Context: The Economic Survey 2024-25 highlighted that the Indian corporate bond market remained underdeveloped compared to global standards.
Relevance of the Topic: Mains: Detailed question on bond market of India; its implications and suggestive measures.
Major Highlights:
- The Survey highlighted that in contrast to the equity market, the debt market in India remains undercapitalised.
- Indian corporate bond market share is 18% of GDP, as compared to 80% in South Korea and 36% in China.
- Corporate bond issuances stood at ₹7.3 lakh crore from April to December 2024, with an average monthly issuance of ₹80,000 crore, higher than average of ₹66,000 crore in the corresponding period previous year.
- In FY24, the public placement of corporate bonds stood at Rs 19,000 crore against the private placement of around Rs 8,38,000 crore. The overwhelming majority of corporate bond issuance happens through private placement, which significantly limits participation of retail investors.
What are corporate bonds?
- Corporate bonds are debt instruments issued by a corporation to raise capital from the public.
- Corporations have a right to issue these bonds to fulfill their purpose, like debt refinancing, research development, etc.
- The holder of corporate bonds receives interest from the corporation periodically, for a fixed period of time and gets back the principal, along with the interest due at the end of the maturity period.
- It normally offers a higher rate of interest as compared to fixed deposits or postal savings or similar investments.
- Regulated by: Securities and Exchange Board of India (SEBI).
Who can issue corporate bonds in India?
- In India, both public and private companies can issue corporate bonds.
- A company incorporated in India, but part of a multinational group, can also issue corporate bonds.
- However, a company incorporated outside India cannot issue corporate bonds in India.
- A statutory corporation like LIC (Life Insurance Cooperation) can also issue corporate bonds.
Challenges in corporate bond development in India:
- Limited investor base: Indian investor base is shrinking due to decline in individuals and households savings. Eg; Indian savings reduced from 35% in 2011-12 to 30% in 2022-23.
- High taxation and inflation burden: India is facing a dual issue of high taxation combined with high inflation rate, especially food inflation, leading to low investments.
- Long-term capital gains tax: Investors are refraining from the bond market due to re-introduction of the long term capital gains tax.
- Regulatory constraints: Stringent regulations limit investors (like insurance companies) to invest in high-rated bonds. Eg; IRDAI mandates insurance companies to invest in at least AAA rating bonds. This effectively crowds out small players in the corporate bond market.
- Skewed bond distribution: Over 97% corporate bonds in India belong to AAA, AA+ and AA, making it difficult for lower-rated firms to issue bonds in the market.
Implications on Indian Economy:
- Overdependence on banking finance: Companies, due to low corporate bonds, depend on banks for finances. This leads to crowding out effects for the retail borrowers and MSMEs. Eg; In 2023, bank credit grew by 15.4%, while corporate bond issuances lagged at ₹7.5 lakh crore.
- Limited access for lower-rated companies: The nascent state of the corporate bond market restricts access to capital for lower-rated or first-time issuers. Investors often prefer bonds from top-rated companies, leaving others with limited financing options.
- Economic slowdown: A shallow corporate bond market impedes efficient capital allocation, slowing down economic development and infrastructure projects.
- Hampers innovation: The shortage of funding may lead to the reduction in innovation by new corporations and startups.
Suggestive measures to boost Corporate bonds:
- Diversification of investor base: Encouraging participation in retail investors, pension funds and foreign investors can enhance market depth and liquidity. Eg; Providing tax incentives and simplification of process in the corporate bonds.
- Relaxing regulations: Streamlining regulations to reduce compliance burdens, while maintaining market integrity. Eg; Allowing insurance companies to invest in bonds below AAA rating.
- Developing risk management tools: Developing and promoting instruments like credit default swaps (CDS) and Interest Rate Futures to mitigate investment risks. Eg; India can implement similar tools like US Credit Default Swaps.
- Diversification of bond: Encourage diversified bonds like Green Bonds, social bonds and Municipal Bonds to encourage the habit of investments in bonds. Eg; India issued $10 billion in green bonds in 2023, but needs further regulatory support.
The Indian corporate bond market can become liquid if problems such as entry costs, information asymmetry, and the absence of a secondary market are addressed.