Tax Relief for FPIs Strengthens India’s Bid for Bloomberg Global Bond Index Inclusion

• India exempts FPIs from tax on interest and capital gains from G-secs.

• Move boosts prospects for Bloomberg Global Aggregate Index inclusion.

• Potential $25 billion inflows if 1% weight materialises.

• Rupee and bond yields respond positively to reform signals.

• Expansion of FAR securities enhances long-term investor appeal.

India’s decision to remove income tax on interest and capital gains earned by foreign portfolio investors (FPIs) from investments in government securities has significantly improved the country’s chances of being included in Bloomberg Index Services’ flagship Global Aggregate Index. A review by Bloomberg is expected by mid-June, and market participants are closely watching for a potential announcement.

Earlier this year, in January, Bloomberg Services Index Ltd (BISL) postponed a decision on adding Indian sovereign bonds to its global index, citing the need for further evaluation of market infrastructure and operational readiness. At the time, India was being considered for a potential weighting of roughly 1% in the index. Such an allocation could translate into capital inflows of about $25 billion, likely phased over around 10 months starting April 2027.

Even if actual inflows materialise in FY28, analysts believe that a formal inclusion announcement would itself trigger investor positioning well in advance.

Policy Push to Deepen Bond Markets

The tax exemption unveiled last week is aimed at making India’s sovereign bond market more attractive to global investors. According to officials involved in discussions between the Reserve Bank of India (RBI) and the government, the move is part of a broader effort to align India’s bond market with global standards and enhance its eligibility for major international indices.

Policymakers have increasingly emphasised the importance of broadening the investor base in government securities. Currently, domestic banks and insurance companies dominate the market. Officials argue that sustained depth and liquidity require participation from large, long-term global institutions.

Until now, the taxation of interest income and capital gains reduced the effective yield available to foreign investors, making Indian bonds less competitive compared with other emerging markets already included in global indices. Global funds typically assess after-tax returns before allocating capital, and this structural disadvantage had weighed on India’s relative appeal.

Analysts See Structural Shift

Barclays described the tax changes as a meaningful step that enhances India’s real yield attractiveness and improves its carry profile relative to peers. The removal of tax barriers, combined with the expansion of the Fully Accessible Route (FAR) and relaxation of investment norms, could strengthen the case for index inclusion.

Gaura Sen Gupta, chief economist at IDFC First Bank, noted that the easing of compliance requirements enhances India’s standing with index providers and global investors.

The government has also expanded the list of securities eligible under the FAR to include new long-tenor bonds with maturities of 15, 30 and 40 years. Economists believe this could boost demand for longer-duration securities, potentially lowering yields at the long end of the curve and reducing government borrowing costs.

Soumya Kanti Ghosh, Group Chief Economic Adviser at State Bank of India, said these steps may increase foreign demand for government bonds, improve liquidity in long-dated papers, and lend some support to the rupee.

BIS Exemption and Global Signals

In a related move, the government has granted tax exemptions to the Bank for International Settlements (BIS) on income from investments in Indian government securities. The exemption follows a request from BIS for relief on earnings generated through a rupee-denominated investment pool.

Market participants view BIS participation as significant because it can facilitate investments from global central banks, known for their stable and long-term approach. Officials believe the move sends a strong signal to international investors and index providers that India’s sovereign debt market meets global standards in accessibility and investor safeguards.

Impact on Rupee and Yields

The measures come at a time when the rupee has faced pressure. Over the past year, the currency has weakened around 10%, touching a record low of 96.83 per dollar on May 20. On Friday, however, the rupee strengthened nearly 1%—its largest single-day gain in two months—to close at 94.94 per dollar after the RBI unveiled steps to attract foreign capital.

Bond yields have also shown signs of softening. The benchmark 10-year government bond yield, which had climbed above 7%, dipped slightly below that mark following the policy announcements and the RBI’s decision to maintain status quo on interest rates. It ended Friday at 6.98%.

Foreign investor participation in debt markets has picked up in the current financial year. FPIs recorded net purchases of approximately ₹5,262 crore (about $554 million) in April and ₹5,512 crore (around $580 million) in May under the FAR route. As of June 5, inflows for the month stood at ₹3,395 crore (roughly $357 million).

Outlook: Short-Term Comfort, Medium-Term Risks

Economists at QuantEco Research suggest that liquidity conditions could remain comfortable in the near term, supported by scheduled government bond redemptions, a record-high dividend transfer from the RBI, and renewed foreign inflows.

However, risks remain on the horizon. Analysts caution that in the second half of FY27, attention may shift to fiscal implications of the 8th Pay Commission and evolving global dynamics. Some forecasts indicate that the 10-year yield could edge up toward the 7.25%–7.50% range by March 2027.

For now, the tax reform represents a strategic shift in India’s approach to integrating with global bond markets. If Bloomberg proceeds with inclusion, it could mark a turning point in the evolution of India’s sovereign debt market, drawing substantial global capital while reshaping domestic liquidity and currency dynamics.