Why in news?
A recent data has revealed that India’s Current Account Deficit (CAD) has widened to 2.4 % of GDP in the first quarter of 2017-18, which is the highest in the last four years.
What is CAD?
- CAD refers to the deficit arising out of the difference between inflow and outflow of foreign exchange as a result of imports and exports.
- CAD stood at $14.3 billion in the first quarter of the current financial year.
- This was valued at 2.4% of gross domestic product, compared to 0.1% last year.
What are the reasons for its increase?
- Trade - Imports overall rose by over 20% year-on-year in August.
- On the other hand, exports rose by only 10% in the same period.
- The resultant higher trade deficit has translated into higher CAD.
- Half of the rise in this import is contributed by the spike in gold imports prior to the introduction of GST.
- Exchange Rate - Rupee has appreciated by over 6% against the dollar this year.
- An over-valued currency has resulted in reduced margins and made exports uncompetitive; thus an imbalance in trade in favour of imports.
How did India manage inspite of higher CAD?
- Capital Account Surplus - India was able to pay its import bills easily due to a strong capital account surplus.
- Foreign investors have pumped huge sums into India as it remains one of the few places offering higher yields.
- Net FDI almost doubled in the first quarter this year.
- Also, net FPI jumped about six times to $12.5 billion.
- External Debt - India’s total external debt also declined by 2.7% during the financial year 2016-17.
- However, this is not a sustainable solution to the problem.
What are the risks of this trend?
- A large CAD to GDP is viewed as making a country more vulnerable to sudden stops or reversals in foreign capital inflows.
- There are signs that the U.S.Federal reserves & some other western central banks are considering a monetary policy tightening.
- This will impact the foreign investment flows to India.
- This might also push the Rupee into a downward spiral.
What should be done?
- The imbalance in trade is now to be resolved by boosting exports.
- The blockage of funds under GST and uncertainties has left little or no working capital at the disposal of exporters.
- Focussing on manufacturing in the labour-intensive sectors would bring the double benefits of boosting exports and generating employment.
- Efforts are needed to reduce paperwork and costly over-regulation so as to make exporting easier.
- Besides, RBI should keep a check on the external commercial borrowings to keep debt under control.
Source: Business Standard
