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Completely agree. Borrowing by governments in foreign currencies has three problems.
One, most likely it's variable rate as in "Libor + so and so." Which means that if, for whatever reason, LIBOR goes up a lot, you are screwed.
One, most likely it's variable rate as in "Libor + so and so." Which means that if, for whatever reason, LIBOR goes up a lot, you are screwed.
Two, the exchange rate is not in your control. You think it is, but it's not. If, for whatever reason, INR goes to 100, you are screwed. Just see what happened to all those issuers of FCCBs a few years ago when INR went from 45 to 60.
Three, if governments borrow in their own currency, they can never default. That's because they can print their own currency.
But they can't print foreign currency.
But they can't print foreign currency.
To see how devastating this can be, just see what happened in South East Asia in 1997.
en.wikipedia.org/wiki/1997_Asia…
en.wikipedia.org/wiki/1997_Asia…
This isn't about PROBABILITIES. It's about CONSEQUENCES of low-probability events. I can understand the temptation to borrow in forex. The current cost is so much lower. The money is so much more available. And we have so much less debt than others.
India's Finance Minister said as much her recent speech:
"India’s sovereign external debt to GDP is among the lowest globally at less than 5%. The Government would start raising a part of its gross borrowing programme in external markets in external currencies."
"India’s sovereign external debt to GDP is among the lowest globally at less than 5%. The Government would start raising a part of its gross borrowing programme in external markets in external currencies."
The interesting this that if you talk to people who favor forex borrowings by government, about the risks, they will say that LIBOR won't go up, and INR won't go down and India is not like Russia or South East Asia.
These people are focusing on the wrong variable, PROBABILITY. Instead of CONSEQUENCES.
It's the kind of mistake that kill people all the time...
It's the kind of mistake that kill people all the time...
The temptation to copy others may not end well. It could have devastating consequences.
But this temptation to borrow in forex is so strong because of low current cost, and ease of availability thanks to low foreign Debt/GDP ratio.
As Manish says, this is how it starts...
But this temptation to borrow in forex is so strong because of low current cost, and ease of availability thanks to low foreign Debt/GDP ratio.
As Manish says, this is how it starts...
As expected, the objections to this viewpoint revolve around three arguments: (1) look at the upside, the low interest rates, we just can't ignore that!; (2) There is no downside as currency risk can be "managed"; (3) This not a problem right now, so why bother?
