A sharp increase in the ratio of the current account deficit (CAD)-to- the-GDP from 3.3% in the first quarter to 4.4% in the second quarter may look alarming at first glance. The CAD has been at benign levels in recent years, moving only marginally from 1.1% in 2006-07 to 1.5% in 2007-08 despite the steady increase in oil prices over the last five-ten years. However, the first half of 2008-09 was exceptional as the price of India?s oil import basket had surged up by 69% to $117 per barrel compared with the 27% increase in the whole of 2007-08. This pushed the net oil import bill up by $16.4 billion or Rs 67,240 crore in the first two quarters, which is almost 70% of the CAD of Rs 95,688 crore during the period. Given that the price of India?s oil import basket has fallen to $50.9 per barrel in November 2008, and the likelihood that it is likely to remain in that range at least till the end of the financial year, one can safely predict that the CAD is likely to reduce in the second half of the year. In addition to oil, non-oil imports have also decelerated sharply. The final outcome will, of course, depend on the slowdown in goods and services exports and NRI remittances, both of which cannot be predicted at this stage. But overall, the CAD is likely to mirror the trends in 2007-08 when it fell from a high of 2.4% in the first quarter to just 0.3% in the last quarter.
Despite the optimism, it would be wise to gear policy for the worst possible scenario. This is particularly important because net capital inflows that finance the CAD have slowed substantially from $50.9 billion in the first half of 2007-08 to just $19.9 billion the first half of 2008-09. Though FDI inflows have perked up by a smart 70%, net inflows from external commercial borrowings (ECB) have slowed from $11.2 billion to $2.7 billion and portfolio inflows have turned to outflows of around $5.5 billion. This is the best time to remove restrictions on ECB, P-notes and FDI flows including in insurance, banking and aviation, so that there are enough resources to meet even the worst exigencies.