Starting with an analysis from Moody’s and financial experts, it appears that India’s current account deficit is expected to expand to 2.5% in the 2018-19 Financial Year. This increase, up from 1.5% in the previous fiscal year, is primarily caused by elevated oil prices and robust non-oil import demand as domestic demand picks up. These concerns are further exacerbated by the depreciation of the rupee.
Factors Contributing to Rupee Depreciation
Several factors are driving the depreciation of the rupee. Primary among them is the U.S. Federal Reserve’s gradual tightening of monetary policy. Additionally, economic crises in large emerging markets have led global investors to become more cautious about investing in emerging market currencies and equities. This collective wariness has had a significant impact on the rupee.
Impacts of Rupee Depreciation
The depreciation of the rupee will have both positive and negative repercussions on the economy. On the downside, it will contribute to an increase in the oil import bill, thereby contributing to a higher Current Account Deficit (CAD). As a result, this expensive oil import would permeate the economy via increased inflation, making infrastructure and other projects, which have large import content, costlier. It would also make critical imported defence items more expensive.
On the upside, rupee depreciation will enhance the export competitiveness of Indian goods and services.
Understanding the Current Account Deficit (CAD)
The CAD is a measure of the difference between the inflow and outflow of foreign exchange. A high CAD suggests that the imports of goods, services, and investment incomes into the economy surpass the value of exports. The CAD, along with the Fiscal Deficit (also known as the “budget deficit” and defined as a situation where a nation’s expenditure exceeds its revenues), forms the pair well-known as twin deficits. These two often reinforce each other, meaning a high fiscal deficit leads to a higher CAD and vice versa.
Trade Position and Depreciation
India’s trade status may further deteriorate in the short term due to the immediate rise in the oil/other items import bill, while the benefits from better export competitiveness would likely materialize primarily in the medium to long term. Given that the depreciation of the rupee is not occurring in isolation—many other emerging market currencies are also depreciating significantly against the USD—India’s relative competitiveness against numerous emerging market competitors has not improved, despite the rupee’s depreciation against the USD.
Moody’s Growth Predictions
Moody’s expects the recovery in growth to continue, driven by the underlying growth momentum in the economy, pre-election spending, and an uptick in rural demand. These factors are likely to largely offset the impacts of a weaker rupee and escalating oil prices.
