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Daily News RBI Credit Policies (1999-2005)
Assessment of Macroeconomic and Monetary Developments during the First Half of 2005-06
Developments in the External Sector
26. India’s exports during April-September, 2005 increased by 20.5 per cent in US dollar terms as compared with 30.8 per cent in the corresponding period of the previous year. India’s merchandise export growth surpassed that of most Asian countries during this period. Imports rose by 33.1 per cent as against an increase of 37.3 per cent in the corresponding period last year. While oil import growth moderated to 42.9 per cent from
58.2 per cent a year ago, non-oil import growth of 28.8 per cent was comparable to 29.8 per cent last year. The overall trade deficit during April-September 2005 widened to US $ 20.3 billion from US $ 11.9 billion a year ago, reflecting the hardening of international crude oil prices and more significantly, import demand emanating from a pick-up in domestic industrial activity.
27. During April-August, 2005 export growth was broad-based at a disaggregated level, but mainly led by manufactures such as engineering goods (28.9 per cent), gems and jewellery (23.9 per cent) and chemicals (21.8 per cent). Within engineering goods, machinery and instruments, transport equipment and manufactures of metals recorded acceleration of growth. Exports of petroleum products remained buoyant as in the preceding two years. Exports to developing countries in Asia increased by about 34.4 per cent. Among the major partner countries, significant increases in exports were recorded in respect of Latin America, Singapore, China, South Korea, Hong Kong, the Netherlands, France and the UK. As regards imports, non-oil imports excluding gold and silver rose by 36.7 per cent during April-August, 2005 led by imports of industrial inputs. Within the latter category, imports of capital goods posted a growth of 33.5 per cent, while imports of iron and steel surged by 109.9 per cent, both reflecting the sustained expansion of domestic demand. In terms of sources of imports, China, Switzerland, the US, Belgium, Germany, the UAE and Australia were the major trade partners. With the large expansion in non-oil imports, the non-oil trade deficit rose to US $ 4.8 billion in April-August, 2005 from US $ 0.2 billion a year ago.
28. During 2004-05, the current account recorded a deficit of US $ 6.4 billion after remaining in surplus over the preceding three years beginning in 2001-02. A key factor underlying the phenomenon of current account balances has been the buoyancy in net invisible earnings which has been sustained in the current financial year so far. Nevertheless, the sharp widening of the trade deficit resulted in the current account recording a deficit of US $ 6.2 billion in April-June 2005 as against a surplus of
US $ 3.4 billion in the corresponding quarter of 2004-05.
29. Net capital flows remained buoyant in April-June, 2005 due to surge in both debt and non-debt inflows. Foreign direct investment flows increased to US $ 1.1 billion from US $ 0.7 billion a year ago. Debt flows (net) in the form of external assistance, external commercial borrowings, non-resident deposits and short-term credit declined to US $ 1.1 billion in April-June 2005 from US $ 2.1 billion a year ago. Although investment by foreign institutional investors (FIIs) was subdued in the first two months of 2005-06, there has been a significant revival since then with net inflows of US $ 4.2 billion in
April-September, 2005 as against US $ 0.3 billion in the corresponding period of 2004-05. Net accretion to foreign exchange reserves, including valuation changes, amounted to US $ 1.9 billion during April-October, 2005 taking the level of the reserves to US $ 143.4 billion as on October 14, 2005.
30. The Indian foreign exchange market has generally witnessed orderly conditions during the current financial year so far. The exchange rate of the rupee, which was Rs.43.75 per US dollar at end-March, 2005 depreciated by 3.0 per cent to Rs.45.09 per US dollar by October 21, 2005. However, it appreciated by 4.2 per cent against the Euro, by 2.5 per cent against the Pound sterling and by 4.5 per cent against the Japanese yen during the period.
31. The payment obligation on account of the redemption of India Millennium Deposits (IMDs) of about US $ 7.1 billion is due in December 2005. The Reserve Bank is closely co-ordinating with the State Bank of India (SBI) and other banks, and it would be ensured that the discharge of liabilities has no adverse impact on the Indian financial market.
32. There are significant shifts within the balance of payments which have implications for the conduct of monetary policy. With the import-GDP ratio having risen to 17.2 per cent in 2004-05 after hovering around 13.0 per cent during the previous five years, the trade deficit is emerging as the key determinant of India’s balance of payments. Although overall earnings from net invisibles have been buoyant, the large turnaround in the current account balance during 2004-05 and the first quarter of 2005-06 to a deficit from a continuous run of surpluses in 2001-04 has entailed expanded external financing requirements in the form of a step-up in recourse to debt flows and a distinct moderation in the accretion to the reserves.
33. The strength of merchandise and invisible exports is a heartening feature in India’s balance of payments prospects. While the recent trend in imports may continue to persist in the face of high and volatile crude oil prices and the large increase in investment demand, the sizeable expansion in imports is also spurring productivity increases and vigorous export growth. Moreover, remittances from Indians employed abroad at 3.3 per cent of GDP seem to be of a significantly permanent nature. It is in this context that the current level of the trade deficit and the current account deficit appear to be manageable through normal capital flows. In view of the simultaneous hike in oil prices and continued strong investment demand, however, the evolving developments in the balance of payments warrant careful and continuous monitoring. The substitution of debt by non-debt flows in preceding years gives room for manoeuvre since debt levels, particularly external commercial borrowings, have been moderate. The emphasis would continue to be on encouraging inflows through foreign direct investment and enhancement of the quality of portfolio flows. Prudential oversight over financial intermediaries, especially banks, in respect of their foreign exchange exposures and transactions are a dynamic component of management of the capital account as well as financial supervision, especially as the process of financial liberalisation gains momentum.
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