– By Suman Chowdhury
Finally after a long period of courtship of about 10-years, one of the global bond index providers (JP Morgan) has decided to include India in its family. While India allows foreign ownership of domestic bonds in a regulated manner, this act of global listing would clearly add a new dimension to India’s appeal as a destination for foreign investment.
To recall, the buzz on India’s global bond index inclusion has been around for four years now. However, each time the buzz had fizzled out as talks hit a roadblock with respect to taxation (exemption of capital gains tax) and operational aspects like clearing of transactions on a global platform. It is noteworthy that despite India maintaining its stance of ‘no tax exemption’ and emphasis on ‘domestic clearing’, JP Morgan suo moto, decided to go ahead with the inclusion of Indian bonds in its indices.
As per JPM’s Index Governance Review 2023, India bonds will be included in the GBI-EM Global Diversified index suite, starting June 28, 2024, and is expected to acquire a weight of 10 per cent in a phased manner by March 31, 2025. As of Aug 31, 2023, the total AUM for GBI-EM indices stood at USD 236 bn. With India projecting to garner a 10 per cent weight in the index, this would amount to an estimated USD 23.6 bn of FPI debt investment flow between Jun-24 and Mar-25. As of Sep 21, 2023 the FPIs held about USD 11 bn in FAR (fully accessible route without any ceiling limits) securities out of which USD 9 bn portfolio is index eligible. A portion of this could already be tracking EM-India allocation from FPIs; hence, the incremental flow on account of JPM index inclusion could be lower than USD 23.6 bn. But if India finds itself getting listed in the other two major bond indices (FTSE Russell, Bloomberg-Barclays), there could be a potential FPI debt inflow of USD 35-45 bn spread over a 1-2 year period.
From a medium to longer term perspective, the most important benefit for India would accrue in the form of lower borrowing cost for the government. FPIs held only 1.4 per cent of G-secs as of Mar-23. This is significantly lower than the median of 13.4 per cent seen in case of most ASEAN nations. The share of FPI ownership in g-secs could potentially jump to 4.5 per cent by end of Mar-25 if the other index owners also make an announcement to include India in their respective bond indices.
From the perspective of FY25, assuming the central government sticks to the path of fiscal consolidation and targets a fiscal deficit of 5.4 per cent, this could then result in a net market borrowing requirement of Rs 11.9 tn. If India can garner USD 35-45 bn index related inflows by Mar-25, then it would help absorb 24-31 per cent of net g-sec supply in FY25. That’s a substantial one-time relief for fiscal funding and in turn would lower the cost of borrowing for domestic corporates, which could also boost their equity market valuations.
Clearly, the generation of additional sources of fiscal funding via global bond listing is superior compared to raising foreign currency debt via Sovereign Dollar Bond. The latter can come to haunt as the ‘original sin’ during testing times, while in case of the former, the sovereign does not bear the currency risk.
From RBI’s perspective, the key aspect is to manage the fallout from the sudden gush of forex liquidity. If India’s CAD remains broadly unchanged and prints at 1.5 per cent of GDP in FY25, the resultant BoP surplus is unlikely to exceed USD 50 bn. Not to forget RBI proactively managed FX intervention in FY20, FY21, and FY22 – recent years that saw a high BoP surplus of USD 59 bn, USD 87 bn, and USD 48 bn respectively. The central bank can choose to sterilize the chunky inflows with OMO sales and/or issuance of MSS securities. The quantum of required net FX intervention (approximately 1.3 per cent of GDP) in FY25 is not large, given the 20-year median BoP surplus of 1.2 per cent of GDP. Hence, the deployment of sterilization tools to absorb the excess liquidity is unlikely to create market disruption.
Importantly, the act of listing on international exchanges is likely to prod both monetary and fiscal policymakers to lean on the side of macroeconomic stability, prioritize rules-based policymaking over discretion, and keep the progress on the path of economic reforms. From India’s medium-long term macro perspective: (i) return to a revised FRBM path will be critical along with sound debt management strategies to give confidence to global investors on fiscal sustainability. (ii) on similar lines, unwavering focus on the inflation targeting mandate without unambiguous interpretations would ensure durability of foreign debt inflows. From a macro perspective, the effectiveness of monetary policy is generally enhanced with increased access of FPIs to the domestic bond market.
(Suman Chowdhury is the Chief Economist and Head of Research at Acuité Ratings & Research.)
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