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CAD in focus

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January 12, 2022

What is the issue?

The current account deficit which has started to rapidly expand, needs to be watched closely.

What is Current Account?

  • External transactions are classified as
    • Current account and
    • Capital account
  • The current account measures
    • Current account balance = Trade Balance + Net of Invisibles.
    • Trade Balance = Export – Import
    • Net of Invisibles which includes
      • Remittances from labour abroad.
      • Income received from investments abroad
      • Payments to foreign holders of a country's investments
      • Transfers such as foreign aid.
  • The current account may be positive (a surplus) or negative (a deficit)
  • A positive current account balance
    • Indicates that the nation is a net lender to the rest of world.
    • Increases a nation's net foreign assets by the amount of the surplus
  • A negative current account balance
    • Indicates that it is a net borrower
    • Decreases a nation's net foreign assets by the amount of the deficit.
  • A country's current account balance, whether positive or negative, will be equal but opposite to its capital account balance.
  • India has been recording a current account deficit over the past two decade.

What is the present situation?

  • With economic activity slowly moving towards pre-pandemic levels and central banks beginning to withdraw their easy monetary policies, India’s external account could come under pressure in the coming quarters.
  • Signs of stress have already emerged in the balance of payments statement for the September quarter of 2021
  • CAD moved up to 1.3% of GDP or $9.6 billion.
  • Trade deficit in the December 2021 quarter was at a 25-year high

What are the Reasons for increase in CAD?

  • Trade deficit - Increase in CAD was mainly due to trade deficit expanding quite sharply.
  • This is because of
    • Increase in crude oil prices.
    • Increase in consumption
    • Commodity prices too ruling high.
  • The cushion provided by decline in commodity prices as well as low demand in 2020 will no longer be available.
  • Low commodity price decreases the cost of import. Low demand reduces the quantity of imports.
  • Uncertainty in capital inflows – Though India records CAD over the past two decades, the difference now is that there is growing uncertainty in capital flows.
  • This could induce stress on balance of payments.
  • FPI - Increase in demand for gold imports along with copious foreign portfolio outflows will also weigh on external account.
  • FPIs have already pulled out over ₹50,000 crore from equity and debt in the December 2021 quarter.

What is the concern?

  • Most economists expect CAD to widen beyond 3% of GDP in the Q4 of this fiscal due to increase in demand and inflation
  • Trade deficit could remain elevated in the next fiscal year too with supply chain disruptions due to the Omicron variant keeping commodity prices high.
  • Despite the mounting pressure rupee has been reasonably resilient in December mainly due to Forex reserve that RBI has accumulated in last two years.
  • But central bank intervention to support the rupee has its limitations. Forex reserves have begun shrinking since November.

What needs to be done?

  • The RBI should speed up the process of inclusion of government securities in global bond index. Due to this annual inflows of $40 billion in 2022 are estimated.
  • As a result the rupee as well as the external account will get some support.
  • Besides this, structural moves to address the trade imbalance such as initiating production linked incentives for more sectors and improving domestic availability of gold should receive more attention.


  1. https://www.thehindubusinessline.com/opinion/editorial/the-current-account-deficit-which-has-started-to-rapidly-expand-needs-to-be-watched-closely/article38175411.ece
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