If foreign portfolio inflows become excessive, some curbs are inevitable

If foreign portfolio inflows become excessive, some curbs are inevitable

Mumbai: With international investors buying $15.4 billion (Rs71,764 crore) of Indian stocks this year, 2009 may perhaps see the highest portfolio inflows into the country. Brazil is taxing capital inflows, Indonesia is considering it, and India may auction external commercial borrowings (ECBs). Mint spoke to Ajit Ranade, chief economist, Aditya Birla Group, about the impact of rising capital inflows. Edited excerpts:

This year we may see an all-time high of annual capital inflows into India. What will be its impact?

Long-term risk capital is always welcome. As a rule, volatile portfolio flows are less welcome than long-term stable FDI (foreign direct investment) inflow. However, even these have to be ultimately related to the absorptive capacity of the economy. If the capital flows are concentrated in sectors like real estate, there is always the danger of a bubble. The impact of high capital inflows cannot be benign. Latin America in 1980s, East Asia in mid-1990s, and Eastern Europe, including Iceland now, all received phenomenal capital inflows, and all ended up suffering the consequences. How much is enough is a matter of policy assessment.

Will the move to auction ECBs help curb inflows?

On ECBs, an aggregate limit of debt is necessary since it relates to the repayment capacity, not just of corporations but also the country. While India’s forex (foreign exchange) reserves are more than adequate, the same cannot be said about repayment capacity of all individual borrowers. Once an aggregate limit is fixed, we have to decide on an allocation rule. An auction is not always appropriate, since different borrowers don’t have simultaneous needs. Moreover, an auction will unnecessarily raise the cost of borrowing, the very reason to opt for ECB. Then again a first-come-first-served system is also not totally fair for rationing ECBs. What may be workable is a rolling 12 month limit, which is not tied just to the fiscal year. Also the allocations could be pro-rated so as to allow maximum number of applicants to benefit.

Since India is dependent on capital inflows, are such curbs desirable?

I am not sure India is very dependent on foreign capital flows. After all our domestic savings rate at 35% is among the highest in the world. If only all of it can be channelled into productive investment, we would need very little FDI. Of course, FDI brings technical and managerial know-how as well, and that’s why it is welcome.

India unfortunately cannot get FDI in its own currency, and that’s the main problem. If foreign portfolio inflows become excessive, some curbs are inevitable. Not just small countries like Iceland and Chile but even large countries like Brazil have used some curbs.