Trump turmoil gives India an opportunity to revamp its debt market
Trump craziness is forcing capital to flee the US and towards emerging markets
Trump turmoil offers India an opportunity to revamp its debt market
The time is right to revamp India’s debt market, and give a boost to private investment in infrastructure, a sector that has been a virtual monopoly of the government since the Modi government took over, condemning the previous United Progressive Alliance government’s public-private-partnership model as a transfer of state treasure to tycoons and a loot of the banks.
Paradigm shifts in policy call for both a rationale and opportunity. The rationale for overhauling the debt market has been clear for years. A stunted market for corporate debt starves different sectors of the economy of affordable credit, forces banks to lend to long-gestation infrastructure projects that short-maturity bank deposits are ill-suited to finance, converting any unanticipated delay in project implementation into a premature death sentence for the project.
At the other end of the spectrum of borrowers, tiny and small enterprises have to rely on informal credit at steep rates of interest. A functional debt market would allow non-banking finance companies to raise funds to finance lending to tiny and small enterprises at rates significantly lower than what moneylenders charge.
Policy has been trying to nudge big companies to rely on bond issuances to mobilise the credit they need, instead of borrowing from banks and thus pre-empting the availability of loanable resources for medium enterprises. India Inc has ignored the nudge, to the relief of the banks, which are comfortable lending to the big guys and would be swimming in deep waters, if asked to make smaller borrowers their principal clientele. No shove has replaced the nudge.
The opportunity to implement reform of the debt market has been provided by President Trump’s tariff turmoil. A couple of days ago, the Unhedged newsletter of the Financial Times noted that both the MSCI Emerging Markets Index and the MSCI Emerging Markets Index Ex-China have outperformed the S&P 500, in the days following April 2, President Donald Trump’s Liberation Day.
But then, stock prices go up and down, and that fluctuation is not cause for alarm. But when bonds fall alongside stocks, and the dollar tanks as well, that is indeed a cause for concern. The normal tendency, when stock prices tumble, is for investors to shift their funds to bonds.
The US government bond is considered a safe haven asset, almost as safe as gold. So much so that when, in 2011, when S&P downgraded US debt, following a Republican refusal to permit rollover of maturing debt in Obama’s first term, the uncertainty this created led funds to flee capital market turmoil around the world and take refuge in US government bonds, and actually raise the price of US treasuries and lower yield – a perverse effect of a rating downgrade. There was a repeat performance in 2023, after Fitch downgraded US government debt.
Yet, that safe-haven effect did not protect US bonds in the wake of Trump’s declaration of a tariff war against the world. Market observers have attributed multiple reasons for the tumble in bond prices. Traders who had borrowed for their positions on stocks had to scramble to find funds when stock prices crashed unexpectedly, and they had to sell bonds to find the funds.
The tariffs are expected to push up prices. If that were all, the price rise would be a one-time affair that the Fed could look through and allow to work its way through the totality of spending. However, uncertainty clouds the raise-pause-change-raise cycle of tariff changes, and there is no clarity on when retaliation, negotiation, counter-retaliation, and accommodation would end and prices stabilise.
This would make what should be a one-time rise in prices into a protracted series of price changes, leading to sustained inflation. This would force the Fed to raise rates. Traders sell bonds and push up yields in anticipation of such future Fed action.
Then, there are suspicions of coordinated dumping of US government debt by foreign holders of US government debt. Some $9 trillion of the US government’s outstanding debt of $36.2 trillion is held by foreign governments. If they perform a coordinated sale of US treasuries, they can inflict tangible pain on the US. So far, this remains speculation, not accomplished action, although the potential remains.
And, finally, there are worries of a rising US fiscal deficit, already high at 6% of GDP. If Trump goes ahead with his tax cuts and his trade war and planned mass deportation of a sizeable section of the workforce, it would create an economic slowdown, if not outright recession, depressing tax collections, and government borrowings would have to go up. The additional supply of government paper would depress bond prices and raise yields.
All these unsettling trends have pushed the Morgan Stanley’s Emerging market indices stronger than the S&P 500 index. And India is one of the most resilient among emerging markets. The fund flow towards India offers the opportunity to revamp the debt market in India.
The RBI must cede control of trading in government bonds to the markets regulator, SEBI, unifying the corporate and government debt markets. A full range of derivatives to hedge currency, interest rate and credit risk must be allowed to come up. The regulation of bonds must be relaxed to let people issue sub-prime bonds with sufficiently high yields to compensate for the risk. Transaction taxes and onerous requirements of physical settlement must be done away with. Investor education must accompany the regulation of influencers on social media.
It is clear now that the government cannot, on its own, do the heavy lifting on the investment front needed to revive growth. The Budget promised to revive PPP in infrastructure. Sector-specific policies would need to be fashioned, and the work of experts – sadly vulnerable to capture by those who employ them – subjected to public scrutiny and comment. PPP terms, different for different sectors, would facilitate award of the projects to would-be developers in a fair and transparent fashion.
Once the bond market is ready, project developers will be able to issue bonds and raise capital to build diverse infrastructure, from different components of integrated townships to energy and new rail lines. Global capital uprooted from its comfort zone by tariff turmoil will come to India, apart from other emerging markets.
If India gets the debt market right, Trump’s turmoil would have helped make India’s growth regain its mojo, accelerating domestic growth to make up for reduced opportunities in the export market.