Foreign capital flows help to contain CAD: RBI

Moneycontrol Bureau

The overseas capital inflows are helping to contain the expanding current account deficit (CAD). India's CAD-GDP ratio reached a historical high at 5.4% on the back of decelerated growth in net export of services and higher outflows under primary income. The net inflows through foreign institutional investors (FIIs) are acting as detox agents for the CAD menace.

"BoP statistics shows that improved capital flows were about adequate to finance an expanding CAD during Q2 of 2012-13, as evident from only a marginal drawdown of foreign exchange reserves," RBI said in the macroeconomic and monetary policy development report released on Monday. 

"While net inflows under FDI moderated somewhat during April-November 2012, net inflows by foreign institutional investors (FII) have shown a significant uptrend. Net FII inflows during 2012-13 (up to January 18) at US$ 18.8 billion (around Rs 1.04 lakh crore) were significantly higher than during the corresponding period of the previous year (US$ 7.6 billion or about Rs 41,000 cr), thus providing temporary comfort for financing of CAD."

Currently, the government is mired in the twin deficits of higher CAD or excess of imports over exports and fiscal deficit or excess of budgeted expenditures over total revenues. These are major deterrents to India's GDP growth.

So, what prompts higher FII inflows?

Besides improved global liquidity coupled with sentiment, according to RBI, a better perception about the domestic economy fueled those inflows. The recent spate of reform initiatives by the government of India too catered to a fertile platform for the foreign currency inflows.

Those reforms include liberalised FDI norms for the retail, insurance and pension sectors, a roadmap for fiscal consolidation and an increase in FII limits in the corporate and government debt markets. The FII investment limits in government securities and corporate bonds were raised by US$ 5 billion each, taking the total investment limit in domestic debt (including corporate debt for infrastructure) to US$ 75 billion.

"While the increased limit may enhance debt inflows, they do not provide a solution to CAD financing on a sustainable basis," RBI concluded. 

saikat.das@network18online.com