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Posted by: Deepa Vasudevan on Wed, Aug 7th, 2013

Tracking Every Dollar

If the expenses of a household are more than its income, every paisa has to be carefully monitored. Non-critical expenditures are cut, and income is spent judiciously. India finds itself in a similar situation with its external balances. In 2012-13, the current account deficit (CAD) was at an all-time high of $88 billion. Fortunately, sufficient capital inflows came in to fund this deficit. The CAD for 2013-14 is forecast to be $85 billion, or 4.5% of GDP[1]. This massive amount has to be funded through the capital account too. How is the government hoping to raise $85 billion?


The government and the RBI are counting each dollar that comes in, and watching each dollar that exits our shrinking reserves.


Take the capital account first (Table 1). The recent sell offs in the debt and equity markets suggest it would be imprudent to count on FIIs to finance the CAD. FDI inflows have been far steadier. That is why the recent reform of FDI investment norms was a sound policy move.


Table 1: Main Inflows on Capital Account

 Table 1: Main Inflows on Capital Account

Source: RBI


If the reforms are sustained, it may be possible to get about $20 bn through FDI inflows. Relatively higher domestic interest rates favour NRI deposits; that could bring in at least $10 billion of inflows. Estimating the loans component- which includes external commercial borrowings, external aid, and short term trade credit- is harder. In Apr-June 2013, over $5 billion have come in through ECBs, so one could presume that about $10 billion will come in for the full year. Short term trade credit, which usually ranges between $ 5 bn-$10 bn, was $21 billion last year. A prudent estimate would be a total of $10 billion through this loans route. 


To sum up: Inflows from FDI: 20 bn, loans: 20 bn, NRI deposits:  10 bn, total inflows= 50 bn. This is a very conservative estimate for two reasons. First, we are assuming zero portfolio inflows. Second, other components, such as trade credit and loans, could be much higher[2].


Nevertheless, this estimate leaves a gap of $35 billion to be funded.  Let us turn to the current account deficit itself.  Increasing exports need strategic reforms that will not show results in the short term. Compressing imports is much quicker.  But a look at the break up of imports shows the inherent rigidity in our imports (Table 2).


In the last five years, imports have doubled in dollar terms, but relative shares of the main imports have not changed much. Half of the import bill is accounted for by oil imports (about 30%) and capital goods (about 20%); and this cannot be pruned down. The only item that stands out is gold, which has crossed 10% of total imports.


Table 2: Relative Share of Main Imports

Table 2 Relative Share of Main Imports

Source: RBI, Ministry of Commerce India


If the recent measures to reduce gold imports succeed in bringing the share of gold down to about 8% of imports, the gold import bill would still be about $42 billion[3]. That’s about $10 billion saved over last year. The government still has to fund $25 billion of the CAD!


That is why extra-ordinary fund raising measures such as a sovereign bond issue are now being considered. A depreciating rupee at this point only worsens the situation, by increasing imports and CAD.  Until some way is found, the government has to continue to practise thrift, cutting expenses and pulling in every dollar to solve its problem.

[1] RBI Survey of Professional Forecasters, June 2013

[2] A newspaper editorial recently estimated capital inflows under FDI, NRI deposits and trade credits at $60 billion. Source:

[3] RBI estimates 2013-14 imports to be about $519 billion, so 8% of that is $42 billion. Last year gold imports were $54 billion.

Sharad C Mohan on Mon, Aug 12th, 2013 7:52:14 am

Interesting article. However, there are several serious issues that the govt. needs to awaken to. First, I see two main reasons for the steady rise of gold imports (table 2) over the years, and why gold imports will not fall in future - gold is an integral part of India's black economy, which only appears to be growing each year; also, private investments in gold have been steadily rising over the last 6 years, as people have been equally steadily losing faith in the govt, it's policies and it's finances. Therefore, the FM's appeal to buy less gold has been falling on deaf ears. Second, the loans and NRI deposits all represent debt inflows, which must be repaid, and with interest; a falling Rupee is only going to increase your repayment liability, on the both the interest and principal accounts, making matters even worse in the future years. A credit card can only be a cash management tool, and never an income generating asset. Third, an even bigger problem on the debit (import) side, and which we're not even thinking of at present, is the import of items that we can easily manufacture in India, but choose to buy from countries like China, for their low cost. Today even everyday items like Ganesh idols, decorative lights and toothbrushes are made in China, and we're happy importing them. Besides killing our own industries, it's a major (and increasing) drain on our limited forex reserves. This is a matter that needs to be addressed by both the govt and the people.

Sandeep Gandhi on Fri, Aug 9th, 2013 6:35:28 pm

Many thanks for explaining in nut shell and in simple way and also with facts and figures. Lets see how the problem is solved..

priti choksi on Fri, Aug 9th, 2013 6:30:05 pm

some practical approach called for, long term solution needed. FII investment in debt and stock market does not create long term solution. they create a bigger hole in future, today's convenience is tomorrow's problem. a well designed policy to release the gold stocked in the temples and household is badly required. we need to provide some incentive in form of 2 or 3% yield and an option to take back the principal / yield in cash / kind the idle resource will come handy to bring the costs down. in future, the stock can be conveniently replaced by the users-business community. a safe mechanism in form of counterparty and transparency needed. the recent development of systemic failure to be kept in mind also, by reducing liquidity, short term impact on CAD. beyond that what ?? the damage in form of reducing economic activity over the next few quarters may have a snowball effect ! by enhancing the duty on gold imports, we are going back to the regime of sixties and seventies, when the illegitimate imports were almost 90% of the total imports. that can harm much more. before imposing any such restrictions, human psychology has to be practically understood. more to follow

Smit Shah on Fri, Aug 9th, 2013 2:12:29 pm

This article shows current India's Economy situation in simple and effective manner.. nice one.. thanks

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