Nirmala Sitharaman outlines steps to curb Current Account deficit

Nirmala Sitharaman outlines steps to curb Current Account deficit

Indian Market
by 5paisa Research Team Last Updated: 2022-07-26T16:26:38+05:30

With concerns over the burgeoning current account deficit, the finance minister, Nirmala Sitharaman, has stepped in to assure the markets in general that the government was closely and carefully monitoring the current account deficit (CAD) situation. With the trade deficit averaging about $70 billion a quarter, the estimate is that the current account deficit could inch closer to 5% of GDP. The FM took the opportunity to highlight some of the initiatives taken by the RBI and the government to narrow the current account deficit.

It would be interesting to see the evolution of current account deficit in India over the past few years. For instance, for fiscal year 2021-22, India’s current account deficit stood at 1.2% of GDP. In contrast, for the full fiscal year 2020-21, India had reported a current account surplus of 0.9% of GDP. The 2020-21 current account deficit may be slightly misleading as it represented the worst of the COVID crisis. In the latest March 2022 quarter, CAD narrowed to $13.4 billion or 1.5% of GDP against $22.2 billion or 2.6% of GDP in the Dec-21 quarter. 

According to recent estimates put out by BOFA Securities, India’s current account deficit could scale $105 billion in FY23, or 3% of GDP. However, the trade deficit paints a different picture. If the full year trade deficit is pegged at $280 billion, then the current account deficit net of the surplus on services trade would still be around $180 billion. That would translate into 5% of GDP, and that is an extremely delicate and precarious situation to have since it could invite FPI selling as well as a run on the Indian currency.

Outlining the measures taken by the government to curb the level of current account deficit (CAD), Nirmala Sitharaman pointed out that the government had recently raised customs duty on gold from 10.75% to 15%. Since, India was importing gold worth $6 billion per month on an average, this move would go a long way in curbing the trade deficit and hence the current account deficit. Of course, there are concerns that the CAD is closely linked to crude prices, but with crude falling near to $100/bbl, that risk is largely mitigated.

While the gold duty hikes takes care of the fiscal side, there is a lot that is happening on the monetary side too. For instance, to boost the rupee and attract foreign investments into India, the RBI has announced a slew of measures. These include freeing of rates on NRI deposits, exemption from CRR and SLR on incremental FCNR(B) and NRE term deposits, easing of rules for FPIs, raising limits on ECBs and also opening up a channel for rupee denominated trade so that the indirect impact of dollar demand can be largely reduced.

Not to forget that the RBI is also intervening in the forex markets to stabilize the Indian rupee versus the dollar. It has already spent close to $50 billion trying to defend the dollar and is willing to expend another $50 billion. A stronger rupee would automatically reduce the extent of imported inflation and help to taper the current account deficit. Of course, as the global economy picks up and tech spending also moves up, the big impact will be felt in services surplus, which has the potential to offset the trade gap. That is surely good news.

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