Tale of two ends: What is the G-sec yield curve telling us?
The curve has steepened to levels last seen in 2022-2021. The decline in yield has taken place in the short-end, driven by RBI rate-cutting cycle of 100bps. The ultra-long bond yields (20yr to 50yr) have hardly moved despite significant policy easing by RBI. The apathy at the long-end reflects three factors – rising concentration of supply of ultra long bonds, lack of market expectation of further rate cuts and weak insurance demand.
In the first six months of 2025 (January to June), 32% share in the gross supply of centre and state government bonds was in the ultra-long end (20yr to 50yr). The rising concentration was driven by the need to extend the maturity profile of General Government debt and rising investor demand. However, the insurance sector demand has weakened recently with a sharp drop in premium growth. Lastly, the change in stance to neutral in the June policy has firmed expectations that the rate-cutting cycle could be over.
Looking ahead, there could be some support to ultra-long bonds if the H2FY26 g-sec calendar is less concentrated. That said, the redemption pressure is significant over the next 6 years (FY27 to FY32) with g-sec plus SDL redemption ranging from INR10.2tn in FY27 to INR12.6tn in FY32. Hence, if the concentration in the ultra-long bond segment is to be reduced, it could be shifted only to the 15-year point. The Centre is also conducting more switches this year to reduce the redemption pressure over the next few years, which is adding supply to the belly of the curve.
Short-end yields, which have seen a substantial reduction, got support from rate cuts by the RBI as well as liquidity infusion. Looking ahead, there is support from the RBI expected to cut policy rates by another 25bps in October / December. The OIS market is just beginning to partially price in a rate cut, post the June CPI print. The space to ease policy rates is derived from expectations that CPI inflation will significantly undershoot the RBI's estimate. FY26 CPI inflation is tracking at 2.7% v/s RBI's estimate of 3.7%. We expect rate cut expectations to firm up in the coming months. The more significant support to short-end yields will be the substantial surge in banking system liquidity, which is expected to peak at INR5tn by November / December. CRR will be reduced by 1% spread over September to November. This will infuse durable liquidity of INR2.5tn.
From a demand perspective, while insurance sector demand is weak, demand from other investor segments has held up, such as pensions and PFs, supported by strong AUM growth. Banks' demand, which was weak in FY25, is expected to be stronger in FY26. This is supported by not just the low cost of funds but also the expected moderation in the credit-to-deposit ratio. The substantial, durable liquidity infusion by the RBI is beginning to have an impact on deposit growth, whose momentum in Q1FY26 has picked up. The reduction in cost of funds for banks has resulted in them shifting towards the short end of the curve.
The steep yield curve also reflects that the market assessment of growth is not very negative. Hence expectation of a deep rate cut cycle isn't there despite a significant undershoot in inflation. Indeed, our growth assessment is similar to RBI's, with FY26 GDP growth expected to be 6.3%. The weakness in growth is seen in urban demand and private corporate capex. Meanwhile, growth will get support from rural demand, which is expected to recover with strong crop output and a rise in rural wages. Government capital expenditure, which had slowed last year due to the elections, is expected to pick up in FY26 both at the Centre and State levels.
Hence, the short-end of the curve could still see further reduction in yields, supported by a substantial rise in liquidity and the RBI still having space to ease rates. The long-end of the curve will see limited support as the majority of the rate cut cycle is over, and the demand-supply dynamic is less supportive. 10yr g-sec yield is expected to range between 6.15% to 6.35%.
(The author is Chief Economist, IDFC First Bank)
Disclaimer: This story is for educational purposes only. The views and recommendations made above are those of individual analysts or broking companies, and not of Mint. We advise investors to check with certified experts before making any investment decisions.
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Also Read | The clock is ticking on India's demographic dividend To be sure, old-fashioned bank scams continue. The Enforcement Directorate has accused the Anil Ambani Group of companies with, among a multitude of sins, of 'siphoning off public money'. Is it any wonder that India's pattern of economic activity results in anaemic job creation? Public administration and financial services require few jobs; construction creates low-quality, financially and physically precarious jobs. Hence, agriculture continues to employ 46 per cent of Indian workers, a share that is higher than before the onset of COVID. Because India's population and work aspirants are increasing, an increasing share of workers in agriculture implies a breathtaking 75 million more agricultural workers today than in 2018. Meanwhile, the share of workers in manufacturing is stuck at 11.5 per cent. Among non-agricultural sectors, new workers have depended mainly on low-end services and construction. Even the brief boom in information technology jobs during the COVID years, which pushed the number of IT-related jobs to over five million, has tapered off. Large Indian IT service providers laid off staff in 2024 and have barely added to their payrolls this year. In fact, TCS, India's largest IT services company, has announced that it will retrench over 12,000 employees, that is 2 per cent of its workforce, in 2025. Artificial intelligence is a further threat to Indian IT jobs: one expert predicts that AI will 'crush' entry-level white-collar hiring over the next 24 to 36 months. And matters will only get worse if Trump follows through on requiring American companies to restrict employment of foreign workers. And all of these headwinds plus the poor quality of school and college education for the vast majority raises a big question mark on the aspiration of more employment through high-skilled job creation. It is past time we stopped fixating on GDP growth. It measures economic welfare poorly. Nearly 60 years ago, in May 1968, then Senator Robert Kennedy memorably said: 'Gross National Product counts air pollution and cigarette advertising, and ambulances to clear our highways of carnage…. Yet the gross national product does not allow for the health of our children, the quality of their education or the joy of their play. It measures neither our wit nor our courage, neither our wisdom nor our learning… it measures everything in short, except that which makes life worthwhile.' Kennedy's words still ring true. People's lived reality depends on employment, health, education, environmental pollution, and access to a fair and speedy justice system. This lived reality gives them their dignity and quality of life. A growing GDP does not even measure purchasing power, being merely an arithmetical product of the deeply constrained discretionary spending of ever-increasing millions of struggling workers. The arithmetic does not add up to an attractive market for investors, another reason why foreign and Indian investors are so skittish. We have a choice to make. We can immerse ourselves in the narrative of high GDP growth and imminent breakthroughs from the China-plus-one opportunity; we can cheer on Trump's tariffs despite their damaging impact on world trade and its rules. Or, we can confront reality: investors, despite proclamations of Indian greatness, have acted on an utterly different view of India's potential. The country's persistent, unresolved problems block progress, and the Trump-induced unravelling of global trade will harm India profoundly. Swami Vivekananda often invoked a Katha Upanishad aphorism: 'Arise, awake, and stop not till the goal is reached.' India's policymakers and media would do well to heed this call. Continued speculations about India's superpower status mislead and distract. The evidence paints a sobering picture of the economy. This lesson is not that investors are fickle, or policy tinkering will do the trick; it is about fundamentals India refuses to fix. Persistent structural deficiencies—rooted in weak human capital and poor job creation—have kept India from achieving shared and sustainable growth. To foster genuine progress, India must prioritise quality mass education, empower its female workforce, and create a competitive, fair marketplace for investors and workers. Until policymakers wake up to the country's long-neglected problems and rise to address them, they will have failed to honour the wisdom conveyed by the revered scriptures and sages. The rhetoric will remain hollow, and global investors will seek opportunities in more dynamic economies. Ashoka Mody recently retired from Princeton University. Previously, he worked at the World Bank, and the International Monetary Fund. He is author of EuroTragedy: A Drama in Nine Acts (2018), and India is Broken: A People Betrayed, Independence to Today (2023).
