India’s current account deficit: solution lies in exports

By R Rajagopal
April 18, 2013

(Any opinions expressed here are those of the author and not of Thomson Reuters)

The U.S. dollar is the major currency for international trade. Most countries use it to pay for their imports and also peg the dollar for exporting products and services.

The balance of trade (net import or export) would determine if a country is a net payer or a receiver of dollars. Trade, along with other dollar inflows (portfolio/FII, FDI, inward remittances), determines the overall availability of the international currency for a country to engage itself in the global economy. This also has a bearing on determining the exchange rate of a country’s own currency with that of the dollar.

An account that keeps a tab on the dollar expenses and dollar inflows for a period (normally an accounting year) is commonly known as the ‘current account’. A negative balance amounts to current account deficit (CAD), indicating broadly that the country’s imports exceed exports.

India has been persistently running a CAD. The deficit has widened in recent years as a percentage of GDP and has become a concern for policymakers, economists and global investors.

Let us look at the components of India’s trade to better understand this:

India’s growth engine has been predominantly driven by oil (over two-thirds of which is imported). This situation may not change much over the next few decades.

The government is considering exploration of shale gas but that will take a long time. Thus the oil import bill will remain a function of both quantity imported and the international price of crude.

Despite price increase and volatility, oil imports are a necessity. Further, shortfall in domestic coal production has resulted in increased dependence on imports. Hence reducing CAD through lowering oil and coal imports is not a feasible option.

The second major cause of widening CAD is being attributed to gold imports. India and China together account for more than half of global gold consumption. Indians, irrespective of economic position, are positively inclined towards gold purchase. It is largely driven by custom, marriage, safety concerns, tradability, and as a hedge against the rupee.

The government in the near term has tried to suppress domestic gold demand by imposing higher taxes. But with increasing affluence and affordability due to rising disposable income, gold demand will continue to grow. Hence addressing CAD by trying to restrict gold imports may not have a long-term impact.

Other imports like capital goods and machinery, transport equipment and electronics are necessary for India’s infrastructure growth. Indigenization has reduced dependence on imports, but in areas like telecom and mining, imports have played a crucial role in lowering input cost.

Reducing CAD by limiting imports is therefore not a judicious option. And to depend on short-term capital flows to address dollar needs makes India’s economic position quite vulnerable.

The solution lies in expanding the export pie.

Over the years India has made progress in both information technology and generic pharmaceutical exports, apart from its traditional gems and jewellery, natural fibers and garment sectors.

But its competitiveness in areas like manufactured goods and readymade garments is being challenged. India’s share of merchandise export in global trade is still below 2 percent and hence a lot needs to be achieved in this area.

Export of auto and auto components is on the rise and with supportive policy initiatives, India could emerge as a regional hub for sourcing components for global automakers. The country’s vast engineering talent pool could be put to better use in manufacturing than in the financial sector.

Government policy towards enhancing trade with existing partner countries and establishing new relationships with developing countries in Asia, Africa and Latin America would also help promote exports to these regions.

Improving the infrastructure of existing Export Processing Zones, enhancing trade finance, simplifying procedures for interacting with government agencies, facilitating small and medium enterprises (SMEs) to access global markets etc,  are other areas which need immediate attention.

It is time the government comes out with a clear and concise trade policy with a roadmap for strengthening India’s global trade. This is the way to address the current account deficit.

One comment

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Yes, agree with most of the points!

Posted by Woman21 | Report as abusive