RBI says financing of current account gap a key challenge

MUMBAI (Reuters) - India faces challenges to finance its record high current account deficit given the risks of large-scale capital outflows, a Reserve Bank of India report said on Thursday.

The current account deficit hit a record high 4.8 percent of gross domestic product in the fiscal year that ended in March, fuelled by rising imports of oil and gold, although it was lower than expectations.

"There is a risk that the capital flows could reverse on a large scale if the risk-off sentiment intensifies causing increased volatility in the Indian markets," the central bank said in its half-yearly Financial Stability Report.

Foreign investors have sold a net $7 billion in Indian debt and equity in June, pulling down the rupee to a record low of 60.76 to the dollar on Wednesday.

The RBI report said external sector vulnerability indicators have shown a worsening trend and that high gold imports and external debt were sources of concern.

"In addition to the magnitude of flows needed to finance the CAD, the composition of flows, particularly dependance on portfolio and short-term debt flows represent an added source of concern," it said.

The central bank also warned companies of the risks to their balance sheets once interest rates start rising from unhedged currency exposures following an increase in overseas borrowings to avail of low-cost funding.

(Reporting by Neha Dasgupta and Shamik Paul; Editing by Tony Munroe and Prateek Chatterjee)