Budget 2026 to lift govt borrowing to record, testing bond yields

By Subhadip Sircar and Shinjini Datta

 

Indian traders are bracing for a year of record government debt supply, which may keep borrowing costs elevated in the nation’s $1.3 trillion bond market.

 

Finance Minister Nirmala Sitharaman’s Feb 1 budget may set the gross borrowing 11 per cent higher at ₹16.5 trillion ($180 billion) in the fiscal year starting April 1, according to the median estimate of 21 economists in a Bloomberg survey.

 

The rise, driven by large debt maturities of about ₹5.5 trillion, comes as heavy state government issuance pushes up yields. Higher financing costs risk compounding pressures on the economy which is facing steep US tariffs, while its central bank has little room to cut interest rates further to boost growth.

 

 

Net borrowing, which excludes repayments, will be a tad higher at ₹11.6 trillion, according to the poll. While economists expect a narrower fiscal deficit of 4.2 per cent of the gross domestic product next year, that may not be enough to ease pressure on bonds as a heavy overall supply outstrips demand. 

 

“A disciplined central government fiscal stance is necessary but not sufficient to mitigate bond market stress,” Dhiraj Nim and Sanjay Mathur, economists Australia and New Zealand Banking Group, wrote in a note. “Increased central bank support will be necessary to prevent any outsized increase in borrowing costs.”

 

The Reserve Bank of India has stepped up bond purchases to inject liquidity into the banking system, with yields still near levels seen before 125 basis points of rate cuts. It announced a fresh round of injections worth $23.6 billion in the coming weeks to ease tight cash conditions. Still, the Bloomberg poll sees the benchmark yield staying around the current level of 6.7 per cent by the end of 2026. 

 

State borrowing, which has surged to a record as they boost welfare spending to win elections, is pressuring yields. It comes at a juncture when demand from key investors has softened, with pension funds shifting toward equities and slower premium growth curbing purchases by insurers. IDFC First Bank Ltd. sees gross borrowing by provinces rising 7 per cent to 13 trillion rupees in the next fiscal year. 

 

Some fund managers, including at ICICI Prudential Asset Management Co., expect domestic demand for bonds to pick up in the coming year. 

 

“The fear around demand supply may be overstated,” it said in a note. “Major demand sources like banks, pension and insurance have the capacity and appetite to add government and state bond assets to their balance sheet.”

 

Others, however, still expect a demand shortfall which will require the RBI to step in again. DBS Bank Ltd. sees ₹3-4 trillion of bond buying by the central bank in the coming year, while Nomura Holdings Inc. expects purchases of about 2.5 trillion.

 

“The RBI will have to carry out government bond buying” to add durable rupee liquidity to the banking system, helping absorb the surge in supply, said Sameer Karyatt, head of trading at DBS Bank India.