The finance ministry has asked the National Institute of Public Finance & Policy (NIPFP) to analyse whether the government can remove the limits also known as quantitative restrictions currently imposed on FII investment in rupee-denominated debt.
Some policymakers opine that the government can remove quantitative restrictions by rescinding the limit on FII investment in debt. There is also a proposal to replace caps with percentage limits in the debt market. The NIPFP has been directed to prepare a discussion paper on the subject by the department of economic affairs in the finance ministry.
The government has been raising the limit on FII investment in G-Secs and the corporate bond market to attract capital inflows. Recently, the ceiling on FII investment in government debt has been increased by $5 billion to $20 billion, while the residual maturity required for investments in excess of $10 billion has been reduced from 5 to 3 years. FIIs are allowed to investment another $20 billion in corporate bonds and $25 billion in infrastructure bonds in a year. Any move to remove the cap altogether would open up the country's capital account but is likely to be resisted by the Reserve Bank of India.
Giving free hand to foreign investment in debt market could create excessive volatility in the bond market, affecting yields and complicating the monetary policy. At the same time, such a policy could result in FIIs building large trading desks in India. This could bring in global trading strategies in the local debt market, while the country may also benefit in terms of higher capital flows.
Various expert panels on financial sector reforms have suggested removing the caps on the rupee debt market in the past. The government has now tasked NIPFP to study the implications of such a move in the current context, the sources said. The working group on foreign investment headed by Sebi chairman and UTI Mutual Fund former chairman UK Sinha said the presence of caps hampered international acceptance of rupee-denominated debt and led to low interest among foreign investors in the Indian debt market.
The aggregate caps remove the incentive for foreign financial firms to build practices in and engage deeply with India. Global financial firms are concerned about undertaking salary and other fixed costs of building India-focused teams, when this investment has a stop-go character, with periodic cessation of activity when limits are reached, the group said.
Foreign financial firms may hence reasonably choose not to invest in organisation building focusing on Indian debt securities in the first instance, it said. The Tarapore Committee on fuller capital account convertibility has also recommended that ceilings for investment in government and corporate debt should be calibrated through percentages.
For better flow
* Some say quantitative curbs can be removed by rescinding the limit on FII investment in debt
* There is also a proposal to replace caps with percentage limits in the debt market
* Limit on FII investment in G-Secs and corporate bond market raised to attract capital inflows