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Current account back to surplus

* The current account reverted to a surplus of USD6.5bn (0.9% of GDP) in Q1FY22 from a deficit of USD8.1bn (1.0% of GDP) in Q4FY21, aided by a narrowing trade deficit. The services surplus improved sharply, thanks to a robust performance of computer and business services.

* The capital account also improved sequentially amid healthy FDI flows even as FPI and ECB flows faded, leading to sharp gain in BoP surplus to USD 31.9bn after mere USD 3.4bn in preceding quarter. The basic balance (CAD+FDI), which reflects durable current account funding, improved sharply sequentially to a surplus of USD18.4bn from a deficit of USD5.5bn in Q4FY21.

* Going ahead, we see a gradual recovery and elevated commodity prices pressurizing the import bill. We expect import growth exceeding export growth, while higher losses in oil-led terms of trade imply that the current account-to-GDP will be back to a deficit in FY22. With Brent now averaging USD71.5/bbl vs. USD66/bbl earlier, we raise our FY22 CAD/GDP estimate to 1.1% from ~0.85%. However, healthy capital flows will ensure FY22E BoP remains in a surplus of USD48bn.

* Net positive BoP dynamics and RBI’s FX war-chest should help keep a mild upward bias on INR against USD. But the overall trajectory of INR will be caught between mixed external sector terms of trade, gradually changing global risk environment and tighter financial conditions, and RBI’s tactically positioned FX stance. We see USD-INR in the 73.00-75.50 range in the near term

Q1FY22 current account back to surplus of 0.9% of GDP on account of lower trade deficit

The current account reverted to a surplus of USD6.5bn (0.9% of GDP) in Q1FY22 as against a deficit of USD8.1bn (1.0% of GDP) in Q4FY21 and a surplus of USD19.1bn (3.7% of GDP) a year ago. The sequential easing in the current account was primarily due to a contraction in the merchandise trade deficit to USD30.7bn (4.4% of GDP) from USD41.7bn (5.4% of GDP) in the preceding quarter, reflecting demand curbs due to Covid-II even as oil prices rose.

Imports contracted 3.7% QoQ to USD128.1bn, while exports were record high and inched up 6.7% QoQ to USD97.4bn in Q1FY22. Turning to invisibles, there was a sharp improvement on a sequential and YoY basis, with net services receipts increasing on the back of a robust performance of net exports of computer and business services. Net remittances were steady QoQ at USD18.9bn. Net income drag decreased further sequentially to (-) USD7.5bn from (-) USD8.7bn, albeit similar to (-) USD7.7bn in Q1FY21.

Q1FY22 capital account improved on FDI flows, leading to healthy BoP surplus

A material sequential gain in capital account in Q1FY22 (USD25.8bn; 3.7% of GDP) from Q4FY21 (USD 12.3bn; 1.6% of GDP) was largely due to a sharp increase in FDI at USD11.9bn (USD2.7bn in Q4FY21), while FPI and ECB flows faded to USD0.4bn and USD0.9bn, respectively. Overall, BoP surplus in Q1FY22 rose materially to USD31.9bn (USD3.4bn prior). The basic balance (CAD+FDI), which reflects durable current account funding, is now back to a surplus of USD18.4bn (deficit of USD5.5bn prior).

FY22 current account/GDP to reverse to deficit of 1.1% amid normalization and oil effect

After the hit to domestic demand post Covid-II, growth seems to have normalized Q2FY22 onwards, aided by tailwinds of a smart global recovery and steady vaccination progress. New global headwinds and persistent supply constraints could, however, dent the cyclical global recovery. We revise our FY22 CAD/GDP estimate higher by 0.3ppt to ~1.1% (USD35bn), assuming Brent at USD71.5/bbl vs. USD66/bbl earlier.

We see import growth exceeding export growth in FY22, with high losses in oil-led (and high commodities in general) terms of trade implying that the current account-to-GDP will return to a deficit of ~1.1% from a surplus of 0.9% in FY21. We estimate that a USD10/bbl rise in crude oil prices increases India’s CAD by ~USD9bn. Though, healthy capital flows will ensure FY22E BoP surplus of USD48bn (USD87.3bn FY21).

Positive BoP dynamics and RBI’s war chest of FX reserves should ideally help keep a mild upward bias on INR against USD. However, global headwinds and tighter global financial conditions may imply that foreign investors start asking for a higher risk premium from EM and could start pressurizing EM assets, including India.

We note that India’s real rates have been negative and among the lowest in the EM pack. Besides, the continued tactical intervention by the RBI will ensure INR remains somewhere in the middle of the EM pack in terms of spot returns. Overall, INR performance will be caught between mixed external terms of trade, gradually changing global risk environment and the RBI’s stance. We watch out for any potential news on India’s inclusion in global bond indices, which could spur debt flows.

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