2 min read.Updated: 21 Mar 2021, 09:27 PM ISTLivemint
India’s infrastructure ambitions need a market to emerge for extended-maturity bonds, but investors would demand an assurance of rupee stability before risks and yields can decline
India needs huge sums of money for its National Infrastructure Pipeline, which envisages projects worth more than ₹100 trillion by 2024-25. But these will take long to operationalize and financing them is a challenge that we are yet to come to grips with. Banks are not up to the task for the asset-liability mismatches that they invariably end up with. The Centre is soon expected to unveil details of our National Bank for Financing Infrastructure and Development, an institution that will be set up to mobilize funds for long-gestation projects. Not only will it rely on long-tenor debt, it might be tasked with developing an active market for such paper. So far, we do not have one to speak of. Private bonds tend to be of short maturity (and illiquid), our standard yield curve even for government securities stretches no further than 10 years, and, despite the best efforts of the Centre’s debt manager, our central bank, demand for sovereign bonds longer than five years has been weakened by a post-covid glut of issuance. Banks increasingly need to be prodded into buying them, our yield curve gets twisted periodically to lower interest rates at its long end, and late last week, we had market bears described as “bond vigilantes" by the Reserve Bank of India (RBI) for betting against its yield containment policy on the logic that bond returns must reflect the risk of inflation over their tenor.
So-called perpetual bonds do exist, but the price mechanism for these are a picture of perplexity. Take the confusion over additional tier-1 (AT-1) bonds issued by lenders to fill their capital cushions. Yes Bank’s 2020 write-off of its AT-1 securities forced investors to confront not just the default risk on these, but also the absurd practice of pricing their premium by the earliest date on which issuers could exercise their option to call them for redemption, which they may never actually do. So, on 10 March, in investor interest, the Securities and Exchange Board of India (Sebi) capped the exposure of mutual funds to AT-1 bonds and also proposed 100 years as the maturity period to be assumed for their valuation. However, in an admission of India’s inadequate appetite for long-dated debt at moderate yields, the government argued that valuations on such an extended scale of time would increase the cost of raising capital for banks (and thus their reliance on public funds). In response, Sebi will probably ask for 10-year bonds to play the benchmark for perpetual AT-1 paper.
Clearly, it is not easy to elongate our debt market. The US has a robust market for long-dated securities thanks to its tight control of inflation over the past four decades and its large pool of insurance and pension funds, but a bond rebellion has erupted there because of its pandemic policy of a dollar deluge. India is far worse placed. Willy-nilly, the emergence of a long-bond market here could be held back by uncertainty over the impact of our loose fiscal and monetary policies on the rupee’s internal stability. Projections of inflation remain dicey. Still, the Centre should plan on issuing more 30-year bonds, perhaps even the ‘masala’ kind for overseas buyers. First, though, our commitment to the stability of domestic retail prices must acquire greater credibility. For this, RBI’s flexible inflation-targeting regime, adopted in 2016 and currently up for review, will have to prove its mettle over the next few years. Perhaps it’s too premature to expect the kind of success we need for a long-bond market to emerge. But let’s give it a shot.