For, there is a tendency to treat a trade surplus as a matter of national pride. A deficit on the trade balance, on the other hand, is seen as a sign of prodigality. What we sometimes fail to understand is that by running a large current-account deficit, the country is not signing away its wealth to avaricious foreigners.

In most cases, running a deficit on the current account is the only way for a poorer country to smoothen its consumption pattern over time, and obtain vital inputs at the lowest available cost. Using an unfavourable balance of payments situation--as may be likely in the near future--to cut imports--and, therefore, cut the current-account deficit--is to look for the trees and miss the woods.It should be resisted.

What is balance of payments? It is nothing more than a set of accounts for the country's transactions with the rest of the world. Since this is only a double-entry book-keeping on a macro scale, to talk of a BoP deficit or surplus does not strictly make sense. Like in all other double-entry book-keeping, every transaction gets recorded twice: once in the account being transacted, and once in the account paid for it. If we import more goods and services than we export (that is, run a current-account deficit), we will, in effect, be borrowing money from the rest of the world (run a surplus on the current account) to finance our consumption.

The capital-account surplus balances the current-account deficit. It must be remembered that this capital account can be divided into private capital flow and official interventions by the RBI to manipulate demand and supply for the rupee. So, if our current-account deficit widens to 2 per cent from 1.6 per cent, it merely means we are borrowingmore than others to finance our consumption. As long as the world is convinced of our ability to repay our debts, we can continue to run a deficit on this account.

In the present scenario, there is bound to be some pressure on the country's balances. Emerging market collapses have slowed capital inflow to a trickle. After galloping away at over 18 per cent growth between 1993 and 1996, exports have slowed down to less than a quarter of that rate. But notice that this growth in exports coincided with an unusually productive period in the global economy. The slowdown, on the other hand, accompanies a period wrecked by doubts and gloom in the world economy. Now, world growth is expected to slow down to less than 2 per cent, and 40 per cent of the global economy is in recession. World trade growth is expected to slow down to 4.5 per cent, from 9.5 per cent last year.

Exports will recede in the near future. At the same time, there are signs the domestic economy may recover. Agriculture, which had declined bymore than 2 per cent last year, looks set to grow by more than 3 per cent this year. The services sector also looks ready to improve its performance. With increased income growth in the domestic economy, demand for imports will grow.

In September 1998, imports surged by nearly 27 per cent (according to the Centre for Monitoring Indian Economy) to push up the trade deficit to $1.12 billion. This is the largest trade deficit in a month since reforms began. The current-account deficit is expected to widen to around 2 per cent under this pressure. The rupee will then weaken.

The RBI could do one of two things. It could allow the rupee to weaken and rely on the demand for the consequently more expensive imports to slacken. But this would mean the RBI must be prepared to let inflation rise even higher. With current inflation in consumer price indices running at nearly 18 per cent, this is not a politically advisable course of action. The other thing the RBI could do is to intervene in the market to prop up therupee till capital inflows resume.

This can be done in two ways. The first is to increase interest rates in the economy so that rupee-denominated assets remain attractive to foreign investors. But since much of the current industrial slowdown can be traced to falling investments, raising interest rates will probably not be the most desirable course of action. More likely is that the RBI will run down its forex reserves to prevent volatility in forex markets.

All is not lost. Not yet. The RBI has reserves of around $29 billion. It is in a good position partly owing to the success of the Resurgent India Bonds (RIBs). The external debt to the GDP ratio is stable at 25 per cent. The debt-service ratio at 20 per cent is not a worry. On current indications, the economy looks capable enough of servicing its debt obligations. The problems will start when the RIBs will have to be redeemed.

In other words, it is not yet time to think of cutting imports through tariffs to reduce the current-account deficit. It ismuch easier to levy a new tariff than to bring down existing tariffs. We have among the highest tariffs in the world. On an average, 35 per cent of our tariffs on imports of industrial goods are much higher than in competing countries from the Asean region. The general problem with tariffs is that by making imports much more expensive, they increase the cost of inputs for the entire industrial sector in India. The result is that even our exports suffer, as higher input prices reduce their competitiveness in foreign markets. We risk making a mess by such actions.