Borrowing target for Apr-Sept FY19 cut to Rs 2.88 lakh crore: How lower debt, bond yields affect the economy

Aseem Thapliyal        Last Updated: April 3, 2018  | 09:49 IST
Borrowing target for Apr-Sept FY19 cut to Rs 2.88 lakh crore: How lower debt, bond yields affect the economy

The government on Monday fixed its borrowing target for the first half of the next fiscal (April-September period of 2018-19) to Rs 2.88 lakh crore. The amount is much lower than the Rs 3.72 lakh crore it had borr owed in the first half of 2017-18. The Indian economy, public sector banks, rupee, markets and bond yields stand to gain from the government's move.

Investors who want to put money in government bonds may find themselves on the losing end since yields (interest rates) on the securities they buy is likely to fall in the near future.

We look at the positives the reduction in government borrowing would bring to the economy.

Fall in bond yields

The Rs 2.88-lakh crore borrowing target is 48% of the government's budgeted amount for the full fiscal year (FY19). Usually, the government borrowed around 60-65% of the full-year  borrowing  targets in the first half (as per past experiences), which was also the expectation this time around

According to SBI Research, this is the lowest borrowing in first half of a fiscal during the last 10 years in percentage terms.

A government borrows money to bridge the difference between revenue and expenditure. To borrow money, it issues securities, bonds and bills.

The money for borrowing purposes comes from lenders (primarily public sector banks) within the country and foreign lenders.

Since the Modi government decided to cut borrowings for H1 of FY 19, Indian bonds value saw the sharpest rise in over four years on Tuesday. The rise in value of govt bonds signals an increase in credibility of the government's fiscal situation since it hopes to meet its expenditure by taking lesser loans.

Consequentially, the 10-year bond yield (interest on bonds) fell to as much as 7.3565 percent today, down nearly 26 basis points from 7.62 percent, its lowest since January 29. Bond value and yields are inversely related. (One basis point is equal to one hundredth of a percentage point).

Crowding out effect

A fall in borrowings of government for April to September 2018 will leave more room for private sector to borrow from the market. Earlier, the same funds were used by government to meet its expenses. Now that they would be available to the private sector, the sector would be in a position to utilise these funds for its growth.

Banking sector

Banking stocks rose the most in trading on Tuesday. BSE Bankex was the top gainer among the sectoral indexes, rising 253 points or 093 percent today. Shares of Punjab National Bank rose by 3.66 per cent, SBI (3.04 per cent), Bank of Baroda (1.73 per cent), Indusind Bank (1.45 per cent), Kotak Mahindra Bank (1.25 per cent), ICICI Bank (0.91 per cent), Axis Bank (0.74 per cent) and YES Bank (0.15 per cent) on BSE.

SBI was the top gainer in the Sensex pack. Among others, Corporation Bank surged 5.46 per cent, Indian Bank 4.41 per cent, Dena Bank 3.50 per cent, Bank of India 3.24 per cent, Bank of Maharashtra 2.94 per cent, Allahabad Bank 1.34 per cent, Syndicate Bank 1.70 per cent and UCO Bank 0.70 per cent.

Bank stocks had soared up to 10 per cent in the previous trading session also.

Public sector banks are typically the largest investors in sovereign securities.

"Lower-than-expected borrowing programme for H1 FY19 at Rs 2.9 trillion or 48% of the budgeted gross annual borrowing of Rs 6.1 trillion provides respite to PSU bank stocks that have been reeling under tremendous pressure over the past three months," Emkay Global said in a report.

Banks get a respite from lower bond yields, which leads to a rise in their profitability.According to a report by India Ratings report on February 13, 2018, a rise in bond yields would lead to a considerable fall in the banks' treasury income in the March quarter, with a spillover effect in FY19.

The report had estimated banks' profitability to be affected to the tune of Rs 30,500 crore in FY18, with return on assets of around 30 basis points due to a rise in bond yields.

Now that the bond yields are expected to fall in the near future, the eroding profitability of public sector banks is likely to recover. This is the reason banking sector stocks saw a huge rally today.


Due to rising investor sentiment, the Indian rupee rose by 9 paise to hit a four-week high of 64.78 in trade today on a fall in bond yields. The currency is likely to rise further on falling bond yields.

Expert quote

Vijayanand Prabhu, investment analyst at Geojit said, "There has been limited appetite for G Secs during last few weeks due to muted sentiments. This rather pushed the yields higher. More than stipulated market borrowing during FY 18 resulted in deficit inching to 3.8% mark. The tightening yields caused negative returns on their portfolio, kept state governments who are the major borrowers, at bay."

The government has changed the borrowing strategy to modest one in the first half of next fiscal.

"To bring down the yield to realistic levels (and trigger a price rally) and to learn the demand for government securities over the short term, the borrowing calendar has been reversed from traditional 60:40 strategy in H1 and H2, to a modest 48% borrowing in H1 and aggressive second half. The yields will trend down and the volatility would reduce to 7% levels,  added Prabhu.

Lower interest outgo for government

A fall in the government borrowings in H1 FY 19 indicates that the government's outgo on interest payments for the loan it will take will be lesser compared to the last fiscal. That will lead to lower interest payments by the government in next fiscal.

Rising stock market

A decline in yields (which remains fixed during the bond's tenure) would prompt investors to pull out money from bonds and park them in better avenues such as stock markets. Thus fall in bond yields is good news for Indian stock market.

Expert quote

Deepak Jasani, head, retail research at HDFC securities said, "A  lower  than  expected  supply of paper is likely to, therefore, ease the pressure  on  the  local  debt  markets  especially when the banking system (especially  PSBs) has been reluctant to absorb the supply given their huge mark-to-market   losses.  

Yesterday's  announcement  is  definitely  a  big positive  for  the  bond  markets and is likely to bring some relief to the surging  yields.  Moreover,  the  fact  that  some  of  the concerns on the inflation  side  have  now  been alleviated (with a lower than expected CPI print in the month of February) it is likely to keep the RBI on a prolonged status-quo  than  was  anticipated earlier (though we still expect a 25 bps rate hike towards the latter part of FY19)."

Lower borrowing by the government is a big positive for the bond markets and yields are likely to fall in the near term. In the near term, Jasani sees the possibility of decline in bond yields to the  tune  of  20-30  bps and trade within the range 7.2% -7.4% in the near term.  

"A further upside to  prices cannot be ruled out if the government announces an increase in FPI limits. Bond yields, however, could again start to rise in H2CY18 as inflationary risks begin to materialize," Jasani added.

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