Bond yields harden by nearly 30 bps in Oct, to raise govt's interest burden, squeeze fiscal room: Experts

The sharp rise in government bond yields since the Reserve Bank of India's (RBI) October monetary policy review threatens to increase the government's borrowing costs and put pressure on its interest expenditure, potentially squeezing fiscal flexibility, according to experts.

Yield on the 10-year benchmark government bond rose to 7.474 per cent on October 23 from 7.193 per cent on October 6, increasing about 28 basis points, according to data compiled by PTI.

The rise in yields has been driven by elevated crude oil prices, a spike in global bond yields, tighter liquidity conditions in the Indian banking system and expectations of more interest rate hikes by the RBI, market experts said.

"If yields remain elevated, the cost of financing the fiscal deficit will rise, adding pressure on interest expenditure and fiscal flexibility," said V Ramachandra Reddy, head of treasury at Karur Vysya Bank.

He said the approximately 30-basis-point rise in government securities yields since the October policy had materially increased the government's incremental borrowing cost this fiscal compared with last year.

Reddy attributed the rise to the RBI's shift towards calibrated tightening, expectations of a potentially larger rate hike in December, persistently elevated crude oil prices and a sharp spike in global bond yields. These factors have reinforced expectations of interest rates remaining higher for longer, he said.

Venkatakrishnan Srinivasan, founder and managing partner of Rockfort Fincap LLP, said the rise in yields reflected tighter liquidity, global yield pressures and elevated Brent crude prices.

"The bond market may also be pricing in a possible rate hike at the December MPC," he said, adding that the trajectory of yields would depend on crude oil prices, inflation and the RBI's next move.

Higher government bond yields translate into higher borrowing costs for fresh issuances, potentially increasing the government's interest outgo if the elevated levels persist, experts opined.

This could constrain fiscal room for other expenditure priorities at a time when the government is financing its fiscal deficit through market borrowings.

India's exposure to elevated crude oil prices adds to the concern, as higher oil costs can fuel inflationary pressures and complicate the monetary policy outlook, they added.

In the last few weeks, Brent crude oil prices in the international market have been on the rise, driven primarily by escalating military and geopolitical tensions in the Middle East.

Currently, Brent crude oil prices were trading at USD 116.72 per barrel, which was USD 3.55 per barrel or 3.14 per cent from the previous trading session.

India remains vulnerable to a prolonged increase in global crude prices, given its dependence on imports to meet nearly 90 per cent of its oil demand.

Money market experts said that a sustained rise in prices could raise the country's oil import expenditure, put pressure on the rupee, fuel domestic inflation and strain government finances.

However, the sharp increase in Indian bond yields was restricted due to falling US treasury yields.

Further, experts said that the bond market also factored in at least a 0.50 per cent rate hike in the upcoming monetary policy meetings in December 2026 and February 2027.