Why chances of India being named a currency manipulator are slim

India made a surprising entry on the US Treasury's currency watchlist last week, but it's some way from being labeled a manipulator of the rupee.

The Treasury cited India's “significant” trade surplus with the US and increased purchases of foreign currency last year as reasons for increased scrutiny of the Asian economy. Taiwan and Thailand, both of whom run significant current account surpluses and whose central banks have actively intervened in currency markets, weren't added to the list.

A spokesman for India’s central bank declined to comment on the Treasury report, which identifies three criteria to label a country as a currency manipulator: a bilateral trade surplus of at least $20 billion, a current account surplus of 3 percent of gross domestic product or more, and foreign exchange intervention of at least 2 percent of GDP in the past year.

"There is very little chance that India will meet all three criteria and be called a manipulator, as it has persistently been running current account deficits since 2005," Khoon Goh, head of Asian research at Australia & New Zealand Banking Group Ltd. in Singapore, wrote in a note on Monday.

Here’s how India measures up to the Treasury's criteria:

Bilateral Trade Surplus

India’s bilateral trade surplus --merchandise and services-- with the U.S. stood at $28 billion in 2017, according to the Treasury report. The surplus is marginally lower than the $30.8 billion in 2016, according to data from the Office of the U.S. Trade Representative. India’s goods trade surplus with the U.S. stood at $23 billion in 2017, exceeding the Treasury’s threshold.

While India meets this criteria, its addition to the currency watchlist list comes at a time when trade relations between Asia’s third-largest economy and the U.S. are under strain. India raised tariffs on a number of imports in its budget presented in February, while the U.S. has approached the World Trade Organization against India’s export subsidy program apart from threatening tit-for-tat reprisals on tariffs.

Current Account Surplus

Although India enjoys a trade surplus with the U.S., overall the South Asian nation runs a deficit. It’s also been running a current account shortfall for more than a decade and hence fails to meet this criteria.

The gap was at $13.5 billion in October-December, or 2 percent of gross domestic product.

While India needs steady inflows to help bridge the deficit, foreign investors turned net sellers of stocks in December after buying in October and November. Their inflows into both bonds and stocks have been slowing in 2018, raising the risk of a significantly large current account deficit. A Bloomberg survey showed economists forecasting the deficit to widen to 2.5 percent of GDP by the fourth quarter of 2018.

Divya Devesh, Asia FX strategist at Standard Chartered Plc in Singapore, said it is likely that India will drop off the monitoring list in the coming year, given a probable widening of the current-account deficit and more modest capital inflows reducing reserves accumulation.

Currency Intervention

India has seen large foreign exchange inflows over the past few years given the relatively high yields on its assets and a pick up in foreign direct investment. That’s enabled the Reserve Bank of India to build reserves to more than $420 billion.

The central bank conducted net purchases of foreign exchange to the tune of $56 billion in 2017, including activity in the forward market, the Treasury report said. This is equivalent to about 2.2 percent of GDP.

The RBI’s policy stance has been that it steps in to curb excess volatility but not to manage the rate of exchange.

The currency has come under pressure this year and is down 2.4 percent against the dollar since the beginning of January. Being included on the Treasury’s monitoring list will probably mean the central bank will give freer rein to the rupee.

“There could be pressure for the RBI to ease off on their FX intervention,” ANZ’s Goh added.