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Worst trade deficit in ages to weigh on rupee

Hopes of a recovery for the battered Re may dim if the govt fails to come up with a plan to raise US dollar funds soon as the worst external trade position in decades worries investors.

, ET Bureau|
Updated: Jul 02, 2012, 07.33 AM IST
MUMBAI: Hopes of a recovery for the battered rupee may dim if the government fails to come up with a plan to raise US dollar funds soon as the worst external trade position in decades worries investors.

Notwithstanding the rupee’s biggest gains in three years on Friday, depleting foreign exchange reserves, strong crude oil demand, overseas loan repayments and a fall in services exports growth rate are chinks in the armour in reviving the currency.

Revival in global investor appetite for equities and commodities after Europe agreed to fix its banking crisis may play spoilsport for India, which was hoping to benefit from lower commodity prices. Crude, which constitutes a third of imports, rose $6 a barrel to about $98.

Higher coal imports to offset domestic deficit will, along with crude, worsen India’s external trade as the Centre’s subsidies cushion the impact of high market prices on consumers. The selling of diesel and cooking gas at below market prices is feeding a consumption boom that’s straining both the currency as well as government’s finances.

“It’s a surprise and a concern,” said Brinda Jagirdar, chief of economic research at State Bank of India, after the March quarter current account deficit — the excess of imports over exports — came in at a record 4.5% of the gross domestic product.

“This calls for immediate attention to the external sector, or the problems could escalate. Softening oil and commodity prices could get offset by a rise in coal imports along with depreciation in rupee.” The RBI’s external trade data released on Friday for the March quarter painted a grim picture.

Merchandise exports’ growth fell to 3.4% in the quarter from 47% a year earlier, but imports rose 23%, although it was down from 28% in the same period a year ago. This led to a widening of trade deficit to $51.6 billion, up from $30 billion a year ago. Exports of net services fell to 21% from 72% a year earlier.

The rupee that had lost a quarter of its value in the past year had its biggest gain in three years on Friday before the trade data was released. It ended at 55.64. Even the record portfolio inflows in the March quarter were not sufficient to meet the dollar demand and the country had to dip in to $5.7 billion of foreign exchange reserves.

This led to a fall in the foreign exchange cover for external debt to 85%, from nearly 100% a year earlier. Recent RBI measures, such as easing overseas borrowing norms for companies , may not bring in enough US dollars to support the rupee. Economists are not yet changing their rupee-US dollar target rate as the sharp depreciation of the currency and lower commodity prices than in the last year could lead to a better balance in the next few months.

“We expect the current account deficit to narrow on account of falling crude oil prices, lower demand for gold and the lagged impact of INR depreciation,” said Sonal Varma of Nomura Securities. “Rupee depreciation initially worsens the trade balance as the value of imports rises, but gradually should improve the trade balance as import volumes contract and exports gain.”

Although the current account deficit for last fiscal at 4.2% was worse than the 3% in 1991 when India pledged gold to avert a default, it might have peaked. Historically, India’s trade balance had adjusted for the better whenever the currency lost value.

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