The Hindu Business Line : World Bank demands hefty premiums — Govt move to prepay external debt faces rough weather

THE Government's move to shed external debt for sterilisation of excessive liquidity has run into trouble with some of the external financing agencies resisting prepayments and insisting on hefty premiums.

Sources said here that World Bank is among the agencies that have insisted on prepayment premiums. These include loans co-financed to domestic public sector undertakings, supported by sovereign guarantees during the last decade. Co-financing implied that the World Bank had syndicated the loans along with some of the large international commercial banks. Co-finance participants were not in favour of prepayments, banking sources said.

Some of these loans were taken during a period when the London Interbank Offered Rate (Libor) was as high as 6 per cent. These loans had a maturity profile of 25 years. Though the new loans were taken on a variable spread basis, some of the outstanding debt still continued to be in the form of the fixed spread loans.

Prepayment has been used as an instrument for simultaneous correction in both the foreign exchange and in the domestic money markets.

This was because, the methods adopted for prepayment by the Government so far has been through privately placing securities with the RBI against a matching release of foreign exchange from the reserves.

So far, the Government has prepaid the equivalent of $4.3 billion in two tranches. These prepayments, which are fiscally neutral have helped slow down the appreciation in the rupee against the dollar and allowed the RBI to mop up the liquidity through reissue of the securities.

The sources said that there was major worry over the liquidity creation in the domestic markets over the large accretions to the foreign exchange reserves. The accretions taking place into the country are equivalent to about $220-250 million per day.

Given the size of the inflows, the banking sources said, the Rs 60,000 crore stabilisation fund was unlikely to be sufficient. Mopping up the liquidity was becoming difficult, since the RBI itself has run out of securities for mopping up the liquidity.

Besides, exporters have expressed concerns over the appreciating exchange rate. The rupee has appreciated by about 8 per cent over the last two years and the forward premium has crashed to about 0.5 per cent from about 5 per cent for up to six months during the same period. These have begun impacting the export competitiveness, the sources said.

However, the flexibility to correct these distortions through prepayments was becoming limited.

The bulk of the prepayments have however been to the Asian Development Bank (ADB).

This was because the ADB has no prepayment charges unlike the World Bank. For prepayment of the World Bank component of the loan, the Government had incurred a prepayment charge of close to Rs 350 crore.

The banking sources said that many of the cofinance participants in the Bank's lendings were not in favour of the prepayments without the premiums.

As a result, the sources said, further prepayments of the World Bank's loans were unlikely during the year, unless the costs of intervention favoured it.

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World Bank demands hefty premiums — Govt move to prepay external debt faces rough weather