The government on Tuesday announced curbs on overseas borrowing, which would marginally slow down foreign capital inflows and thereby ease the pressure on the appreciating rupee.
Companies will now have to keep their external borrowings (ECBs) outside the country. And they can use borrowings of only up to $20 million to fund rupee expenditure (the rest will have to be used for foreign currency expenditure).
“The short point is, the rupee movement is two-way and it (the measures) makes it much simpler to manage capital flows,” said a senior government official, who did not wish to be identified, while explaining the aims underlying Tuesday’s measures.
“We are in a much more globalized economy; we need to react,” the official added. On 3 August, the Bank of Korea similarly tightened overseas borrowing regulations in an effort to trim the gains its currency has made against the US dollar and help the country’s exporters. Malaysia and Thailand, too, had adopted the same approach.
“It is not a blanket ban; there is still a window for small and medium enterprises which can bring the money into India,” said finance minister Palaniappan Chidambaram, after the new norms were announced.
EFFECTING A SQUEEZE (Graphic)
In an effort to check inflows of foreign currency into India, the new rules tighten end use of such external borrowings. Significantly, a firm that wishes to raise more than $20 million through ECBs can only do so for foreign currency expenditure. A company that wants to raise less than $20 million through ECBs for foreign currency expenditure would be allowed to do so under the automatic route, but the money will have to be parked abroad. And a company that wants to raise up to $20 million for use in India will have to keep the money overseas until it is actually required in India.
Moreover, external borrowings for domestic expenditure will be allowed for specified end uses and would need to be cleared by the Reserve Bank of India.
The surge in capital inflows recently has shown up in the form of the rupee appreciating against the dollar. The rupee has appreciated by 9.5% since January against the dollar and closed at Rs40.41 against the greenback on Tuesday.
“This is like robbing Peter to pay Paul,” said Ajay Shah, an independent consultant and a former adviser to the finance ministry. “You are trying to subsidize exporters by penalizing borrowers in India.”
The government announced a package of measures in July to cushion exporters from the rise in the value of the rupee against the dollar. This will cost the government a minimum of Rs1,400 crore in the current fiscal year.
“They have taken the flexibility out for corporates,” said Sanjay Hegde, executive director at audit firm PricewaterhouseCoopers, on the impact of the new rules on ECBs.
“If the ban applies to all commercial borrowings abroad, it will have an impact on companies’ profits as interest expenses will increase,” said Punam Nischal, telecom analyst for the Mumbai-based broker ICICI Securities Ltd.
“The difference in borrowing costs locally and internationally is 150-200 basis points,” Anil Jhala, chief financial officer of Idea Cellular Ltd, India’s fifth largest mobile phone services firm said.
“The impact will depend on how much (of a company’s local funding requirements) was being met through external borrowings.” Large telecom borrowers such as Bhart Airtel Ltd have in the past year borrowed, in separate tranches, as much as $500 million from non-Indian sources, partly to fund rupee expenses.
The net inflows on account of ECBs in 2006-07 was about $16 billion, a little less than a third of the addition to the country’s foreign exchange reserves. “If the government thinks this will make a big difference by manipulating the money market, you are mistaken because the money market is too huge. It won’t work. In 2006-07, the trading volume on the currency market was roughly $38 billion a day.” Shah said that at the most the government could hope to curb inflows by $5-10 billion. “The currency market is too huge. It won’t make a difference,” he added.
(Rahul Chandran and Bloomberg contributed to this story.)