India - The Current Account Challenge: Morgan Stanley
What's New? The rising current account deficit is threatening to slow the virtuous cycle of strong capital inflows: sharp fall in real interest rates, stronger consumption growth, above-trend GDP growth attracting higher capital flows. The rise in the current account deficit has caused accrual in foreign exchange reserves (net injection of foreign liquidity) to decline sharply, resulting in short-term interest rates (91-day T-Bill rate) rising by 150 basis points to 6.7% over the past four months.
Conclusion: Our base case view is that the current trend of almost zero net annual foreign liquidity will continue to push real interest rates higher, hurting debt-funded growth. Assuming that government and corporate business investments rise moderately, we think overall growth momentum will still slow from the current 8% to an average of 6.5% over the next four quarters.
Where could we be wrong? We think the key upside risk comes from a rapid and possible change in the government’s policy response, such as large-scale privatization of PSEs and/or increasing infrastructure investments by about US$20 billion per annum (from current US$25-30 billion). Such a response could also help boost FDI inflows and ease the transition to higher sustainable investment-driven growth. Click here for the complete article
