Rajan cautions against reliance on foreign capital

Foreign money can't taken for granted to finance current account deficit, he said

Flagging the risks of relying too much on foreign capital flows, Governor Raghuram Rajan on Tuesday said the Reserve Bank of India (RBI)  would continue to limit dependence on foreign debt to finance the country’s current account deficit (CAD).

LOOK FOR COVER

• RBI will continue to limit dependence on foreign debt
• A lot of cash flow into India has been due to easy money policy in the West
• Foreign capital can exit emerging markets for better use in home countries
• Foreign inflows have helped bridge CAD, but we cannot take these for granted
• Foreign flows cannot always finance deficits
• Global flows into the Indian market at $32 bn so far in 2014

“We are limiting our reliance on foreign debt. It is important that we keep it like this and manage the economy in a way that is careful and circumspect. That is the only way we can continue to do the work we need to,” Rajan said during his address at the 55th foundation day celebrations of Somaiya Vidyavihar here.

The governor said: “With easy monetary policies across the world, we had a lot more money coming into our economies. India has benefitted from the inflows because of easy policies, especially in the industrialised West. We have to be careful about this money.”

According to the Securities and Exchange Board of India data, global investors have infused $3,278 billion into the country’s capital market so far this calendar year, to reap the benefit of relatively attractive returns here.

Rajan said India’s CAD had narrowed significantly with foreign cash flows but this money could not be taken for granted. “At some point, these investors will find better use of their money back home and want to go out. We will have a financial difficulty when the money goes out.”

The governor also had a word of caution on the nature of spending, especially that financed out of foreign resources. “We have to be careful about spending because financial conditions will change. We have managed to bring down current account deficit substantially,” he said, adding: “We have to watch the trade deficit data closely.”

The country’s exports during the first five months of this financial year rose 7.31 per cent to $134.79 billion, compared with $12.56 billion in the year-ago period. Imports fell 2.69 per cent from $196.22 billion to $190.94 billion. As a result, the trade deficit for the April-August period narrowed to $56.15 billion from $70.6 billion a year ago.

India’s CAD for the quarter ended June narrowed sharply to $7.8 billion, or 1.7 per cent of gross domestic product, from $21.8 billion (4.8 per cent of GDP) in the same quarter of the previous year.

The decline in CAD was aided by a contraction in trade deficit.

Besides an improvement on the current account front, the balance of payments situation also improved in the June quarter. There was accretion of $11.2 billion to foreign exchange reserves in the quarter, against a drawdown of $300 million in the same quarter last year.

Referring to policies adopted by the developed countries, which are facing an economic slowdown, Rajan said the industrial West had been following easy monetary policy and used fiscal stimulus to push economic growth. They needed to undertake structural reforms, too.

They can't rely only on stimulus. Unfortunately stimulus is easier and consequences of that kind of stimulus come into our countries, he added.