Introduction
Lack of domestic capital has forced the government historically to go after foreign capital. Foreign capital is money drawn from foreign countries to make investment domestically. There are different types of foreign capitals and the major category is Foreign Direct Investment (FDI). Similarly, other types of foreign capital are NRI deposits and the most important one is External Commercial Borrowing (ECB).
External Commercial Borrowing
The money which is used for the financing of commercial activities in our country through foreign sources is called External commercial borrowing. They can be any form namely loans, credits or even security instruments. They are not allowed to trade through any stock exchanges. The loan availed from foreign sources is of the minimum average maturity of 3 years.Background
The framework for overseas borrowing has been entirely revised by the RBI. We knew that our economy is moving in a very pace manner, so as the framework is also amended over the years to match the pace with the changing regulatory and the commercial landscape.Significance
The ECBs have emerged as a major form of foreign capital called as FDI. The contribution of ECBs is 20 to 35 per cent of our total capital inflows. PSUs and corporates they use this ECB as a major platform for the source of investment. In our country, a large amount of ECBs is obtained by private sector corporates. It is easy to obtain funds through ECB to the corporate so as to increase the business expansion. The government plays a key role in permitting ECBs as a source of finance for any sort of expansion of existing capacity.Objective
- The government emphasizes to utilise ECBs much on the priority sectors or core sectors such as Power, Railways, Telecom, Infrastructure etc.
- They are even emphasizing much on the need for capital for small and medium enterprises.
Regulations
In our country, ECBs are accessed through automatic and approval route.The major regulators of this ECB are:
- Exchange Control Department of RBI.
- ECB Division in Ministry of Finance.
The main aim of ECB is to keep maturities long. It encourages all-important sectors by financing and this ensures our overall growth of the economy.
Borrowing limits
The RBI kept the borrowing limit under the automatic route unchanged at $750 per financial year but replaced the sector-wise limits.
All-in-cost ceiling
The all-in-cost ceiling is prescribed through a spread over the benchmark, i.e., 450 basis points per annum over 6 month LIBOR or applicable benchmark for the respective currency.What is All-in-Cost: It includes rate of interest, other fees, expenses, charges, guarantee fees, Export Credit Agency (ECA) charges, whether paid in foreign currency or Indian Rupees (INR).
The negative list for End-use prescriptions of External Commercial borrowings:
- Investment in real estate or purchase of land except when used for affordable housing, construction and development of SEZ and industrial parks/integrated townships.
- Investment in the capital market.
- Equity investment.
- Working capital purposes.
- General corporate purposes.
Hedging requirements
- ECBs with a minimum average maturity period of 3 to 5 years in the infrastructure space will have to meet a 70% mandatory hedging requirement. (Nov 6, 2018)
Routes to access ECBs
It can be accessed through two routes Automatic Route and Approval Route. In automatic route, the borrower enters into a loan agreement with the lender and then it will be sent to RBI for registrationIn approval, route borrower submits the application through an authorized dealer to RBI.
The Eligible borrowers through these two routes are:
| Automatic Route | Approval Route |
|---|---|
| Special Economic Zones (SEZ) | Infrastructure or export finance companies , banks and financial institutions which participates in steel and textile. |
| NGOs in microfinance activities. | NBFCs to finance import of infrastructure equipment for leasing, companies engaged in manufacturing activities. |
Impact on our Economy
The government is utilizing the ECBs primarily for funding of infrastructure and SME sector. The benefit for our economy is that low-cost International funds can improve our inflow of money in important sectors. Our companies are heavily dependent on ECB so that they can lower their cost of borrowing. We need to be cautious as the increase in ECB is not a good sign for our economy as our currency will be in risk and the rupee gets depreciated, if there is an increase in ECB. Thus, it clearly shows that if ECBs are not controlled, there can be a huge debt causing a problem for our economy.Advantages
- The interest rates are very low for lending compared to domestic funds.
- The large volume of funds can be borrowed.
- The global financial market is a much bigger source of credit.
- Any corporate can raise ECB from internationally recognized sources such as banks and some credit agencies.
Future outlook
There will be an increase in demand for ECBs amongst the companies due to the following reasons:- A huge amount of spending is expected on infrastructure projects.
- Domestic interest rate is rapidly increasing.
Conclusion
We have a very vibrant corporate sector. Many of these corporate sectors have their overseas operations as well. The domestic financial market is not in a position to provide big loans and at a low rate of interests to the corporates. ECBs have emerged as a prime tool for resources of funds for domestic companies.Update
What’s new in the ECB norms?
- The minimum average maturity requirement for ECBs (external commercial borrowings) in the infrastructure space raised by eligible borrowers has been reduced to three years from earlier five years.
- Additionally, the average maturity requirement for mandatory hedging (an investment to reduce the risk of adverse price movements in an asset) has been reduced to five years from earlier ten years.
- The central bank said that ECBs with a minimum average maturity period of seven years can be availed for repayment of rupee loans availed domestically for capital expenditure as also by NBFCs for on-lending for the same purpose.
- For repayment of rupee loans availed domestically for purposes other than capital expenditure and for on-lending by non-banking financial companies (NBFCs) for the same, the minimum average maturity period of the ECB is required to be 10 years.
