Mumbai: Heavy government borrowing risks elbowing out corporate debt issuers in the country already reeling under rising interest rates and shrinking liquidity, with borrowing costs expected to rise 50-75 basis points by the end of 2008.
Bond originators say normally there are Rs2,000-3,000 crore of domestic bonds in the pipeline a month as financial institutions raise funds for infrastructure projects.
Strong measures: The RBI building in New Delhi. The central bank tightened monetary policy last month, squeezing liquidity further. Photograph: Ramesh Pathania / Mint
But at the moment only about Rs700-800 crore worth are in the offing with issuers put off by higher interest rates, after the Reserve Bank of India (RBI) tightened monetary policy last month, and with investors hesitant at a time when 12% inflation is eating into returns.
The market is also nervous government borrowing, scheduled to total Rs96,000 crore in April-September, will exceed the gross Rs1.45 trillion planned for all of fiscal 2008-09 as subsidies and the cost of a farm loan waiver mount.
Extra borrowing would squeeze demand for corporate bonds in an illiquid market and debt arrangers say firms could struggle to find investors for their higher risk, less liquid bonds.
“High government borrowing is a negative for interest rates and also for companies looking at raising money. Also with liquidity squeezed, the investment activities of banks take a back seat,” said J. Moses Harding, executive vice-president at IndusInd Bank Ltd.
India has a cap of $1.5 billion (Rs6,300 crore) on foreign investment in corporate debt and the pool of investors is not deep as those with big pockets, such as provident funds, cannot invest more than 10% of their cash surpluses in private sector debt.
The few primary market borrowers are financial institutions but many are postponing fund-raising due to the rising cost.
Furthermore, banks’ deposit base is rising, which means they must buy more government bonds to meet regulatory requirements and this is steering them away from company debt.
The benchmark five-year corporate bond yield has risen about 150 basis points since April, and the official lending rate has risen 125 basis points.
The five-year corporate bond yield trades at 10.9%, above the five-year central bond yield at 9.1%, and dealers see it at 11.5% by the endof 2008.
“Corporate bond yields could rise up to 75 basis points because inflation will not taper off so easily,” said Harihar Krishnamoorthy, treasury head at Development Credit Bank Ltd, adding if credit growth did not cool, more rate rises could be expected.
As well as raising rates, RBI has drained ready cash from the banking system by lifting the cash reserve ratio (CRR), the proportion of deposits banks need to keep with it.
“As the government borrowing pushes up the yield curve and with higher CRR pushing up statutory costs for banks, automatically we see the loan pricing moving up, tracking the sovereign yield curve,” said IndusInd’s Harding.
Many are concerned the government will have to borrow more than planned this year as subsidies and an expected salary hike for government workers put pressure on the public purse.
Moody’s Investor Services warned last week an average oil price this fiscal of $110-120 a barrel and no hike in retail fuel prices would see the total fiscal deficit at 10% of GDP, well above a target of 4.6%.
Rupa Rege Nitsure, chief economist with Bank of Baroda, expects extra borrowing of Rs25,000-30,000 crore. “The major burden will come from debt waiver for farmers, under-recoveries by oil companies and food and fertilizer subsidies,” she said.
Abheek Barua, chief economist at HDFC Bank Ltd, also sees additional Central borrowing but said a civil servant pay hike may not happen this year and the government could sell stakes in state-run firms and auction 3G, or third generation, telecom spectrum to raise cash.