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RIBs pose larger economic questions

T.B. Kapali

TWO years after the Resurgent India Bonds 1998 issue, there is talk again of another RIB-type issue to bolster the external liquidity position of the country.

Spiralling oil prices, perceived to still not show firm signs of having peaked and which are seen draining the present level of external reserves quite significantly, seem to be the immediate and proximate trigger for another possible RIB issue.

While the merits of contracting debt and that too hard currency debt to finance present consumption can be a matter for debate, there are also other issues of a brass-tacks nature relating to a RIB issue at the present juncture.

For one, a hard currency bond issue in the external markets now would come at the peak of the interest rate cycle in the advanced markets, especially in the dollar market from where most of the funds will come. The contrast with the August 1998 RIB issue cannot be more stark.

That bond issue came at the trough of the dollar interest rate cycle -- 30-year-long treasury yields in fact dipped sharply to 4.67 per cent in October 1998 just a month after the RIB issue was completed. Shorter term (5 years - the tenor of the RIBs) we re of course lower. Therefore, a spread of around 325 basis points over the rates on comparable tenor treasuries was necessary in August/September 1998 to lure in subscriptions - the dollar-denominated portion of the RIBs being issued at a 7.75 per cent coupon.

Given that there has not been any dramatic improvement in India's external credit rating in the past two years, one can assume a similar spread of around 325/350 bps over 5-year treasuries at which the prospective RIBs may be offered. With 5-year US note s around 6 per cent now, even the coupon on the RIBs now could be close to 10 per cent. (The final cost, of course, will be a function of how the rupee's exchange rate develops over the tenor of the RIBs).

As for the August 1998 RIB issue, at a coupon of 7.75 per cent plus average annual depreciation in the rupee (in the past 2 years) of around 3.5 per cent (with the rupee falling from 42.5 to 45.80), total cost at the end of 2 years of the contracted teno r of 5 years is around 11.25 per cent.

While arriving at a number as final cost after only 2 years into the total tenor of 5 years may not, prima facie, appear correct, one can reasonably accept the number, if the average annual rate of depreciation in the rupee, over a period of time, is any indication. The rupee, in the past 5 or 6 years, has fallen on average around 4 or 5 per cent per annum. Therefore, it is quite possible that the final cost on the August 1998 RIBs is around 11.25 or 11.50 per cent.

A fresh issue of RIBs now though could cost much more than that. On a base coupon of around 10 per cent, total cost could be around 14 or 15 per cent, if one again goes by the historical rate of depreciation in the rupee.

The question is: Should the country lock into 5-year funds at a rate of 14 or 15 per cent? On the other hand, is a rate of 14 or 15 per cent a reasonable cost to pay given the immediate comfort (on the external front) which a $ 4 or 5 billion boost to th e reserves can deliver?

One thing which is quite clear from the entire issue is the reluctance to manage demand, particularly oil demand, in the economy. Demand seems to be a ``given'', with supply, whatever the cost, required to adjust.