External debt

Also called: Foreign borrowing · Topic: Balance of Payments and Exchange Rates · NCERT: Class 11, Ch 3 "Liberalisation, Privatisation and Globalisation: An Appraisal"; Class 11, Ch 8 "Comparative Development Experiences of India and its Neighbours"

Meaning

External debt is the total unpaid amount that a country's residents (the government, companies and banks) owe to non-residents (people or institutions outside the country), on which they must repay the principal (the amount borrowed), pay interest, or both.

It matters because this debt must be repaid in foreign currency, mostly US dollars. If a country's foreign-currency earnings fall short, it can be pushed into default. India came close to defaulting on its external debt in 1991.

The key ratio used to measure repayment pressure:

Debt service ratio (DSR) = (Principal repayments + Interest payments) ÷ Current receipts × 100

Explanation

Who owes it and what it is made of

• By borrower:
• Sovereign debt is owed by the government.

• Non-sovereign debt is owed by private and public companies and by banks.

• By component (NCERT scaffold):

• Commercial borrowings are the largest part. These are loans that companies raise from foreign banks and markets, such as external commercial borrowings (ECBs).
• NRI deposits are money that Non-Resident Indians keep in Indian banks. The bank must return it, so it counts as debt.
• Short-term trade credit means foreign suppliers let Indian importers pay later, usually within one year.

• Multilateral loans come from bodies like the World Bank and ADB. Bilateral loans come from a single foreign government.

• By maturity:

• Short-term debt must be repaid within one year.
• Long-term debt is repaid over a longer period.
• A large share of short-term debt is risky, because lenders can refuse to roll it over (renew it) in a crisis.

Currency risk: why a falling rupee hurts

• Most external debt is dollar-denominated, which means it is fixed in US dollars.
• When the rupee falls:
• the borrower needs more rupees to buy the same dollars

• so the burden in rupees rises, even though the dollar debt has not changed.

• Worked example:

• A company owes US$100 million.
• At ₹80/$, it needs ₹8,000 crore to repay.
• At ₹88/$, it needs ₹8,800 crore.

• The burden is ₹800 crore (10%) higher.

• Rupee-denominated debt, such as masala bonds, moves the currency risk to the foreign lender.

• Valuation effect: RBI reports debt in US dollars. When the dollar rises against the yen, euro, SDR or rupee, debt held in those currencies looks smaller in dollar terms. In 2024-25 this effect lowered measured debt by US$5.3 bn [2].

Vulnerability indicators: can the country repay?

• Debt service ratio (DSR)
• Current receipts are the country's earnings from abroad on the current account: exports of goods and services, income from abroad and remittances.
• Worked example: a country earns US$1,000 bn in current receipts and pays US$66 bn in principal and interest.
  • DSR = 66 ÷ 1,000 × 100 = 6.6%.
  • So about ₹6.6 of every ₹100 earned from abroad goes to foreign lenders.

• A high DSR means little foreign earning is left for imports.

• Short-term debt to reserves = Short-term debt ÷ Foreign exchange reserves × 100

• It shows whether the RBI has enough foreign currency to repay all debt due within a year.
• Original maturity means the length of the loan when it was first taken.

• Residual maturity means all debt due in the next year, including old long-term loans that are now close to repayment. This version is always the larger figure.

• Debt to GDP = External debt ÷ GDP × 100

• It measures the size of the debt against the whole economy.

• What makes risk rise or fall:

• Risk rises when:
  • the current account deficit widens
  • reserves fall
  • the rupee falls sharply
  • global interest rates rise.
• Risk falls when:
  • exports of services grow
  • remittances grow
  • reserves are large
  • the share of short-term debt is low.

When a country cannot pay: default and restructuring

• Sovereign default means a government misses a payment of principal or interest that is due.
• Sovereign debt restructuring means the debtor and its creditors (lenders) agree to change the terms of the debt. There are three main tools:
• Haircut: the creditor accepts less than the full principal.
• Lower coupon: the interest rate is cut.

• Longer maturity: repayment is spread over more years, often with a moratorium (a period with no repayment).

• Worked example: a country owes US$100 bn.

• Option A (30% haircut): the principal falls to US$70 bn.
• Option B (no haircut): repayment moves from 5 to 20 years and interest falls from 6% to 2%.
  • The face value (the amount written on the loan) stays at US$100 bn.
  • The net present value (NPV), meaning what those future payments are worth today, falls a lot.

• Creditors that do not want to "write off" money on paper often prefer Option B.

• Comparability of treatment: a debtor that gets relief from one group of creditors must get similar terms from all creditors. This stops "free-riding", where one creditor gets paid in full while the others give relief.

In India

• Measurement: the RBI publishes India's external debt data in US dollars.
• Size: US$736.3 bn at end-March 2025, 19.1% of GDP. It was US$668.8 bn at end-March 2024, a rise of US$67.5 bn [2]. At about 19% of GDP, this is moderate compared with many emerging economies.
• Who owes it (end-March 2025):
• Non-government debt: US$567.9 bn (77.1%)
• Government debt: US$168.4 bn (22.9%) [2]
• Non-financial corporations (ordinary companies, not banks) were the largest single group of borrowers, at 35.5% [2].

• So most of the risk lies with companies, not the government.

• By instrument (end-March 2025) [2]:

• Loans 34.0%
• Currency and deposits 22.8% (mostly NRI deposits)
• Trade credit and advances 17.8%

• Debt securities 17.7%

• By currency (end-March 2025) [2]:

• US dollar 54.2%
• Indian rupee 31.1%
• Japanese yen 6.2%
• SDR 4.6%

• Euro 3.2%

• Vulnerability indicators:

• DSR: 6.6% (2024-25), down from 6.7% (2023-24) [2]
• Short-term debt to reserves (original maturity): 20.1% (end-March 2025), up from 19.7% [2]
• Short-term debt to reserves (residual maturity): 45.4% [2]

• Short-term share of total debt: 18.3% (end-March 2025), down from 19.1% [2]

• The 1991 benchmark (NCERT Class 11):

• Then:
  • The DSR was about 35% in 1990-91.
  • Reserves could pay for only about two weeks of imports.
  • India came close to default.
• The response:
  • devaluation of the rupee
  • IMF–World Bank loans
  • the LPG reforms (liberalisation, privatisation and globalisation).

• Now: the DSR is in single digits because exports of services grew, remittances grew and reserves became much larger.

• Sovereign ratings:

• S&P upgraded India from 'BBB−' to 'BBB' in August 2025 (Stable outlook). This was its first upgrade for India since January 2007 [3].
• Morningstar DBRS upgraded India to 'BBB' in May 2025 [4].

• Better ratings make foreign borrowing cheaper for the government and for Indian companies.

• India as a creditor:

• Sri Lanka: after Sri Lanka defaulted in 2022, India gave it about US$4 bn in bridge support and co-chaired its Official Creditor Committee with Japan and France.
• GSDR: India's G20 presidency helped launch the Global Sovereign Debt Roundtable (GSDR) in February 2023 [5][6].

Don't confuse with

• Internal debt: this is owed to residents (for example, government bonds held by Indian banks). External debt is owed to non-residents, and the test is where the lender lives, not which currency the loan is in. So rupee-denominated masala bonds held by foreigners still count as external debt.
• Sovereign debt vs non-sovereign debt: sovereign debt is owed by the government (22.9%). Non-sovereign debt is owed by companies and banks (77.1%) (end-March 2025) [2]. Most of India's external debt is non-sovereign.
• Debt service ratio vs debt-to-GDP ratio: the DSR compares yearly repayments with current receipts, so it measures repayment pressure. Debt-to-GDP compares the total debt stock with GDP, so it measures the size of the debt.
• Haircut vs maturity extension: a haircut cuts the face value of the debt. A maturity extension with a lower coupon keeps the face value the same but cuts the NPV.

Prelims Hooks

• DSR = (principal + interest) ÷ current receipts × 100. The denominator is current receipts, not GDP. India's DSR was 6.6% (2024-25), against about 35% (1990-91) [2].
• India's external debt was US$736.3 bn, 19.1% of GDP (end-March 2025) [2]. Non-government debt (77.1%) is far larger than sovereign debt (22.9%) [2].
• Currency trap: the US dollar is the largest currency (54.2%), and the Indian rupee (31.1%) is second, not the yen (end-March 2025) [2].
• Instrument order (end-March 2025): loans (34.0%), then currency and deposits (22.8%), then trade credit (17.8%) [2].
• Lowest investment grade: BBB− (S&P/Fitch) = Baa3 (Moody's). S&P raised India to BBB in August 2025, its first upgrade since January 2007 [3].
• The GSDR (2023) was launched by the IMF with the World Bank and India's G20 presidency. It supports, and does not replace, the G20 Common Framework (November 2020) [5][6]. The Sri Lanka OCC was co-chaired by India, Japan and France.

Mains Points

• India's external debt is manageable, but it needs close watching.
• Why it is safe today:
  • The DSR is low (6.6%, 2024-25).
  • Debt is only 19.1% of GDP.
  • Short-term debt is only 20.1% of reserves [2].
• The risk:
  • 77.1% of the debt is owed by companies, and 54.2% is in US dollars [2].
  • If the rupee falls sharply or global interest rates rise, companies that have not hedged (protected themselves against currency moves) will face a much bigger repayment burden.

• Lessons from 1991:

  • keep large reserves
  • keep short-term debt low
  • keep the current account deficit in check.

• Ratings, cost of borrowing and credibility.

• The Economic Survey 2020-21 argued that India's ratings did not match its fundamentals or its willingness to pay.
• The S&P upgrade (August 2025) partly answers that complaint [3]. It brings cheaper foreign borrowing and could help Indian bonds join global bond indices.

• Even so, India should build credibility through fiscal consolidation (cutting the government's deficit), not by choosing policies to please rating agencies.

• India in the global debt architecture (GS-II/III).

• The Common Framework is slow, and lenders like China are not transparent. Poor, heavily indebted countries wait while their problems get worse.
• India has helped fix this through:
  • the GSDR under its G20 presidency [5][6]
  • co-chairing the Sri Lanka OCC
  • about US$4 bn in support to Sri Lanka.
• This shows India as a bridge between the Global South and creditor nations. It also serves Neighbourhood First and counters the "debt-trap" risk from opaque Chinese loans.

Related concepts

• Debt service ratio
• Sovereign credit rating
• Sovereign default
• Sovereign debt restructuring
• Official Creditor Committee
• Comparability of treatment
• Debt-for-nature swap
• Blended finance

Read more

• External debt, sovereign ratings and debt restructuring