Current account deficit expected to be largely financed by FDI flows

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Mumbai | Published: August 30, 2018 2:57:27 AM

Even though exports have gathered momentum in Q1FY19, global trade environment can reduce demand due to some countries’ protectionist policies

In its annual report released on Wednesday for the financial year 2017-18, the Reserve Bank of India (RBI) stated that the current account deficit (CAD) is expected to be largely financed by FDI flows. (Reuters)

In its annual report released on Wednesday for the financial year 2017-18, the Reserve Bank of India (RBI) stated that the current account deficit (CAD) is expected to be largely financed by FDI flows.

The report mentioned that even though exports have gathered momentum in Q1 of 2018-19, the global trade environment can reduce external demand due to protectionist policies being adopted by various countries and domestic products being increasingly replaced by imports.

The report said, “CAD trebled during the year from its level a year ago, essentially due to the sharply higher merchandise trade deficit, and the worsening of both gross and net terms of trade. In particular, the net terms of trade erosion caused by firming international commodity prices – especially of crude oil, gold and coal – is estimated to have widened the trade deficit by about 1.2 percentage points of GDP during 2017-18. During 2017-18, the CAD expanded to 1.9% of GDP from 0.6% a year ago, which remained far lower than the peak of 4.8% attained in 2012-13.”

The report highlighted “with domestic information technology (IT) companies gradually adapting to the global business environment, software exports are expected to remain strong. The increase in limits for foreign portfolio investment in both government and corporate bonds augurs well for the prospects for external financial flows adjusted for downside risks.”

The report also said “firming of salient commodity prices are translating into worsening terms of trade for net importers like India and higher input costs.”

“Consequently, the economy has to contend with the drag on aggregate demand from net exports and cost-push risks to inflation at the same time. In this context, it is worthwhile to note that India is not able to reap the healing effects of strengthening global trade by expanding exports commensurately, mainly due to constraints on domestic supply conditions and productivity,” it added.

The report continued, “secondly, muted as they are at this stage, risks to macroeconomic stability have edged up. The current account deficit is widening as imports increasingly replace domestic production in several items, besides the elevation in international crude prices. In this context, aggregate demand pressures emanating from a deviation from the budgeted fiscal deficit of the general government may spill over into higher external imbalances, contributing to a ‘twin deficit’ challenge.”

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