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History is a testament to the fact that opportunity lies in every adversity. This could be taken as a contrarian view in the current context as, usually, in adversity, people tend to become more cautious due to fear of the uncertainty that lies ahead. The novel corona virus issue that the World is grappling with, has forced many economies/governments to think differently and adopt unconventional approaches. In the Indian context, for better and for worse, the Indian ecosystem has gone through a stratospheric change. This is an inflection point in our business cycle and we can do something which is contrarian. If played right, India could emerge as an exponential growth story out of this crisis.
Unlike China’s real Covid-19 casualty numbers, it was no secret that India Inc needed a major stimulus package to resurrect the economy from near-death, and to make it the robust engine of growth we Indians envision it to be. The Rs 20 lakh crore Covid-19 economic package plan announced by the government holds promise. Aside from the plan, it would be the swiftness with which it is executed, that would determine the fate of MSMEs, Power distribution companies, employees working in the informal sector, farmers, and countless other entities that form the backbone of the Indian economy.
At this point, every single economist in the country is faced with a glaring problem. The plan is clear, but what exactly could the government do to raise the additional announced resources which are cost-efficient and could fund a likely major fiscal deficit? What is a possible solution to the negative effects of the virus on the revenues of both, the state and the central governments?
Due to a slowdown in the economic activities, direct & indirect tax revenues for the government are expected to remain under pressure leading to an increase in the fiscal deficit which is already quite significant (around Rs 10 lakh crore as of February 2020). Aside from continuing with its planned expenditure, the government will have to provide the necessary funds as part of the recently announced economic package. The government will have to think of economical ways of raising large amounts of resources. One possible solution is to sell bonds that give tax-free returns to investors. This might be a feasible option because the government has not come out with any such tax-free bonds in the recent past.
So then the question arises – What could this instrument be? Could it be a bond?
A bond is something that is a very popular gift for newborns, because the gift grows in value, as the child grows. Put simply, a bond is a contract between two parties. Consider the classic example of a landlord and a tenant. A landlord allows a tenant to occupy his/her property for monthly rent in exchange. Similarly, investors purchase the bonds of a company (government or private) for an exchange in fixed payments – known as interest payments. Since a bond is a contract, it has an expiry date. This expiry date is known as the maturity of the bond, and when the bond matures, the company pays back the entire principal to its investors. Just as a property is listed and the periodic rent fetched from it is determined by the market forces, the price of a bond is determined in the bond market. But what is the major driving factor here that determines these prices? Similar to how a University grades its students every year based on their performance in academics, the bonds of companies are rated by four major rating agencies in India – CARE, ICRA, Fitch, and CRISIL. The bond market follows a simple rule of higher the risk, higher the reward. Hence, higher the rating of a bond, lower is the risk, and hence lower is the interest paid on the bond. Fortunately for the government, and unfortunately for the investors, any gains received from the sale of the bond, or the periodic interest payments received, are taxable (unless the bonds are tax-free). It should be noted that only the government can announce tax-free bonds.
The higher the rating is, the lower would be the risk.
So how could the “Corona Bonds” aid in the war effort against the deadly virus? If issued by a government company, the risk attached to these bonds would be practically negligible and hence, the interest rate offered would be in line with the current market. One major visible downside to such an instrument from the investor's point of view would be the loss of relevance. This is because government bonds are long term investment vehicles with maturity ranging from 5-20 years, which means, the value of the corona bonds could succumb to the inflationary pressure in the long term. However, they could prove instrumental in our financial stake in the COVID-19 relief effort. One could take a cue from the World Bank's first-ever 2017 pandemic bonds, or the US war bonds, to finance the current crisis. One may recall how patriotic US citizens during world war 2 had purchased the government’s 30-year maturity bonds, and the government, in turn, had been able to raise 1 trillion dollars at that point, to pump it into the war effort against the axis powers. Although the returns offered by these bonds might seem lower than what the highly volatile equity markets may fetch over time, the current primary need of the business corporates, as well as the retail investors, is to find a reliable, safe instrument of investment(apart from gold), with returns fetched being a secondary concern. At the same time, such an investment instrument might aid the government in preparing a large war chest to battle the deadly virus and to bring the Indian economy back on track. The war chest to battle COVID-19 could be filled at a faster pace if these Corona bonds would help mobilize resources from the roughly 50 million tax-paying Indian population, as well as the 28 million tax-paying NRI population. It wouldn’t be surprising if India’s 1,60,000 ultra-high net worth individuals (HNIs) and 3,50,000 HNIs would consider parking more of their excess cash reserves in an investment vehicle like this. The possibility of these corona bonds being oversubscribed by the investors while contributing to the government’s efforts to raise funds seems very high. The government of India could use its vast network of banks and postal banks to sell the bonds. Celebrities could be roped in to aid the government’s effort, considering the mass appeal they enjoy amongst their fans. To conclude, for the Indian economy to emerge as a more resilient economic power globally, India will have to navigate through these uncertain times to find a new normal. The game plan of the Indian ecosystem should now be – “Restart India, stand up India, and run India”. We sincerely hope that akin to James Bond always saving the day, Corona bonds, if issued would play a critical role in catering to the mega stimulus package planned for our ailing economy.
