Rising private sector external borrowing: Are there reasons to worry?

The discourse on Bangladesh's external debt and debt servicing liabilities has acquired an added dimension in the backdrop of the growing external borrowings by the country's private sector in recent times. As the Bangladesh Bank's FDI and External Debt Report June 2022 informs, of the $95.86 billion outstanding external debt of the country (end-June 2022) about $25.95 billion (27.1% of the total) was on account of the private sector. 

Apart from the increasing magnitude and rising share in the total external debt, it is the pace of the rise of private sector borrowings and their composition which calls for a closer examination from the vantage point of Bangladesh's external debt management and sustainable debt servicing over the near and medium-term future. 

Bangladesh's outstanding debt is currently equivalent to 20.6% of GDP, which was at 19.6% a year back. The two corresponding figures of the gross national income (GNI) were 19.9% and 18.6% respectively. Forex reserves to external debt fell to 43.6% from 56.9% over the corresponding period. Outstanding debt in FY22 was about 131% of the combined earnings from export ($52 billion) and remittance flows ($21 billion).  

To note, these figures were way below the two thresholds used by the World Bank and the IMF to assess the strength of a country's 'debt carrying capacity': 55% as the share of GDP, and 240% in terms of forex earnings from exports and remittances. Nonetheless, for several reasons, Bangladesh's external debt, debt servicing and overall debt management deserve to be revisited given recent developments, particularly in the backdrop of falling foreign exchange reserves and significant depreciation of the BDT.

Bangladesh's accumulated external borrowings have more than quadrupled over the period between 2008 and 2022 (from $23.4 billion to $95.8 billion). In recent years, the disbursement of foreign loans to underwrite the budget deficit has been on the rise — from $3.22 billion in FY17 to about $10 billion in FY22. Debt service payments for public sector loans have also been increasing in tandem: from $1.12 billion to $2 billion in FY22, which is projected to rise to about $4 billion in about two to three years. 

While in the case of public sector external borrowings, it is long-term debt that dominates the composition (89.2%), it is the opposite for private external borrowings. In the total outstanding private sector external debt, short-term borrowings constitute the larger share (about 68.4%). 

Of this, $11.96 billion (67.4%) was short-term trade credit, and $5.03 billion (28.3%) was in the form of short-term loans, with the remaining $0.76 billion (4.3%) in the form of other short-term liabilities. Within the short-term trade credit, the major part was on account of buyer's credit ($9.78 billion or 81.7%), whereas deferred payment ($1.01 billion) and foreign back-to-back L/C ($1.17 billion) together constituted the remaining 18.3%. 

About $8.19 billion was long-term external debt, incurred by the private sector, of which 80% was on the account of private enterprises, and $1.59 billion constituted the long-term debt of private commercial banks. 

However, based on central bank data, the extent to which the income generated by private sector external borrowings was in the form of local currency, and the extent to which this was related directly to forex earning activities is unclear. 

Data by the Bangladesh Bank indicates that of the long-term private sector external debt ($8.19 billion), those going for investment in Power, Gas and Petroleum constituted a significant part (52.8%), followed by the Manufacturing Sector (17.9%). Such borrowings have likely gone to underwrite investments which would generate income in the form of local currency. 

These will then need to be converted into foreign currencies to service the borrowings. To recall, almost all (about 93.3%) private sector external borrowings are incurred in dollar terms.

Debt servicing liabilities originating from public sector borrowings tend to be monitored regularly by concerned policymakers, and justifiably so. Public sector borrowings are covered by the sovereign guarantee for purposes of repayment but private sector borrowings are not. 

External borrowings by private enterprises need to be approved by the Scrutiny Committee headed by the Bangladesh Bank governor, and the concerned borrowers have to submit the loan agreements made between the foreign lenders and those entities. Private sector borrowers also need to submit transaction data to the Bangladesh bank on a quarterly basis. However, the fact remains that issues related to external borrowings by the private sector do not get as much attention as public sector external borrowings tend to do.

From the perspective of foreign exchange management and debt sustainability, three concerns are relevant because of growing private sector external borrowings (although these are also equally applicable to public sector external borrowings).

The first concern relates to the pace of growth of external borrowings by the private sector. The amount was $10.54 billion in FY17 which rose by two and half times to $25.95 billion in FY22. The short-term component of this debt rose by 65% in one year (between December 2020 and December 2021). Indeed, the growth of private sector external borrowings (38.9%) had significantly outpaced that of public sector external borrowing (11.2%) between June 2021 and June 2022. 

The second concern is related to the unprecedented depreciation of the BDT, by about 20% over the course of the last year. If in FY22 the growth of private sector borrowing in dollar terms was 38.9% compared to FY21, the corresponding growth figure in the taka term was 53%; this is explained mostly by the depreciating taka. 

If the earnings from the investment from private sector external borrowings are in the form of foreign currency, then this would not have been much of a concern. However, if and when the earnings are generated in local currency, the exchange rate of BDT assumes heightened importance. Since this was hardly foreseen, borrowers are unlikely to have factored such a large unanticipated currency fluctuation in their estimates of earnings and returns on investment. 

The third concern relates to the terms of private sector borrowings. As the Bangladesh Bank data shows, in FY22 the private sector payments on account of borrowings were about $2.90 billion (principal: $2.67 billion; interest and commission: $0.23 billion). 

A large part of the private sector long-term borrowings was on floating terms (68.9%), while the lesser part (29%) was on fixed terms. If the interest rate was tied to LIBOR (or SOFR), then the risk would have been considerably higher in the case of floating term loans since these rates have risen quite significantly in recent times. For example, as of now, the LIBOR interest rate is at a 14-year high (5.6% in January 2023). In contrast, in January 2022 the rate was as low as 0.60%. It is pertinent to remember that 68.4% of all private sector external borrowings have a maturity period of less than one year.

Thus, along with managing the debt servicing of public sector borrowings (the currency risk for non-forex earning borrowings will be equally applicable for these loans), the central bank will need to keep a sharp eye on the private sector's external borrowings in all its dimensions — its growth, the composition of debt, borrowers, sectors, terms and interest rates associated with such loans and the consequent debt servicing liabilities. 

In view of the pressure on forex reserves and concerns regarding the availability of dollars in general, the increasing demand for foreign exchange originating from the high private sector borrowings of recent times is likely to create additional pressure in the foreign exchange market. 

At a time when Bangladesh is moving from a managed-float to a generally (quasi) free-float regime, the manifold implications of the private sector external borrowings must inform the exchange rate and overall monetary sector management on the part of the Bangladesh Bank. 

Private sector borrowers will also be required to have a more informed understanding of the implications of exchange rate volatility, the terms of borrowings and the nature of fixation of the interest rates. They will also need to have greater exposure to tools to hedge exchange rate and interest rate fluctuations towards de-risking of external borrowings. 

The author is a distinguished fellow at the Centre for Policy Dialogue (CPD)