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Why govt market borrowing was such a big shock for market?

One was expecting the govt to fund fiscal slippage via short-term papers and drawdown from its cash balance

The higher-than-expected borrowing shock of Rs500 bn via GSecs was the last news the market needed to dampen its mood further. The FY2018 GFD/GDP is now likely to slip by ~50bps to 3.7%. We believe that India rates look set to remain on the upside going ahead on account of (1) cautious-to hawkish RBI as inflation starts to trend up, (2) tightening domestic and global liquidity, (3) persistent concerns on quality of fiscal spending/consolidation in FY2019.

Govt surprises with higher-than-expected market borrowing

The government has announced additional market borrowing amounting to Rs500 bn via dated securities and Rs 230.06 bn via the net T-bill route. The amount is much higher than market expectations of ~Rs300-350 bn additional borrowing via dated securities and our expectations of no additional borrowing via the dated route despite possible GFD/GDP of 3.5% (see details later). The total market borrowing has now increased by Rs730 bn from the FY2018 budgeted estimates. Therefore in 4QFY18, the gross Gsec issuance will be Rs930 bn as against Rs430 bn budgeted earlier and the gross T-bill issuances will amount to Rs1.79 tn. Consequently, the Gsec auction size has increased to Rs150 bn for the last five auctions of FY2018. The revised T-Bill borrowing will be Rs140bn each in first 13 weeks of 4QFY18. We note that the overall net T-bill issuance for FY2018 has been revised up quite sharply to ~Rs230 bn from the budgeted Rs20 bn.

Additional borrowing implies a GFD/GDP slippage of ~50bps in FY2018

We have been highlighting that the GFD/GDP is on its way to slip to ~3.5% in FY2018 owing to (1) weaker GST revenues, (2) weaker tax buoyancy due to weaker growth, (3) lower RBI dividend transfer, and (4) limited rationalization on expenditure front. However, we expected most part of fiscal slippage to be funded via short term papers and drawdown of government cash balance. But it now appears that the fiscal slippage is higher than our expectations, slipping by ~50bps from the budgeted levels at about 3.7% of GDP, to be essentially funded by dated securities and T-bill issuances (Exhibit 1). We note that the NK Singh led FRBM Review Committee has recommended an “escape clause” for fiscal deviation of maximum of 0.5% of GDP on account of a structural reform having unanticipated fiscal implications.

G-sec yields looking to be higher

With higher-than-expected borrowing shock, the market sentiments will likely sour further. We now revise our 4QFY18 range for the benchmark 10-year yield to be ~7.15-7.40% from 6.9-7.1% earlier (See “India rates: cycling up” December 21, 2017). Going ahead, we continue to believe that India rates look set to remain on the upside in FY2019. The floor will be set with the end of RBI’s rate-cut cycle and expectations of a possible start to a rate-hike cycle. Other factors like (1) tightening domestic liquidity, (2) concerns on quality of fiscal consolidation, and (3) gradual global policy normalization etc. will ensure that the yield may directionally remain on the upside in FY2019.

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