Indian economy will survive headwinds from a taper by US Fed, says FinMin

The Indian economy, unlike in 2013, is not vulnerable now to the US Federal Reserve's (Fed's) announcement of a taper in its loose monetary policy, even as oil and gold may bring down the country’s balance of payments (BoP) position, say finance ministry officials.

The Fed has announced the start of a drawback in its monthly purchase of bonds and securities, which it began in March last year to prevent the economic crisis on account of the pandemic from aggravating.

Officials scotched the possibilities of any harm the taper could do because the situation today was not like the one in 2012-13 (FY13), when the country had a huge current account deficit and the Centre was running a high fiscal deficit.

“Are we vulnerable like we were in FY13? The answer is no,” said an official, adding, “We have been rated as one of the conservative spenders. At that time (2013), we were one of the profligates, and were seen as an outlier. We are now seen as an outlier in this direction (conservative spending).”

The Centre’s fiscal deficit touched just 35 per cent of the Budget Estimates in the first six months of 2021-22 (FY22). However, with subsidies on fertilisers and food rising, the finance ministry says it would hit 6.8 per cent of gross domestic product (GDP), in line with the Budget projections for FY22, despite a huge rise in tax revenues.

Another official said the country’s BoP was in relatively good shape.

“We have a threat on oil and gold but even then... Exports have risen substantially in the past few months. So, the BoP is much stronger than in the early part of the previous decade,” he said.

The country’s current account balance was in surplus — 0.9 per cent of GDP — in the first quarter of the fiscal year. However, as gold and oil imports rise, the surplus is set to give way to a deficit in the remaining three quarters.

Oil imports touched $72.9 billion during the first six months of FY22, rising by almost 128 per cent year-on-year.

Gold imports surged 253.6 per cent to $23.9 billion during this period. The two items accounted for 35 per cent of the country’s imports during this period. One of the officials, however, was less upbeat. 

“Our BoP may deteriorate because of oil prices. And if gold imports rise, those are two big threats. One has already materialised, which is the oil price. And consumption is inelastic, so it’ll worsen the balance of trade. We are paying much more for our oil imports than we did last year,” he said.

On gold imports, he said the economy was doing well and if consumer sentiment was high, gold imports would rise.

The official, however, said some sectors, such as cell phones and to an extent, electronics, were responding to the government’s production-linked incentive scheme, which would reduce imports of these items. Imports of electronic goods rose 39 per cent at $32 billion during April-September of FY22.

The country’s foreign exchange (forex) reserves have increased by $1.919 billion to $642.019 billion for the week ended October 29.

In May 2013, the Fed had said it would reduce quantitative easing, initiated after the Lehman Brothers bankruptcy in 2008. It meant cutting the purchase of treasury bonds and hence, reducing liquidity in the US economy. In response to this statement, the US 10-year bond yield surged and triggered a wave of capital flight from emerging economies.

India, along with South Africa, Brazil, Indonesia, and Turkey, was the most affected. Morgan Stanley called them the “fragile five” due to their high current account deficits and dependence on inflows of foreign capital.

In response, the government and the Reserve Bank of India took steps such as raising policy rates, imposing restrictions on gold imports, controls on capital outflows, and easing controls on foreign currency borrowing and borrowing from non-resident Indians to reduce pressure on the rupee. Even then, the measures could not arrest the fall of the rupee, which declined over 15 per cent against the dollar between May and August 2013.

The country’s current account deficit was 4.2 per cent of GDP during 2011-12 (FY12) and 4.8 per cent during FY13 and it had witnessed a slight decline in forex reserves in one of the quarters, which means the capital flows were not enough to pay for the current account deficit.

However, gold restrictions reduced the current account deficit to 1.7 per cent of GDP in 2013-14 (FY14). Gold was the biggest factor in increasing the current account deficit.

India imported gold worth $56.4 billion, accounting for 11.5 per cent of imports in 2011-12 (FY12). They were worth $53.6 billion, constituting 10.9 per cent of imports, in FY13. However, gold imports fell to $28.7 billion, or 6.4 per cent of the total, in FY14.

Petroleum imports were also one of the culprits in widening the current account deficit. But unlike today, these were lower than inbound shipments of gold. Petroleum imports stood at $15.5 billion, constituting 3.2 per cent of the total, during FY12, $16.4 billion, accounting for 3.3 per cent of the total, the next year, and $16.4 billion, representing 3.6 per cent of the total, during FY14.

The Centre’s fiscal deficit was 5.7 per cent of GDP during FY12, but it fell to 4.8 per cent during FY13, and 4.4 per cent the next year.