Policy-makers looking to allow FIs to buy government bonds from sovereign wealth and pension funds.

MUMBAI: India's policy-makers are looking at allowing foreign investors to buy government bonds from a relatively little used quota of $10 billion earmarked for sovereign wealth and pension funds in a move that could help the government lower borrowing costs and temper interest rates for now.

The move could open up more than $7 billion of bonds for such investment. The proposal comes as foreign funds are close to exhausting their investment limit of $20 billion in government bonds.

Finmin, RBI & Sebi in talks

Foreign funds had lapped up government bonds last year and earlier this year, taking advantage of interest-rate arbitrage — borrowing at lower rates overseas and profiting by buying into higher yielding and safe sovereign borrowings. At the end of June, they had reached almost 95% of the limit of $20 billion, while just a little over 20% of the $10 billion set aside for sovereign wealth funds, pension funds, insurance firms and foreign central banks had been taken up.

Talks are on between the finance ministry, Securities & Exchange Board of India and Reserve Bank of India over the proposal, said a senior official with knowledge of the plan. The official said such a move makes sense as the overall investment limit for foreign funds in government bonds will not be changed. It will instead allow investors who want the bonds to acquire them while leading to an overall lowering of bond yields and greater liquidity.

RBI has been uncomfortable with allowing greater play for investments by foreign portfolio investors in government bonds, especially treasury bills and securities of a maturity of less than a year, because of heightened volatility. That's because foreign funds sold off such securities in the middle of last year, putting the current account deficit under further pressure at a time investors were making a panic exit from emerging markets such as India after the US Federal Reserve spoke of tapering its stimulus programme.

At the time, this led to the rupee plunging against the dollar and bond yields shooting up. Foreign institutional investors (FIIs) sold off more than $5.5 billion in the debt segment up until August last year. That promoted policy-makers to earmark a separate quota for long-term funds such as sovereign wealth funds and pension funds last year, in the hope that it would attract more stable money.

That effort has not paid off yet. Indeed, a higher limit for foreign investors had been approved last year by regulators, nudged by the government, to attract inflows at a time India was weighed down by widening deficits and a slump in economic growth. India was able to pull back the current account deficit and shore up the rupee through a series of drastic measures, including duties on gold imports.

In April, RBI barred investments by FIIs in bonds or securities of a maturity of less than a year. However, since the latest proposal does not envisage any increase in the overall limit, it should gain approval, the official said. The concern could be on transferring the quota to a band of investors not perceived as having a long-term view.

India allows foreign investors to buy corporate bonds of up to $51 billion besides the overall investment cap of $30 billion on government bonds. However, foreign investors had bought bonds aggregating just about 38% of this quota at the end of June this year, given that they are uncomfortable with the ratings and creditworthiness of many corporate borrowers.

Source : economictimes.indiatimes.com