Third Quarter Review of the Annual Policy Statement for 2007-08
I. Assessment of Macroeconomic and
Developments in the External Sector
33. Balance of payments data released by the Reserve Bank at the end of December 2007 indicate some widening of the merchandise trade deficit in the first half of 2007-08. External financing requirements were comfortably met by the sustained buoyancy in invisibles and sizeable net capital inflows which also enabled a build-up of international reserves. In US dollar terms, merchandise export growth was 19.9 per cent during April-September 2007 as against 25.4 per cent in the first half of the previous year. Commodity-wise data available from the Directorate General of Commercial Intelligence and Statistics (DGCI&S) for April-September 2007 indicate that the growth of exports of primary products moderated to 15.3 per cent from 18.4 per cent. Exports of manufactures registered a lower growth of 14.1 per cent in April-September 2007 as against 18.3 per cent a year ago. While exports of iron ore showed a turnaround, increasing by 22.7 per cent from a decline of 8.2 per cent a year ago, growth of exports of chemicals and related products moderated to 11.4 per cent as compared with 22.0 per cent and growth of exports of textiles and related products moderated to 1.3 per cent as against an increase of 11.6 per cent. Exports of chemicals and related products, petroleum products, engineering goods and gems and jewellery together contributed around three-fourth of overall export growth. Merchandise import payments rose by 21.9 per cent during April-September 2007 as compared with 24.7 per cent a year ago. As per DGCI&S data, oil imports increased by 16.9 per cent in the first half of the current financial year as against 41.2 per cent in April-September 2006, although the average price of the Indian basket of international crude rose from US $ 67.4 per barrel to US $ 69.3 per barrel over this period. Non-oil import growth at 33.2 per cent was substantially higher than 16.1 per cent a year ago and mainly attributable to imports of capital goods, export-related items and gold and silver vis-à-vis the previous year. China remained the major source of imports accounting for 11.2 per cent of total imports and 16.3 per cent of non-oil imports in April-September 2007. On a payments basis, the merchandise trade deficit widened to US $ 42.4 billion in the first half of 2007-08 from US $ 33.8 billion a year ago.
34. Gross invisible receipts comprising services, current transfers and income are gaining importance in India's external transactions in recent years. At US $ 61.6 billion in April-September 2007, gross invisible receipts were equivalent to 83.6 per cent of merchandise exports as against 81.2 per cent a year ago. Software exports, travel earnings, other professional and business services and remittances from overseas Indians buttressed invisible receipts which increased by 23.4 per cent during April-September 2007 as against 31.0 per cent a year ago. On the other hand, invisible payments increased by 13.0 per cent, mainly on account of a surge in payments related to travel, business and management consultancy, engineering and other technical services and dividend and profit payments. On a net basis, the invisible account recorded a surplus of US $ 31.7 billion during the first half of 2007-08 as against US $ 23.4 billion in the corresponding period of the previous year. The current account deficit (CAD) at US $ 10.7 billion in the first half of 2007-08 was comparable to US $ 10.3 billion during the first half of 2006-07.
35. Net capital flows surged to US $ 50.4 billion during April-September 2007 from US $ 19.2 billion a year ago. Among its components, net external commercial borrowings (ECB) inflows at US $ 10.6 billion were higher than US $ 5.7 billion in the first half of the previous year. Net portfolio investment including FIIs at US $ 18.3 billion during the first half of 2007-08 was also higher than US $ 1.6 billion during April-September 2006. Net foreign direct investment (FDI) into India was higher at US $ 9.9 billion during the first half of the current year against US $ 7.3 billion a year ago. Outward FDI from India showed a significant increase to US $ 6.0 billion in the first half of 2007-08 on account of global expansion of Indian companies as compared with US $ 2.8 billion a year ago. Reflecting the drawdown of assets held abroad by the banking system, net inflow from other banking capital showed a higher increase of US $ 5.3 billion as compared with US $ 3.3 billion a year ago. On the back of growing trade volumes, net short-term trade credit (inclusive of suppliers' credit up to 180 days) increased by US $ 5.7 billion in the first half of 2007-08 as compared with US $ 3.9 billion in April-September 2006. On the other hand, there was a net outflow of US $ 0.1 billion from deposits of non-resident Indians (NRI) in the first half of 2007-08 as against net inflows of US $ 2.2 billion in the first half of 2006-07, mainly on account of the reduction in the ceiling on interest rates during February and April 2007.
36. The foreign exchange reserves (excluding valuation) increased by US $ 40.4 billion during April-September 2007 which was much higher than the accretion of US $ 8.6 billion in the first half of 2006-07 and reflected the overall movements in current and capital accounts of the balance of payments. Taking into account the valuation gain of US $ 8.2 billion, foreign exchange reserves increased by US $ 48.6 billion during April-September 2007 as against US $ 13.7 billion in the first half of 2006-07.
37. India's external debt increased by US $ 20.9 billion during April-September 2007 and amounted to US $ 190.5 billion at end-September 2007. ECB increased by US $ 10.0 billion while there was an increase of US $ 4.6 billion in short-term debt, essentially brought about by a rise in trade credits. There were moderate increases in multilateral and bilateral debt to the tune of US $ 1.7 billion and US $ 0.6 billion. Valuation changes arising on account of the weakening of the US dollar vis-à-vis other major international currencies added US $ 7.0 billion to the stock of external debt and explained one-third of the increase in external debt. Commercial borrowings accounted for the highest share (27.2 per cent) in the total debt stock, followed by NRI deposits (22.9 per cent), multilateral debt (19.5 per cent) and bilateral debt (8.7 per cent). The US dollar had a dominant share of 52.8 per cent in India's external debt whereas rupee-denominated debt had a share of 17.6 per cent. The ratio of short-term debt to total debt increased to 16.2 per cent at end-September 2007 from 15.5 per cent at end-March 2007. The ratio of foreign exchange reserves to external debt increased to 130.0 per cent at end-September 2007 as compared with 117.4 per cent at end-March 2007.
38. In the second half of 2007-08, these developments have gained strength. According to the DGCI&S, merchandise exports rose by 21.9 per cent in US dollar terms during April-November 2007 as compared with 26.2 per cent in the corresponding period of the previous year. Import growth was lower at 26.9 per cent as compared with 27.4 per cent in the previous year mainly on account of a lower growth of 9.8 per cent in oil imports as compared with 42.0 per cent a year ago, despite a rise of 12.5 per cent in the price of the Indian basket of crude oil over this period. Non-oil imports, on the other hand, increased by 35.3 per cent as compared with 21.3 per cent a year ago and accounted for nearly 88.0 per cent of the growth of total imports. As a result, the merchandise trade deficit widened to US $ 52.8 billion during April-November 2007 from US $ 38.5 billion in April-November 2006.
39. Available information also points to a further increase in various elements of capital flows in relation to their levels a year ago and in the first half of 2007-08. Portfolio flows have picked up strongly on account of FIIs, amounting to US $ 26.8 billion during 2007-08 (up to January 11, 2008) as compared with an inflow of US $ 2.5 billion in the corresponding period of 2006-07. Gross FDI inflows during April-November 2007 were placed at US $ 13.8 billion as compared with US $ 10.8 billion a year ago. ECB approvals, including under the automatic route, amounted to US $ 23.3 billion during April-December 2007 as compared with US $ 15.3 billion in the corresponding period of the previous year. On the other hand, there were net outflows under NRI deposits of US $ 0.4 billion in April-November 2007 as compared with inflows of US $ 3.0 billion during April-November 2006. ADR/GDR issues by Indian companies amounted to US $ 5.7 billion during April-November 2007 as against US $ 1.9 billion in the corresponding period in the previous year. The foreign exchange reserves increased by US $ 85.7 billion during the current financial year so far and stood at US $ 284.9 billion on January 18, 2008.
40. The exchange rate of the rupee against the US dollar, which was Rs.43.59 at end-March 2007, appreciated thereafter to reach Rs.40.96 at end-August 2007 and strengthened further to Rs.39.40 per US dollar as on January 25, 2008. During September 29, 2007-January 25, 2008, the movements of the rupee vis-à-vis the US dollar generally remained range-bound in the band of Rs.39-40 per US dollar. By January 25, 2008, the rupee appreciated by 9.61 per cent against the US dollar, by 8.85 per cent against the pound sterling and by 0.95 per cent against the Japanese yen over the end-March 2007 level. Against the euro, the rupee remained at its end-March 2007 level as on January 25, 2008. Over the end-September 2007 level, however, the rupee appreciated by 0.86 per cent against the US dollar and by 2.96 per cent against the pound sterling, whereas it depreciated by 3.27 per cent against the euro and by 6.29 per cent against the Japanese yen.
41. The exchange rate policy in recent years has been guided by the broad principles of careful monitoring and management of exchange rates with flexibility, without a fixed target or a pre-announced target or a band, coupled with the ability to intervene, if and when necessary. The overall approach to the management of India's foreign exchange reserves takes into account the changing composition of the balance of payments and endeavours to reflect the 'liquidity risks' associated with different types of flows and other requirements.