Managing composition of domestic capital inflows

The composition of external borrowing largely determines the pattern of debt servicing in the future, so the total volume of borrowing from one year to the next depends of the source and terms on which it is undertaken.

Among others, decisions need to be made on the following issues: (a) an appropriate balance between debt and equity capital flows; (b) the relative roles of official and commercial sources of funds; (c) the proportion of debt at floating and fixed rates; (d) the appropriate maturity structure of the debt; (e) the appropriate currency composition of borrowing. Naturally the borrowing country cannot decide on these issues unilaterally and it may not have adequate options. For example, it may be necessary to cut back on the level of borrowing if the desired composition of capital inflows is not possible.

An appropriate structure of foreign liabilities will differ from country to country and over time in any given country. Relevant external conditions include the outlook for interest rates and their uncertainty, exchange rates and access to international markets. Among internal conditions are growth of domestic savings, growth of exports and capacity for rapid adjustment during crisis. A country is more able to bear risk if it has a flexible economic policy and diversified structure. Debt managers must therefore: (a) make a continual assessment of how far the structure of existing net liabilities is optimal within the constraints of the financial instruments available; although not all techniques for modifying the existing debt structure are available to all developing countries (e.g. interest rate and currency swaps), any country may adjust the currency composition of its official reserves in light of the composition of its debt; (b) ensure careful management of the composition of new capital inflows.