The proposal from the Reserve Bank of India (RBI) and submitted to the finance ministry, allows long-term investors such as sovereign wealth funds, to settle Indian government bonds on it, but not yet foreign institutional investors (FIIs).
The discussions on Euroclear had halted in March ahead of national elections. However, Finance Minister Arun Jaitley announced in the federal budget last month the government would be going ahead with listing Indian debt on Euroclear.
FIIs are the biggest foreign investors in India and the RBI proposes their exclusion from settling government debt on Euroclear be reviewed annually, one of the sources said.
Officials from the RBI, the finance ministry and the Securities and Exchange Board of India (SEBI), which is the capital markets regulator, will discuss the proposal on Tuesday, the other source said.
The final decision rests with the finance ministry.
"If right at the start we restrict it to only long-term players, probably the volatility will be much less in the market," one source said. "There will not be much selling as the long-term players purchase and they sit tight over a longer period. So afterwards we will see how the market is reacting and then we can open it to others."
The other source also said the initial aim was to test the waters with a limited number of long-term investors.
"We want to see how this goes and the plan is to eventually increase the allocation, allow corporate bonds, and include all investor classes, but there has been no formal discussion on that front yet," the source said.
The sources declined to be identified because the proposal has not been publicised.
The recommendation to exclude FIIs signals the central bank's skittishness about opening up India's debt market to foreign investors given concerns about sudden destabilising outflows. Last year, such outflows roiled the market and sent the rupee to a record low.
Foreign investors have been calling for India to join Euroclear because it makes it easier for them to access Indian debt. It does this by removing some of the registration barriers because the financial services company that books the trade, usually a bank, settles and guarantees the trade.
Although India simplified its rules for foreign investors earlier this year, it still imposes restrictions and know-your-customer registration norms.
Under the proposal, long-term investors would be allowed to settle bonds via Euroclear as long as the debt they purchase does not exceed the $5 billion limit imposed on them.
India imposes an overall foreign ownership limit of $30 billion for foreign investors, of which the remaining $25 billion is geared for foreign institutional investors such as mutual funds.
Only 46.5 percent of the $5 billion quota for long-term investors had been filled as of Wednesday, compared with 83 percent utilised by FIIs.
"The $5 billion is earmarked for long-term investors already. The proposal is to allocate the unutilised portion of this to Euroclear, so we expect about $2-$3 billion to start with," said one of the sources.