Sunday, July 4, 2010

>BALANCE OF PAYMENTS: BoP remains stable despite larger current account deficit

Current account deficit reaches new high in Q4FY10
India’s BoP recorded a surplus of USD 2.1 bn during Q4FY10, more or less same as the previous quarter. Current account balance worsened a bit from the previous quarter, but was compensated by almost equal increase on the capital account.

Current account deficit stood at ~USD 13 bn during the quarter under review, amounting to ~3.4% of GDP, historically on the higher side. Among the important components of the current account, merchandise balance and private transfers deteriorated, while software earnings improved.

Capital account surplus recovered marginally to ~USD 15 bn in Q4FY10 from ~USD 14 bn in Q3. While FII and short-term trade credit have been robust, ECB has fallen sharply to near-zero in Q4. FDI trend has also been modest in recent quarters.

BoP stages a turnaround in FY10
On full FY10 basis, BoP situation is much healthier over FY09, recording a surplus of ~USD 14 bn against deficit of USD 20 bn in FY09.

On the current account side, considerable decline in invisibles was recorded primarily on the back of lower receipts under miscellaneous services despite a pick-up in software earnings and private transfers. Trade deficit was largely stable at ~USD 118 bn. Overall, current account deficit deteriorated by ~USD 10 bn during FY10.

As regards the capital account, FDI increased marginally, but FIIs and short term trade credit rebounded quite strongly with recovery in global sentiments and risk appetite. ECB, however, disappointed, falling to USD 2.5 bn in FY10 from ~USD 8 bn in FY09.

FII, ECB to determine BoP dynamics in the near term
In the coming quarters, the current account would be influenced by few key factors such as India’s demand for imports, trends in global commodity prices particularly crude oil and movement in exchange rate. We expect India’s import demand to remain strong but weaker demand in western economies would weigh on India’s exports. However, likely subdued commodity prices amidst a weaker global recovery can potentially extend a favourable impact for India’s trade balance.

Persistent and significant appreciation in the INR during FY10 (~13% in nominal terms against USD and ~18% in real terms – 6 currency REER) did not impact trade balance or software earnings in any significant way. However, continued appreciation in REER from current levels could prove unfavourable to these segments. This can potentially deter any improvement in India’s trade balance in the coming quarters. Subdued economic activities in the developed countries are not conducive for an improvement in the invisibles account either.

The critical factor for any large swing in the overall BoP can, thus, come from the capital account only. Within capital account also, FDI is by and large stable. In sum, thus, the dynamics of the overall BoP would be weighed heavily by FII flows, ECBs and trade credit.

To read the full report: BALANCE OF PAYMENTS