Limited room to buy bonds issued by states: India's biggest banks to RBI

Banks' reduced buying of state bonds could strain India's state governments, which have completed only about 26% of their planned borrowing this fiscal year

By Pratigya Vajpayee

 

Some of India’s biggest banks have told the central bank that they are running out of room to buy bonds issued by states, people familiar with the matter said. 

The lenders recently approached the Reserve Bank of India, warning that the share of state bonds in their investment portfolios has risen sharply and is nearing internal limits, according to people familiar with the matter, who declined to be identified as the discussions are private.

 

Banks’ warning to the RBI may signal pressure for action to stem the bond selloff. Any pullback in buying by banks — the main investors in Indian state bonds — could tighten funding access and limit capital-raising options, especially as states have raised only a small portion of their planned borrowings this year.  

 

The central bank did not reply to an email seeking comment on the matter.   

 

While there’s no regulatory cap on state bond purchases, Indian banks follow internal prudential limits as a risk measure. For state-run banks, this typically ranges between 45–55 per cent of investments, and for private banks, 15–20 per cent, the people said. 

 

Given banks’ role in the state bond market, a potential slowdown in their purchases spells trouble for India’s state governments, which have completed just over 26 per cent of their estimated borrowing for the current fiscal year.

 

There’s little the central bank can do to ease state bond investment limits, as these are set by the boards of individual banks, the people said.

 

Bloomberg News reported last week India’s banks have approached the RBI to ask for actions to stem a government bond selloff.

 

The lack of demand was evident in last week’s state bond auction, where some issuances failed to attract sufficient investor bids. Indian states raised ₹28,890 crore ($3.3 billion), less than the planned ₹34,150 crore.

 

Weak appetite has spilled over to central government bonds, with the yields on the benchmark 10-year bond rising by 19 basis points in August, the sharpest monthly jump since September 2022.

 

Adding to the pressure are concerns that the federal government may ramp up borrowing to offset revenue losses from recent consumption tax cuts.