Although the capital account surplus for Q3FY18, of $22 billion, is much bigger than the $16.4 billion in Q2FY18, a near doubling of the current account deficit (CAD), to $13.5 billion, has resulted in a marginally lower accretion to the reserves during the quarter.
The widening CAD is the consequence of a much bigger merchandise deficit, of $44 billion, in Q3FY17. Also, although the trade deficit for February is a modest $12 billion, as economists at Credit Suisse point out, the annualised trade deficit for FY18 is now $185 billion. The CAD could widen further, given how cash-flows of exporters have been crimped thanks to GST-related refunds stuck with the government; the very sluggish exports in February—up an anaemic 4.5% y-o-y—is an indication of this. This is a very sharp moderation over January’s 9.1% y-o-y and, analysts point out, it wasn’t oil alone that was the culprit. Agriculture, engineering goods and gems and jewellery, all fared poorly. While there was some adverse base effect for engineering products, the weak textile exports reflect how uncompetitive India’s exporters are. The environment has worsened for exporters with RBI having disallowed letters of undertaking (LoUs) and letters of comfort (LoC) for trade imports. Small and mid-sized importers could see cash-flows under further pressure.
The unimpressive export performance in FY18, so far on a favourable base, and the widening CAD that has more than trebled to $36 billion between April and November 2017 over the corresponding period of FY17, has prompted economists to forecast a CAD of close to 2.5% of the GDP for FY19. The good news from the balance of payments (BoP) data released on Friday is that remittances remain steady—at $46.5 billion between April and December, 2017, the private transfers are slightly higher than the $42 billion in the comparable period of 2016. Indeed, they have inched up over the last three quarters. Earnings from software services, too, are steady at nearly $54 billion in the first three quarters of FY18.
Thanks to decent FDI and portfolio flows into the bond markets, the capital account surplus so far has been robust. In the first three quarters of FY18, the bond markets have attracted large amounts of foreign investments; last year, the debt market saw outflows. However, purchases of debt are slowing from $11.2 billion in Q1 to $5.9 billion in Q2 and further to $3.2billion in Q3 with outflows having gone up and quotas too getting filled up. FDI flows—in the nine months to December 2017—too have moderated to about $24 billion, from $30.6 billion in the corresponding period of 2016.
Compared with FY17, equity flows this fiscal have been very dull—the nine-month period to December 2017 has actually seen an outflow compared with a $2 billion inflow in the same period of 2016. Any outflow of portfolio flows from emerging markets to safe havens, whether due to higher interest rates in the US or higher growth, would hurt India too and pressure the capital account. There is a possibility the basic BoP—CAD minus the net FDI—will be negative. This means India will become more susceptible to volatile portfolio flows.