RBI not to lift FII cap in debt market

The Reserve Bank of India (RBI) today ruled out lifting of the cap on investments by foreign institutional investors (FIIs) in debt markets till the rupee becomes fully convertible.

The central bank is also not willing to increase ceiling on FII investments in debt instruments.

"If RBI increases FII cap, then it would imply that the government is paying higher interest rate as the cost of issuing bonds under market stabilisation scheme (MSS) is more than the forex inflows," said Rakesh Mohan, deputy governor, RBI.

FIIs are allowed to invest up to $1.75 billion in government securities and treasury bills and another up to $500 million in corporate debt. The ceilings are separate and are not fungible.

"It is a no-brainer for a foreign institutional investor to invest in the country's debt market," said Mohan.

About the tight liquidity in the domestic banking system, Mohan said, "It is unknown till when the tightness in liquidity will exist. The daily infusion of Rs 10,000 crore to Rs 12,000 crore (into the banking system) is, however, not abnormal."

Dwelling on the state of the Indian debt market, the RBI deputy governor pointed out the need for better settlement and trading systems, newer technology and improvements in regulations and legislation.

"There are very few actively traded securities, hence the well behaved yield curve has a kink. This is owing to illiquidity and high liquidity premium that is being paid," said Mohan.

He also addressed the need to widen the set of investors to include pension funds, mutual funds, co-operative banks and non corporate companies such as trusts and non-governmental organisations in the debt market.

Similarly, corporate debt market lacks heterogeneity in investors' risk appetite, said Mohan.

There is certain amount of discipline required in the corporate debt market as the cost of issuances is not related to the size.

Meanwhile, Reserve Bank of India deputy governor V Leeladhar said the central bank has started inspections of risk management and compliance systems of all banks.

These inspections will be on a continuous basis, he told reporters on the sidelines of a seminar held here today.

On being asked if the penalty imposed on seven banks for irregularities was not severe, Leeladhar said, "A penalty by Reserve Bank even if it is one rupee is a reputation lost. It has to be disclosed in the balance sheet...the amount is immaterial."