Four Bonds, a Numeral and Common Sense

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The masala bonds to be traded on the LSE are a timely idea, but for these to acquire a reputation for safety, global investors would need to be assured of the rupee’s stability
As part of his charm offensive in London, Prime Minister Modi had audiences from Westminster to Wembley all achortle with his pitch for the all-new Rupee Bond as a worthy successor to James Bond and Brooke Bond, those old emblems of an Indo-British bond of bravery and “taazgi”.

Mirth makes for superb marketing.

The rupee gets less credit than it deserves for the humour it has generated over the ages, and this includes the early jottings of PG Wodehouse, whose father’s 19th century pension was fixed in the Indian currency and ended up of such little value in the UK that the penury it imposed upon the family—‘The wolf was not actually whining at the door and there was always a little something in the kitty for the butcher and the grocer, but the finances would not run to anything in the nature of a splash’—forced him to take up a job at a bank that left him baffled enough to amuse his readers.

One rupee is worth only a pence now, but the Rupee Bond that’s being trumpeted in London is no joke. It is an experiment that will test global confidence in the country’s currency. Dubbed the ‘masala bond’ by international investors familiar with China’s ‘dimsum bond’, this is basically an IOU held by a buyer who lends the issuer a sum of money that’s to be repaid in rupees with interest. So far, Indian borrowers have been raising debt overseas mostly in dollars, which requires them to pay a lower rate of interest but also exposes them to currency risk; if the greenback shoots up, they end up shelling out more in rupee terms than they may have bargained for. A rupee bond would grant them greater control of their calculations.

The state-owned Indian Railway Finance Corp will lead the way in issuing such bonds. As assets, these are to be traded on the London Stock Exchange—a small but significant boost for the City’s reputation as a hub of financial innovation. Private Indian issuers are expected to follow, creating a bustling market some day for rupee bonds that would be bought and sold like any other.

The idea is timely. Interest rates in the West are super low these days, given the efforts to combat the Great Recession, while rupee rates in India remain relatively high. In theory, this opens up a market gap for a bond that offers a sweet rate in between, a figure that would draw foreign investors on a hunt for higher yields into the arms of Indian borrowers that need lower cost funds. In that sense at least, the masala bond is every bit the band baaja deal it’s being made out to be.

Will it work? At the onset, it may only be NRIs who invest in these, but the point is to turn them into just another part of anybody’s investment portfolio anywhere in the world. A yield is a yield, after all, and money is money. The yield of a bond is the return it offers, and this depends on what one pays for it; if its price falls on the trading platform, its yield rises since one expects to get more money back for less (and vice-versa). If the rupee bond catches on, as its proponents hope, active trading will also do what financial markets are so good at: the data it provides of yield movements will offer India-watchers a ready reckoner on risk perceptions.

For the masala bond to acquire a sterling reputation for safety, investors would have to be assured not just of the credentials of the issuer, but also the stability of India’s currency over several years at a stretch. This does not mean the exchange rate must stay static over the loan’s tenure. That won’t happen. It’s good enough if the rupee doesn’t go into a tailspin or turn overly volatile, ensuring which is part of the RBI’s job as the official guardian of its value.

The worrisome bit, of late, has been how heavily the rupee’s conversion rate depends on inflows and outflows of capital rather than traditional stuff like exports and imports. External demand for the rupee ought to reflect demand for Indian goods and services, not the twists and turns of market speculation. But with India’s trade figures in a slump, escaping these only seems to be getting harder.

Alas, that’s just the way the world is. On secular trends, so long as India’s economy per se retains a sensible measure of stability, it’s unlikely the rupee will draw wolves to anyone’s door anywhere in the world. Back in the days of Wodehouse’s youth, the legal tender in Subcontinental circulation had a royal crown on it, and its fragility would’ve been apparent to anyone who’d read Tom Paine’s 1776 classic Common Sense. Kings and crowns are long gone, thankfully. But in other ways, we still need common sense to prevail.