RBI steps positive, but inflow won't be immediate: Experts

In a bid to check rupee's slide against the US dollar, the Reserve Bank of India (RBI) on Monday hiked the limit of external commercial borrowing (ECB) to USD 10 billion. Moreover, the regulator also increased the limit of overseas investment in government bonds by USD 5 billion to USD 20 billion.

RK Bakshi, ED, Bank Of Baroda and Charles Corbett, Head - Debt Capital Markets, Standard Chartered discuss on the impact of the hike of ECB limit. Corbett is of the view that it is optimistic to assume incremental inflow to the tune of $10 billion by way of ECBs. According to him, 50% of the ECB inflow into India came from European banks and given the current eurozone crisis, this could affect inflow. “Creating a limit doesn’t create the appetite. We have a global environment which is a difficult one to attract new dollar investment into India. It’s hard to ignore the fact that that appetite has withdrawn quite considerably in the last 18 months or so. But to some extent, it’s being taken up by investors out of Asia. But there is still a gap at the moment in the appetite for ECB investment into India which will continue for some time despite this change in regulations announced yesterday,” said Corbett. Echoing Corbett’s views, Bakshi said that while RBI’s steps are positive, inflow may take some time. “It’s definitely a positive measure. The bottleneck on refinancing of loans having been removed. I think it will serve two purposes. One the limit can be quickly used up, because project loans and capex loans typically take a long time in getting drawn. So even if an ECB was placed for a new project, it will take long time to be drawn. Therefore, the dollar inflows into the country will take a long time,” he said. Below is an edited transcript of their interview with Udayan Mukherjee and Mitali Mukherjee. Also watch the accompanying video. Q: What’s your best guess of how much money we can pull in through the ECB window? Do you think all of it will come over a period of time or that’s being too optimistic? Corbett: I think it’s a little optimistic. I think in the current environment it’s hard to put a figure on how much that will attract in additional ECB investment. It’s encouraging that the rules have been made clearer and easier to follow. I think the previous rule whereby some 25% of new ECB inflows could be used to refinance rupee debt didn’t really leave much room for new investment opportunities under ECB route. I think now that that’s clearer, we will see more opportunities for our clients to avail of that ECB funding. But you have to be aware of what’s happening on the other side of the fence. Creating a limit doesn’t create the appetite. We have a global environment which is a difficult one to attract new dollar investment into India. If you look at pre-crisis then around 50% of ECB investment into India came from European banks and half of that from UK banks. It’s hard to ignore the fact that that appetite has withdrawn quite considerably in the last 18 months or so. But to some extent, it’s being taken up by investors out of Asia. But there is still a gap at the moment in the appetite for ECB investment into India which will continue for some time despite this change in regulations announced yesterday. Q: What has been the experience until now in terms of how large the size of the ECB market is currently? If indeed this window has been opened up, what kind of incremental flows do you think we are looking at? Corbett: Typically, if you include all ECB inflows, loans, FCCB, ECA Financing, the peak last year came to some USD 35 billion March ending this year, previous year’s USD 25 billion and before that hovering around USD 18-20 billion range each year. So it is a significant inflow. I would say that our flows this year are looking fairly poor by comparison to last year’s high. So again, I would probably assume that of that USD 10 billion limit, we are unlikely to see more than USD 5 billion come in over the next 12-18 months unless we see a substantial improvement in the macro economic environment and in investors’ appetite for medium-term debt. _PAGEBREAK_ Q: What was your observation from the announcements yesterday because Bank of Baroda does have a significant enough foreign book exposure to ECBs as an instrument? Bakshi: I agree with Charles. It’s definitely a positive measure. The bottleneck on refinancing of loans having been removed. I think it will serve two purposes. One the limit can be quickly used up, because project loans and capex loans typically take a long time in getting drawn. So even if an ECB was placed for a new project, it will take long time to be drawn. Therefore, the dollar inflows into the country will take a long time. The refinancing route will see to it that the dollars which the country needs can come in faster. Having said that, there is another attachment to the whole thing and that is the manufacturing company or the infrastructure company should be a net consistent foreign exchange earner in the last three years. Which infrastructure companies earn foreign exchange? Not all. Not the power, not the roads, nor the main routine infrastructure company, but there are segments like hospitals or there can be aviation or there can be ports which do earn foreign exchange. So those segments can definitely refinance their loans. Since they will have a natural hedge therefore they maybe able to definitely get it much cheaper than compared to the rupee financing. So that will be a big positive. Those companies who don’t have a natural hedge and have to take forward they have to spend 5.5% more. So that will be a big saving for these companies who have the natural hedge. So this should be quite a positive. As Charles rightly mentioned, given the global environment, the lending appetite will be there. As you know, the ECB window, by definition, the government wants only the higher rated corporates or borrowers to be able to access that. That is where the pricing restrictions are all placed, which means that at least the credit rating wise or credit worthiness wise the borrowers should be good. The project should be on-stream or they should visible that they will go on-stream then only you will find any lender interest. Indian banks definitely are more positive on Indian infrastructure projects, because we feel that we have a better understanding of India and more confidence, therefore, in India or we are able to unravel bottlenecks and how soon they will get sorted out from being on the ground. We have about Rs 25,000 crore or so ECB book as of now and we feel that this can definitely get a pick up with this announcement. Q: What kind of clients do you think will go in for this refinancing? Do you expect your blue chip, typically AAA kind of clients trying to bring down their costs by refinancing and indeed all costs considered are ECB loans much cheaper than borrowing domestically right now prompting this kind of a move from your big blue chip clients? Bakshi: Even if hedging was involved, it can turn out to be 1% or 2.3% cheaper than the rupee borrowing. But this particular measure is aimed at companies which are net foreign exchange earners. This can mean that they may not be required to hedge if they have got the natural hedge available. With this, the foreign window definitely becomes quite attractive. As I said earlier, the lenders including even Indian banks will like to use the ECB window for borrowers who are higher rated. This means where either they are higher rated or the project is such that it has either gone on-stream or it is in clear visibility of going on-stream. A lot of infrastructure projects are stuck. So those may not necessarily be able to attract lender interest. Q: Do you think it will make sense for large blue-chip clients to do this for some kind of arbitrage on cost or to bring down their overall cost of borrowing or will this window be accessed by companies which have slightly stretched balance sheet for which appetite then from your global clients may not be too high? Corbett: You are right on both counts. To an extent, it’s important to look at the cost of rupee borrowing for those blue-chip clients. As Mr. Bakshi pointed out, unless you are borrowing those dollars on an unhedged basis, it is only a marginal improvement in your cost of borrowing. Let’s not forget that rupee borrowing will typically be far long a tenure suited to a project than ECB borrowing will be which typically stretches from the bank market from 5-7 year tenure whereas far longer tenures are available on rupee. So those top clients would waive up the benefit of a slightly 1-2% better cost of funds on a hedged basis against the longer tenure they will be enjoying from the rupee market. Also, it is important to bear in mind that because of the comfort that Indian lenders have with their top blue-chip clients, often the covenant levels and the terms and conditions as rupee loans can be a lot more favorable than the international market will offer. Although there is a great deal of logic taking up these limits, we’ll see that happen over some 12-18 months only. I don’t see it as an immediate reaction. Q: What kind of companies or industries could we be talking about? The problems for infrastructure are well documented and even for a sector like telecom which does fall under this ambit, it seems unlikely that they would go down the ECB route again for the same problems that you pointed out. It’s an extended balance sheet issue, not a limit issue. Corbett: You can’t look at these changes in isolation. You have to be cognizant of the world economic environment at the moment. You are bound to come across reluctance from investors to explore medium-term financing in their non-domestic market. So you will face difficulties for this limit to be fully taken up. Frankly, I think one restriction to the amount of ECB inflows that we see coming from the bank market particularly is thanks to the tenure restrictions of an average of five years or more, there is a window under which issuers can borrow dollars for three years. But that’s only a USD 20 million per annum through the automatic route which is prohibitive. Frankly, I think if we see much more significant take up of this new USD 10 billion limit, the RBI should look to reduce the average life that they require investors to come in for, much as they are doing on the FII limits under the same announcements yesterday. So one has to be cognizant of the fact that international banks are risk averse and five year lending to India given the current environment given the ratings outlook at the moment is a tough task. If we are going to see significant volumes coming in then we have to be more relaxed on the tenure requirements.