Mumbai: While total bids in the ongoing auction of spectrum for third-generation (3G) mobile services have almost doubled from the original estimate of Rs35,000 crore, all that money pouring into government coffers may not have a lasting impact on bond yields, which have been declining.
The debt market is not convinced that the cash will bring down the fiscal deficit, estimated at 5.5% in the year to March, or serve to curtail the government’s Rs4.57 trillion borrowing programme.
“The extra proceeds could be used for subsidies that were not taken into account on the expenditure side in the Budget,” said S.S. Raghavan, head of treasury at IDBI Gilts Ltd, a primary dealer that buys and sells government bonds.
The finance ministry has sanctioned a cash subsidy of Rs14,000 crore to oil marketing companies to bridge the gap between the market price and retail prices. The extra money that will come from 3G auctions is likely to be used for this, given that the Budget does not have any provision for such subsidies this year.
Finance secretary Ashok Chawla said early last week that the borrowing programme may not be altered despite the apparent success of the 3G auctions.
“Whether they will use the 3G money to reduce fiscal deficit is an open question,” said Manish Sarraf, head of treasury at Dhanlakshmi Bank Ltd. “Given the problems in Europe, the government may want to have a slightly loose fiscal policy for a bit more and this may deter reducing the fiscal deficit.”
Still, bond dealers are drawing comfort from the fact that the auction at least ensures that the government will not exceed its borrowing target this year. In the last two years, the government has exceeded the budgeted borrowing amount as the fiscal deficit widened, something that could have happened this year too as fuel and fertilizer firms hadn’t been included in the Budget.
Bond yields have fallen more than 0.60% since April, with that of 10-year debt at around 7.50%. It could fall around 0.10% more in a month, said bond dealers. After that, the rally should stop as liquidity gets drained out owing to credit pickup and possible increases in the cash reserve ratio and interest rates by the central bank if it chooses to tighten monetary policy further.
The 3G auction itself could have an adverse impact on liquidity as firms participating in the auction will borrow from banks to pay for their bids, bond dealers said. The money may not come back into the system if the government chooses to use it for payments to oil-marketing and fertilizer firms or divert it to some other use, which in turn will strain liquidity, lowering banks’ appetite for bonds, they said.
“Some bearish aspects are lurking on the horizon,” said Joydeep Sen, senior vice-president, advisory, BNP Paribas Wealth Management. The euro crisis that has seen bonds rally in the last fortnight may persuade foreign investors to go slow on investing in emerging market economies, including India, he said.
While Reserve Bank of India (RBI) deputy governor Subir Gokarn has clarified that the crisis in Europe will have no impact on domestic monetary policy, some bond dealers said the crisis could force the RBI to go slow on aggressive rate hikes as inflation is expected to come down due to the high base effect of last year.
In April, the wholesale price-based index dropped to 9.6% from 9.9% a month ago and is expected to go down further. RBI’s own projection for inflation is 5.5% by March 2011.
“There is no reason why bond yields should not be back to 8.10-8.25% level by September,” said a senior public sector bank executive, who did not want to be named.
The outlook is partly based on the availability of government debt. Taking into account an incremental deposit growth of 18-19% and banks’ government bond holding at 27.5% of the total deposit base, there is an additional supply of at least Rs1 trillion of debt, when state government paper is taken into account, said a bond dealer, citing a report by SBI Mutual Funds this month.