The Hindu Business Line : Get ready for higher interest rates

Chennai, July 6 A keenly watched item by bankers and others in the debt market is the quantum of government borrowings that are announced in the Budget.

Today, it was a shocker when the gross borrowings were announced at Rs 4.51 lakh crore, a good Rs 90,000 crore more than what was forecast in the Interim Budget and about Rs 1.5 lakh crore higher than the borrowings in the last fiscal.

The market had expected higher borrowings in the Budget — but only by about Rs 30,000 to Rs 40,000 crore. The rise in budgeted borrowings is certain to impact interest rates and push them higher over the course of the next six months.

Economists think that the benchmark interest rate on the 10-year government paper that was hovering at around 6.7 per cent till recently could now move towards 8 per cent by the end of the year.

The expected rise in inflation (once the base effect wears off) by the end of the fiscal is also expected to push yields up.

Rely on banks, insurance cos

You may be a bit puzzled about how the government will borrow so much money. The government will rely on banks and insurance companies to do their bit. Insurance companies are long-term players who need such paper on their portfolio.

And banks are required by statute to invest about 24 per cent of their deposits into government securities.

If we assume that banks will invest about 3 lakh crore (of the 4 lakh crore that the government requires) banks will need about Rs 12 lakh crore of deposits this fiscal. Deposits would have to grow at about 31 per cent this fiscal for that to happen (They are currently growing at about 22 per cent year-on year). That is the first hurdle.

Second challenge

The second challenge in the government borrowing programme may be the competition from the corporate sector.

Currently the corporate sector is in a wait-and-watch mode — unwilling to spend money.

If loan growth is to pick up with some bit of economic recovery, it is almost certain to collide with the Government’s massive borrowing programme.

The Government programme is likely to crowd out corporate borrowing. The net result — you’ll have to brace yourself for an inevitable jump in interest rates in 6 months time.

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