September 2013 trade deficit fell to a thirty month low as gold and silver exports plunged on policy restrictions. Trade deficit for September 2013 printed at USD 6.72 billion, down 38% month on month and 68% year on year. Gold and Silver imports fell to levels of USD 0.8 billion down from levels of USD 7.5 billion and USD 8.4 billion seen in April 2013 and May 2013 respectively.
Exports grew 11.15% year on year in September to the highest level seen in this fiscal year while imports fell 18.1% year on year to the lowest level seen in this fiscal year. Higher imports is positive for the economy as it signifies that a steady global economy coupled with a competitive currency is helping exporters.
Restricting gold and silver imports to contain trade and current account deficits is not an ideal long term solution to the problem. However the lower trade deficit will have a positive impact on the July-September current account balance. The INR will trend positive on the back of the September trade deficit numbers.
The Indian Rupee (INR) fell over 5% against the US Dollar in the July-September 2013 period. The INR touched all time lows of Rs 68.80 on the 28th of August 2013, before appreciating to levels of Rs 62.57 as of end September 2013. The INR could well continue on its uptrend in the October – December 2013 quarter.
The blame for the INR fall to all time lows was largely placed on the CAD (Current Account Deficit) and the financing of the deficit. India’s CAD for 2012-13 was 4.8% of GDP, the highest on record for a full fiscal year. The first quarter 2013-14 CAD is placed at 4.9% of GDP. The market when it sold the INR, was worried about the financing of the CAD, as an impending withdrawal of the US Federal Reserve’s (Fed) asset purchase program, saw FII’s selling INR debt and equities. India’s CAD is financed by capital flows and any reversal of the flows would impact the INR as the CAD would have to be funded by foreign exchange reserves.
The first quarter 2013-14 CAD data puts paid to a lot of fears of financing of the CAD. CAD for the April-June 2013 period was USD 21.8 billion (29% higher on a year on year basis). The rise in CAD was largely due to imports of gold that doubled in the April-June 2013 period. Taking out gold imports, CAD would have stood at USD 14.5 billion or 3.2% of GDP.
The CAD of USD 21.8 billion was almost fully financed by capital flows that stood at USD 20.5 billion, an increase of 25.2% year on year. Capital flows funded CAD despite FII’s being net sellers of USD 1 billion of INR debt and equities. FII’s sold USD 4.24 billion of debt in the first quarter of fiscal 2012-13 and bought USD 3.23 billion of equities.
Capital flows of USD 20.5 billion in the first quarter of fiscal 2013-14 was driven by FDI that rose 71% to USD 6.5 billion and bank borrowings that rose 57.5% to USD 4.7 billion.
CAD data for Second Quarter of Fiscal 2013-14 should look much better
The sharp rise in gold imports in the first quarter of 2013-14 prompted the government and the RBI to take steps to reduce the imports. Higher import duties and restrictions on financing gold imports brought down August 2013 gold imports by 95% on a month on month basis. Gold imports have been steadily falling in fiscal 2013-14 with imports at 2.5 tonne in August, 47.5 tonne in July, 31.5 tonne in June, 162 tonne in May and 142.5 tonne in April.
The fall in gold imports has brought down trade deficit that is down 13.7% on a year on year basis for the June- August period. August trade deficit at USD 10.9 billion is down 45.8% from May deficit levels of USD 20.8 billion. Falling trade deficit is positive for CAD coming off.
Outlook for capital flows is improving
FII’s have been net sellers of equities and bonds in the July-September 2013 period with net sales of USD 3.99 billion in debt and net buyers of USD 0.29 billion in equities. The pace of FII selling in debt has come off and the October- December 2013 period could well see FII’s becoming net buyers of INR debt as RBI eases liquidity restrictions and INR stabilizes on the back of a stabilizing CAD.
The RBI swap window for banks on their FCNR B deposits is bringing in good flows. FCNR B deposits rose by USD 1.5 billion in September and is likely to surge in October and November as banks swap USD at a fixed rate of 3.5% per annum. Flows could cross USD 15 billion and even touch USD 20 billion as banks rush to take advantage of this swap facility.
Lower CAD and rising capital flows is positive for the INR. The one risk that the INR will have to contend with is the markets reacting extremely negatively to Fed withdrawal of asset purchases. The markets are prepared for the withdrawal and it is unlikely that the kind of sell off of emerging market assets seen in the May-August 2013 period will occur in the near term.