Unbalanced Payments: Financial Express: 12th May 2009

As a rule, all of us are obsessed with growth and seek solace in numbers to feel better. GDP forecasts have ranged from a pessimistic 4.5% to an optimistic 6.5%, and everyone has an opinion, even though the year has just begun and there is no model which can predict agricultural harvest, which has a strong bearing on the state of industry and services. However, an important concern this year which may have escaped attention thus far is the external sector. The picture for the year appears to be quite grim judging by the state of the world economy as well as the balance of payments within.
There are three major components in our balance of payments: trade, invisible transactions and capital inflows. Our exports have grown by just 3.4% last year, as they were affected by the global slump. Given that the IMF has projected a decline in world trade by 2.8% in 2009, the picture is not too good for us. And we are quite dependent on the shrinking economies of the OECD nations for our exports. Add to this the fact that imports would continue to increase as they supplement domestic investment and production requirements, and the trade deficit would certainly exceed the $119 billion mark touched last year. In the invisibles account, the most buoyant component of software receipts would be affected by the global downturn as growth of this sector would be contingent on the prospects of the world economy, especially the US, but also Europe and Japan.
Trends in capital flows are largely negative and form a reason for concern. Fresh FDI from the western nations would be affected as they would have less to invest in the emerging economies in times of recession. The IMF has already projected a decrease of around 7.5% in such flows, where past commitments rather than fresh investments would dominate. Further, FII investment had actually declined last year by $9.8 billion as funds were in a withdrawal mode. There is little reason to believe that this mood will change in 2009. At the earliest, a recovery would be in the second half of 2010.
RBI data further shows that in the first three quarters of the year, ECB inflows were down by $10.3 billion compared to last year. The IMF has again warned that it will be progressively difficult for the developing nations to borrow in the overseas markets as the credit crisis has peaked. The Libor spreads have widened to between 400 and 500 bps for the developing nations that seek loans. Therefore, this route will remain difficult to penetrate in the coming year.
Another daunting task in this area in the coming year is the large burden of forex outflow on account of external debt repayments. The ministry of finance had earlier this year indicated that for this calendar year, there would be an outflow of around $90 billion, which is a concern. The major part, of course, is the short-term debt component of $47 billion. Normally this would not have been an issue, as the new inflows would make up for this outflow. However, these loans, which are essentially trade credits, have dried up globally, and the risk of default has also risen sharply. This being the case, the issue of repayment becomes onerous.
The NRI deposits outflow of $32 billion is less of a worry for us as there would be a tendency for renewal or rollover of these deposits. In fact, they have been rather stable in the last three years, which is a comfort. But, the ECB repayment commitments of around $8 billion will put pressure on the balance of payments ultimately.
In fact, last year, our foreign exchange reserves had declined by around 18% from $310 billion to $253 billion on account of a combination of all these factors. Simultaneously, the exchange rate had also declined by around 22% from Rs 41.92/$ to Rs 50.95/$. This was, in fact, more than the appreciation in the dollar vis-à-vis the Euro by 15.3%. It would be extremely fortuitous in case the extent of depreciation is better than what was witnessed last year.