Menace of Baring Indian Government Bonds to International Market
- In September 2023, J.P. Morgan announced the inclusion of Indian local currency government bonds (LCGBs) in its Government Bond Index-Emerging Markets
- The development was followed by Bloomberg's proposal in January 2024 for India's "fully accessible route (FAR)" bonds.
Significance of the Decision
- FTSE Russell keeps India on its watchlist for a potential upgrade, underscoring the need for reforms in the government bond market.
- India began the process of integrating its government bonds into global indices in 2019
- This makes a segment officially accessible to foreign investors by 2020 through the FAR.
Benefits and Risks of Integration
- A 2022 RBI report outlines benefits, including
- Reduced dependence on domestic institutions,
- Increased stability
- Potential financing for deficits.
- Opening local bond markets to foreign investors could
- Lower borrowing costs
- Relieve local financial institution
- Mitigate the "original sin" problem of borrowing in foreign currencies.
Challenges and Risks of Internationalization : A Concept to Understand
- Internationalization entails a loss of autonomy in controlling long-term rates It exposes emerging economies to greater interest rate risks.
- Foreign portfolio inflows into local currency bond markets may not provide stable and long-term funding
- The investors can quickly withdraw during market distress.
Malaysia and Turkiye Experiences
- Malaysia's 1997 Asian crisis and Türkiye's 2022 offshore lira market experiences serve as cautionary tales of speculative activities
- There is the need for regulatory measures.
Current Indian Efforts and Concerns
- There is always a gradual, evolutionary process for currency internationalisation.
- The RBI's efforts include allowing banking services in the Indian rupee outside the country.
- This is creating an offshore INR market with potential implications for speculation and instability.
- Y.V. Reddy emphasizes that the Indian rupee's internationalization requires
- Sustained development of the financial system
- Improved economic performance.
Conclusion
- There are possibilities of underestimated risks, potential exchange rate instability and boom-bust cycles in capital flows.
- Past episodes of crises in emerging economies highlight the importance of cautious policies to manage financial integration effectively.