India’s Bond Market and Global Index Inclusion

Context

Bloomberg Index Services Ltd (BISL) again postponed the addition of Indian government bonds to its main index, Global Aggregate, saying that the need for the recent regulatory changes is for them to be fully implemented in market practices. The delay is causing an estimated passive foreign inflow of Rs 20–30 billion to be delayed despite policy measures such as the removal of the withholding tax in India.

Background

• Target Index: The Bloomberg Global Aggregate Bond Index is a global investment-grade debt index, and being added is likely to attract a lot of foreign capital.
• Previous Milestones: India has been included in JPMorgan Emerging Market Index (June 2024) and FTSE Russell indices, with unique requirements needed for inclusion in Bloomberg.

Key Reasons Behind Bloomberg’s Deferral

Bloomberg Index Services noted structural improvements, but emphasized that it takes time for the changes to have more of an impact in day-to-day activities.

• Evaluation of Tax Implementations: The Ministry of Finance implemented tax adjustments to enable index entry. This comprised abating the 12.5% LTCG tax and removing the 20% withholding tax on interest income from G-Secs from eligible foreign institutional investors (FIIs). Global asset managers called for more time to witness these changes in the real-world clearing and settlement and reporting of post-trade processes.
• Administrative Onboarding Friction Cross-Border: Foreign portfolio managers noted complexities in administrative onboarding. High volume passive flows are to be automated for custodial bank networks, Foreign Portfolio Investor (FPI) documentation and cross-border account opening procedures.
• Execution of Multi-Region Settlement: While the Reserve Bank of India (RBI) expanded access to the Fully Accessible Route (FAR), certain timezone and liquidity constraints remain. Before the inclusion of the standard indices, market participants asked for a gradual automation of the matching process at different trading regions.

Indian Policy Actions

• Tax Changes: Government recently reduced the withholding tax on interest to 20% and eliminated long-term capital gains tax on certain government securities.
• Accessibility: The Reserve Bank of India extended the Fully Accessible Route (FAR) to encompass more long tenure bonds.

Impact on Indian Economy

• Delayed Inflows: The move puts on hold the projected $20–30 billion in passive debt investment.
• Market Reaction: The move put a short-term upward price pressure on 10-year bond yields.
• Market View: The deferral is a sign of good operating practices, experts say and not structural economic weakness.

Way Forward for India’s Capital Markets

The areas in which public policy and market infrastructure should focus in the future to ensure the inclusion of the Global Aggregate Index in future review cycles.

• Digitizing FPI Onboarding: The Securities and Exchange Board of India (SEBI) and custodian banks can work to transition registration processes into an integrated, paperless system.
• Improving Intraday Liquidity: Facilitating Intraday Liquidity via enhancements to clearing house facilities to offer liquidity facilities throughout time zones can benefit cross-border settlement.
• Confidence for Large Global Fund Managers: Stable tax and remittance rules give them the confidence to build policy consistency. 

Source: The Indian Express

UPSC Mains Practice Question 

Q. How can the inclusion of Indian Government Securities in global bond indices influence foreign capital inflows, India’s bond market and macroeconomic stability? Discuss.

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