Will the budget give a second boost to sovereign bond issues?

About 3 years back, the government was keen to push the idea of Sovereign bonds to raise capital. It is tantamount to borrowing by issuing G-Secs abroad. The only difference is that it is a forex risk too. It is high time, India does that.

Why previous plan was dropped

In the Union Budget of 2019, the center had planned an aggressive $10 billion sovereign bond target for the year. The argument was that India’s forex reserve position was comfortable and the rupee was also relatively stable. That made a strong case for allowing sovereign debt. It has an element of uncertainty since the debt has to be serviced in foreign currencies (typically dollars). Hence any weakness in the rupee could be vicious for the economy, in the sense that the INR and flows may feed on each other.

Time for a rethink now

Back then, the PMO had also gotten involved and amidst strident criticism, they had opted to put the plan on hold. The same year, the world was hit by the COVID crisis, after which the entire idea was put in the back burner. However, now that the COVID pandemic is history and India has come out of it in a very convincing manner, it is time to relook at that concept of sovereign bonds all over again. With forex reserves having weathered the dollar storm, it gives a lot of confidence to the government. Now, sovereign bonds are a risk worth taking.

What to be cautious about?

The concerns of the government in the previous round were not without reason. There are 3 risks in sovereign bonds. Firstly, it can cause a lot of volatility in the currency markets and also in the domestic bond markets as there would be a lot of trades over which the center will have no control. Secondly, India had seen a sharp fall in the rupee in 2022 and such a move would not only spike the liability of the government, but also feed on rupee weakness. Lastly, issue of sovereign bonds is the debt of central government and enhances its total debt as a percentage of GDP. This also has major implications for sovereign ratings.

What favors sovereign bonds?

There are a number of factors that are in favor of allowing sovereign bonds. For instance, $10 billion is not a big sum if you look at a $3.5 trillion economy and poised to grow to $5.0 trillion. In this kind of backdrop, outstanding sovereign bonds of $10 billion or even $20 billion would not really make a dent. Secondly, the forex reserves are comfortable at over $560 billion and if you add surplus on the services account, the overall trade coverage is quite good. Lastly, it gives a benchmark for the government bonds to be valued on a global risk basis and that could give better benchmarks for the Indian government for its fund raising in future. At this stage, India must not just remain inward looking!