G-sec tax break yet to impress foreign investors

FPIs pull out nearly Rs 13,000 cr in June; rupee remains under pressure

India has scrapped some taxes on government securities (G-secs) for foreign portfolio investors (FPIs) to encourage dollar inflows and shore up the rupee, but foreign investors are not yet celebrating.

FPIs were exempted from capital gains tax and income tax on interest income on G-secs. The government also removed specific restrictions on short-term investments and security concentration for foreign investors. However, overall investment caps were retained: 6 per cent for central government bonds and 2 per cent for state government securities. General and long-term investment limits were merged into a single cap for both central and state bonds.

The government also expanded the Fully Accessible Route (FAR) to include new 15-, 30- and 40-year bonds, as well as Sovereign Green Bonds.

It announced the measures on June 5, effective from the beginning of FY27. But FPIs were not impressed. They withdrew more than Rs 11,000 crore from central government papers and Rs 1,800 crore from state government bonds between June 5 and June 16 (chart 1, click image for interactive link).

FPI investments under FAR rose by around Rs 27,000 crore between June 5 and June 16. However, their overall share in the FAR universe actually slipped to 6.88 per cent of the outstanding stock as of June 16, down from 6.97 per cent on June 5. Meanwhile, the 40-year government bond failed to attract any FPI investment under FAR (Chart 2).

Net capital inflows into India turned negative in FY26 at 0.24 per cent of gross domestic product (GDP), down from a surplus of 1.57 per cent in FY25. This marks the first negative net capital inflows India has seen in several years, highlighting a reversal in foreign capital movements after a prolonged period of positive inflows. While the current account deficit remained relatively stable at around 0.6 per cent of GDP, the shift in capital flows led to the depletion of foreign exchange reserves (Chart 3).

The rupee continues to be under pressure. It depreciated by 4.26 per cent to Rs 88.31 against the dollar in FY26, compared to Rs 84.58 in the previous year. It further depreciated to 93.39 in April, 95.44 in May and 95.46 in the first 17 days of June, FY27.