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External debt not alarming

India is much better placed than other large debtor nations

THE LATEST Reserve Bank of India snapshot on the country's external debt at the end of last year may not be illuminating by itself. Even the statement that India's external debt crossed $123 billion, having grown in nominal terms by $11.6 billion last year (2004-05) needs to be appreciated in its proper context. Last year's increase has been the highest for any year since 1990-91.Yet neither the fact that India continues to be one of the most indebted nations — there are only a dozen countries that have an aggregate external debt of more than $100 billion — nor the large increase last year should cause consternation .In fact the level of debt has ceased to worry policy makers and has receded into the background.

There are of course many reasons for this. One only needs to compare India's external economy parameters over a period to realise its comfortable position. The RBI's reference to 1990-91 for illustrating the magnitude of increase in indebtedness last year is both apt and relevant. Fifteen years ago India passed through one of the worst foreign exchange crises, with external reserves at as low as 7 per cent of the aggregate debt. Since then there has been a spectacular turnaround. At the close of last year (March 31, 2005) forex reserves exceeded external debt by $18.2 billion providing a cover of nearly 115 per cent.

In 2004 the reserves exceeded debt for the first time. That placed India in the select company of developing countries along with China to be in a position to retire all its debt from its reserves. Since then, reserves, far from being scarce, have, by some logic, become "embarrassingly'' large, spawning debates on the cost of holding them. At the end of March 2005, India held the fifth largest stock of reserves in the world. Besides, the major accretion to reserves has been due to non-debt creating inflows.

When compared to other large debtor nations such as Brazil, Russia and Turkey, India is much better placed. Its debt to gross domestic product ratio, a true indicator of the real debt burden, has come down from 21 per cent three years ago to 17.8 per cent at the end of March 2004 and 17.4 per cent this year.

Dollar's dominance

However, if the trends over a decade and a half have been positive as far as aggregate external debt is concerned, it is by looking at the variations in its components that one gets greater insights and a more balanced picture. India's external debt continues to be largely denominated in dollars (45 per cent). Another 11 per cent is in Japanese yen and — surprisingly — only 5 per cent in euros. The dollar's continued dominance is not just a legacy. It can also be explained by the fact that last year's spike in external debt was caused by a sharp increase in trade credits, external commercial borrowings, multilateral debt and NRI deposits. Although a detailed break up is not available, it is likely that a large portion of incremental NRI deposits has been booked in dollars.

External commercial borrowings, whose share in total debt is 21.8 per cent, went up by around $5 billion or nearly 22 per cent during the year. At one level, this phenomenon is indicative of strong investment demand in India coupled with increased global liquidity.

Policy flip-flop

Since the country rating has been improving it is likely that corporates have managed to negotiate better rates for their loans. Nevertheless, the spurt in ECBs can have a negative connotation as well. There is no dearth of resources in India as well and although interest rates have bottomed out they have not started rising for most categories. During November 2003 the Government had issued guidelines discouraging most companies from seeking loans outside the country. Inconsistency in official policies does not help in long range planning by corporates.

Such inconsistency extends to NRI deposits. A number of incentives that NRIs enjoyed were progressively whittled down, only to be partially restored later. For all that, NRI deposits, which account for 26.4 per cent of aggregate external debt, have grown by 4.4 percentage points. External assistance (both concessional and non-concessional) to the Government from multilateral agencies increased substantially during 2004-05.

Short-term debt grew spectacularly last year by about 69.8 per cent. To a large extent this is indicative of heightened import activity including of course dollar denominated petroleum imports. Here again, there is no need for particular anxiety. As a proportion of total debt, short-term debt is still at a relatively low 6.1 per cent and as a proportion of reserves just 5.3 per cent. The danger with a larger share of short-term debt is that there could be a bunching of repayments.

There has been a classification problem relating to short-term debt. The conventional definition has been that only loans that with maturity of less than one year at the time of contract should be classified under short-term loans. A status report on debt released by the RBI last year had pointed out that estimates based on the original maturity concept are not realistic. To obtain a correct assessment, one has to take into account the portion of long-term and medium-term credit which, though contracted for periods exceeding one year, will have to be redeemed within the year. Obviously the residual maturity concept is a better indicator of short-term indebtedness .It is not clear whether the share of short-term debt in the aggregate numbers is as comfortable as it appears in the first instance.

C. R. L. NARASIMHAN

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