Importance of the Money Market

The money market is a part of the financial system that specializes in short-term debt securities. Generally, the money market trades securities that have a maturity of up to one year. These short term investments include U.S. Treasury bills and similar instruments issued by large corporations and financial institutions. The access to short-term funds allows large financial institutions, the federal government and government agencies to finance short-term operations. This function is the most important feature of the money market.

The short-term funds available in the money market come from individuals who deposit their cash in money market accounts. For individuals who keep their cash in money market accounts, the benefits are similar to a checking account, with some differences. Generally, the financial institution that holds your money market account pays you a better interest rate than a traditional savings account, and in some cases better than a certificate of deposit. In addition, you are allowed a limited number of withdrawals every month and your deposits are insured by the federal government. In return for a better interest rate and low risk of loss, your financial institution may invest your deposits in short-term investments issued by other financial institutions, banks, corporations or government agencies.

The federal government also borrows money from the money market. This short-term borrowing is done through the U.S. Treasury, which issues shorter-term securities called T-bills. Maturities for short-term T-bills vary from four, 13 and 26 weeks and are issued every week. Cash management T-bills are issued every month and have a one-year maturity. These liquidity management instruments allow the federal government to continue to finance the operations and services of the federal government in cases of budget deficits and other cash shortages.

Like the federal government, federal agencies may also issue short-term securities to ensure the funding of a particular service or program. For instance, federal mortgage guarantee programs like Ginnie Mae or Freddie Mac may require short-term liquidity to cover specific claims or other financial obligations.

Corporations may borrow money from issuing short-term securities in the money market. Generally, corporations have the option of borrowing money from the bank or issuing a short-term security commonly called commercial paper. Commercial paper is sometimes cheaper than borrowing from a bank and as a result, commercial paper is a very common alternative. The purpose of short-term borrowing in the money markets is similar to other institutions that borrow short-term funds. The money raised in the money market may be used to fund operations, payroll or a specific project.

The money circulating throughout the money market finances short-term borrowing by large corporations and the government. This borrowing allows both businesses and government agencies to continue to spend the money on programs and expansion projects necessary to encourage economic growth.