UPSCNotes
Indian Economy Capital Markets and Financial Inclusion GS Paper III

Capital Markets and SEBI

Capital markets for UPSC — money vs capital markets, primary and secondary markets, SEBI's powers, exchanges and depositories, T+1, ADR/GDR/IDR, P-notes, masala and green bonds.

SyllabusGS III · Mobilisation of resources — capital markets, financial sector regulation and financial inclusion

By UPSC Notes Editorial Team 10 min read Updated Oct 2026 #economy#capital-markets#sebi

Prerequisites: Money and Banking · Capital Markets and Financial Inclusion — overview

The Hook: Paid for Your Shares a Day Later

Connect: In the News → Concept

In January 2023, India completed its move to a T+1 settlement cycle for equities: shares bought on an Indian stock exchange are delivered, and the seller is paid, one trading day after the trade. India got there ahead of many large markets — the United States moved to T+1 only in May 2024. Shorter settlement means less counterparty risk and less money locked up in the system.

The move raises the questions this topic answers: what is a capital market, who runs and regulates it, and why does a regulator care how quickly a trade settles?

The Core Concept

The financial market: two halves

BasisMoney marketCapital market
MaturityUp to one yearMore than one year (and equity, which has no maturity)
PurposeShort-term liquidity for banks, firms and governmentLong-term funds for investment
InstrumentsCall money, Treasury bills (91, 182, 364 days), commercial paper, certificates of deposit, repoShares, debentures, corporate and government bonds
Main regulatorRBISEBI (securities); RBI (government securities)

Primary and secondary markets

  • Primary market — where new securities are issued and money flows to the issuer: IPO (a company’s first public issue), FPO (a further public offer by a listed company), rights issue (to existing shareholders), private placement and qualified institutional placement (QIP).
  • Secondary market — where existing securities are traded between investors on stock exchanges. It provides liquidity and price discovery; the issuing company receives no new money.

Other terms worth knowing

TermMeaning
Offer for sale (OFS)Existing shareholders (often the government in disinvestment) sell shares; money goes to the sellers, not the company
Bonus issueFree shares to existing shareholders from reserves; no money raised
BuybackCompany repurchases its own shares
Market capitalisationShare price × number of shares outstanding
Circuit breakerTrading halt when an index or share moves beyond a set limit
Insider tradingTrading on unpublished price-sensitive information — prohibited by SEBI regulations

SEBI: history, mandate and powers

YearMilestone
1988SEBI set up as a non-statutory body by a government resolution
1992SEBI Act, 1992 makes it a statutory body; the Controller of Capital Issues is abolished, ending government control over the pricing of issues
2015Forward Markets Commission merged with SEBI (September 2015); SEBI now regulates commodity derivatives too

Mandate (Preamble of the SEBI Act): to protect the interests of investors in securities, to promote the development of the securities market, and to regulate it.

Powers: SEBI combines quasi-legislative (making regulations), quasi-executive (inspections, investigations, enforcement) and quasi-judicial (passing orders and imposing penalties) functions. Appeals against SEBI’s orders lie with the Securities Appellate Tribunal (SAT), and from SAT to the Supreme Court.

Other financial regulators

RegulatorDomain
RBIBanks, NBFCs, money market, government securities, forex market, payment systems
SEBISecurities markets, mutual funds, commodity derivatives
IRDAIInsurance (IRDA Act, 1999)
PFRDAPensions, including the National Pension System (statutory under the PFRDA Act, 2013)

The Financial Stability and Development Council (FSDC), set up in 2010 and chaired by the Union Finance Minister, coordinates among regulators.

Market infrastructure

  • Stock exchanges: the Bombay Stock Exchange (BSE), founded in 1875, is Asia’s oldest; the National Stock Exchange (NSE) was set up in 1992 and introduced fully screen-based trading. Benchmarks: Sensex (30 stocks, BSE) and Nifty 50 (50 stocks, NSE).
  • Depositories: under the Depositories Act, 1996 — NSDL (1996) and CDSL (1999) hold securities in electronic (dematerialised) form; investors deal through depository participants.
  • Clearing corporations guarantee settlement of trades.
  • Settlement cycle: India moved in phases from T+2 to T+1, completed in January 2023.
graph LR
    A[Savers: households, institutions, FPIs] --> B[Intermediaries: brokers, mutual funds]
    B --> C[Primary market: IPO, FPO, rights, QIP]
    C --> D[Issuers: companies, government]
    B --> E[Secondary market: stock exchanges]
    E --> F[Clearing corporation]
    F --> G[Depositories: NSDL, CDSL]
    H[SEBI] -.regulates.-> B
    H -.regulates.-> C
    H -.regulates.-> E

Instruments that UPSC loves

InstrumentWhat it isKey point
ADR / GDRDepository receipts representing shares of an Indian company, issued abroad (ADR in the US, GDR in other markets)Indian companies raise foreign equity
IDR (Indian Depository Receipt)Depository receipt representing shares of a foreign company, issued in IndiaStandard Chartered PLC issued the first IDR in 2010
Participatory notes (P-notes / ODIs)Offshore derivative instruments issued by registered FPIs to overseas investors who want exposure to Indian securities without registeringSEBI has tightened disclosure norms over the years
Masala bondsRupee-denominated bonds issued outside IndiaCurrency risk is borne by the foreign investor, not the Indian issuer; the name was popularised by rupee bonds issued by the IFC in London in 2014
Green bondsBonds whose proceeds fund environmentally beneficial projectsThe first Sovereign Green Bonds were issued in January 2023
InvITs and REITsTrusts holding income-generating infrastructure / real estate; units are listedSEBI regulations, 2014
Mutual funds and AIFsPooled investment vehicles; Alternative Investment Funds cover private equity, venture capital, hedge fundsRegulated by SEBI

Why capital markets matter for development

  • Mobilise long-term savings for investment and reduce dependence on bank credit (easing the asset–liability mismatch of banks).
  • Price discovery and efficient allocation of capital.
  • Disinvestment and asset monetisation by the government rely on deep markets.
  • Risks: speculative bubbles, market manipulation (as in the 1992 securities scam), retail investors’ losses in derivatives, and volatility from FPI flows.

Memory Anchors

SEBI’s three verbs: “Protect, Develop, Regulate” — “Please Don’t Rush.”

SEBI timeline: “88 baby, 92 adult, 2015 swallowed FMC.”

Depository receipts: “Abroad = ADR/GDR (Indian shares sold abroad); India = IDR (foreign shares sold in India).”

Masala bond rule: “Rupee bond, foreign pocket, foreign risk.”

Comparison — money vs capital market: short-term + RBI vs long-term + SEBI.

For Prelims

Facts worth a mark
  • SEBI: non-statutory in 1988; statutory under the SEBI Act, 1992; HQ Mumbai. Appeals → SAT → Supreme Court.
  • FMC merged with SEBI in September 2015.
  • Money market instruments: T-bills, commercial paper, certificates of deposit, call money — maturity up to one year.
  • T+1 settlement completed in January 2023.
  • BSE (1875) — Asia’s oldest exchange; NSE (1992).
  • Depositories Act, 1996; NSDL and CDSL.
  • Masala bonds: rupee-denominated, issued abroad; exchange-rate risk on the investor.
  • First Sovereign Green Bonds: January 2023.
  • FSDC (2010) is chaired by the Finance Minister.

For Mains

  • Dimensions: resource mobilisation for investment; deepening the corporate bond market; investor protection and financial literacy; regulatory overlap and coordination; FPI volatility; financialisation of household savings; market integrity.
  • Keywords: price discovery, liquidity, financial deepening, disintermediation, counterparty risk, market integrity, retail participation, corporate bond market depth, systemic risk.
  • Value-addition: SEBI’s statutory journey after the abolition of the Controller of Capital Issues; the FMC–SEBI merger as regulatory consolidation; T+1 settlement (2023); Sovereign Green Bonds (2023) as a link between capital markets and climate finance.

Common Traps

Trap #1: 'SEBI was statutory from the start'
SEBI was set up in 1988 by a government resolution as a non-statutory body. It became statutory only with the SEBI Act, 1992.
Trap #2: Who bears the risk in a masala bond?
Because the bond is denominated in rupees, a fall in the rupee hurts the foreign investor, not the Indian borrower — the opposite of a dollar-denominated ECB.
Trap #3: ADR vs IDR direction
ADRs and GDRs are issued abroad for Indian companies’ shares. IDRs are issued in India for foreign companies’ shares.

In the News

  • January 2023 — T+1 settlement fully implemented for equities; first Sovereign Green Bonds issued by the RBI on behalf of the government.

See Current Affairs for recent SEBI regulations.

Practice

Prelims

UPSC Practice · Prelims GS I Qcm-1

Consider the following statements about the Securities and Exchange Board of India (SEBI):

  1. SEBI was set up as a non-statutory body in 1988 and given statutory status in 1992.
  2. Appeals against orders of SEBI lie with the Securities Appellate Tribunal.
  3. The Forward Markets Commission was merged with SEBI in 2015.

Which of the statements given above is/are correct?

  1. A 1 only
  2. B 1 and 2 only
  3. C 2 and 3 only
  4. D 1, 2 and 3
Solution

All three are correct. SEBI was created by a government resolution in 1988 and became statutory under the SEBI Act, 1992. Appeals go to the Securities Appellate Tribunal, and from there to the Supreme Court. The Forward Markets Commission, the commodity derivatives regulator, merged with SEBI in September 2015.

Answer: D

UPSC-pattern practice question
UPSC Practice · Prelims GS I Qcm-2

Consider the following instruments:

  1. Treasury bills
  2. Commercial paper
  3. Certificates of deposit
  4. Debentures

How many of the above are money market instruments?

  1. A Only one
  2. B Only two
  3. C Only three
  4. D All four
Solution

Treasury bills (up to 364 days), commercial paper and certificates of deposit are short-term money market instruments — that makes three. Debentures are long-term debt instruments of the capital market.

Answer: C

UPSC-pattern practice question
UPSC Practice · Prelims GS I Qcm-3

With reference to “masala bonds”, consider the following statements:

  1. They are rupee-denominated bonds issued outside India.
  2. The exchange rate risk is borne by the investor.
  3. They can be issued only by the Government of India.

Which of the statements given above is/are correct?

  1. A 1 and 2 only
  2. B 2 and 3 only
  3. C 1 and 3 only
  4. D 1, 2 and 3
Solution

Statements 1 and 2 are correct — masala bonds are denominated in rupees and sold abroad, so a depreciation of the rupee hurts the foreign investor. Statement 3 is wrong — eligible Indian companies and institutions issue them, and the International Finance Corporation popularised the name with its rupee bonds in London in 2014.

Answer: A

UPSC-pattern practice question

Mains

UPSC Practice · Mains GS III 15 marks · 250 words Qcm-m1

A deep capital market is essential for mobilising resources for India’s long-term investment needs. Discuss the role of SEBI in developing the market while protecting investors, and identify the remaining gaps.

Solution

Introduction: Capital markets channel long-term savings into investment and reduce the economy’s reliance on bank credit. SEBI, a statutory regulator since 1992, is mandated to protect investors, develop the market and regulate it.

Body:

  • Developmental role: free pricing of issues after the abolition of the Controller of Capital Issues; screen-based trading and dematerialisation (Depositories Act, 1996); new vehicles — InvITs, REITs, AIFs, green bonds; T+1 settlement (2023); integration of commodity derivatives after the FMC merger (2015).
  • Investor protection: disclosure norms for IPOs; insider-trading and fraudulent-practices regulations; investor grievance mechanisms; tightened FPI and P-note disclosures; surveillance and circuit breakers.
  • Remaining gaps: shallow corporate bond market dominated by highly rated issuers; low financial literacy and losses of retail investors in derivatives; volatility from FPI flows; regulatory overlap and enforcement delays; limited long-term institutional (pension and insurance) participation in infrastructure finance.
  • Way forward: deepen the corporate bond market and credit enhancement; financial literacy; faster enforcement; coordination through FSDC.

Conclusion: SEBI has turned a scam-prone market into a modern, fast-settling one; the next task is depth — especially in corporate bonds — so that markets can fund infrastructure and enterprise at scale.

UPSC-pattern practice question

Quick Revision

PointOne-liner
Money vs capital marketUp to one year (RBI) vs longer term (SEBI)
Primary vs secondaryNew issues (money to issuer) vs trading (liquidity)
SEBI1988 non-statutory; SEBI Act 1992; appeals to SAT
FMCMerged with SEBI, September 2015
ExchangesBSE 1875; NSE 1992
DepositoriesAct of 1996; NSDL, CDSL
SettlementT+1 completed January 2023
ADR/GDR vs IDRIndian shares abroad vs foreign shares in India
Masala bondRupee bond abroad; investor bears currency risk
Green bondsFirst Sovereign Green Bonds, January 2023

Key Takeaways

Key Takeaways
  1. Money markets handle short-term liquidity under the RBI; capital markets handle long-term funds under SEBI.
  2. SEBI’s mandate is to protect, develop and regulate — and it holds quasi-legislative, executive and judicial powers, with appeals to SAT.
  3. Instrument questions turn on direction and currency — learn ADR/GDR vs IDR and masala bonds carefully.
Advertisement

Keep going in this chapter

Economy Financial Inclusion Financial inclusion for UPSC — meaning and committees, PMJDY, JAM, UPI, MUDRA, Stand-Up … Economy Capital Markets and Financial Inclusion — Practice Questions UPSC Prelims-pattern practice questions on depository receipts, SEBI and commodity … Economy Capital Markets and Financial Inclusion — Quick Revision One-page UPSC revision of money vs capital markets, SEBI, exchanges, depository receipts, …