Are South Asian countries sinking into a debt trap?

This blog is part of a series based on International Debt Statistics 2018.

The 2018 edition of International Debt Statistics (IDS 2018) which presents statistics and analysis on financial flows (debt and equity) for 123 low-and middle-income countries has just been released. One of the key observations of IDS 2018 is that net financial flows in 2016 to all developing countries witnessed a more than threefold increase over their 2015 level. This was driven entirely by net debt flows, which increased by $542 billion in 2016. Consequently, total external debt outstanding of all developing countries went up to $6.9 trillion, an increase of 4.1 percent over 2015. Interestingly, South Asia seems to deviate from this norm of IDS 2018.

External debt outstanding of South Asia contracted in 2016

South Asia is the only region that has shown a contraction in the total external debt outstanding in 2016. The total external debt stock of South Asia contracted by almost 2 percent as net debt flows into the region turned negative ($-7.7) for the first time in a decade. More specifically, this is the result of net long-term external debt flows turning negative (-$12.5 billion) implying that principal repayments by South Asia, on long-term external debt far exceeded disbursements.

Countries other than India tell a different story of debt build-ups

Afghanistan and India are the only two countries in the region that registered negative net debt flows in 2016. Yet, the overall trends of South Asia reflect this trend given India is the largest economy of the region and alone constitutes more than 70 percent of the external debt stock of South Asia.

While India showed a massive increase of 70 percent in its principal repayments on long-term external debt, other South Asian countries on an average showed a decline of 3 percent in 2016. Disbursements to India, on the other hand, fell by more than 30 percent while flows to rest of South Asia showed an increase of 28 percent over 2015. Pakistan, which is the second largest economy of the region and has the largest share of external debt in South Asia after India, showed an increase of 50 percent in disbursements in 2016. Even in smaller economies of South Asia, like Maldives, there has been an eightfold increase in disbursements over 2015.

Consequently, net debt flows into most South Asian countries have been on a rise leading to rapid debt buildups in the last five years. For instance, external debt stock outstanding of Sri Lanka ($47 billion) has increased by more than 80 percent since 2011.Similar trends can be seen in the smaller economies of South Asia. The external debt stock of Bhutan ($2.4 billion) has, more than doubled since 2011.

Debt indicators for some South Asian countries weaken as external debt piles up

The ratio of external debt to GNI of the region dropped one percentage point from 23 percent in 2015 to 22 percent at the end of 2016, which is below the average of 26 percent for all developing countries. Historically too, this ratio for South Asia has remained lower than the average of low-and-middle income countries. Two South Asian economies, however, stand out from the rest. The external debt to GNI ratios of Bhutan at 113 percent and Sri Lanka at 59 percent, are way above the average for developing countries. More importantly, the external debt to GNI ratios for these two economies has deteriorated markedly over the last few years, a trend not seen in the other South Asian countries.

The region’s external debt to export ratio, which is typically considered an indicator of debt repayment capacity, was above the average of developing countries in 2016. A high external debt to export ratio that is increasing over time is an indication of looming debt repayment difficulty. Bhutan’s external debt to exports ratio was at 354 percent is one of the highest in the world followed by Pakistan and Sri Lanka, at a very high 265 percent. Growing debt to exports ratio, has, in fact, become a trend for most South Asian countries including India in recent times.

To appreciate the extent of the external debt burden, it is also important to consider the ratio of average interest payments to export earnings. In 2016, this ratio for all developing countries stood at 3.5 percent while the regional average for South Asia was at 2.6 percent. However, for some South Asian countries like Sri Lanka, Bhutan and Pakistan, this ratio has been constantly increasing and at the end of 2016 stood at 5.7 percent 5.3 percent and 4.9 percent respectively showing rising pressure on external debt servicing.

As far as liquidity is concerned, South Asia has only 17 percent of short-term debt in its total external debt, which is much below the average for developing countries. Moreover, except for Sri Lanka, all South Asian countries have adequate international reserves to mitigate any exigency. As of the end of 2016, while 16 percent of Sri Lanka’s external debt outstanding was short term, its reserves could only cover 11 percent of its external debt stock. Sri Lanka’s ratio of reserves to external debt has steadily declined from a 24 percent in 2011 to 11 percent in 2016.