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Development of Local Currency Bond Markets: The Indian Experience. Shyamala Gopinath Reserve Bank of India March 6-7, 2007 London. Outline of Presentation. Structure of Bond Markets in India Institutional Arrangements with RBI Central Government Trends in Budget Deficits and Debt

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Development of Local Currency Bond Markets:The Indian Experience

Shyamala Gopinath

Reserve Bank of India

March 6-7, 2007

London


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Outline of Presentation

  • Structure of Bond Markets in India

  • Institutional Arrangements with RBI

  • Central Government

    • Trends in Budget Deficits and Debt

    • Fiscal and Debt Market Reforms

    • Impact of Reforms on the Debt Market

    • Measures to Deal with External Account Pressures

  • State Governments

    • Trends in Budget Deficits and Debt

    • Fiscal and Debt Market Reforms

    • Issues in Development of State Government Securities

  • Corporate Bond Market

  • The Way Ahead


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Structure of Bond Markets in India

  • Central Government Securities

  • State Government Securities

  • Corporate Bond Market

  • Securitised Debt


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Institutional Arrangements with RBI

  • Banker and Debt Manager to Central Government by Statute

  • Banker to 26 State Governments and Debt Manager to 28 State Governments by Voluntary Agreements



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Trends in Centre’s Budget Deficit

  • Three Phases

    • 1991-92 to 1996-97: Sharp Fiscal Correction

    • 1997-98 to 2001-02: Deterioration

    • 2002-03 onwards: Fiscal Correction Resumed


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Financing Pattern of Centre’s Gross Fiscal Deficit

  • Low Share of External Borrowings

  • Substantial Increase in Share of Domestic Open Market Borrowings


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Trends in Government Debt-GDP Ratio

  • Similar to the Trends in Budget Deficit


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Centre’s Fiscal Responsibility Act

  • Enactment of FRBM Act : August 26, 2003

  • Came into force from July 5, 2004

  • Elimination of RD by 2008-09 (3.6% in 2003-04) and revenue surplus thereafter

  • Containment of GFD to 3 % of GDP by 2008-09 (4.5% in 2003-04)

  • RD and GFD placed at 2.0% and 3.7% of GDP in 2006-07 (RE)

  • RD and GFD budgeted to decline to 1.5% and 3.3% of GDP in 2007-08

  • RBI prohibited from Participation in Primary Issuances of G-Secs


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Central G-Sec Market: Pre-Reform Period

  • Features

    • Administered and Low Interest Rates

    • High Statutory Liquidity Ratio (SLR)

    • Automatic Monetisation of Budget Deficit

    • High Cash Reserve Ratio (CRR)

  • Impact

    • Preemption of Financial Savings

    • No possibility of Price Discovery

    • Dormant Debt Market


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Reforms in the Central G-Sec Market

  • Three Phases

  • First Phase (1992-95)

    • Creation of Enabling Environment

      • Elimination of Automatic Monetisation

      • Introduction of Auctions

      • SLR reduced

  • Second Phase (1995-2000)

    • Institutional Development

      • DvP

      • Primary Dealers

      • FIMMDA and PDAI

    • Instrument Diversification

      • Floating Rate Bonds

      • Capital Indexed Bonds


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Reforms in the Central G-Sec Market (Cont’d)

  • Third Phase

    • Enhance Liquidity and Efficiency

      • Indicative Auction Calendar

      • Non-Competitive Bidding Facility

      • Liquidity Adjustment Facility

      • Repo and collateralised borrowing lending system

      • Negotiated Dealing System (NDS), STP and CCP

      • Interest Rate derivatives

      • Market Stabilisation Scheme

      • Foreign investment in local currency debt instruments

      • Conversion of special securities into marketable debt


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Reforms in the Central G-Sec Market (Concl’d)

  • Reforms undertaken in the context of FRBM Act

    • Functional Separation of Debt and Monetary Management: Creation of FMD

    • Extension of PD business to Banks

    • Revised Scheme of Underwriting by PDs: 100% Underwriting by PDs

    • NDS-OM

    • Short-Sale

    • When Issued market

    • Considering Active Consolidation


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Snapshot of the Central G-Sec Market

  • Increase in Stock and Turnover


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Maturity and Yield

  • Elongation of Maturity Profile

  • General Reduction in Weighted Average Yield


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Yield Curve

  • Development of a Smooth Yield Curve



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External Borrowings

  • Low Share of External Debt

  • External Borrowings only from Multilateral and Bilateral Sources


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Measures to Deal with External Account Pressures

  • India Development Bonds (IDBs) (1991): US$1.6 billion

  • Resurgent India Bonds (RIBs) (1998): US$4.2 billion

  • India Millennium Deposits (IMDs) (2000): US$5.5 billion


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Original Sin?

  • India

    • Low Share of External Liabilities in Sovereign Borrowing

    • Sovereign Borrowings only from Multilateral/Bilateral Sources

    • States not permitted to raise external debt directly

    • Foreign investment allowed in locaL currency bonds but within an overall ceiling

  • Issues

    • pros and cons of sovereign foreign currency borrowing

    • Rationale for calibrating foreign investment in domestic currency bonds


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India’s External Debt

  • Cautious approach

  • Sovereign, corporates, financial intermediaries

  • Total External debt $132 bn as at end Sept 2006

  • Long-term debt $126 bn

  • Rise in external debt –ECBs, NRI, short-term



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Trends in Budget Deficit

  • Strong Improvement since early part of this decade

  • Build up of Surplus Cash Balance in Recent Years: Buyback of Securities by some States


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Financing Pattern of Fiscal Deficit

  • Share of Central Loans has reduced

  • Share of Market Loans has increased since early 1990s

  • NSSF continues to predominate


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Fiscal Reforms

  • Twelfth Finance Commission

    • Fiscal Restructuring Plan: Fiscal Discipline

    • Incentivised Enactment of FRL through Debt Consolidation and Relief Facility (DCRF)

    • Financial Disintermediation by Centre

  • Experience

    • FRL Enactment – 24 States

    • RD to be nearly eliminated and GFD-GDP ratio to decline to 2.7% in 2006-07


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Market Borrowings of State Governments

  • Till 1998-99: Tap Issuances

  • States encouraged to adopt auction route:

    • 100 % of market borrowing in 2006-07 so far as against 48.5% in 2005-06 and 2% in 2004-05 conducted through auctions

  • Auction calendar proposed to be issued by States


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State Government Securities - issues

  • Negligible Secondary Market Liquidity

    • Low level of outstanding stock

    • Predominance of buy-and-hold investors

    • Disconnect between the uniform coupon fixed in tap issues and secondary market yield

    • Fragmentation across issuers and securities

  • Proposed Measures

    • Non-competitive bidding

    • Issuance calendar

    • Use for Liquidity adjustment facility



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Corporate Bond Market

  • Corporate Bond markets historically late to develop

  • Access to bank credit

  • Access to external sources of finance

  • Require well developed accounting legal and regulatory systems

  • Rating agencies

  • Rigorous disclosure standards and effective governance of corporations

  • Payment and settlement systems

  • Secondary markets


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Reforms in Corporate Bond Market

  • Four Rating agencies operating in India

  • De-materialisation and electronic transfer of securities

  • Initial focus – reform of private placement market by encouraging rating of issues

  • Further reforms needed

  • Appointment of a High Powered Committee


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High-powered committee recom

  • Enhance the issuer base and investor base including measures to bring in retail investors

  • Listing of primary issues and creation of a centralized database of primary issues

  • Electronic trading system

  • Comprehensive automated trade reporting system

  • Safe and efficient clearing and settlement standards

  • Repo in corporate bonds

  • Promote credit enhancement

  • Specialized debt funds to fund infrastructure projects

  • Development of a municipal bond market


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The Way Ahead

  • Build upon the Strong Macroeconomic Performance

    • Adherence to FRL

    • Stability of Inflation Rate

      -external debt management policy

      Pension reforms

  • Active Consolidation

  • Floating Rate Bonds and Inflation-Indexed Bonds

  • STRIPS

  • Corporate Bonds

    • Bond Insurance Institutions

    • Institutional Investors: Credit Enhancers

    • Securitised paper to be traded on exchanges

    • Municipal Bonds, Mortgage Backed Securities, General Securitised Paper



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