India’s External Debt Likely To Rise, Forex Reserve Ratio Could Drop In FY25

While India’s external obligations (CAD and short-term debt by residual maturity) are expected to climb in FY2025, these may edge lower as a proportion of forex reserves, the rating agency Icra has said in a report.

External debt rose by USD 39.7 billion year-on-year (YoY) to USD 663.8 billion at the end of March 2024, but moderated to a 13-year low of 18.7 per cent as a proportion of gross domestic product (GDP). A bulk of the aforesaid uptick stemmed from commercial borrowings, which increased by USD 29.4 billion on a year-on-year (YoY) basis in FY2024.

Nevertheless, external debt/GDP ratio moderated to a 13-year low of 18.7 per cent at end-March 2024 (19.0 per cent at end-March 2023), aided by the stronger expansion in nominal GDP (+9.6 per cent) vis-à-vis the external debt (+7.9 per cent). However, the debt service ratio rose to 6.7 per cent in FY2024 from 5.3 per cent in FY2023, Icra added.

The share of short-term debt by original and residual maturity in total external debt eased to a three- and four-year low of 18.5 per cent and 42.9 per cent, respectively, in FY2024 after witnessing an uptick in FY2023. Nevertheless, the latter category witnessed a yearly increase in absolute terms in FY2024.

With a sequential uptick of USD 24.0 billion in reserve assets, the coverage of external debt by forex reserves improved to an eight-quarter high of 97.4 per cent at end-March 2024 from 96.3 per cent at end-December 2023. It may ease in Q1 FY2025, amid a muted USD 6.5 billion rise in reserves in the quarter.

Given the expectations of the FPI-debt inflows amounting to USD 20-24 billion in FY2025 owing to the bond index inclusion, the external debt of the Government is set to rise sharply in the fiscal. This is also likely to weigh on the overall external position in FY2025 while helping to finance an anticipated small current account deficit (CAD). 

Nevertheless, forex reserves have remained sizeable, which will provide some cushion, according to the report.

Owing to the uptick in short-term debt by residual maturity and the expected increase in the CAD, India’s external obligations are set to increase in FY2025. However, as a proportion of forex reserves, these are set to ease slightly in FY2025, thereby providing comfort.

Ictra expects the Indian rupee to trade between 82.5-84.0 per dollar in the rest of H1 FY2025, with the inclusion of Indian bonds in J.P. Morgan’s GBI-EM Global Index from end-June 2024 auguring favourably for the USD and Indian rupee pair. However, any untoward depreciation in EM currencies in the event of an escalation in geopolitical conflicts could exert some pressure on the Indian currency.