Grounds laid for lower bond yields
High cost of capital has been one of the major reasons for the muted growth of private sector capex. Being the biggest borrower in the capital market, the central government has often been blamed for crowding out the private sector from the bonds market. With the average borrowing cost for the Centre having been over 7% whole of last financial year, and the government bond yields still trading persistently above 7%, the private sector has found it expensive to raise debt domestically.
However, two events – RBI’s Rs 2.11 lakh crore dividend to the government and the government’s bond inclusion – may force the yields to go down below 7% on a more consistent basis. Two other factors – continuity at the Centre of an NDA government, which has a proven track record of being fiscally prudent, and an estimated benign inflation in the current financial year – also strengthen the case for lower yields in the near future.
Government bond yields have been trading over 7% for over a year; only briefly did it go below the 7% mark in May this year. However, a bumper dividend from the RBI means that the government borrowings in the current fiscal may be lower than projected. The government has already budgeted for a lower fiscal deficit of Rs 16.85 lakh crore than FY24’s revised estimate of Rs 17.34 lakh crore. With Rs 2.11 lakh crore in dividend from RBI compared to Rs 87,000 crore last year, the government is in a sweet spot as far as fiscal deficit is concerned.
Therefore, government borrowing should be much lower this year, bringing down the yields on government bonds. Indian government bonds will be included in the JP Morgan bond index beginning 28 June 2024 and Bloomberg Bond Index from 31 January 2025. The inclusion of government bonds in international bond indices in the ongoing financial year should also help bring down bond yields lower – sub-7% mark. This should have a rub-off effect on the rest of the debt market, and corporate bond yields might also come down from the current levels. A lower interest rate regime should give a boost to private sector investment adding to the country’s GDP growth in the current financial year.