India's lower house of Parliament on Thursday approved tax cuts for foreign investors buying sovereign debt, cementing measures aimed at attracting foreign capital into Asia's third-largest economy. The bill, approved by voice vote despite opposition protests, replaces an ordinance issued on June 5 that exempted foreign institutional investors from tax on interest from government securities as well as capital gains from their sale, exchange or transfer. The legislation also eases rules allowing offshore funds managed from India to qualify for tax exemptions on their global income, and grants a 15-year tax holiday through the tax year ending March 31, 2041, to foreign companies supplying capital goods, equipment or tooling to India-based contract manufacturers producing electronics such as mobile phones, laptops, tablets, servers and wearables.
Foreign portfolio investors have infused $8.44 billion into Indian debt and equity markets since the Reserve Bank of India's June policy measures aimed at attracting overseas capital. According to data from the National Securities Depository Ltd (NSDL), foreign investors have been net buyers of $6.11 billion worth of debt and $2.34 billion worth of domestic equity during this period. The Centre in June exempted foreign investors from taxes on interest income and capital gains on specified government securities as part of a broader package aimed at deepening the domestic bond market and attracting foreign capital.
The RBI expanded the Fully Accessible Route (FAR) to cover all new issuances of 15-year, 30-year and 40-year government securities and eased investment norms for overseas investors. Indian equities recorded inflows in July after four consecutive months of outflows as market sentiment improved following the de-escalation of the West Asia crisis. As reported by a treasury head at a private bank, the tax cut and expectation of Bloomberg index inclusion led to inflows in the debt segment, while the fall in crude oil prices and risk-on sentiment led to modest flows in the equity segment.
Last Friday, Bloomberg Index Services Ltd again deferred its decision to include Indian government securities under the Fully Accessible Route (FAR) in its Global Aggregate Index, saying recent market reforms need more time to become embedded in market practice. Despite the deferral, the measures have attracted strong foreign currency inflows, with the Reserve Bank of India receiving $41 billion worth of inflows till the end of July under its schemes announced in June. Foreign investors net bought bonds under the fully accessible route worth almost $4 billion since the start of June in anticipation of this inclusion.
Oil prices and dollar inflows have helped cushion the impact of the delayed global index inclusion, with the benchmark Indian 6.94% 2036 bond yield trading at 6.8498% as of 9:50 a.m. IST after closing at 6.8343% on Friday. The benchmark Brent crude contract plunged more than 7% in Asian trade and was below $84 per barrel after U.S. President Donald Trump held off on a fresh attack on Iran, seeking to reach a quick deal that would lead to reopening of the Strait of Hormuz. A senior treasury official noted that though the delay in inclusion is negative, other factors are providing support to bonds, which has trapped the benchmark yield around 6.85% after initial swings.
The RBI announced a concessional swap facility for fresh FCNR(B) deposits, overseas foreign currency borrowings (OFCBs) and external commercial borrowings (ECBs) on June 5 this year. The facility was operationalised on June 8 and will remain available until September 30, 2026, for FCNR(B) deposits and until December 31, 2026, for OFCBs and ECBs. According to Goldman Sachs, while foreign inflows have been strong, the corresponding increase in the RBI's foreign currency assets has been limited at around $8 billion, reflecting the lag between banks receiving deposits and swapping them with the central bank.
Goldman Sachs noted that banking system liquidity has remained in a modest surplus of around 0.3 per cent of net demand and time liabilities (NDTL), as part of the liquidity added through these measures has been offset by a build-up in government cash balances. The liquidity injection from these measures has been gradual, reflecting the operational timeline of the swap facility and the natural lag in deposit conversion processes. Focus will now shift to the RBI's policy decision due on Wednesday, when it is widely expected to keep its key interest rate unchanged, with commentary on economic projections being the major highlight for fixed income traders.
