There are broadly two types of financial markets in an economy which are capital market and money market. In this post, I will be writing on the difference between money market and capital market. A money market is a component of the financial market where short-term borrowing can be issued. This market includes assets that deal with short-term borrowing, lending, buying and selling.
There are several money market instruments in most Western countries, including treasury bills, commercial paper, bankers’ acceptances, deposits, certificates of deposit, bills of exchange, repurchase agreements, federal funds, and short-lived mortgage- and asset-backed securities.
A capital market is a component of a financial market that allows long-term trading of debt and equity-backed securities. It is also a financial market that deals in financial instruments and commodities that are long-term securities. … The funds will be used for productive purposes and create wealth in the economy in the long term. Examples of highly organized capital markets are the New York Stock Exchange, American Stock Exchange, London Stock Exchange, and NASDAQ. Securities can also be traded “over the counter,” rather than on an organized exchange.
Key differences between money market and Capital market:
Short-term securities are traded in money markets whereas long-term securities are traded in capital markets.
Liquidity is high in the money market whereas liquidity is comparatively low in capital markets
Due to high liquidity and low duration of maturity in money markets, Instruments in money markets are a low risk whereas capital markets are the comparatively high risk.
Central bank, commercial banks and non-financial institutions are majorly work in money markets whereas stock exchanges, commercial banks, and non-banking institutions work in capital markets.
Capital markets generally give higher returns whereas money markets give a low return on investments.
The maturity of financial instrument is generally up to a year for a money market while the maturity for capital market is longer and doesn’t have a stipulated period time frame.
The return in the money market is usually low while for the capital market is high because of the duration or tenor stipulated.
- Both money market and capital market are part of the financial markets. The main aim of the financial markets is to channelize funds and to generate returns. The financial markets stabilize the money supply by lending borrowing mechanism i.e. surplus funds are provided to borrowers by the lenders.
- Both money market and capital market are required for the betterment of the economy as they fulfill the long-term and short-term capital needs of the business and industry. The markets encourage individuals to invest money to gain good returns.
- Investors can tap into each of the markets depending on their needs. Capital markets are generally less liquid but provide good returns at higher risk whereas money markets are highly liquid but provide lower returns. Money markets are also considered safe assets.
- However, due to market anomalies and inefficiency due to some aberrations above may not hold. Investors try to look for arbitrage opportunities due to such anomalies to get higher returns. Money markets are considered safe but they sometimes give negative returns. Thus, investors should study the pros and cons of each financial instrument and the condition of the financial market before putting their money for short term or long term.