The Hindu : Opinion / Editorials : DEFICITS NEED NOT BE WORRYING

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Friday, Jan 07, 2005

Opinion

Opinion - Editorials

DEFICITS NEED NOT BE WORRYING

TWO INTER-RELATED features stand out among the data in the recently released report of the Reserve Bank of India on the country's balance of payments for the second quarter of 2004-05. The first is the sharp widening of the trade deficit to $12.3 billion during July-September. With this, the cumulative deficit for the first half of the year has been estimated at $17.4 billion. That is higher by 86 per cent on a year-on year basis and is already running above the level reached during the whole of 2003-04. The second feature is that the massive increase in the trade deficit has been accompanied by a decline in the net invisible earnings that have been the mainstay of the current account in recent years. Consequently, the current account turned into a deficit of $6.3 billion ending the run of surpluses that began in the second quarter of 2003-04. Since the current account was in surplus during the first quarter, the actual deficit during the first half of the year is $3.3 billion.

An analysis of the causes will explain why the substantial trade deficit by itself need not be alarming, and the re-emergence of a current account deficit after four quarters can be seen as a positive factor. The trade deficit has been caused primarily by the sharp increase in import payments. Although merchandise exports have been faring well — the Reserve Bank of India says the slight dip in the second quarter has been caused by seasonal factors and will be reversed soon — the surge in import payments caused by both oil and non-oil imports is responsible for the big jump in the trade deficit. Merchandise import payments have been considerably higher this year, a 24.6 per cent increase during the first quarter followed by a 53.3 per cent rise during the second quarter. Oil imports accounted for nearly 58 per cent of the import bill in each of the two quarters. Fortunately, global oil prices have softened since, providing some respite to the economy. The oil import bill for the subsequent quarters would therefore be lower, although it would be naïve to conclude that the oil shock has petered out. On the positive side, the growth in non-oil imports by more than 22.5 per cent in the second quarter on top of a 29.5 per cent rise in the first quarter confirms heightened investment demand and industrial activity.

Software exports and tourism continued to be buoyant in the second quarter but private transfers (essentially remittances from Indians working abroad), a key component of invisible receipts, declined from the level they had reached in the first three months of the year. Banking sources say a reduction in employment available to Indians and other expatriates in some West Asian countries over the past few years has reduced remittances to India. Whether the trend will be reversed remains to be seen. Much will depend on whether those countries, having benefited from the oil price boom, will start re-employing Indians on the same scale as before. As for the capital account flows, non-resident Indian deposits have declined following the conscious decision to do away with the incentives for this category of debt-creating inflows. Both foreign direct investment and portfolio flows have grown during the first half of the year. However, one has to wait for the data for the next quarter to assess the impact of portfolio money that has taken stock markets to dizzy highs recently.

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