Here's why govt's plan to float sovereign issue has divided the bond market

Bond market participants have mixed feelings about the government’s plans to float sovereign bonds. On the one hand, participants say it will lessen the load from the domestic market; on the other hand, they say it might bring undue volatility in the domestic market should the overseas investors decide to short the bonds reflecting a global risk-off sentiment. In the domestic market, such things are easily controlled by the Reserve Bank of India (RBI), but it has no say in foreign jurisdiction.

The offshore non-deliverable forwards market (NDF), which often sets the sentiment for domestic currency markets, is an example where the RBI has no control. 

Former RBI officials are against the move. Former RBI deputy governor Rakesh Mohan called it a “dangerous move”, former RBI governors Bimal Jalan and C Rangarajan see the move as unnecessary, and Raghuram Rajan said the idea has “no real benefit and enormousn risks”. 

But the market is equally split between people who no real harm in issuing a sovereign bond in small quantity, and by those who support the brains that navigated the RBI through difficult times. The issue of raising bonds overseas has come up several times in discussions between the government and the RBI, but the past governors have all advised against it. Rajan argued in his column in The Times of India on Saturday that instead of going abroad, the government should try to increase liquidity by encouraging more foreign players to buy bonds onshore. 

“A small issuance will likely not be problematic. The concern is that once the door is opened, the government will be tempted to issue more, much more, with attendant risks — after all, all addictions start small,” Rajan wrote. 

Those in support of the move say considering that the foreign portfolio invetsors (FPI) have kept about 28 per cent of their government bond investment limit unutilised, they cannot be relied on always. Issuing Rs 70,000 crore of bonds is a firm commitment, and something that brings immediate dollars in the country and strengthens rupee. 

State Bank of India (SBI) group Chief Economic Advisor Saumyakanti Ghosh wrote in a report that “India is best placed to tap the sovereign bond market now”, and that comparison of Latin America and Asian economies could be imprudent. Such countries had an average 51 per cent of debt denominated in foreign currencies, and debt to gross domestic products being at over 100 per cent. 

In case of India, the debt to GDP ratio is 19.7 per cent, and sovereign foreign currency debt to GDP is just 3.8 per cent. Therefore, there is no harm in issuing the bonds in moderation, but the government must fix an upper limit beforehand. The RBI must also try and bring down the forwards cost so that onshore bonds become attractive for foreign investors. While there is no direct benefit in terms of cost by borrowing abroad, such bonds, nevertheless softens bond yields domestically and aids banks in booking treasury profits. 

Experts also argue that it can help Indian companies to borrow abroad easily as Indian government debt abroad can create a favourable view for Indian corporate debt. According to Harihar Krishnamurthy, head of treasury of First Rand Bank, India is one of the few major global economy that doesn’t have a sovereign bond. And chances of speculators creating disruption is less in case of Indian debt, as the domestic fundamentals remain strong and India remains independent in terms of its financing need. 

The sovereign bond takes off pressure from the domestic bond market and will strengthen the rupee, said Devendra Dash, head of asset liability mismatch at AU Small Finance Bank, but it is important to keep the exchange rate rangebound. 

But there are also senior bond market dealers who are against the idea. They say with fiscal deficit being projected at only 3.3 per cent of the GDP, there is absolutely no need to hit offshore in search of funds. 

“We have lived with deficits of 6 per cent and above. What is the need for such overseas adventures with this kind of fiscal deficit? Is the government not getting money onshore?” said the head of treasury of a bank. 

There is also some unease and uncertainty over the RBI losing its debt management powers. If the government borrows from abroad, it won’t be through RBI. And there is unlikely to be two debt managers for India. And this, therefore, may take away powers directly from the RBI to debt management office.