Expanding CAD poses risks to rupee

India’s current account deficit (CAD) widened to $9.2 billion in the June quarter from $1.3 billion in the preceding three months, driven by a growing trade deficit, reduced net services surplus and decreased private transfer receipts, adding pressure on the local currency.

The trade deficit, the largest component of the CAD, happens when a country’s imports exceed the value of its exports.

The widening of the trade deficit comes amid a sharp decline in India’s merchandise exports due to slowing demand in Western countries and China. However, services exports have been on the rise, growing 22.8% in the March quarter, but experts have expressed concern over the demand slowdown in software and banking services globally.

To be sure, India is a net importer on account of its heavy dependence on oil imports. Moreover, imports of gold have also jumped, rising 39% to $4.93 billion in August and 10.5% to $18.13 billion in the five months to August.

Currency experts warned that sustained crude price increases may exert considerable pressure on the rupee, given that inflows have weakened due to rising US interest rates and the strengthening of the dollar.

“Rising oil prices can be a problem and can bring back volatility in the domestic currency market, which the RBI (Reserve Bank of India) has been able to control. If the current trend continues, we could breach 84 levels in the next one-two months,” said Anindya Banerjee, vice-president of currency derivatives and interest rate derivatives at Kotak Securities Ltd.

Experts pointed out that while the rupee has outperformed several other currencies, even as the dollar index, which tracks the dollar against a basket of other currencies, strengthened, it may weaken further.

“There will be pressure on the rupee, as it is overvalued in REER (real effective exchange rate terms), and the RBI will not be unduly worried about the rupee level. With approximately $600 billion in reserves, the RBI has enough ammunition to check any excess,” said Gopal Tripathi, head of treasury and capital markets at Jana Small Finance Bank.

The recent surge in crude oil prices, which have been above $90 a barrel in September and nearing $100, is likely to further widen the CAD.

Exporters pointed out that manufacturing across the euro zone and the US has also contracted due to persistent policy tightening measures by both the US Federal Reserve and the European Central Bank squeezing finances. As Asian economies are showing mixed performance, countries across the continent have struggled to maintain the momentum.

Amid slowing demand, India’s commerce ministry has extended support to exporters through the Remission of Duties and Taxes on Exported Products (RoDTEP) scheme until 30 June. The scheme facilitates reimbursement of taxes, duties and levies not covered by any other schemes across the central, state and local levels.

India’s CAD widened to 1.1% of GDP in the March quarter from 0.2% of GDP “but trailed our forecast led by a healthier than anticipated merchandise trade balance, even as the services trade surplus and balance of secondary income were smaller than anticipated”, said Aditi Nayar, chief economist at Icra Ltd.

Icra estimates the CAD to widen sequentially to $19-21 billion (2.3% of GDP) in the June quarter.

Overall, Icra projects the CAD to widen to $73-75 billion (2.1% of GDP) in FY24 from $67 billion (2% of GDP) in FY23.

Shayan Ghosh in Mumbai contributed to this story.