Last month, the RBI released key data-points that throw light on the external sector for 2022-23, in terms of balance of payments (BoP), external debt and the international investment position (IIP). While these present the factual developments, the Reserve Bank’s Annual Report released earlier, on May 29, gave an analytical assessment of the external sector. More recently (on July 5), the RBI’s ‘Report of the Inter-departmental Group on Internationalisation of INR’ recommended a roadmap to achieve the same.
The releases and data throw up several issues, broadly under two heads: (a) analytical; and (b) data dissemination. The analytical issues include: (i) sustainability of the current account deficit, (ii) financing of the current account deficit in a non-disruptive manner, (iii) net capital outflows, (iv) pressure on foreign exchange reserves, (v) short-term debt on residual maturity, (vi) net external liabilities position, and (vii) rupee as a vehicle currency (a globally accepted currency for public and private international transactions, much like the dollar is today).
Key concerns on data dissemination relate to: (i) unexplained items in secondary income; and (ii) focus on the data presented in the Balance of Payments Manual 5 (BPM5) format, particularly ‘invisibles’ misleading the cross-country comparison as most of the countries do not publish external sector data in terms of BPM 5.
The current account deficit (CAD) as a proportion of the GDP was 2 per cent ($67.01 billion) in 2022-23. At this level, the CAD could not be financed in a non-disruptive manner as net capital flows at $58.94 billion were lower than the CAD. Thus, on a BoP basis, there was depletion in foreign exchange reserves to the tune of $9.1 billion. This raises questions on the sustainability of CAD. Similarly, during 2018-19 when the CAD-GDP ratio was 2.12 per cent, there was depletion of reserves on BoP basis of $3.34 billion, because net capital flows could not fully finance the CAD.
During 2022-23, the net capital flow (gross capital flow of $672.55 billion and repayment of $613.61 billion) amounted to $58.94 billion. Importantly, 47.7 per cent ($28.1 billion) of the net capital flows were on account of debt flows. Debt capital flows contributed to higher liabilities in the international investment position as the share increased to 50.2 per cent as on end-March 2023 from 49.1 per cent at end-March 2022.
Furthermore, the total external debt as on end-March 2023 stood at $624.7 billion. It is important to note that the ratio of foreign exchange reserves ($578.5 billion) to total external debt was 92.6 per cent. The share of short-term debt on residual maturity (i.e., debt obligations that include long-term debt by original maturity falling due over the next twelve months and short-term debt by original maturity) at $274.4 billion accounted for 43.9 per cent of the total external debt and 47.4 per cent of foreign exchange reserves.
It must be noted that because of the volatile capital flow there is pressure on the foreign exchange (forex) reserve built up, leading to vulnerability in the external debt position. This is because forex reserves depleted by $28.9 billion as on end-March 2023 as against an increase in external debt.
The RBI study, ‘Interest Rate Sensitivity of Capital Flows: The Indian Experience’ (RBI Annual Report 2022-23), has concluded that interest rate differential is an important factor in influencing portfolio, trade financing, banking capital and external commercial borrowings flows but not the overall gross capital inflows to India. It is important, therefore, to build up reserves more through equity, particularly foreign direct investment. Net FDI inflows at $28 billion in 2022-23 were lower than the $38.6 billion in 2021-22.
The risk elements
The unsustainable CAD, volatile capital flows with predominance of debt flows, pressure on building of forex reserves, and the downside risks from external debt in terms of residual maturity question the resilience of India’s external sector. It is important to assess the recommendations of the Inter-departmental Group in addition to the external sector vulnerability. We have to assess the macroeconomic fundamentals also in this context.
Fiscal deficit accompanied by higher revenue deficit has been above the FRBM target (3 per cent of GDP each for Central government and State government) for many years. For example, according to the Controller General of Accounts (CGA), the fiscal deficit as a proportion of GDP stood at 6 per cent for fiscal 2022-23. Our economic growth (real GDP growth) for 2023-24 is projected at 6.5 per cent (RBI’s projection, Governor’s statement, June 8). At this level of economic growth, India is much below its potential growth of 7.5-8 per cent. Inflation measured in terms of Consumer Price Index is projected by RBI at 5.1 per cent for 2023-24, which continues to above the 4 per cent target mandated in the flexible inflation target (FIT) and questions the objective of price stability.
Since some thinking is on in the RBI for internationalisation of the rupee, the data dissemination by the central bank should be revisited. The RBI, in its press release, publishes two sets of data following the IMF’s balance of payments manual 5 and 6. Two sets of data create confusion, particularly in the context of “analysis of invisibles” which is a part of BPM 5. Since internationally almost all countries have switched over to BPM 6, the RBI may relook data dissemination with two sets of data.
The second aspect is in connection with dissemination of secondary income data. Personal transfers (current transfer between resident and non-resident households) mainly represent secondary income. Workers’ remittances are a component of personal transfers. While the RBI’s press release presents the data on workers’ remittances, the time series data released by it in the ‘Handbook of Statistics on Indian Economy’ does not provide this data. Furthermore, for 2022-23, the personal transfers data (net) amounted to $101.776 billion out of which workers’ remittances stood at $63.227 billion. Thus, nearly $37 billion remained unexplained. These are concerns that the data released by RBI must answer.
To conclude, though external sector developments look resilient, a deeper study unfolds many weaknesses including concerns on data dissemination. In the context of promoting the rupee as a vehicle currency, it is important to rethink whether our external sector is resilient enough.
The writer is a professor at the Gokhale Institute of Politics and Economics, Pune, and a former central banker. Views are personal. Through The Billion Press