High Bond Yields Threaten Borrowing Plan

08 July, 2011

The government will have to consider cancelling or postponing its borrowing programme if bond yields stay “unacceptably” high, a senior finance ministry official with direct knowledge of the matter told Reuters on Friday.

The 10-year benchmark bond yield has climbed nearly 40 basis points since the fiscal year began on April 1, following rate increases by the RBI to fight stubbornly high inflation.

The yield has been moving in a 8.32 and 8.38 range this week, with traders predicting it could rise as high as 8.50 percent on concerns over tight cash conditions and rising rates.

“We cannot go on borrowing with yields being so high. If yields stay at these unreasonable levels, we will have to consider the option of cancelling, devolving or postponing the borrowing,” the official said.

The official said yields have room for moderation as availability of funds with banks had improved on tax refunds, redemption of cash management bills and coupon payments.

“With market liquidity being very comfortable, there is no reason for yields to be this high. Yields are unacceptably high,” the official said.

Yields should not be higher than 8.25 per cent, the official said.

New Delhi plans to borrow Rs 4.17 trillion ($94.1 billion) in the current fiscal year, with 2.5 trillion scheduled between April and September.

As on Friday, the government would complete 70 per cent of its first half borrowing programme or Rs 1.47 trillion.

“If we cancel or postpone borrowing, it will affect the borrowing in H2. The second half borrowing calendar would require some tweaking because we will have to adjust the cancelled or postponed borrowing,” the official said.

Tight Liqyuidity

The current fiscal year started with unusually tight cash conditions due to public withdrawal of currency from banks, high cash reserve ratio requirements for banks and higher-than-expected short-term government borrowing due to a funds mismatch.

While liquidity in the last two fiscal years was positive by around 500 billion to 700 billion rupees in the fiscal first quarter, this year cash conditions were negative in a range of 700 billion to 1 trillion rupees.

The liquidity deficit has narrowed to about Rs 136 billion, but traders anticipate the gap to widen around mid-September when the second instalment of advance tax is due.

The official said that government spending would provide solace.

“Around that time there will be some stress on liquidity. But by then the government spending would have also picked up significantly,” the official said.

“So, I assume the stress on liquidity will be of the same range as it was around the payment of first instalment or may be marginally higher.”

High Refunds

Bond supply at the shorter end of the curve has been higher than scheduled due to a mismatch in government cash flows following a surge in tax refunds, which prompted issue of cash management bills worth Rs 320 billion in April and May, as well as more treasury bills than expected during April to June.

Tax refunds in the June quarter leapt to Rs 468.7 billion from Rs 153.7 last year.

This brought down net direct tax collections during the quarter to Rs 572.7 billion from Rs 686.8 a year ago.

The official said the mismatch in the government’s cash flow was a “temporary stress”.

“Tax refunds will moderate. If you see the total tax refund in the first quarter, about Rs 40,000 crore (400 billion) was refunded by end-May. So, it will moderate.”

“If the gross direct tax collections continue to grow … we would achieve about 20-22 per cent growth in net direct tax proceeds.”

The official said the total rollover of cash management bills would not exceed Rs 260 billion.

Debt market traders are also worried about the extent of monetary tightening.

The Reserve Bank of India has raised rates by 275 basis points since mid-March last year and with price pressures showing no moderation, market players are worried rates could go up by another 75 to 100 basis points.

The official said the fears were unreasonable.

“I don’t know about the RBI policy, but I assume it would hike interest rate by another 50 basis points and that too in at least two phases.”

 


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High Bond Yields Threaten Borrowing Plan

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