Bonding with debt

India’s tax policy on household savings has traditionally relied on the received wisdom that equities are the ideal vehicle to funnel capital into productive segments of the economy. Thus, liberal tax breaks were extended to shares and equity mutual funds, while fixed income instruments suffered from benign neglect. But correctly recognising that bond markets can play an equal, if not even more useful role in nation-building, Jaitley’s latest Budget has made a clean break from the past in proposing several measures for developing the debt markets. This is a truly welcome policy shift. Most Indian households fall in the low to middle income brackets and plough two-thirds of their financial savings into bank deposits. Therefore, widening the menu of debt options may work far better to expand the financial savings pool, than pushing savers willy-nilly into equities.

The Budget has three key sets of proposals which are promising for debt markets. One, by biting the bullet on a 10 per cent tax on long-term capital gains from equities and granting senior citizens tax-free status on interest income up to ₹50,000 a year, the Centre has signalled its intent to level the uneven playing field between equity and debt investments. The substantial tax break may restore the flow of retail savings into bank deposits, aiding credit growth. Two, recognising that retail savers need high-yield investment avenues beyond bank deposits, it has proposed that large corporate borrowers be mandated to finance a fourth of their needs from the bond markets. While SEBI may find such a diktat hard to enforce on private corporates (they will go by relative borrowing costs), the measure sits well with recent RBI rules requiring banks to cap their large corporate exposures. PSUs are prodigious bond issuers and even persuading them to take the public market route instead of private placements, may do the trick. Three, the move to get the insurance and pension regulators to permit their constituents to invest in lower-rated corporate bonds is positive too, for the deepening of India’s notoriously illiquid corporate bond market. Given that both insurers and pension funds have been ramping up their equity exposures, fears that investment-grade bonds will expose them to undue risk are not very well-founded; such risk can also be managed through prudential limits.

Of course, this Government’s biggest service to retail savers, which has flown under the radar, is its willingness to maintain relatively high interest rates on small savings schemes and source a rising share of its borrowings from this pool. Even as the States have sharply reduced their borrowing from the small savings fund in the last four years, the Centre has increased them eight-fold, from ₹12,357 crore in FY14 to ₹1.02 lakh crore in FY18. This comes at the cost of high interest payouts, no doubt. But at least it serves the useful purpose of tapping excluded savers in the rural hinterland, and giving the banks a taste of competition on rates.

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