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Madan Sabnavis
The writer is chief economist, Bank of Baroda
The idea of India being included in global bond indices is good news for the markets, as Morgan Stanley has projected something like $170-250 billion (Rs 12.49-18.36 lakh crore) coming in over the next decade. How would this add a 'delta' to the existing structure?
Today, investors are constrained by the fact that any transaction reckoned in India is based on an independent decision taken by them. Once a part of a global index, the doors for cross-trading in indices open and taking positions in the Indian bond market becomes a reality. Those who trade only in sovereign bonds of countries that are part of these indices get a fillip. Therefore, it stands to reason that there will be more activity.
How are Indian markets structured today for foreign investors? Foreign portfolio investors (FPIs) can hold up to 6% of outstanding government securities (G-secs) and 2% of state development loans (SDLs). Further, 15% of outstanding corporate bonds are open to these investors. FPIs hold around 1.9% of the outstanding G-secs and 0.02% of SDLs.
So, there is space still left for investment. As far as corporate bonds are concerned, of the Rs 6.07 lakh crore limit, Rs 1.25 lakh crore has been utilised. Therefore, the level of interest is low, as the maximum permissible limit is Rs 10.75 lakh crore this year, according to the Reserve Bank of India (RBI).
India being included in global indices means that this lacuna is filled, and there could be a full utilisation of this limit. The present value of about Rs 2.75-3 lakh crore can be scaled up to garner additional $100 billion (Rs 7.35 lakh crore) for sure. Here, it is assumed that corporate bonds also become attractive once the indexation of India takes place. Otherwise, the G-sec market can attract another $40 billion (Rs 2.94 lakh crore) to begin with, which will increase as outstanding debt increases.
While the arithmetic looks convincing, there are some qualifications. First, the G-sec market must be credible, which means that the prices or yields should reflect reality. Today, based on the RBI's thrust to infuse large doses of liquidity, the yields have been distorted and kept low to facilitate government borrowing at a low price. This is something investors would be watching closely, as a high-inflation economy with repressed interest rates is not the right recipe to attract investors.
Second, government accounts will be scrutinised to a greater extent, as is done by global rating agencies. The issue with such closer analysis is that the true government debt would be the point of discussion, and the various rollovers of payments that happen to contain the deficit because of accounting standards will come in the way. Simultaneously, the contingent liabilities become important, and take front stage. The credibility of budget announcements will become important, and unfulfilled disinvestment or monetisation programmes will not be looked at kindly. Today, this does not matter, as the entire market is an institutional one, where foreign investors and banks are the players.
Third, having more perspicuous foreign investors who are serious about the market can also lead to considerable volatility in the market. This is a two-way phenomenon. Any lack of confidence in the Indian market can engender a sell-policy. On the other side, global events can cause changing trading strategies, with collateral effects on the market. This will become critical if the RBI keeps increasing the limit from 6% to, say, 10%, and there is greater participation for FPIs. And this pressure will build up to increase the limit as interest gets enhanced.
Fourth, the exchange rate, too, will be an area to be watched, since the RBI now intervenes to ensure there is no major movement in either direction. This may not be fully acceptable for foreign investors, as they would prefer countries with market-based rates, as this can mean swings in gains and losses.
Finally, it should be remembered that having more FPI in G-secs does not lead to lowering the deficit, but only adds another layer of buyers. With interest rate being kept low in India while the world economy is recovering and growing, the returns here would be less attractive. This would, thus, amount to some loss of freedom for the RBI and GoI here.
In short, India being included in the global index is not just about getting in $250 billion (Rs 18.36 lakh crore). We must also keep our house in order.
Today, investors are constrained by the fact that any transaction reckoned in India is based on an independent decision taken by them. Once a part of a global index, the doors for cross-trading in indices open and taking positions in the Indian bond market becomes a reality. Those who trade only in sovereign bonds of countries that are part of these indices get a fillip. Therefore, it stands to reason that there will be more activity.
How are Indian markets structured today for foreign investors? Foreign portfolio investors (FPIs) can hold up to 6% of outstanding government securities (G-secs) and 2% of state development loans (SDLs). Further, 15% of outstanding corporate bonds are open to these investors. FPIs hold around 1.9% of the outstanding G-secs and 0.02% of SDLs.
So, there is space still left for investment. As far as corporate bonds are concerned, of the Rs 6.07 lakh crore limit, Rs 1.25 lakh crore has been utilised. Therefore, the level of interest is low, as the maximum permissible limit is Rs 10.75 lakh crore this year, according to the Reserve Bank of India (RBI).
India being included in global indices means that this lacuna is filled, and there could be a full utilisation of this limit. The present value of about Rs 2.75-3 lakh crore can be scaled up to garner additional $100 billion (Rs 7.35 lakh crore) for sure. Here, it is assumed that corporate bonds also become attractive once the indexation of India takes place. Otherwise, the G-sec market can attract another $40 billion (Rs 2.94 lakh crore) to begin with, which will increase as outstanding debt increases.
While the arithmetic looks convincing, there are some qualifications. First, the G-sec market must be credible, which means that the prices or yields should reflect reality. Today, based on the RBI's thrust to infuse large doses of liquidity, the yields have been distorted and kept low to facilitate government borrowing at a low price. This is something investors would be watching closely, as a high-inflation economy with repressed interest rates is not the right recipe to attract investors.
Second, government accounts will be scrutinised to a greater extent, as is done by global rating agencies. The issue with such closer analysis is that the true government debt would be the point of discussion, and the various rollovers of payments that happen to contain the deficit because of accounting standards will come in the way. Simultaneously, the contingent liabilities become important, and take front stage. The credibility of budget announcements will become important, and unfulfilled disinvestment or monetisation programmes will not be looked at kindly. Today, this does not matter, as the entire market is an institutional one, where foreign investors and banks are the players.
Third, having more perspicuous foreign investors who are serious about the market can also lead to considerable volatility in the market. This is a two-way phenomenon. Any lack of confidence in the Indian market can engender a sell-policy. On the other side, global events can cause changing trading strategies, with collateral effects on the market. This will become critical if the RBI keeps increasing the limit from 6% to, say, 10%, and there is greater participation for FPIs. And this pressure will build up to increase the limit as interest gets enhanced.
Fourth, the exchange rate, too, will be an area to be watched, since the RBI now intervenes to ensure there is no major movement in either direction. This may not be fully acceptable for foreign investors, as they would prefer countries with market-based rates, as this can mean swings in gains and losses.
Finally, it should be remembered that having more FPI in G-secs does not lead to lowering the deficit, but only adds another layer of buyers. With interest rate being kept low in India while the world economy is recovering and growing, the returns here would be less attractive. This would, thus, amount to some loss of freedom for the RBI and GoI here.
In short, India being included in the global index is not just about getting in $250 billion (Rs 18.36 lakh crore). We must also keep our house in order.
(Disclaimer: The opinions expressed in this column are that of the writer. The facts and opinions expressed here do not reflect the views of www.economictimes.com.)
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