rbi: Rising CAD, outflows may force RBI to rethink currency plans

Kolkata: The Reserve Bank of India may have to change its currency strategy, as the current account deficit is likely to top 3% due to high import bills and foreign exchange reserves may deplete amid unabated dollar outflows, economists said.

They project the current account deficit to be 3-3.3% of GDP and also anticipate another $30 billion fall in forex reserves this fiscal year, since it is being used to finance the deficit. The deficit is estimated to have hit a three-year high of 1.8% of GDP in fiscal 2022, after posting a surplus of 0.9% in FY21.

Forex reserve, which is built from capital flows, is typically used to finance the current account deficit, said Devendra Kumar Pant, chief economist with India Ratings & Research.

India’s forex reserves totalled $596.5 billion as on June 10, RBI data showed.

As India’s trade deficit regularly hits new highs, the economy’s current account financing needs have risen significantly, driving the balance of payments into a material deficit, Barclays said.

“Still, the intensity of both spot and forward intervention seen recently is unlikely to continue, and we believe the RBI may need to let the rupee depreciate and weaken import demand,” said Rahul Bajoria, managing director and chief India economist at Barclays.

Barclays said the high import demand may push the current account deficit for the fiscal year to 3.3% of GDP, up from the previously estimated 2.9%, while foreign exchange reserves may deplete to $565 billion.

The foreign exchange reserves fell by around $40 billion since October last year.

While FDI flows are likely to stay broadly stable, record portfolio outflows, especially in equities, and rising dollar funding costs will keep capital flows negative, at least in the near term. While the RBI has room to manage the resulting outflows, Barclays believes that the space for rupee stability was shrinking, given

and large current account deficits.

“We expect the current account deficit in FY23 to increase to about 3% of GDP. Elevated commodity prices are major reasons for higher current accounts. However, if the developed economies face a recession-like situation, the current account may be higher. This, coupled with outflow on portfolio investment, may lead to forex reserves declining by $40-45 billion by March 2023 from April 2022 level,” Pant of India Ratings said.

“We still see risks skewed towards a larger deficit, and if it starts to approach 4% of GDP, we believe policymakers would need to take steps – both fiscal and monetary – to reduce the pressure on the current account,” said Bajoria.

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