rbi: Redemption pressure of Short-term debt to add to RBI’s forex management challenges

The Rupee which has been facing the heat due to withdrawals by portfolio investors, has another trouble brewing – maturing external debt of Indian companies.

About 43.1 percent or $267 billion worth of external debt of the $620.7 billion amounting to 44 percent of country’s foreign exchange reserves comes up for maturity this fiscal, according RBI‘s latest data on India‘s external debt as of Mrach’22. Though some amounts will be rolled over, given the slow pace of reserves pile-up, this will be an additional challenge for the Reserve Bank to manage reserves and dollar levels.

Taking advantage of softer interest rates overseas a number of firms borrowed under the external commercial borrowing route in the past few years that came up for maturity. In addition, the pick-up in economic activity leading to higher merchandise trade volume has resulted in a surge in short-term trade credit which jumped 20 per cent during the year.

In addition to these capital flows, the widening current account deficit which is expected to more than double to over 3 percent of the GDP in the current financial year is also an additional source of concern for reserves management and the overall balance of payments.

India’s foreign exchange reserves declined to $ 590.6 billion as of June 17’22 from a peak of $ 642.5 billion on September 3, 2021. These are equivalent to nearly 10 months of imports projected for the current financial year, thereby providing a sufficient buffer against external shocks, according to RBI’s latest Financial Stability Report. ” As a result of the accumulation of large foreign exchange reserves in recent years, various external vulnerability indicators show marked improvement vis-à-vis the taper tantrum period. This augurs well for mitigating external risks and global spillovers” RBI said.

But the foreign exchange reserves which was more than 100 percent of the outstanding external debt in March 2021 has fallen to 97 per cent in March 2022. Besides, the rupee has slipped by more than 5 per cent against the dollar since the end December’21. The central bank has spent more than $ 41bn defending the currency since February, reducing import cover to single digits.

In inflation adjusted terms or real effective exchange rate (REER) terms, the rupee is still overvalued leaving scope for letting the rupee further. “In the current fast-moving and volatile global context, RBI would likely favour depreciation of the INR in line with global currency market trends” said Prof Ananth Narayan of SP Jain Institute of Management and Research in a recent paper. ” However, with the rupee near an all-time low against the US dollar amidst high imported inflation, there could be pressure on the RBI from the political economy to control the rupee depreciation.”

Ultimately RBI’s reserve management policy makes sure that liquidity, market and credit risks are prudently controlled. “The RBI’s forex reserve accumulation strategy will continue to be guided by its risk management approach, along with the standard reserve adequacy metrics” said Rahul Bajoria, chief India economist at Barclays Capital. ” When sentiment turns, we think the RBI’s reserves are likely to recover, meaning heavy intervention on the other side and limited scope for swift rupee appreciation”.

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