Big Trade Question

Are we letting the INR ruin our trade equations?

The trade data for the month of May 2017 has raised some serious question. While the exports are up 8.32% on a YOY basis, the imports are up by 33% during the same period. As a result, the trade deficit has settled at around the level of $13 billion per month and at this run it will imply a 60% higher trade deficit in the fiscal year 2017-18.

Imports on the rise…

The 33.2% rise in imports was driven by oil and gold. Oil imports for the month were up by nearly 29%. Only 7% was explained by rise in oil prices with the balance being due to rising volume of imports. The bigger worry is that of gold imports, which is up by 236% for the month of May. The refrain is that the sharp spurt in demand was due to the festival season, but the fact remains that the RBI has been expending precious dollar reserves to import an unproductive commodity.

Exports are tepid…

Exports have been tepid with respect to goods and services. While the traditional export sectors like textiles, gems & jewelry, engineering goods and marine products have been growing at around the mean growth, the real thrust anticipated from the “Make in India” campaign is still not visible. As a result, the trade deficit is widening and services are not able to compensate for the sharp rise in merchandise trade deficit.
It boils down to the INR…

If there is one factor that is driving the growth in trade deficit, it is the strong INR. When the INR was at 68/$, the INR was already overpriced in Real Effective Exchange Rate (REER) terms. Today with the INR at 64.5/$, that overvaluation would have only gotten worse. We are seeing this trend in food grains wherein a combination of bumper output, weak exports and strong imports has created a virtual crisis situation for Indian agriculture. The government needs to consciously follow a policy of keeping the INR cheaper to give a boost to exports. A strong INR may be attracting equity and debt portfolio flows, but it is at the cost of exports and the trade balance.

Why India must worry…

The average monthly deficit this fiscal year is at $13 billion. The full year trade deficit will be nearly 60% higher. Additionally, the services surplus is not able to even compensate for half of the merchandise trade deficit. The impact is already visible in the current account deficit showing signs of stress once again. From the point of view of the stability of the INR and the external ratings of India, a boost to exports and a check on imports is a must. By keeping the INR strong, India is actually encouraging the contrary. This could have long term consequences which may not be economically feasible!