• HDFC securities
• 30 Apr 2018
• Knowledge Centre

India’s Current Account Deficit (CAD) in the October-December 2017 period widened to 2% of GDP, or US$ 13.5bn, according to RBI data. This was an increase from 1.4%, or US$ 8bn, in the year-ago period. The figures reflect a sharp widening of the CAD, mainly owing to higher crude oil pricesand gold imports.

 

A statement made by RBI summarized the situation. “The widening of the current account deficit on a year-on-year basis was primarily on account of a higher trade deficit brought about by a larger increase in merchandise imports relative to exports.” India’s trade deficit widened in the same period to US$ 44.1bn from US$ 33.3bn in the year-ago period.

 

Looking at the macros

 

The balance of payments witnessed a surplus of US$ 9.4bn in the October-December period, vis-à-vis a deficit of US$ 1.2bn in the same period in the previous year. The main reason behind this was a stronger capital account, according to RBI data.

 

The capital and financial account surplus rose to US$ 12.6bn in the December quarter from US$ 7.3bn a year ago, boosted by strong foreign portfolio inflows worth US$ 5.3bn during this period.

 

“Widening in CAD is entirely led by a deterioration in the trade balance (due to the impact of rising gold, oil & electronics imports and slowdown in labor-intensive trade balance), software exports’ growth remains sluggish, (though NRI remittances have picked up well in the past two quarters), and FDI flows are moderating on trend basis– running at US$ 7bn/quarter moving average now compared to US$10bn a year ago,” says Mr. Deepak Jasani, Head Retail Research, HDFC Securities Ltd.

 

Dire Consequences

 

Countries with a prolonged current account deficit are subjected to increased scrutiny by investors and indicate periods of heightened uncertainty. The CAD is considered to be a key indicator that mirrors the economic strength of a nation. Owing to this, in most cases, immediate measures are taken to rectify the situation. A live example of this is the steps being taken by US President Donald Trump.

 

The US Government is aggressively increasing its import tariffs on an assortment of goods in an effort to trim its CAD. The US has the highest trade deficit of US$ 375bn with China, Mexico at US$ 71bn, and Japan at US$ 68bn. India is not in safe territory, with a deficit of US$ 23bn, and the US accounting for 15% of India’s exports.

 

Rating agency ICRA said in a report, “Higher oil and gold imports will enlarge the current account deficit to US$30bn (1.2 percent of GDP) in fiscal 2018 from US$20bn in 2016-17 (0.9 percent of GDP), arresting the trend of moderation recorded for four consecutive years since fiscal 2014.”

 

According to analysts, the future scenario doesn’t bode well for India. The CAD is expected to widen in the next financial year, owing largely to firm Brent oil prices, which rose above US$ 75 a barrel on 24th April 2018, the highest since November 2014.

 

“The Indian rupee has been depreciating during the six months or so. This is mainly due to factors like a widening CAD, a likely overshoot of the fiscal deficit target, and the hawkish stance of the MPC in its latest meet, etc. While exports have not risen in line with global trends, oil imports have been the biggest drag on the overall trade balance,” said Mr.Jasani.

 

“In the last six months, oil prices have risen byaround 30%. Given that, unlike in the recent past, FDI flows may no longer be sufficient to fund CAD. The rupee could hence remain volatile and will be a function of portfolio flows,” he concluded.