Instead of mobilising funds through overseas sovereign bonds, the Government must focus on making its balance sheet more robust and improve the quality of fiscal discipline
In the Union Budget presented on July 5, Finance Minister Nirmala Sitharaman proposed an “overseas sovereign borrowing plan” to partly fund an ambitious investment programme that will involve a mammoth spending of Rs 100,00,000 crore ($ 1.4 trillion) for the building of infrastructure to make India a $ 5 trillion economy by 2024-25. During the current year, the Government intends to raise $ 10 billion from this source. The contours of the plan are expected to be finalised by October.
In sync with the character of the many infrastructure projects such as roads, highways/expressways, railways, ports, airports, coastal transport and waterways, among others, which take a long time to get completed as also start generating return, the tenure of borrowing will be 10 years plus — going up to 25-30 years. As per available indications, for now, sovereign loans will be denominated in major international currencies such as Yen and Euro. However, in due course, the Government will go for dollar-denominated loans as well.
In view of the Federal Reserve of the US, having dilly-dallied on the rollback of its quantitative easing (QE) programme and given the indication of a cut in the interest rate and the Central Banks of European Union (EU) and Japan being glued to expansionary fiscal and monetary policies at present, there is surplus liquidity in the international market. So the interest rate environment is benign. The investors are getting low returns (negative in some jurisdictions), prompting them to look for destinations where they can get attractive returns.
This is where India offers an attractive destination. It has already brought into picture far-reaching reforms with great emphasis on attracting foreign investments and improving the ease of doing business. At the same time, in a wonderful coincidence of sorts, the Indian demand for these funds is also huge. The reasons as to why the Government wants to tap funds globally are manifold.
First, the Centre is making expenditure commitments on an increasing scale due to the investment requirements linked to accelerated growth on the one hand, and the ever-expanding scope of the existing welfare schemes such as the PM Awas Yojna , Ujjwala Yojna (free gas connection), Saubhagya Yojna (free electricity connection), Ayushman Bharat (free medical treatment covering expense up to Rs 500,000) and Swachh Bharat (free toilets) among others. There is also the launch of new ones such as drinking water to every household.
Second, the tax collections — both direct and indirect — are not on the desired trajectory. During 2018-19, the Government got net tax collection (after devolution to States) of Rs 1,317,000 crore against a target of Rs 1484,000 crore, leading to a shortfall of Rs 167,000 crore. The shortfall was in both Goods and Services Tax (GST) and direct taxes. This has forced it to fix the target for the current year at about Rs 1460,000 crore, which is even lower than the target for 2018-19.
Third, the revenue from non-tax sources such as proceeds of disinvestment of the Government’s share-holding in Public Sector Undertakings (PSUs) and dividend from the Reserve Bank of India (RBI) may fall short of the targets. The disinvestment proceeds of Rs 105,000 crore include Rs 35,000 crore from “strategic” sale (this includes revenue from the sale of Air India), which is suspect. In regard to dividend from the RBI, the Centre was expecting transfer of surplus from the Central bank at one go but the Dr Bimal Jalan committee is expected to recommend staggered transfer over three to four years.
These factors, when seen in juxtaposition, lead to an unsustainable fiscal deficit (FD). But the Government suppresses it by taking recourse to what is termed as extra-budgetary resources (EBR) and postpones the payment of major subsidies such as food, fertilisers and fuel to future years. Similar adjustments (an apt phrase would be window dressing) during 2017-18, according to the Comptroller and Auditor-General (CAG) helped in lowering FD in the books from 5.85 per cent to 3.46 per cent.
The irony is that even at the suppressed FD level, the borrowings are huge over Rs 700,000 crore, and if the entire load were to be put on domestic savings, the Government fears, it would reduce availability of funds for the private sector and increase interest rates, which could affect investment as well as private consumption (a good slice of this is financed by retail loan, which will also get impacted due to the “crowding out” effect) and in turn, growth.
So, it is keen to borrow some amount abroad, thereby easing the burden on domestic turf. Since overseas funds are also available at low cost, there is reason for mandarins in the Finance Ministry to be cheerful. But there are no free lunches. There is a price for almost everything that looks so attractive at the first sight.
The proposed move will require tremendous discipline in terms of fiscal consolidation road-map and maintenance of current account balance. The foreign lenders could insist on this condition to be incorporated in the loan agreement as an essential pre-requisite. The covenants could also include a provision for increasing interest rate in case of deviation from the agreed path. The slippage will also lead to a collateral damage. The Indian currency will come under pressure vis-à-vis the currencies viz, Dollar, Yen and Euro in which sovereign loans are denominated. The resulting depreciation of the rupee will cause a surge in the loan repayment liabilities on Government books.
Furthermore, if deterioration in the macro-economic fundamentals continues, international rating agencies may be prompted to downgrade India’s sovereign bonds. In that scenario, fresh loans will come at higher interest rates to provide for heightened risk. As a consequence, India could slip into a vicious circle of unsustainable increase in external debt and debt servicing.
The Finance Minister argued that India’s sovereign external debt — at less than five per cent of the GDP — is among the lowest, globally. Therefore, a lot of head room is available. The argument is specious. Today’s situation can’t be compared with a scenario that will unfold when it actually takes a big plunge. Once things get going, there is no going back, especially when demand for funds is escalating and supply is plenty (unlike domestic lendable resources). India needs to tread cautiously. The Government should avoid slipping in to a mindset whereby it starts believing that any amount of its savings-investment gap can be met by borrowing abroad and that, too, at an interest rate that suits us. For now, it may limit the sovereign borrowings to $3-4 billion, and focus on making its balance sheet more robust and improving the quality of fiscal discipline by pruning off-budget liabilities. But this is easier said than done.
For instance, during 2019-20, major subsidies viz, food, fertilisers and fuel, are expected to guzzle about Rs 420,000 crore. But an allocation of only Rs 300,000 crore has been made. The rest Rs 120,000 crore will be rolled over to next year. The Government needs to address the factors behind these high subsidies. It is doable but requires political will. It should also work on developing and deepening the domestic bond market, especially for long-term funds, by winning the confidence of domestic pension funds, provident funds etc. After achieving a good measure of success on these fronts, it should think of taking a plunge into global waters via “external sovereign borrowings” on a significant scale.
(The writer is a New Delhi-based policy analyst)
Writer: Uttam Gupta
Courtesy: The Pioneer