Foreign Currency Borrowing and Firm Financing Constraints in Emerging Markets: Evidence from India

This study examines the relationship between foreign currency borrowing and financing constraints for Indian firms. Using panel data for 2,512 non-financial listed firms in India during 1996-2016, this study finds that the sensitivity of investment to internal cash flows, an indicator of financing constraints, is higher for firms with foreign currency debt exposure compared to other firms. Financing constraints are higher prior to new foreign currency borrowing compared to a matched sample of firms with only domestic borrowing, but decrease after foreign borrowing, suggesting that foreign debt reduces firms’ financing constraints. Moreover, firms that have relationships with either private or foreign banks have higher financing constraints when undertaking new foreign borrowing compared to those enjoying exclusive relationships with only government-owned banks. The financing constraints for foreign currency borrowers are also found to be higher during domestic credit booms compared to other periods. Non-manufacturing firms and those with lower than median export revenues and higher than median tangible assets experience greater financing constraints compared to other firms when they borrow in foreign currencies. These findings provide new evidence on the role of foreign currency borrowing in mitigating financing constraints in emerging market economies.