Is it time to announce a quantitative easing? | Economic Times

Mumbai: Bond investors and the Reserve Bank of India (RBI) appear to be on a collision course, evident in last week’s auction outcomes, as the government and its merchant banker keep the markets guessing on how they plan to fund record borrowings in the second half of FY21.Last week’s devolvement at the bond auction and the RBI’s rejection of the market’s yield expectations in a bond purchase programme show that Mint Road needs to take one of the following two steps: Either explicitly state its tolerance level on bond yields or announce a quantitative easing programme as central banks in advanced nations have done.The RBI’s piecemeal approach to tempering yields through ‘Operation Twists’, where it manages the yield of short-term and long-term bonds with simultaneous purchase and sale, or outright bond purchases in an ad hoc manner, is not convincing investors about yield stability.“Currently, the bond market is trying to rule over the central bank, which is not desirable,” said Abheek Barua, chief economist at HDFC Bank. “It would be a perfectly legitimate stand if RBI announces explicitly a target on specific yield movements. This will help retain RBI’s control over the market.”For the fourth time in less than two months, an auction of government bonds did not find buyers as the RBI was not keen on selling at yields investors were demanding. In an opposite trade when RBI wanted to buy bonds from investors, it did not accept the yields that investors were willing to sell at, raising concerns of mismatches between the markets and RBI on debt financing costs.At the auction last week, investors demanded yields in the range of about 6.5-6.8 per cent on 10-year, dealers said. The RBI did not accept any bid in an open market operation (OMO), where it aimed to buy Rs 10,000 crore worth of bonds from the market last Thursday.Although the RBI has indicated it won’t accept yields above 6 per cent for benchmark government bonds, investors say that supply of bonds in the second half would be unmanageable without RBI’s explicit purchases. So, it has to spell out how it would do so given the likely increase in borrowing by both the Centre and the states.“The RBI and the central government will have their task cut out to ensure a smooth borrowing programme without excessive tightening of the bond market and financial conditions,” said A Prasanna, economist at ICICI Securities Primary Dealership. “One option to reduce the supply pressure on the bond market would be to structure the GST borrowing as a bank loan. With the flexibility to structure a loan based on future receivables and absence of mark-to-market risks, banks may prefer this option to buying bonds.”Of the Rs 12 lakh crore that the central government planned to borrow, half has been done. But along with states’ borrowing investors are estimating the second half could see bond sales of as much as Rs 12.3 lakh crore, or an average of Rs 53,900 crore a week, which the market doesn’t have the capacity – and willingness – to absorb on inflation concerns.It’s because of these factors that yields have climbed above 6 per cent despite RBI’s record low policy rate of 4 per cent (repo) and an average surplus liquidity of about Rs 4-5 lakh crore. To comfort investors that bond investments wouldn’t lead to immediate losses, RBI should ignore likely criticism and declare quantitative easing.“Every time the RBI does OMOs, it faces some criticism from market participants but the same participants do not criticise other global central banks that are openly supporting government borrowing programmes to manage yields,” said Jayesh Mehta, country treasurer at Bank of America.