India’s economy has been suffering, but the country has thought of a solution that could go a long way to ease its fiscal woes, at least by boosting its foreign currency reserves.
The country is going to try to win entrance into benchmark emerging market debt indexes—in particular, the JP Morgan Government Bond Index-Emerging Markets (GBI-EM), although it’s also said to have approached Barclays and Citi on its quest. If successful, the move could relieve the downward pressure on Turkey, Indonesia and Brazil, which have all been suffering by association in a currency crisis since the summer.
To that end, Finance Minister P. Chidambaram and other government officials were scheduled to meet with fund managers at PIMCO, Standard Life and Capital International in late October. Inflows from such institutional investors would go a long way toward helping the country increase reserves in foreign currency, with Barclays stating that India could see inflows of possibly as much as $20 billion in the first six months after entrée into such an index. Standard Chartered put the figure even higher, at $20–$40 billion.
That could help India lower the deficit in its balance of payments, and also lower borrowing costs, with the latter perhaps spurring a boost in growth—something the country has been anxious to stimulate.
But it’s far from a done deal. There are many changes to be made in India’s rules on registration and documentation, as well as due diligence rules that govern the entry of foreign institutional investors (FIIs) into its bond market. In addition, limits on how much FIIs can invest in the country’s sovereign debt would have to be lifted.
Still, that’s something that could actually happen, with the new head of the country’s central bank in charge. Raghuram Rajan, formerly chief economist of the International Monetary Fund and professor at the University of Chicago, became the head of the Reserve Bank of India early in September, and he’s already done enough to make the world sit up and take notice.
In the wake of India’s currency blowout this summer, Rajan was brought in to advise the prime minister, and then ascended to run RBI, according to John Blank, chief equity strategist at Zacks. “The first thing [Rajan] did was to get the International Finance Corporation of the World Bank to offer $1 billion of rupee bonds offshore. They’re going to broker the first round of getting more money into India. That was the first strike.”
Next, Rajan raised India’s repurchase rate from 7.25% to 7.5% as an inflation-fighting measure. The move was unexpected, given the country’s slowing economy, and Indian businesses were not happy about it, but economists in general seemed pleased, taking it as a sign that the new boss means business.
Even though the rupee was on its way back up after Rajan took over at RBI, something that could cancel out some of the benefit was Moody’s downgrade of the State Bank of India, and its revision of the SBI’s outlook from stable to negative. Investors are concerned that worries over SBI and possible further slowing of the economy because of the interest rate hike could lead to a downgrade for India itself from any or all of the big three ratings agencies.
But then there’s Rajan’s latest action: his efforts to get India included in the GBI-EM—or, failing that, into one of the others. A successful entry into one of those coveted emerging markets bond indexes could ward that off, at least temporarily, if it results in an influx of foreign investors.
While India is already included in other, broader, dollar-denominated bond indexes, that’s not what they’re after, said Blank. “Those [other indexes] are not rupee-denominated. The whole thing is to get people to buy rupees and rupee bonds. So, even though the country’s rupee debt is included in the broad index, it doesn’t help.” The broader index “allows you to have countries with capital controls, limited access, etc. But to get into this other index, you have to lower all these controls—” much of which, Blank said, Rajan has already said he’s willing to do.
“If he wants to get into this thing, he has to jump over these hurdles and basically make the rupee convertible for bond investors. That’s big news. It would liberalize the country’s capital account, and this is one of their targets—to agree to international benchmarks that everybody uses to get into this index,” Blank said.
“That gets us to the fact that if they get this done, it’s not just good news for India, but for Brazil, Turkey and Indonesia too,” he said, adding that the currency problem that threw all four countries into a crisis of sorts this past summer happened because of India’s current accounts situation.
“Once India had a problem in the current account and its currency went down, the EMBI was looking to see who else was in there. They ran currencies on one side and current accounts on other side and came up with Turkey, Brazil and Indonesia [also having some issues in their current accounts],” according to Blank. Since all four showed deficiencies in current accounts, all four currencies took hits, spurred in large part by India’s problems, which were much more severe than in the other three countries.
“Now Indonesia doesn’t have the same problems as India; it already closed its current account loss. Brazil, too; it has problems, but is not in desperate straits. Turkey grew too fast, bringing in too much capital to [be able to] reform, [but its problem was not the same as India’s either,” he said.
Blank has doubts that making the changes necessary to enable India to enter the index will be enough to really solve its problems—at least any time soon. “The structural problems in the country caused these problems, so I’m a little skeptical here because they’re the problem. Is it wise, in light of India’s incredibly inflexible bureaucratic structure, to liberalize its capital system? [Investors] should be cautious on India,” he said.