current-account-surplus-why-may-not-be-all-good-news

Context: In a first since 2007, India registered a quarterly current account surplus of $558 million recently. While many hailed the government for reducing the trade gap, economists have called the surplus a sign of weakness. 

Defining the current account:

  • The current account captures the transactions of a country with the rest of the world. 
  • It captures the net trade in goods and services, net earnings on investments, and net transfer payments over a period of time - a year or a quarter. 
  • Major component: The net trade in goods and services is a major component of the current account. 
  • Indication about the economy: A higher balance of the current account usually corresponds to higher exports than imports, indicating a healthy inflow of foreign exchange reserves.

India’s current account:

  • Largely been in deficit: Due to the higher value of imports compared to exports. 
  • Major items India import: Are crude oil, gold, and electronic items. 
  • Why India imports more?: Reasons
    • Limited domestic production and issues related to competitiveness of our domestic industry such as land and labour laws. 
    • High cost of capital and taxes resulted in stiff competition from cheap imports coming from countries such as China. 
    • The trade deficit: With these countries has increased consequently, resulting in an adverse impact on India’s current account balances and has come at the expense of domestic manufacturers.

Reason behind surplus current account:

  • Lower crude oil prices, lag in domestic demand, and the effect of supply disruptions due to the lockdown in China are responsible for lower value of imports in the recent quarter. 
    • It is likely to be short-lived once economic activity normalizes post the pandemic.

 

  • Growth slowdown: The Indian economy was experiencing a growth slowdown throughout FY19-20 and as a result domestic demand was weak. 
    • This is likely to have hit imports adversely in the final quarter of the financial year. 
  • Covid: As a result of covid pandemic, economic activity is yet to normalize. Thus, the chances of reviving domestic demand are minuscule and the current account could be in a surplus for the next fiscal also. 

A surplus is not a good thing always:

  • A current account surplus implies a higher inflow of forex than outflow. 
  • It helps with an increase in reserves which is critical for maintaining financial and external sector stability. 
  • Current situation: An improvement in India’s current account is coming from lower levels of imports which coincides with muted domestic demand. 
    • This will be a sign of weak domestic demand instead of improvement in our position on trade.

This makes it important to view such an increase in the current account as a sign of potential weakness and undertake supportive policy measures.

Source: https://www.livemint.com/news/india/current-account-surplus-may-not-be-all-good-news-11595261443952.html

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