FII cap in debt mart to remain

The Reserve Bank of India (RBI) will further open up the Indian debt market to foreign investors only after there is an efficient and safe settlement system in place.

The banking regulator also wants the public debt to drop to less than half of the gross domestic product (GDP) and the market to deepen with domestic players such as insurance and pension funds for letting greater leeway to foreign investors.

"In the medium term, considering the overall macro-economic situation, the ceiling for foreign investment in both government securities and corporate debt will continue to be calibrated as an instrument of capital account management," RBI Governor Y V Reddy said in a speech in Washington on developing debt markets in India.

Foreign institutional investors (FIIs) are allowed to invest in the Indian debt markets subject to limits that are reviewed on an ongoing basis. RBI has already increased the investment ceiling for overseas investors in government securities from $2.6 billion to $3.2 billion, which has to be notified by the Securities and Exchange Board of India (Sebi), while the limit for investment in corporate bonds is at $1.5 billion.

"In particular, a more liberalised access to foreign investment would be appropriate when, among other things, an efficient and safe settlement system is well entrenched, aggregate consolidated public debt to GDP ratio reaches a reasonable level, say less than 50 per cent, and the corporate debt market acquires depth and liquidity with significant role for insurance and pension funds in India," said Reddy.

The government debt to GDP ratio is currently around 80 per cent. The corporate debt market is only 14 per cent of the total debt market. The current average daily trading volumes in the corporate bond market are just about Rs 350 crore.

RBI expects the government to rationalise stamp duty and abolish the process of deducting tax at source soon, as suggested by the R H Patil Committee. The high-level committee was set up by the government to identify factors inhibiting the growth of an active debt market and recommend necessary policy actions.

The other recommendations include rationalising the primary issuance procedure, facilitating exchange trading, increasing the disclosure and transparency standards and strengthening the clearing and settlement mechanism in the secondary market. These recommendations have been accepted in principle by the government, RBI and Sebi and are under various stages of implementation.

"Further progress is anticipated in regard to rationalising the primary issuance procedures, which is a critical step for moving away from the predominance of private placements," said Reddy.

Earlier, only banks tended to deploy their funds in the corporate bond market, mainly through private placement.

"RBI expects that with the recent slow but steady development of the insurance sector, mutual funds, coupled with the existence of a reliable government securities market and the availability of robust reporting, trading and settlement mechanisms would lead to a rapid development of a vibrant corporate debt market," said Reddy.

RBI is committed to allowing market repos (borrowing against these securities) in corporate bonds once it is assured of availability of efficient price discovery through significant increases in public issues as well as secondary market trading, and a system of net settlement of both funds and securities and straight-through processing are in place.