PROBLEMS FACED BY INDIAN ECONOMY

Table 6.1: Balance of Payments : Summary

Sl. No. Item 2006-07 2007-08 2008-09 2009-10 2010-11PR

(US$ million)
2010-11 H1 (AprilSept. 2010)PR 8 2011-12 H1 (AprilSept. 2011)P 9

1 I 1 2 3 4

2 Current Account Exports Imports Trade balance Invisibles (net) a c Non-factor Transfers services b Income

128888 190670 -61782 52217 29469 -7331 30079 -32313 -9565 45203 1775 16103 6612 1913 4321 14753 7693 7060 -162 4209 968 36606

166162 257629 -91467 75731 38853 -5068 41945 -52614 -15737 106585 2114 22609 15930 11759 179 43326 15893 27433 -122 10969 1316 92164

189001 308520 -119519 91604 53916 -7110 44798 -65603 -27914 7395 2439 7861 -1985 -3245 4290 8342 22372 -14030 -100 -5916 440 -20080

182442 300644 - 118203 80022 36016 -8038 52045 -82187 -38181 51634 2890 2000 7558 2083 2922 50362 17966 32396 -97 -13162 -12 13441

250468 381061 -130593 84647 48816 -17309 53140 -81777 -45945 61989 4941 12506 10990 4962 3238 39652 9360 30293 -68 -10994 -2993 13050 (-)13050

107331 176213 -68883 39283 21517 -8238 26004 -47366 -29599 38950 3036 5674 6937 839 2163 30836 7040 23796 -16 -8356 -2320 7030 (-)7030

150909 236674 -85765 52923 31060 -9025 30887 -54705 -32842 41061 705 10592 5940 19344 3937 13657 12311 1346 -32 -9145 -2500 5719 (-)5719

5 6 II 1

Goods & services balance Current account balance Capital Account Capital account balance i ii External assistance (net) External commercial borrowings (net) iii Short-term debt iv Banking capital (net) of which Non-resident deposits (net) v Foreign investment (net) of which a FDI (net) b Portfolio (net) vi Rupee debt service vii Other flows (net)

III V

Errors and omissions Reserves [increase (-) / decrease (+)]

IV Overall balance

(-) 36606 (-) 92164

20080 (-) 13441

Table 6.2 : Selected Indicators of the External Sector

Sl. No.
1 1 2 3

Item

2006-07

2007-08

2008-09

2009-10

2010-11PR

2010-11 2011-12 H1 (AprilH1 (AprilSept. 2010)PR Sept. 2011)P

8 30.0 27.3 9 40.6 34.3

2 Growth of exports BoP (%) Growth of imports BoP (%) Growth of non-factor services (credit) (%)

3 22.6 21.4

4 28.9 35.1

5 13.7 19.8

6 -3.5 -2.6

7 37.3 26.7

28.0

22.4

17.3

-9.4

38.4

32.7

17.1

Growth of non-factor services (debit) (%) 28.5 67.6 16.2 64.5 1.1 61.3 15.3 60.7 40.0 65.7 48.3 60.9 1.0 63.8

5 6

Exports/imports-BoP (%) Exports/imports of goods and services (%)

86.2 12.5 3.9 35.6 9.6

83.0 14.4 2.0 21.2 0.2

81.8 9.8 33.0 106.3 58.0

77.2 11.1 5.6 3.9 5.7

82.4 9.6 8.0 20.2 5.2

77.7 10.0 7.8 14.6 5.6

80.0 7.9 1.7 25.8 9.6

7 8 9

Import cover of FER (No. of months) External assistance (net)/ TC (%) ECB (net)/TC (%)

10 NRI deposits / TC (%)

As per cent of GDP mp 11 Exports 12 Imports 13 Trade balance 14 Invisible balance 15 Goods and services balance 16 Current account balance 17 ECBs 18 FDI (net) 19 Portfolio investment (net) 20 Total capital account (net) 13.6 20.1 -6.5 5.5 -3.4 -1.0 1.7 0.8 0.7 4.7 13.4 20.8 -7.4 6.1 -4.2 -1.3 1.8 1.3 2.2 8.6 15.2 25.0 -9.7 7.5 -5.3 -2.3 0.6 1.8 -1.2 0.5 13.4 22.0 -8.7 5.9 -6.0 -2.8 0.1 1.3 2.4 3.8 14.8 22.6 -7.8 5.0 -4.9 -2.7 0.7 0.6 1.8 3.7 13.9 22.8 -8.9 5.1 -6.1 -3.8 0.7 0.9 3.1 5.0 16.5 25.8 -9.4 5.8 -6.0 -3.6 1.2 1.3 0.1 4.5

(i) INCREASING CURRENT ACCOUNT DEFICIT

CADs are sustainable to the extent (a) they are within manageable limits and (b) can be financed through capital inflows or running down of reserves. Till around 2006-07, India's annual CAD hovered below $10 billion or one per cent of GDP, which was perfectly manageable. In 2010-11, the CAD had expanded to $44.28 billion or 2.6 per cent of GDP, only marginally lower than the 3 per cent level crossed in the BoP crisis year of 1990-91. The current account deficit (CAD) widened to $19.6 billion in Q3 of 2011-12 ($10.1 billion in Q3 of 2010-11). At this stage this would work out to 4.3 per cent of GDP compared with 2.3 per cent of GDP in Q3 of 2010-11. At this point a little history helps. All through the 1980s, India's current account deficit hovered at 3.2 of GDP; given the policy environment at the time it became difficult to finance such a huge deficit and sure enough in 1991 the cumulative result showed in the country having only a billion dollars in reserves. With a CAD of 4.3 per cent today alarm bells should be ringing; all through the recent growth period India's CAD has not risen above 1.2 per cent of GDP. In its report the RBI notes a huge drawdown on forex reserves: $12.8 billion (excluding valuation) during Q3 of 2011-12 as against an increase of $4.0 billion in the corresponding quarter of 201011. (ii) DECLINING SERVICES EXPORTS The period between 2002 and 2008 can be considered India's golden age of global trade when the current account deficit declined to 1.2 per cent of GDP on the back of a surge of exports and capital flows. Needless to say, services exports in particular ITES exports led the way with the latter increasing its share from around four per cent in 1998 to 25 per cent a decade later. More than domestic policies it was the international environment that favoured India's export surge. Till the crash of 2008 world demand was buoyant and sustained the export drive of most emerging economies including India. Four years after September 2008 the world has changed for the worse. India's exports have been slipping ever since as demand dries up in the West what with the US still weak in its recovery and Europe tackling rather ineffectively its slide into recession in many parts of the Euro Zone. Not surprisingly services exports have been slipping and the latest data from the RBI bear this out vividly.

Last fiscal (March end) saw the slowest growth in services exports at four per cent for three quarters with the slide evident after the first quarter when such exports grew at a healthy rate of 25 per cent. The star of services exports software also did poorly at 9.4 per cent after sliding from 21 per cent in the first quarter. (iii) INCREASE IN TRADE DEFICIT AND BOP : The problem was not with services alone. As the RBI notes in its report on India's balance of payments, export growth decelerated in October-December 2011 while imports continued to rise largely due to high international commodity prices and inelastic demand for gold and silver. Here it is important to remember and the RBI reminds us that the advanced economies of the West still shape India's export-fortunes; so while the Commerce Ministry and commentators may appear innovative in seeking new markets for India's exports, the fact remains that the largest part of export earnings come from the US and Europe and other major western economies. India's BoP during the third quarter of 2011-12, according to the RBI that releases the quarterly data, bears testimony to how the storms and stress of the global economy can affect growth potential and more disconcertingly, the country's capital position. As the RBI observes, India's trade deficit widened, while capital inflows fell far short of financing requirement resulting in significant drawdown of foreign exchange reserves. The trade deficit it notes rose by more than 50 per cent. Just how dramatic the fall is can be seen from the facts: On a BoP basis, merchandise exports recorded a growth of 7.9 per cent, year-on-year, during Q3 of 2011-12 compared with 39.9 per cent during the corresponding quarter of 2010-11. Imports, however, expanded 22.0 per cent during Q3 of 2011-12 compared with 24.7 per cent in the corresponding quarter of the preceding year; so the trade deficit widened more because of the great fall in exports than a significant rise in imports. IV) DECREASE IN CAPITAL INFLOWS : As regards capital flows, they will keep coming in so long as investors perceive the country to be an attractive destination which means continuing to believe in the India Story.

That obviously is not the most prudent of assumptions to make in the designing of macroeconomic policy. In the long run, there is no escaping from building productive capacity at home and channelising the forex inflows received into projects that would help meet this objective. India's troubles mount because of a sluggish global trading environment and slipping capital flows. V) DECREASE IN DEBT COVER: India's foreign exchange reserves as a proportion of external debt are increasingly shrinking. Reserves, among other things, are used to meet the debt obligations. The forex reserves, which just about covered all of India's external debt as of March 2011, now covers only around 88.5 per cent (as of December 2011). While the foreign exchange reserves declined by 3 per cent in the nine months till December, what India owes the world increased by 9.4 per cent. The ratio of reserves to external debt is the lowest since March 2003. During the March 2008 , the ratio was as high as 138 per cent. The ratio is expected to deteriorate further as the reserve assets declined by another 1.3 per cent from December till the first week of April this year. There is a possibility of expansion in debt as well.

VI) INCREASE IN SHORT-TERM DEBT In the growing pie of external debt, the borrowers are increasingly going for short-term debt (maturity of less than a year). The ratio of short-term debt to total debt as of December 2011 was 23 per cent as against 21 per cent in March 2011; the highest since June 2008. However, during that time (June 2008) India had more than enough reserves to cover the entire debt. According to the Reserve Bank, as of September 2011, around 43.4 per cent of the total debt was short-term debt and debt with residual maturity of less than a year. This indicates that by September 2012, around 45 per cent of the total reserves will go out of the system if this debt is not refinanced or equivalent inflows from other sources don't come through. VII) DECLINING GDP GROWTH RATE AND LACK OF POLITICAL WILL TO CARRY OUT ECONOMIC REFORMS. VIII) DEPRECIATION OF RUPEE The rupee has plummeted by more than 12 percent against the dollar during the last three months. However, global economic factors played havoc not only with the rupee, but also other currencies. BRICS peers Brazil and South Africa have seen their currencies

slide down by 15.38 percent and 10.61 percent, respectively, against the dollar since March. Only the yuan, which is tightly controlled, holds steady depreciating by 0.43 percent. The reserves covering imports have fallen from 10.5 months to 7.3 months of imports in a period of 21 months ended December 2011. As the rupee has depreciated from August 2011, when the currency was at the 46 levels, it is difficult to control the trade deficit since the floating exchange rate has made the dollar stronger. The weakening of the rupee makes it difficult to reduce the trade status quo as we are a net importer nation. The situation is quite grave at this time with slowing economic growth and a weakening currency. The RBI had taken various measures to support the rupee. It has intervened at regular intervals, but in vain. In fact, due to its regular intervention, forex reserves are declining. The forex reserves fell below $ 300 billion compared to China's $ 4 trillion and Japan's $ 1 trillion. Brazil and Korea too are in a better position. As a consequence of the support given by the RBI to the rupee, the widening current account deficit and the increased debt outgo, the import cover of the forex reserves too is on a decline. IX) GLOBAL RECESSION AND SLOWDOWN The world at large is feeling the pinch of a global slowdown and stronger dollar. It becomes essential for countries to maintain their economic growth to make efforts to improve local fundamentals. Looking at the growth forecast of the BRICS, Brazil is expected to slow down to 3.02 percent from 6.09 percent, China to 8.23 percent from 14.16 percent, Russia to 4.01 percent from 8.53 percent, and South Africa to 2.65 percent from 5.54 percent for the year 2012. (The year of comparison is 2007.) The US economy is no different in this aspect either. Expected growth for the current year is above 2 percent only. The US' outstanding public debt currently is above 100 percent of GDP, while its federal deficit for fiscal 2012 totaled $1.2 trillion, i.e. 8.7 percent of GDP. Its current account deficit hit $473 billion in 2011, i.e. 3.2 percent of GDP. In comparison with the US economy, India's GDP is expected to grow by around 7 percent, while its public debt-to-GDP ratio was a far lower at 66 percent in 2010-11. The country's economic metrics are much better than the US' and yet the rupee is weakening against the dollar -- the reason being the safe-haven status of the greenback. Eurozone uncertainties and the probable exit of Greece from the European Union are making investors risk-averse among speculation that there may be another massive

global crisis. This is making them rush to US treasuries, and even German and Japanese sovereign bonds which are considered safe bets in spite of the lower returns they fetch. In the case of India, growth is being burdened by global as well as local factors, putting pressure on financial markets. There are certain steps we can take, such as attracting dollar flows through FDIs rather than FIIs, to reduce the current account deficit. Foreign direct investment in India in 2010 was $44.8 billion and increased 25 percent to $50.8 billion in 2011. However, compared to other Asian peers, like China, it is comparatively a very small figure. China received more than $ 185 billion in 2010, the highest among Asian countries. Policies and measures to attract FDI should be adopted and promoted. Political uncertainties, however, make it difficult to implement and execute the same. Fiscal consolidation should be another agenda. In 2007, the Indian economy entered the group of $1 trillion economies. India had forex reserves of $ 272 billion. Switching to now, when our economy is touching $1.6 trillion, our forex reserves are only at $ 291 billion. In 2010, forex reserves touched $ 300 billion after which it was seen declining steadily. India's rank in the list of the largest economies by forex reserves has slipped to tenth in 2012 from fourth in 2009. Consistency in building up forex reserves is very crucial to help the weakening rupee. Given the state of the world today, that should be worrying.