With reference to the Indian economy, what are the advantages of "Inflation-Indexed Bonds (IIBs)"?
- 1.Government can reduce the coupon rates on its borrowing by way of IIBs.
- 2.IIBs provide protection to the investors from uncertainty regarding inflation.
- 3.The interest received as well as capital gains on IIBs are not taxable.
Which of the statements given above are correct?
Answer & explanation
Answer: (a) 1 and 2 only
Because the principal and payouts of an IIB rise with inflation, investors do not need an extra premium for inflation risk, so the government can borrow at a lower (real) coupon while investors are shielded from inflation. There is no tax break: normal tax rules apply to both interest and capital gains.
- ✓ 1. The RBI's technical paper on IIBs lists cost savings for the government, partly by removing the risk premium that lenders charge for uncertain inflation, so the coupon can be set lower in real terms.
- ✓ 2. The principal is indexed to inflation and the coupon is paid on the indexed principal, so the investor's real return is protected when prices rise.
- ✗ 3. The RBI's FAQ says existing tax provisions apply to interest and capital gains on IIBs; there is no special tax treatment.
Remember · IIBs: principal indexed to inflation, real coupon; cheaper borrowing for government (no inflation risk premium) and inflation protection for investors; fully taxable as usual.
Sources
- Reserve Bank of India — A technical paper on Inflation Indexed Bonds (IIBs) ↗ “Inflation indexed bonds (IIBs) provide insurance to investors from inflation and cost savings for the Government on account of reduction in coupon payments with lowering inflation rate, elimination of uncertainty risk premium, and containing inflationary expectations.”
- Reserve Bank of India — FAQs: Inflation Indexed Bonds (IIBs) ↗ “Extant tax provisions will be applicable on interest payment and capital gains on IIBs. There will be no special tax treatment for these bonds.”
Question and answer: UPSC's official GS Paper I (2022, Series A) — paper ↗ · answer key ↗. Explanation: Minimalist IAS, checked 30 Sept 2026 (how we verify). ·