WEDNESDAY MAY 04: Government bonds likely to attract more investment

ISLAMABAD: Ministry of Finance is expecting huge investment by the public sector institutions in government bonds after discontinuation of institutional investment in National Saving Schemes (NSS), official sources told Business Recorder.
Economic Co-ordination Committee (ECC) of the cabinet, in its meeting on April 11, presided over by the Finance Minister had decided to discontinue institutional investment in NSS from March 31, 2011. "This restriction would provide greater reliance on regularly auctioned government bonds by these institutions which will play a vital role in deepening the financial sector and its broader access to entities other than financial institutions," the sources added.
The ECC deliberated on the following points during the meeting: (i) allowing institutional investment in NSS is creating unnecessary price distortion in the market because of different rate(s) of sovereign paper as same tenor is available to similar institutional investors; (ii) all institutional investors should be disallowed because pension, gratuity and provident funds, if allowed as per summary, will only affect insignificant investors and desired objectives will not be achieved; (iii) State Bank of Pakistan has already put in place requisite mechanism, whereby even less savvy investors can access auctions through non-competitive bid mechanism and get securities like MTBs/PIBs at best price from primary auctions; and (iv) this decision will also not affect distribution of non-bank and bank borrowing as same investor would subscribe to government paper at market price. Currently, holding of securities like MTBs, PIBs and Ijara Sukuks through subscribed auctions constitute 24 per cent, 68 per cent and 11 per cent by non-bank investors respectively.
The ECC also noted that for government NSS provides an alternate forum for borrowing in case bank borrowing facility is not available/ restricted, thus more focused approach should be concentrated on individual investors for whom NSS is structured. The federal government withdrew withholding tax ab-initio on December 16, 1999 on the return from NSS which had created non-uniformity in tax treatment.
In order to provide uniformity it was required either to exempt corporate bonds from withholding tax or restrict new institutional investment in NSS with effect from March 25, 2000. This resulted in a decline in inflows which meant higher reliance on bank borrowing including SBP in 2001.
Following the tax uniformity regime(s) withholding tax was imposed on the return of NSS to provide uniformity to all other financial instruments and rate of return on NSS products was linked with weighted average yield of 95 per cent of PIBs of relevant maturities. These circumstances led the government to decide and allow institutions excluding banks and insurance companies to invest their employees' funds in NSS with effect from September 30, 2006. Before this decision, all surplus institutional funds were not barred from investing their surplus funds with effect from September 30, 2006 and investment share of institutions in NSS was about 15-16 per cent of total NSS.