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India's current account deficit (CAD) is likely to narrow down to 1.7% of GDP this fiscal but may widen to 2.3% in FY16, says a report.
"We have cut down our FY15 current account deficit forecast to 1.7% of GDP from 2.6% earlier as it does not look like New Delhi will remove gold import restrictions in the near future," according to the report by Bank of America Merrill Lynch (BofA-ML).
In the quarter ended June, CAD, which indicates imports of goods services and transfer are higher than their exports, stood at $7.8 billion, or 1.7% of GDP.
The report expects the deficit to widen to a fundable 2.3% of GDP in FY16, once gold imports are eased.
The US brokerage said its estimates assume that oil price will settle at $108 a barrel in FY16, although it is currently trading much lower at $98 a barrel and gold rates will stabilise at $1,375 per ounce in the next fiscal.
In terms of capital inflows, BofA-ML has forecast a rise in FDI flows to $25 billion from $20 billion and portfolio investments to $35 billion from $25 billion.
The report said the Reserve Bank needs to build foreign exchange reserves of $373 billion by March 2016 to maintain the present eight-month import cover.
"Including the forwards, the forex reserves currently stand at about $350 billion, assuming the $26 billion raised via the FCNR-B swaps last year are rolled over. This implies the RBI has to buy $23 billion more by March 2016.
The brokerage expects the central bank to continue to buy forex over 58 levels to guard against contagion as done by previous Governors Bimal Jalan and Y V Reddy. Building forex reserves would allow the RBI to cut rates.
The report further said the rupee is likely to end 2014 at 61 per dollar as against the earlier expectation of 60, despite a strong greenback. BofA-ML revised its end-2015 rupee-dollar forecast to 60 from 64 earlier.
"The RBI will likely maintain its 58-62 'range of tolerance' for the rupee until it is able to build up sufficient forex reserves - close to 10 months' import cover - which looks unlikely over our forecast horizon," the report concluded.
