India's foreign exchange reserves are falling rapidly as foreign investors flee and the country's trade and current account deficits widen. More than $267 billion worth of India's external debt of the total $621 billion is due for repayment in the next nine months. This repayment is equivalent to about 44% of India's foreign exchange reserves. This combination of investors' exodus, widening twin deficits and short-term debt repayments has caused the Indian rupee to hit new lows. Unlike China and other nations that have accumulated large reserves by running trade surpluses, India runs perennial trade and current account deficits. The top contributor to India's forex reserves is debt which accounts for 48%. Portfolio equity investments known as “hot” money or speculative money flows account for 23% of India's forex reserves, according to an analysis published by The Hindu BusinessLine.
|India's Declining Forex Reserves. Source: Business Standard|
Foreign portfolio investors have pulled out a whopping $33.5 billion from equity and $2.1 billion from debt segments of Indian financial markets, for a total net outflow of $35.6 billion from October 2021 to June 2022, according to data compiled by the National Securities Depository Limited. In the first half of this calendar year, the total net outflows were $29.7 billion.
It's not just the FPIs leaving India; a number of multinational companies are also pulling foreign direct investment (FDI) from India. Several big names including German retailer Metro AG, Swiss building-materials firm Holcim, US automaker Ford, UK banking major Royal Bank of Scotland, US motorcycle manufacturer Harley-Davidson and US banking behemoth Citibank have chosen to pull the plug on their operations in India or downsize their presence in recent years.
India's finance ministry has warned of a growing twin deficit problem, with higher commodity prices and rising subsidy burden leading to an increase in both the fiscal and current account deficits. India's June trade deficit widened to a record high of $25.63 billion, mainly due to a rise in crude oil and coal imports, from $9.61 billion a year earlier. India's April-May fiscal deficit was $25.8 billion.
India's current level of forex reserves is enough for less than 10 months of imports projected for 2022-23. But the country has had a structural current account deficit which has been funded by large capital inflows. The accumulation of forex reserves has been due to surplus in the capital account. Since late February, the foreign exchange reserves have declined by $36 billion. India still has large forex reserves but its economy is in the same boat as other emerging markets that run large and worsening trade and current account deficits. With declining forex reserves, India is likely to face headwinds as the US Federal Reserves raises interest rates to fight inflation.
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