Bond Yields and RBI's pain

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 Bond Yields and RBI's pain

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1.  Benchmark: Government bond yields, which serve as market benchmarks for pricing debt securities (bonds), have been rising lately. Yield on India’s 10-year benchmark paper (G-Sec) rose to a six-month high, German Bund to an eight-month peak, and US Treasury to a near one-year top.
2. Why would yields rise: In response to Covid-19, central banks had lowered interest rates and launched massive debt purchase programmes to boost borrowing and prevent bankruptcies. This drove down yields, which have an inverse relation with bond prices. The roll-out of covid vaccination has bolstered expectations of a strong recovery, fuelling bets of a spike in inflation going forward. The recent surge in yields signals that investors fear central banks will soon begin to tighten rates and remove liquidity support measures to curb a potential rise in inflation as growth takes hold.
3. Economic implications: Bond yields possess signalling abilities about inflation trajectory and economic direction. A rise in yields indicates a rise in interest rates in the economy. Yields also reflect Centre’s market borrowing to fund its expenditure. Higher yields raise borrowing costs for companies, hurting their ability to service debt and make new investments. This hurts profits and stock prices, as seen in BSE Sensex's fall of about 2.3%, as rising yields soured investor sentiments. (Sensex rose later, especially in banking stocks, due to new govt. announcements)
4. Higher yields in India: The RBI has pledged to keep rates benign (low) and monetary policy stance accommodative (to help govt. borrowing). But if yields refuse to calm, they may threaten the Centre’s large borrowing programme and curb demand by making goods and services costlier. Higher US Treasury yields can also prompt capital outflows from EMs like India, pressuring the rupee and fuelling inflation (as happened in 2013).
5. Taper tantrum: It refers to a sudden surge in US Treasury yields in 2013 due to investor panic, after the Fed said it would reduce, or taper, the size of its bond-purchase programme to pump liquidity into the system rocked by the 2008 crisis. Foreign funds scurried out of EMs. There are concerns that if yields in US and Europe continue to harden, investors who borrowed cheaply to pile into high-yielding risk-assets can unwind their “carry-trade” and flock back to the safety of sovereign debt.
6. RBI action plan: It has been buying bonds via OMOs to keep yields below 6%. It is conducting special OMOs to prevent a steepening of the yield curve, with the goal to lower long-term yields to help the Centre and firms borrow cheaply from the market. But RBI’s efforts can prove futile amid the Centre’s large borrowing aim of ?12 trillion in FY22 , even as growth recovery and high fuel prices raise inflationary pressures.

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