RBI likely to issue $35bn NRI bonds to support rupee.

Mumbai: The Reserve Bank of India (RBI) is likely to mop up foreign exchange of $30-35 billion by floating bonds to non-resident Indians (NRIs), according to a report by Bank of America Merrill Lynch. The main trigger for the dollar mop-up is the rise in crude oil prices, which in turn has put pressure on the rupee.

If the RBI does go ahead and sells bonds to NRIs, this will be the fourth such offering. The government had first raised money through NRIs by floating $5 billion of Resurgent India Bonds in 1998 in the wake of sanctions placed on the country following the second round of nuclear tests in Pokhran. The second offering was the $5-billion India Millennium Deposits just two years later. The last such issuance was a $34-billion FCNR (B) special deposit in September 2013, after the rupee hit 68.84 following the ‘taper tantrums’ — the term used by markets to describe the volatility after the US Fed announced that it would taper off its bond repurchase programme.

In a research report, DSP Merrill Lynch’s India Economist Indranil Sen Gupta said, “Every NRI bond issuance has been effective in curbing rupee volatility.”

Gupta added, “We think that there is a rising case for issuing NRI bonds, with our oil analysts now seeing $72 per barrel in 2018 and $75 in 2019.”

Although all bond issues have been by banks, the lenders have largely been fronts with the RBI buying the dollars from them and agreeing to sell at a fixed price. The bonds have been highly successful as — for NRIs — they are a sure bet with returns higher than what they would get in overseas banks and no exchange rate risk. There is also an arbitrage opportunity for NRIs as many offshore banks are willing to lend them money at a lower rate than what is offered on the bonds.

Another reason for the government to issue bonds is that $27 billion of foreign exchange loans and bonds are set to mature by March 2019, putting further pressure on the rupee. The classic textbook defence for the rupee has been interest rate hikes. However, experience has shown that rate hikes can cause collateral damage in equity markets and this, in turn, causes a weakening of foreign portfolio inflows.

Foreign portfolio inflows are, in any case, expected to weaken in the run-up to the general elections in 2019. Past foreign bond issuances have been successful because they have helped in stabilising the rupee. A stronger rupee reduces the repayment obligation for banks.