With the rate of inflation breaching 6 per cent, real interest rates on gilts of all maturities are negative.

Wholesale inflation climbed to a 35-week high of 6.09 per cent on January 3 and all secondary market yields are below this level. This is unprecedented.

Rising prices have put the government on alert to ensure that inflation does not dampen the "feel-good factor" in the economy in the run-up to polls.

A price monitoring board headed by the Cabinet secretary met earlier this week to monitor the situation. Of particular concern to the government is a possible rise in the price of onion, which gave the Bharatiya Janata Party a rude shock during the 1999 Assembly elections.

The wholesale price index-based inflation was 5.75 per cent during the previous week and 3.78 per cent in the corresponding week last year.

The yield on the longest maturity gilt traded in the secondary market, the 24-year paper due in 2028, was 6.05 per cent on Friday. At the other end of the spectrum, the 91-day treasury bill was traded at 4.25 per cent.

"This phenomenon illustrates the fact that the bond market is pricing in low inflation expectations in the medium term. Over the next 5-10 years, the inflation expectation is between 2.5 per cent and 3 per cent," Sanjeet Singh, vice-president, ICICI Securities, said.

"This again reinforces the fact that the government is the biggest beneficiary of the low interest rate regime. The rates have bottomed out and will not go down further," a banker said.

In the United States, the yield on the 10-year gilt is around 4 per cent against an inflation rate of 1.9 per cent, a real interest rate of around 2 per cent.

The 30-year US paper is trading at 4.85 per cent, again much higher than the inflation rate. Only the 6-month paper is trading in negative territory with an yield of 92 basis points.

A banking analyst said: "It will not be entirely fair to say that Indian government bonds are all trading in the negative zone. If one takes into the account the inflation expectation of 4-4.5 per cent, the government paper yield is perilously close to the negative zone. The 4-4.5 per cent inflation rate is expected in March, but the actual inflation figure in 2004-05 could be higher at over 5 per cent or so."

Reserve Bank of India Governor Y V Reddy on Friday said though inflation was currently "ruling high", it should start falling and was expected to be in the 4.0-4.5 per cent range by end-March.