India: Balance of Payments
India Q3 FY2021 BoP: Current account reverts to deficit; capital account shines on strong investment inflows
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Spurt in the trade deficit weighed on the current account, capital account posted healthy surplus on account of higher foreign investment. FY2021 is expected to end with a robust current account surplus of ~0.8-1.0% of GDP, with an accompanying healthy BoP surplus of USD 85-90 bn. Going ahead, higher oil prices coupled with imports catching up to pre-COVID levels will flip the current account back to a modest deficit in FY2022, while the accompanying BoP surplus will likely be sharply lower than that seen in FY2021.
Current account back to deficit, both imports and exports recovered to pre-pandemic levels; transfers rose significantly.
After registering a surplus for three consecutive quarters, the current account posted a marginal deficit of USD 1.7 bn (0.2% of GDP) in Q3 FY2021 versus a surplus of USD 15.5 bn (2.4% of GDP) in Q2 FY2021. Recovery in merchandise imports over the quarter widened the trade deficit. In contrast to goods trade, India’s net services exports remained resilient and the surplus on the invisibles front rose to USD 32.8 bn from USD 29.9 bn in the previous quarter.
Exports rose slightly on a quarterly basis but remained subdued in annual terms in Q3 as the US and several countries in Europe (India’s major export destinations) were grappling with the second wave of COVID-19. On the other hand, import contraction narrowed further in Q3 as industrial imports rose significantly aided by are bound in domestic economic activities and festive buying, indicating gradual industrial momentum. In addition, gold imports remained elevated amid festive and wedding demand. As a result, the trade deficit widened to USD 34.5 bn in Q3 from USD 14.8 bn in Q2 FY2021.
Net services receipts increased both on sequential basis and on an annual basis. The receipt from travel, transportation and financial services fell slightly when compared to Q2 FY2021, whereas receipts from telecommunication and software services increased substantially during Q3.
Transfer receipts remained buoyant as private transfers ballooned on higher worker remittances. The foremost factors driving the transfers included prospects of economic recovery abroad, gradual pickup in employment, relatively higher oil prices as compared to earlier in 2020, and the Dollar’s depreciation bias.
Income related outflows rose sharply on an annual basis in Q3 due to higher outflow of investment income.
Capital account surplus more than doubled aided by strong foreign investment.
Overall capital account surplus (including errors and omission) rose sharply in Q3 FY2021 to USD 34.2 bn(more than double the previous quarter) as netFDI recorded robust inflows and FPI inflows surged leveraging better return offered in Emerging Markets amid abundant liquidity and ultra-easy monetary policy stance globally.
Robust foreign investment flows led to higher capital account surplus.
As noted by UNCTAD(2021), India’s inward foreign direct investment (FDI) bucked the global trend and grew positively in 2020, boosted by investments in the digital sector. Over Q3, FDI inflows moderated to USD 17 bn as compared to net inflow of USD 24.6 bn in Q2, but inflows remained significantly higher than past trends. On the other hand, India’s optimistic growth outlook and ample global liquidity also induced net foreign portfolio investment of USD 21.2 bn in Q3 (thrice the level in Q2). FPI inflows could be challenged to an extent going ahead, considering rising US yields. However, the overall outlook for foreign investment inflows remains positive.
External borrowings improved on a sequential basis.
However, ECB repayments still exceeded fresh disbursements over Q3, leading to a net outflow on that account. Short term loans to India increased somewhat, especially for the category of suppliers’ credit upto 180 days. Non-residents made higher accretion to deposits with banks in India, and consequently, banking capital pinned a lesser deficit as compared to Q2 FY2021.
Overall, given the huge capital account surplus and the marginal deficit in the current account, the balance of payments clocked a surplus of USD 32.5 bn in Q3 FY2021, slightly higher than previous quarter.
External sector looks comfortable this year
Exports may benefit incrementally as global trade picks up steam, and recovery seen in major trading partners is trade positive. As Indian exports have a higher income elasticity (effect of global demand) as compared to price elasticity (effect of a weaker Rupee), global trade recovery will drive export momentum further. Progress on US-India mini trade deal likely to assist exports going forward. In the medium term, the trigger could come from the self-sufficiency drive via the promising PLI schemes for the different sectors, which aims at reducing substitutable imports and enhancing exports.
Flows on the FDI account should remain robust over FY2022, given bright growth prospects in India. Increase in FDI limit in insurance sector is also noteworthy and progressive. While FPI inflows may moderate as compared to FY2021, the momentum is likely to remain positive, given the search for yields and tailwinds from aspects like inclusion of India in the Global Bond Indices, as and when it happens. Overall BoP surplus is likely to moderate to USD 30 bn in FY2022 from USD 85-90 bn in FY2021.
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