Since May-2018, most emerging market currencies are seeing a weakening trend. There are multiple reasons for this – US monetary tightening and Fed shrinking its Balance Sheet; US tax cuts; geopolitical uncertainty.
In last few days, sharp weakening of Turkish Lira is causing cascading effect on other currencies.
When a currency sees abnormal weakness, country’s foreign currency (FC) debt comes into discussion and it start to pose risks of defaults; capital controls etc. In this context, we have analyzed India’s FC debt and compared to peer group countries in Asia and with Turkey. For clarity, FC debt comprises of long term debt like External Commercial Borrowing, investment by foreigners in bonds and government bonds; short term trade finance like Buyer’s Credit and NRI deposits.
The analysis uses two parameters – external debt as % of GDP and external debt as % of country’s reserves, for a period of for period of 2013 to 2017. The key observations are:
- For India, FC debt is about 1.3 times of reserves and about 25% of its GDP. Pl refer to Graph 1 & 2 below. Higher the ratio, more vulnerable is the currency.
- As of now India’s FC debt is not of immediate concern. However, with rising trade deficit; weakening currency and tight USD liquidity, it could become a concern.
- For India, the ratio of FC debt to reserves is better than other countries like Malaysia, Indonesia, Turkey etc. but China and Thailand have a better ratio (less than 1).
- For most countries, the ratio of FC debt to reserves has been increasing over the years. For India, it has been near constant round 1.3%. This indicates that for India, growth in FC debt is almost in proportion to growth in reserves and growth in GDP and therefore no immediate concern.
- For India, the ratio of FC debt to GDP is about 20% and it has reduced over last five years. The reduction shows that India’s GDP growth has been faster than growth of FC Debt. On this front also, India scores better than most other countries. Pl refer to Table 1 below. For most other countries, the ratio has been increasing, showing that FC debt is growing faster than growth of GDP.
- For China, the growth in FC debt has been massive. FC to GDP ratio increased from 9% to 14% in last five years.
- Turkey and Malaysia have concern on this parameter. For both countries, FC debt is more than 50% of their GDP. Malaysian Ringgit had seen massive weakness in 2016 and Turkey in now witnessing it.
Overall observation: Overall, as of now, FC debt for India is of no immediate concern. However, we fear that with rising trade deficit and current account, country’s dependence on capital account inflows (debt and equity) would increase and this could make currency more volatile in coming years.
*Disclaimer: Best efforts have been made to present the analysis and data as correctly as possible. However, it is prone to errors and therefore clients are expected to do their own analysis, independent of what is shared above, before taking decisions. This is neither a solicitation nor a recommendation to Buy/Sell any currency. No representation is being made that any suggestion being made above will necessarily result into profits and principals/employees/