Recovery in US, EU is good for India

For the second successive month in August, India’s merchandise exports have gone up in the buoyant double digits (over the like period last year). Thanks to the pickup in external demand and the huge fall in the imports of gold, the trade gap has narrowed steeply from a high $17.8 billion in April to $10.9 billion in August.

The mayhem on the market following the US Fed’s talk, in May, of tapering its extra-loose monetary policy had led many to overlook the benefit to emerging markets like India that recovery in the US (and EU and Japan) would bring. Recovery in the developed countries has not only pushed up demand for exports but also shaved off the premium on gold, to which liquidity had flowed, besides to other commodities, depressing its demand in India as a safe hedge against assorted risks. The effects of financial flows, in other words, are not large enough to negate the effects of recovery in the real economy.

Ongoing fiscal correction is another factor working to reduce the trade deficit. The fiscal deficit creates excess demand, feeding inflation and enlarging imports. Political determination to rein it in cannot but lower the external deficit.

However, chicken-hearted reluctance to remove fuel subsidies, and thereby make the fiscal deficit fund investment rather than yet more consumption, is also making the process of fiscal consolidation more corrosive of growth than it needs to be. A depreciated currency does help shore up exports, but note that about half our exports in value terms are import-intensive, and anyway, since 50% of the economic value-added nationally is already on account of cross-border trade, a weakened rupee would more likely than not add to inflationary pressures.

So, concerted efforts are needed to enhance external competitiveness, to sustain the momentum.