Govt needs to curb oil, gold imports to fix CAD worry

Written by fe Bureau | New Delhi | Updated: Feb 28 2013, 10:54am hrs
India needs to curb imports of oil and gold to rein in the current account deficit that is being bridged by volatile foreign portfolio investment, posing a risk to financial stability and making the rupee volatile, finance ministry's pre-Budget economic survey said on Wednesday.

Though India demonstrated resilience during the global financial crisis of 2008, the balance of payments has been under "increasing stress" recently with increasing trade and current account deficits. "Though capital flows are bridging the gap, the nature of portfolio capital may lead to greater potential financial fragility and also rupee volatility," said the survey.

The widening of the trade deficit to more than 10% of GDP and the CAD crossing 4% of GDP in 2011-12 and the first half of 2012-13 have been matters of concern with CAD widening to 4.6% of GDP. In the current fiscal, the growth in invisibles is insufficient to narrow the growing trade deficit, the survey said.

"The room to increase exports in the short run is limited as they are dependent upon the recovery and growth of partner countries, especially in industrial economies. This may take time. The main focus has to be on curbing imports, mainly by making oil prices more market determined, and curbing imports of gold," it said.

At the same time, further measures to ease the inflow of remittances and steps to diversify software exports could help reduce financing needs. Greater emphasis on FDI, including opening up sectors, further can help increase the quantum of safe financing, the survey said.

The survey advocated that FII flows need to be targeted towards long-term rupee instruments to minimise the 'reversal' of capital during risk-off phases.

"Finally, external commercial borrowing needs to be monitored carefully so that entities without access to foreign exchange revenues do not leave significant exposures unhedged," it said.

Indias growing external exposures can also be attributed to the increasing integration of the Indian economy with the rest of the world, which is reflected in both current and capital account transactions. The combined share of exports and imports of goods increased from 14.2% of GDP in 1990-91 to about 43% in 2011-12. Two-way external sector transactions gross current account plus gross capital account flows have risen from 30.6% of GDP in 1990-91 to about 108% in 2011-12.

"While the globalization of Indian economy has helped raise growth, it has also meant greater vulnerability to external shocks. A focus on domestic macro-economic re-balancing will help reduce vulnerability," the survey said.

Though the CAD is financed by capital inflows and not by drawing down from foreign exchange reserves, the survey warned "a sizeable share of capital is in the nature of FIIs investment that could moderate or even reverse if investors switch to risk-off mode. The balance of payments position therefore is more vulnerable, which has been reflected in high rupee volatility."