The direct positive impact of the inclusion of certain Indian sovereign bonds in key emerging-market bond indexes managed by JP Morgan will be marginal in the near-term as the effect on fiscal credit metrics is unlikely to be significant, according to Fitch Ratings.

However, the move will be positive for financing flexibility as the index inclusion will support a diversification of the investor base for Indian government securities, lower funding costs slightly, and support further development of domestic capital markets.

“India’s high government debt and interest/ revenue ratios are weaknesses in its credit profile, and developments that help to lower funding costs can have a significant influence on the sovereign’s creditworthiness,” Fitch said.

Also read: Bond index inclusion for India: More flows, with added responsibility?

$24 billion in passive inflows expected

The JP Morgan GBI-EM indexes will invest in government bonds issued under a fully accessible route (FAR), comprising 23 bonds with a total value of about $330 billion. Inclusion in the indexes is estimated to facilitate about $24 billion in passive inflows between June 2024 and March 2025. Flows could be greater if other indexes also move to include Indian government securities.

The resulting increase in foreign investor G-Sec holdings is likely to be large, compared with only around 1.6 per cent ($19 billion) as of April-June, including $12 billion worth of bonds issued under FAR.

“However, we believe foreign investors will still represent a fairly small share of overall holdings, so their influence on debt pricing is likely to be limited,” the note said. 

Also read: Global Index inclusion may draw up to $40 billion flows to India

Smaller positive effects

Even so, increased foreign investment is likely to have other smaller positive effects, as a more diverse investor base could reduce crowding-out risks, it said, adding that if the government becomes less reliant on domestic financial institutions for funding, the latter would have greater leeway to provide credit to the private sector, and also stimulate further capital-market development. It could also encourage the government to pursue policies consistent with macroeconomic stability and fiscal prudence, benefitting the sovereign’s credit profile over the longer term.

”The vulnerability of India’s sovereign financing costs to external drivers is currently quite limited, reflecting the dominant role of domestic financing, but could increase over time if non-resident holdings of government securities were to rise significantly, and the fiscal metrics remain weak,” Fitch said, adding that it doesn’t believe the inclusion will significantly affect India’s fiscal policy approach.

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