Detailed Explanation:

Answer: Option 2 — 1 and 2 only

A tight monetary policy by the US Federal Reserve involves raising interest rates, which makes US assets more attractive to global investors, leading to capital flight from emerging markets. This capital outflow causes domestic currency depreciation and increases the cost of servicing External Commercial Borrowings (ECBs) for firms, as they must pay more in domestic currency to repay foreign currency-denominated debt.

✅ Statement 1 – Correct: Tight US monetary policy (higher interest rates) attracts capital to the US, causing capital flight from emerging economies like India as investors seek better returns.

✅ Statement 2 – Correct: Capital flight leads to currency depreciation, increasing the rupee cost of repaying ECBs denominated in foreign currency (like USD), thereby raising the financial burden on firms.

❌ Statement 3 – Incorrect: Devaluation of the domestic currency increases (not decreases) currency risk for ECBs, as firms need more rupees to repay the same amount of foreign currency debt.

📝 Short Notes: External Commercial Borrowings (ECBs)

• Definition: ECBs are commercial loans raised by Indian companies from foreign lenders in foreign currencies, typically for financing imports, infrastructure, or expansion projects.
• Currency Risk: Since ECBs are denominated in foreign currency (usually USD or Euro), any depreciation of the rupee increases the repayment burden in rupee terms.
• Impact of Capital Flight: When capital flows out of India (e.g., due to tight US monetary policy), the rupee depreciates, making ECB repayments more expensive for Indian firms.
• Interest Rate Differential: ECBs are attractive when foreign interest rates are lower than domestic rates, but this advantage is offset if currency depreciation occurs.
• Regulation: The Reserve Bank of India (RBI) regulates ECBs through guidelines on permissible end-uses, borrowing limits, and maturity periods to manage external debt risks.