Since the bond yields have somewhat decreased and state-run banks in India have more cash on hand, they have been buying bonds in droves in recent months. Since September 22, they have purchased government debt totaling 253 billion rupees ($3 billion), including 100 billion rupees in October (Times of India, 2023). In the upcoming weeks, nevertheless, it is anticipated that they will scale down on their bond purchases because of the banking system’s decreasing liquidity and rising bond yields. The Reserve Bank of India (RBI) has declared that it will maintain a rigorous monetary policy and sell bonds to control liquidity.
For state-run banks, are among the biggest purchasers of government bonds in India. On the one hand, because government bonds are seen as risk-free and regularly pay interest, they give banks a reliable and secure source of income. Additionally, it assists the banks in fulfilling their statutory liquidity ratio (SLR) obligation which mandates that they invest a minimum portion of their deposits in government securities (The Economic Times, 2022). Furthermore, because government bonds have a longer duration and less volatility than other assets, they help the banks manage their asset-liability mismatch. If bond prices climb because of declining interest rates or rising demand, it also enables the banks to profit from capital gains.
However, as bond values decrease when interest rates rise, purchasing government debt exposes banks to interest rate risk. In addition to decreasing the bank’s profitability and capital adequacy, this could result in a greater non-performing asset (NPA) ratio if larger provisions for bond losses are needed. Additionally, because more money is invested in government securities than in profitable industries, it limits the banks’ ability to lend money and expand credit. This may impede economic recovery and have an impact on banks’ asset quality. Additionally, it has the effect of crowding out because banks would rather lend to the government than the private sector, which can carry a larger risk and yield lower returns. This may restrict credit availability and affordability for the private sector, particularly for small and medium-sized businesses, which are more prone to default.
As a result, banks must choose between safety and profitability when purchasing government debt. The ideal amount of bond purchases is determined by the market, the banks’ liquidity position, and their stomach for risk. Purchasing government debt may have different effects on the NPA issue depending on several variables, including the quantity and length of the bond purchases, the interest rate environment, the supply and demand of credit, the pace of the economic recovery, and the policy interventions. When purchasing government debt, the banks will need to strike a compromise between their safety and profitability goals.
State-run banks demonstrated improved financial performance in the first nine months of FY23, as evidenced by decreased gross non-performing assets (NPAs), enhanced profitability and capital adequacy, and a rise in market capitalization. They must deal with difficulties and uncertainty related to purchasing government debt, which could have an impact on their stability and performance in the future. As market players wait for greater clarity on the fronts of fiscal and monetary policy, the bond market is likely to stay volatile and range-bound in the immediate future. State-run banks will need to modify their bond purchasing strategies to better fit their long-term objectives and strategic vision as the bond market dynamics change.
Remarks
State-owned banks can perform effectively and maintain stability by purchasing government debt in 2024 by employing some of the following strategies:
- Balancing bond purchases with lending capacity and credit expansion, as well as focusing on productive sectors and creditworthy borrowers.
- Managing their interest rate and liquidity risk by diversifying and hedging their bond holdings.
- Using cutting-edge technology and big data analytics to increase operational efficiency, customer service, and business outcomes.
- Aligning their bond purchasing strategy with their long-term goals and vision, as well as adhering to regulatory and governance criteria.
These are some of the techniques that state-owned banks could use to perform successfully and maintain stability when purchasing government debt in 2024. They will, however, react to shifting bond market dynamics and the economic recovery, which may be influenced by a variety of factors such as fiscal and monetary policy, inflation expectations, and global cues. As a result, they will need to be adaptable and sensitive to market conditions and client expectations.
(The Author is Ph.D. Economics (JMI). Feedback: [email protected])
