Proposal to issue sovereign bonds abroad: A myopic misadventure?

Dr Bhagwati Prakash Sharma?

The Finance Minister’s proposal to go in for foreign borrowings, by issue of sovereign bonds abroad, for bridging the widening fiscal deficit would prove to be a myopic misadventure. The ongoing Euro-zone crisis, taking toll of even the developed European countries, one after the other, is also largely due to excessive cross-boarder issuance of sovereign bonds. All of them have got into this worst ever debt trap, solely due to an easy access to cross-boarder borrowings through sovereign bond issue. This worst ever crisis in the Euro-zone countries has snowballed to such an extent, that even the multilateral funding agencies like the IMF and the World Bank too could not think to bail them out. The bailout packages being offered by the Euro-zone, are very painful and they are also being offered, simply because the other Euro-zone countries want to safeguard themselves from a total fall of the Euro-zone.  Therefore, India should not at all think of such a misadventure of funding the budgetary deficits in domestic currency by borrowing through issue of sovereign bonds abroad.

Dangerous move towards capital account convertibility
In case of India, the issue of sovereign bonds abroad is a step ahead to move towards ‘capital account convertibility’ of the rupee. In view of the highest ever trade and current account deficits and big gap in the balance of payments, any thought for the capital account convertibility of rupee would be suicidal. Historic bankruptcies in the three South East Asian giants in late 90s are reminiscent of the pitfalls of premature ‘capital account convertibility’ of their currencies, coupled with excessive currency trading. In case of India, the economy does not fulfill a single precondition prescribed for capital account convertibility, spelled out by the Taroporewala Committee, constituted to assess the feasibility of announcing full capital account convertibility of rupee.

Serious imbalances on the external front

Indeed the government is desperate and there is reason for being so, as the foreign trade deficit has reached at an alarming level of 175 billion. The current account deficit is even more worrisome and therefore the Balance Of Payments (BOP) is also in the red with a record deficit of 12.8 billion in the quarter ending  of December 2011. Indeed India’s current account deficit in the third quarter of 2011-12 has reached 4.3 per cent of GDP, worse than the crisis level of 1991, when India had to mortgage its gold with the Bank of England and had to accept the conditionalities of the International Monetary Fund in our internal affairs.

The latest Balance of Payments (BOP) data released by the RBI also show that the current account deficit for the whole of  2011-12 has also been at a peak of 4 per cent of the GDP, an alarmingly high level. The level of the BOP deficit in these data, released by the RBI on March 30 is much higher vis. a vis. the Finance Minister’s estimate of 3.6 per cent stated in his budget speech on March 16, only 14 days ago. It gives an impression as if the Finance Minister has probably understated these figures to show that situation is under control, while it is not so. The current account deficit has attained a much alarming level in December 2011 itself, when it reached $19.6 billion, the highest ever after 1994 in any month. So, out of its desperation arising from the big gaps in the trade and current account balances, the government had to increase the limits of external commercial borrowings, besides further opening up of Foreign Direct Investments (FDI) and exempting Participatory Notes (PNs) from tax liability. All these short term remedies are bound to lead the country, towards the worst ever BOP crisis in the medium term. It is nonetheless worrisome that the external debt, against the country, has already reached at $334.9 (Rs 18.18 trillion) almost above 20 per cent of the GDP. The foreign exchange reserves of the country, have come down to just $294.38 billion against a peak of $320 billion in the first week of September 2011. The forex reserves had dipped to $292 billion in second week of January 2012. All these adversities have depreciated the Indian rupee at that time to a record low of Rs. 54.30 against the US dollar, at vary dangerous level. Since, our foreign exchange reverses are much lower than the burden of the external debt, the Reserve Bank too could not dare to intervene to halt the fall of rupee, as the reserves were less than the external debt. Even today the situation is equally precarious as our external debt stands at 334.9 billion against a forex cover of $294.38 billion. The short term external debts are also quite high at $78.1 billion, therefore the situation is deceptive and that is why the RBI cannot dare intervene in a big way to halt any imminent fall in the exchange rates even now.

In a volatile scenario of this kind, with rapidly widening trade and current account deficits, bridging budgetary deficits by starting to borrow from abroad through floating sovereign bonds is a remedy worse than the ailment. The proposed move to bridge the fiscal deficit of the country’s annual budget by external borrowings would prove to be the most dangerous and fatal step if taken, as stated in the budget papers by the Finance Minister, Pranab Mukherjee. Bridging of internal fiscal deficit by borrowing from abroad has rattled the Euro-American economies beyond recovery in the near future, and they shall have to face the consequences of a lost decade till 2020. Issuance of sovereign bonds abroad to bridge the domestic fiscal deficit, ignoring the contemporary experience of Euro-American economies is an ostrich act of hiding the neck in the sand to stop seeing the danger.

In the current year i.e. in 2012-13, the government shall be borrowing the highest ever amount of Rs. 5.7 lakh crore. The para 42 of the Fiscal Policy Strategy Statement, tabled along with the budget papers by the Finance Minister in the Parliament on March 16, says the government can explore selling its bonds abroad. The strategy statement says that “with a gradual decline in net inflow from multilateral institutional in the coming years, government would have the option of exploring other sources of external debt in the form of sovereign bond issuance.”

This proposed attempt to cover the balance of payments deficit through borrowings from abroad in the name of filling the internal fiscal gap, is bound to precipitate worst ever crisis in the medium term. The interest out go, on such bonds would further worsen the situation, requiring the future governments to service the debt in foreign currency. So, the myopic proposal to bridge the fiscal deficit by borrowing from abroad needs to be dropped.