Explaining External Debt

Yesterday, the media (social, online, offline) were agog at Malaysia’s external debt numbers. They shouldn’t have been – the inflated numbers were due to a redefinition of external debt made last year (see here, especially the last four pages), which was announced, though nobody appeared to have caught on.

So what’s the deal?

Hafiz Noor Shams has a nice graph showing the difference between the old definition and the new one. I agree with him, the reporting on this has been deplorable, and not just from the local media (sorry guys, it has been pretty bad), but from the foreign media as well. One joker speculated that with external debt so high, Malaysia might have trouble “servicing” it, because the foreign exchange reserve cover was low. Hah!

I just want to put all this in as simple a way as possible, to make all this easier to grasp:

Old definition: Any foreign currency denominated debts or claims.

New definition: Any debts or claims owned by foreigners, no matter in what currency.

The practical difference is this:

1. Anything under the old definition is included under the new definition (i.e. all foreign currency debt)
2. Any Ringgit denominated government or private sector debt owned by foreigners is also included
3. Any Ringgit-denominated foreign claims on Malaysians or Malaysian owned entities is again also included
4. Any lines of credit (foreign currency denominated) relating to trade is added on top

The English translation:

Item 2 means that if a foreign institution buys Ringgit denominated Malaysian government debt within Malaysia, that (domestic) debt is now classified as external debt.

Item 4 is probably the safest form of external debt ever – it’s basically short term bridge funding for trade payments. It’s very short term and fully collateralised. Think of it as a cheque with a bank guarantee.

Item 3 is something which throws most people for a loop. If I’m an expat working in Malaysia, my salary account is now considered Malaysia’s external debt. If I’m a foreign company operating in Malaysia, any and all deposits I have in the banking system (irrespective of currency denomination) is also considered Malaysia’s external debt.

A deposit is in essence a claim on a bank. When you deposit money in a bank account, you have effectively “loaned” the money to that bank. When that claim is by a foreigner, under the new definition, that deposit becomes “external” debt.

Even more – any Ringgit in any form held by a foreigner (whether in a bank account or not), is also Malaysia’s external debt. A tourist changing USD/Yen/Euros for Ringgit is de facto inflating Malaysia’s “external debt”.

Note here that, outside the items under the old definition, there are no potential calls on Bank Negara’s international reserves. The difference between the old and the new definition is really all Ringgit-denominated items. What the redefinition does is bring the external debt statistics more in line with the International Investment Position and Balance of Payments statistics, which includes all foreign claims and not just out and out foreign currency debt.

Apart from that, it’s no big deal. There hasn’t been a “tripling” of Malaysia’s external debt between 2014 and 2013. If you take the new definition backwards, the increase in 4Q14 over 4Q13 was a much more modest 8%, or more or less in line with Malaysia’s nominal GDP growth. In other words, nothing really happened.

Hey, can we redefine “storm in a teacup”?