The bond market can expect a minimum of Rs 7 trillion of net central government borrowing and Rs 7 trillion of state government borrowing for the fiscal year 2021-22. The Union Budget for 2021-22 is expected to be inflationary, as the government spends to push up GDP growth to double digit levels. Assuming that fiscal deficit of center and states is pegged at 5% and 4% of GDP respectively for fiscal 2021-22.
The bond market is not capable of absorbing such high borrowings as banks that hold 39% of total outstanding bonds, have almost exhausted their appetite for bonds with investments of 30% of deposits in government bonds as against regulatory requirement of 18.5%, which is the current SLR rate.
RBI and the government will have to plan to lower domestic bond supply. RBI can buy bonds from market to make up for shortfall in demand while government can float sovereign bond issues globally to finance part of the fiscal deficit.
Absence of any commitment by RBI and government to lower bond supply will lead to sharp rise in yields.
As of 29th Jan 2021, market borrowing of Government of India stood at Rs 11.38 trillion in the current fiscal year, which is 94.83% of targeted borrowing for FY21. The Government of India had revised gross market borrowing to Rs 12 trillion from Rs 7.8 trillion earlier in order to alleviate economic downturn caused by Corona pandemic. Moreover, during Apr-Dec 2020-21, India's fiscal deficit stood at Rs 11.58 trillion which is equivalent to 145.5% of budgeted target for FY21. Considering all these data, it is highly possible that India’s fiscal deficit is likely to go beyond 7% of GDP during current fiscal year as a consequent to expansionary fiscal policy.
Government bonds, SDL and OIS yield movements.
During the week, 5.85% 2030 yield remained steady at 5.91%. In the same line, yield of 5.77% 2030 and 5.79% 2030 remained unchanged at 5.94% and 5.97% respectively. 5-year benchmark bond, 5.22% 2025 stood steady at 5.22%. However, long term paper 7.16% 2050 yield rose by 3 bps to 6.54%.
The spread of 10-year bond over 5-year bond (5.22% 2025) remained steady at 69 bps from previous week. On the other hand, 15-year benchmark over 10-year benchmark spread rose to 44 bps from 42 bps while 30-year benchmark over 10-year benchmark spread came down marginally to 62 bps from 63 bps.
In the SDL auction conducted last week, average 10-year SDL yield remained unchanged at 6.62% from last week. The spread with G-sec benchmark rose to 70 bps from 65 bps.
On weekly basis, 1-year OIS yield came down by 1 bps to 3.75% while 5-year OIS yield decreased by 9 bps to 4.67%.
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