Record Borrowing Fuels Market Anxiety
According to estimates compiled from economists and market strategists, total government bond supply next fiscal year could rise by over 10% compared to the current year. This surge includes both central and state government issuances, making it one of the largest debt waves India’s bond market has ever faced.
The sheer scale of expected supply has raised concerns about whether demand can keep pace, particularly at a time when liquidity conditions remain tight and banks the largest holders of government securities are facing slower deposit growth.
Yields Hit Multi-Month Highs
India’s benchmark 10-year government bond yield has risen by nearly 25 basis points since December, touching around 6.72%, its highest level in almost 11 months. Short-term funding costs have also firmed, with overnight money market rates staying above the Reserve Bank of India’s key policy rate of 5.25%.
Adding to the pressure, the benchmark one-year certificate of deposit rate for banks has jumped around 65 basis points in just two months, reflecting stress in short-term funding markets.
Structural Issues Weigh on Demand
Economists and treasury officials point to deeper structural challenges that are dampening demand for government bonds. Bank deposit growth has lagged credit expansion, reducing the incentive for banks to add more bonds to their portfolios.
At the same time, regulatory changes related to banks’ trading books have altered investment behaviour, while insurers and pension funds—traditionally steady buyers—have slowed purchases.
Market experts note that banks are increasingly replacing government bonds sold to the RBI with higher-yielding state development loans, constrained by internal investment limits.
RBI’s Dual Role Creates a Tightrope
The bond sell-off has occurred despite aggressive liquidity support from the Reserve Bank of India. During the current financial year, the RBI has injected nearly ₹9.56 trillion into the system through open market operations and foreign exchange swaps, including record bond purchases worth about ₹5.7 trillion.
However, traders say the central bank’s simultaneous intervention in the foreign exchange market is offsetting these efforts. As the RBI sells dollars to support the rupee—currently under pressure from foreign outflows—it absorbs rupee liquidity, tightening cash conditions.
Rupee Pressure Adds to Volatility
The rupee has been hovering near record lows amid global uncertainty and prolonged trade negotiations between India and the United States. Persistent foreign portfolio outflows have forced the RBI to remain active in the currency market, complicating its task of keeping domestic liquidity comfortable.
Market participants say expectations of sustained rupee defence, coupled with heavy government borrowing and higher state bond issuance, have significantly dented sentiment.
What Lies Ahead
Analysts expect bond market volatility to persist in the near term as investors await clarity from the Union Budget and subsequent state borrowing calendars. Much will depend on how the RBI balances its liquidity operations with currency management, and whether global financial conditions turn more supportive.
For now, India’s bond market appears braced for a challenging phase, navigating record supply, fragile demand, and a central bank walking a fine line between stabilising the rupee and anchoring yields.
