In 2013, gold imports were quietly draining India’s foreign reserves. Savers kept buying gold as their only real hedge against rising prices. The government’s answer was a new kind of government bond: one whose value itself rises with inflation.
Inflation-Indexed Bonds
MCQ Questions✊ Must Know
1. What an Inflation-Indexed Bond is
- Concept An Inflation-Indexed Bond (IIB) is a government security whose principal value rises and falls with inflation.
2. What it protects investors from
- Purpose IIBs protect investors from the uncertainty of inflation eroding the real value of their savings.
3. A lower coupon rate is normal
- Fact Because the principal itself is inflation-protected, the government can offer a lower coupon rate on IIBs than on ordinary bonds.
4. Who issues them
- Fact The RBI issues IIBs on behalf of the Government of India, through its regular government-securities auction process.
5. Interest and gains are still taxable
- Fact IIBs carry no special tax exemption. Both the interest received and any capital gains follow ordinary tax rules.
📘 Good to Know
1. Launched on 4 June 2013
- History The Government of India launched IIBs on 4 June 2013. The goal was to cut gold’s appeal as an inflation hedge.
2. First linked to wholesale inflation
- Fact The first IIBs were linked to the Wholesale Price Index (WPI), with a 10-year tenure and a real coupon rate of 1.44%.
3. A predecessor existed back in 1997
- History India had already tried Capital Indexed Bonds in 1997. Those protected only the principal, not the interest payments, against inflation.
4. A retail-focused, CPI-linked version followed
- Fact Later in 2013, the RBI introduced CPI-linked IIBs aimed at retail savers, since CPI tracks the inflation households actually feel.
5. Issuance later paused
- Fact IIB issuance was paused after 2014, as easing inflation and weak investor demand reduced the case for fresh tranches.
Test Yourself
🏆 Great to Know
1. Why gold mattered so much
- Context Heavy gold imports were widening India’s current account deficit in the early 2010s. IIBs were designed partly as a gold alternative.
2. A real, not nominal, return
- Concept The coupon rate on an IIB is a “real” rate. It applies to a principal that itself keeps rising with inflation.
3. A rival instrument won out instead
- Comparison Sovereign Gold Bonds, launched later, became the government’s more successful gold-alternative instrument. See IndEco0276 — Sovereign Gold Bond Scheme and Gold Monetization Scheme.
4. An international parallel
- Global The United States runs a similar instrument, Treasury Inflation-Protected Securities (TIPS), on the same inflation-indexed-principal design.
5. Still relevant to bank lending decisions
- See also Fixed-income risk assessment tools like the Interest Coverage Ratio remain relevant across all bond types. See IndEco0308 — Interest Coverage Ratio.
📝 Previous Year Questions
UPSC CSP 2022, GS Paper I, Q5: Advantages of Inflation-Indexed Bonds
- Prelims PYQ Asked which advantages of IIBs are correct: lower coupon rates for the government, inflation protection for investors, and tax-free interest/gains.
- View this question →
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