Is the market ignoring the trade deficit issue?
Moneylife Digital Team 02 May 2012

Export growth has crashed (probably last year their were a lot fake exports) and capital inflows are weak leading to a vicious cycle

Indian exports in March declined to $28.68 billion from $30.41 billion in March 2011. This is the first time since 2009 that exports have fallen. It has led to a spurt in trade deficit to an all time high of $185 billion in the last fiscal. Exports had touched $303.7 billion for the previous fiscal, registering 21% expansion. Imports for the month aggregated $42.6 billion leaving a trade gap of $13.9 billion, according to the data released by the commerce ministry. Import bill in 2011-12 touched $488.6 billion on account of rise in imports of crude oil and gold. Both items alone accounted for over 44% of total import bill. Commerce secretary Rahul Khullar had said the trade deficit situation can worsen in the current fiscal.

Is the market underestimating the seriousness of India’s exports having declined by 5.71% in March? After all, there is no sign that things are going to improve anytime soon. “If balance of trade (BoT) is to stay exactly where it was, my exports need to grow by 28% and that is impossible, we cannot do that...where are we going to drum up 25%-30% growth?”  Mr Khullar asked. The highest ever BoT remains an area of concern for the Reserve Bank of India (RBI) and the exporters’ community. “The financing of the current account deficit will continue to pose a major challenge,” RBI has said in its credit policy.

Financial services firm Nomura, while analysing India’s current account deficit in its recent report, said that the deficit deteriorated because imports remained relatively robust while export growth slowed during the global slowdown. Import demand was fuelled by four factors: strong consumption demand was boosted by consumption-biased fiscal policies; high inflation led to demand for gold imports; inelastic oil demand due to subsidized fuel prices ; and  higher coal imports caused by delays in domestic production from slow environmental clearances. The national income identity suggests that a wider current account deficit reflects gross domestic saving falling much more than investment.

Crude oil imports went up by 46.9% to $155.6 billion in 2011-12. The other reason was higher imports of gold and silver which grew by 44.4% year-on-year to $61.5 billion. Oil and non-oil imports during the month have increased by 32.45% and 19.91% to $15.83 billion and $26.75 billion respectively.

Federation of Indian Export Organisations (FIEO) president M Rafeeque Ahmed said the growing trade deficit, which is highest in the history of India’s trade, is a cause for concern. He too sounded pessimistic about the future. “Looking at the profile of imports, very little manoeuvring is possible since increasing trade deficit is on account of large imports of petroleum, gold, silver, and coal,” he said.

Mr Khullar has cautioned that 2012-13 would again be a difficult year and early policy decisions on coal, fertiliser and edible oil are needed in the wake of rising import bill on these heads.

During 2011-12, coal, fertiliser and edible oil imports grew by 80.3%, 59% and 47.5% to $17.6 billion, $11 billion and $9.7 billion respectively.

“Coal imports expanded significantly. Now it requires a decision on the domestic policy front in terms of coal production. Similarly, edible oil and fertiliser imports have expanded significantly and these require domestic policy decisions,” Mr Khullar said.

From a peak of 82% in July, export growth slipped to 44.25% in August, 36.36% in September, 10.8% in October and 3.8% in November 2011. However, exports grew 6.7% in December, over 10% in January and 4.3% in February.

What are the implications of the trade and current account deficit? The current account deficit in India can be controlled by FDI (foreign direct investment) and FII (foreign institutional investors) fund inflows in the equity market. FDI inflows are in a current low because of uncertainty in the Indian government policy. After the Vodafone court case and the government retrospective tax amendment, multinationals are adopting a wait and watch attitude. FIIs have been cautious in the Indian stock market and there has been a net outflow of funds in April after a robust inflow in the first quarter. The combined effect of these factors could lead to a weakening of the rupee against the dollar, which can further worsen the trade deficit in a vicious cycle.

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