India's September trade deficit narrows

India's September merchandise trade deficit narrowed to USD 10.4bn from USD 12.4bn the month before, with both legs of trade continuing their weak run. Exports contracted by a sharp 24.3% YoY in September, taking the Apr-Sep cumulative growth down 17.6%. Imports tumbled 15% in September, dragged by a shrinking oil import bill (-54.5%) and lower non-oil purchases, primarily gold. Gold imports halved in nominal terms, slipping 45% YoY in September, though seasonal demand next month is likely to stoke a rebound in this component. Non-oil non-gold imports, routinely seen as a proxy for the underlying demand conditions, continued to flatline in nominal terms, slipping down a modest -1.1% in first half of fiscal year FY15/16 (Apr-Sep). 

While lower commodity prices have helped to depress imports, a concurrent weak run in exports has negated a potential boost to the trade balance. This dismal exports performance could be partly attributed to the strong appreciation in the US dollar understating the real growth in the sector. Equally responsible are sluggish external demand, a drop in commodity earnings and real rupee gains. 

Of note, falling commodity prices have turned into a double-edged sword particularly on the trade front. Petroleum exports, accounting for about a fifth of the exports earnings, fell 59% YoY in September. Iron ore exports remained weak at -35% and rice fell by 6%, while cotton yarn nudged up a modest 5%. India's position on free trade agreements is also under scrutiny after the Trans-Pacific Partnership agreement (TPP). In this light, the government's target to raise India's exports from USD 310bn in FY14/15 to USD 900bn over the next five years is likely to be an uphill task. In addition, weak exports will also weigh on growth. Exports account for a quarter of the GDP, but with imports' weightage also equally strong, net exports have persistently been a drag on growth. 

"Overall, factoring in our estimates for weak goods exports, service trade earnings (-4% in Apr-Aug 15 vs last year) and steady transfer incomes, we estimate the current account deficit to widen modestly to -1.6% of GDP in FY15/16 from -1.4% in FY14/15", says DBS Group Research.

But this is unlikely to rock the boat, as at current levels the deficit is still below the pain threshold of -2.5% and funded by ample portfolio inflows and long-term foreign direct investments. A narrower current account deficit will also reduce external funding risks, especially ahead of the much-anticipated monetary tightening by the US Fed.