Fixed Income Market Infrastructure: The Key to Unlocking India’s Growth

The recent surge in credit card defaults reflected on state-run banks' balance sheets has once again brought the issue of credit risk pricing and visibility to the forefront in India. As the nation experiences the cyclical nature of credit growth, booms, and inevitable busts, the urgency to develop secondary market liquidity in bank loans and corporate bonds has never been greater. Additionally, India must build the necessary infrastructure for Credit Default Swaps (CDS) to ensure better risk management and transparency.

While much attention in India has traditionally been placed on the equity portion of the capital structure—sourcing capital for businesses and startups—the debt component, which is senior to equity, requires an equal, if not greater, focus. Credit availability, flexibility, and transparency will be crucial in propelling India's economic growth forward. It's time for India to strengthen its capital markets infrastructure. Here’s why:

1. The Importance of Credit / Fixed Income Market Infrastructure

The ability to price credit risk effectively allows lenders to assess borrower credit quality, thereby distinguishing strong borrowers from weaker ones. A well-functioning credit market provides constant price discovery, enabling financial institutions to identify risks early and avoid systemic shocks.

2. Reduction in Jump-to-Default Risk

One of the significant risks in an underdeveloped credit market is the sudden collapse of institutions due to hidden bad loans. Without constant pricing visibility, risks can remain unnoticed until they become catastrophic, as seen in the Infrastructure Leasing & Financial Services (IL&FS) crisis. A deeper credit market with transparent pricing mechanisms will help prevent such systemic failures by flagging distressed credits well in advance.

3. Structural Changes in Bank Balance Sheets

Banks in India are facing a growing challenge in attracting deposits, a structural trend that will drive corporate bond markets to take a more significant role in credit intermediation. As bank loans to corporates become a smaller share of total credit issuance, developing a deep and liquid CDS market will be instrumental in fostering the growth of a robust corporate bond market. CDS instruments allow investors and institutions to hedge against credit risk, creating a more resilient financial ecosystem.

4. Addressing Asset-Liability Mismatches in Banking

The banking sector in India is experiencing a shift in its asset-liability structures, making it imperative to introduce risk-mitigating products like CDS. Such instruments will enable banks to lend more efficiently while maintaining risk-adjusted returns, ultimately leading to a more stable financial system.

Conclusion: The Need for Urgent Reform

For India to sustain its economic growth trajectory, the development of a well-functioning credit market infrastructure is non-negotiable. The equity markets have received significant policy and institutional support over the years; now, it is time for an equivalent push in the credit space. By fostering secondary market liquidity in loans and bonds and creating a liquid CDS market, India can enhance financial stability, improve credit pricing efficiency, and accelerate capital formation for its rapidly growing economy. The time to act is now.

Disclaimer: In the article "Fixed Income Market Infrastructure: The Key to Unlocking India’s Growth" above - Any views, comments or communication (above or in the past) should not be construed to be investment advice by Alternative Growth (hereafter referred to as “AltG”) in any form whatsoever. AltG does not make an offer to sell or solicit to buy any securities.