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CAD may force govt to raise cap on FII holding in bonds

The govt may be closer than ever to raising the cap on foreign investors’ ownership of Indian bonds as their current holding is close to the limit.

, ET Bureau|
Apr 04, 2013, 07.03 AM IST
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MUMBAI: The government may be closer than ever to raising the cap on foreign investors’ ownership of Indian bonds as their current holding is close to the limit and the government is looking for ways to fund the record current account deficit. Tempered flow of foreign direct investment and lack of interest in corporate bonds may lead to the government raising the limit on foreign holding in government securities from $25 billion-.

“They may be looking to increase the limit,” said Arun Khurana, head, debt capital markets, IndusInd Bank. “There aren’t many more alternatives left with the government apart from increasing the capital flows. There is a want of yield outside, which explains the appetite for Indian paper.” India’s current account deficit rose to a record 6.7% of the gross domestic product for the December quarter, while strong foreign fund inflows helped pay for imports. More than oil and gold -- the traditional culprits behind the current account deficit -- there are some disturbing signs in flat software exports and repatriation of dividends by foreigners and payment of interest on overseas borrowings.

Although policy makers believe that stable inflows in the form of foreign direct investment may be a better option than portfolio flows, investments by foreigners in plants and machinery have been slow. "FDI flows into India are quite positive,’’ Finance Minister P Chidambaram told reporters in Tokyo this week. ``We can easily absorb $50 billion of FDI every year into India. Foreign investors continue to place confidence in India.’’ But the FDI flows have been patchy.

Foreign direct investment between April and January was $24 billion, lower than $30 billion, data from the Reserve Bank of India shows. Indeed, the much hyped policy measure to let Walmart and Tesco to open stores in India has not brought any investment so far. Foreign investors can own Indian bonds worth $75 billion. That is divided into $25 billion in government bonds where they own nearly 90% of the limit and $50 billion in corporate bonds where half the limit is lying unused, traders say.

“As you finance the current account deficit from outside, you are dependent on the interest of foreign investors,” said Raghuram Rajan, chief economic advisor. “We could support it so far because the world economy has been doing rather poorly and foreign investors have been looking at places to invest. But can we continue to rely on their forbearance? That’s the big question.”

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