over long periods of time and ended up with sharp corrections in 2000-2001.

Why did reforms on the GOI bond market falter?

This paper looks at the design of the GOI bond market after 1992. The experience of the equity markets in India is one well-known success story where reforms led to a transformation of market structure, resulting in more efficient and transparent markets. One might expect that the GOI bond market should have also benefited from institutional reform and become more efficient as a result.

Typically, market design is concerned with promoting competition and ensuring that markets are conducted efficiently. For the GOI bond market, we found that the reforms which took place after 1992 – when bond issuance costs for individual firms increased and a large number of issues were coming up for issue in 1999-2002 – did not trigger any radical changes to improve their functionality as a bond market.

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