The tax haze over Indian bonds joining global indices

Last week, Morgan Stanley said it expects the JP Morgan GBI-EM and Bloomberg Global Aggregate Index to add India government bonds in their index as early as the first quarter of 2022. The bank said it expects index inflows in 2022/23 at about $40 billion, followed by annual inflows of $18.5 billion in subsequent years.

“If you have bonds that can actually be traded overseas and can be exchanged between foreigners directly on global platforms, then there is a question on where the incidence of taxation is and how that gets resolved from our local perspective? There isn’t any clarity on that. And before people actually engage, that clarity will be required. The industry was hoping it would come through in the last budget, but it didn’t. And unless that goes through, we could potentially see further delays as well," a Mumbai-based debt market banker said on condition of anonymity.

The resolution of the tax aspect would need amendments in the Finance Act, and thus it could probably happen only in the next budget, he said. “But, if they are really intent on it, then probably we could see something coming through in the winter session of the parliament, but that looks unlikely," he said.

He said other preconditions for these index inclusion such as international settlements through global platforms such as Euroclear and Clearstream are also yet to be put in place.

According to an economist with a foreign bank, who also requested anonymity, the Reserve Bank of India (RBI) may want to wait for the macro-economic situation to improve before it pursues the inclusion in these global indices. “When RBI started planning for the inclusion before the covid, India needed those dollars. The question is are they as keen to push for it as compared to before. The other part is that RBI might want to do it from a position of strength, at a time when macro situation is better," he said.

The Morgan Stanley report projected that the IGBs (Indian government bond) curve could flatten by 50 basis points and 10-year IGBs are likely to trade at 5.85% in 2022. “While everybody is expecting inflows worth $10 billion or ₹75,000 crore, nobody is expecting that RBI could reduce open market operations and the net demand supply doesn’t change. RBI could then decide that the 10 year G-sec will not go below 6%. So, the bond markets could have an initial reaction, but that will not determine the bond movement in future," he added.

The Morgan Stanley report forecast that foreign portfolio inflows will lead to lower borrowing costs and help India’s debt sustainability further. It expects a 30-40 basis points (bps) tightening in India’s credit spread and foreign inflows into onshore corporate credit to pick up. “We will definitely see the larger corporates benefitting, the government enterprises benefiting, as rates will certainly drop, but we need to see that also translate into benefits for other parts of the market for these flows to have a significant impact on the corporate debt market. The loan market too will benefit as a fallout of this," said Gaurav Kumar, founder and CEO, CredAvenue, an institutional debt platform.

Gopika Gopakumar contributed to this story.