Surge in bond yields could drive growth off track: RBI
The central bank warned that it can increase bond purchases if yields keep rising
PremiumThe Reserve Bank of India (RBI) on Friday warned that rising bond yields could undermine the fragile global economic recovery, rendering most economies unable to tolerate high interest rates. In its latest currency and finance bulletin, RBI also pointed to the stubbornly high yields in the Indian bond market, cautioning that rising yields could prompt central banks to boost bond-buying.
RBI said that while it is doing all that it could to ensure an orderly evolution of the yield curve, bond vigilantes could, however, unsettle financial markets and trigger capital outflows from emerging markets.
RBI said that while there is a “restless urgency in the air" in India to return to high growth, the bond market has remained unyielding, despite its efforts. The Indian economy is at a critical juncture, it said, where the capex cycle is turning, and corporate earnings are beating expectations, but inflation has witnessed upside pressures as well.
Indian bond yields have been rising steadily ever since the Union budget announced additional borrowing of ₹80,000 crore for this financial year and ₹12.8 trillion for the next. The yield on the 10-year benchmark bond has been increasing despite RBI’s assurances and efforts to cap it at 6%.Attempting to check the rising yields, the central bank has periodically conducted open market operations (OMOs), buying and selling government securities of varying tenors. It has also, on several occasions, directly intervened in the secondary market to smoothen the yield curve.
So far this fiscal year, RBI has undertaken OMO purchases of ₹4.07 trillion, besides OMO purchases of state development loans of ₹30,000 crore. On 25 February, RBI governor Shaktikanta Das urged cooperation from bond market participants for the “orderly evolution of the yield curve", assuring that the central bank will not drain liquidity prematurely to stifle growth.
In a chapter titled the State of the Economy, the central bank remarked that the economic revival, which is gradually being built with the help of regulatory forbearance, is being threatened by the bond market. The central bank said that it can increase bond purchases if the yields keep rising.
“If bond yields get too high, the relentless weight of bond purchases by central banks will stabilize markets, but at the cost of market activity. The recent reiteration of the resolve of the Reserve Bank of Australia is a reminder that central banks have the firepower to cap bond yields if they are determined to do so. Investors must understand their exposures when they set about to scour the landscape to exploit signs of market dysfunction. What markets do not realize beyond the break-evens, TIPS (treasury inflated protected securities) and policy stimulus is that there is no way the economy can withstand higher interest rates in its current state," it said.
RBI also noted that there are ominous signs of a second wave of infections. India added almost 40,000 new cases on Friday, the highest one-day jump since November, pushing the overall tally to 11.5 million, according to the health ministry data. RBI added that inflation is also seeing upside pressures. The Consumer Price Index-based inflation has moved in a tight range of 5.8-6.4% from June, testing the upper tolerance band of the inflation target, it said.
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