As CAD slides market watchers wonder for how long

The sequential improvement in CAD to $1.4 billion, which comprises 0.2 per cent of GDP in Q4FY23, is seemingly fine for now. Can this be sustained, and if so, for how long, wonder market watchers. Of course, the falling CAD reflects consistent narrowing of trade deficit, helped by declining imports and resilient net service exports. However, volatility has persisted in banking capital and its reversal in Q4 has led to sharp moderation in sequential Capital account surplus at $ 6.5 billion versus $ 28.9 billion and BoP surplus $ 6.5 billion versus $ 11.1 billion per cent, despite healthier FDI and ECB flows. Overall, FY23 CAD/GDP at 2.0 per cent, while higher than FY22, has given an upside surprise versus initial estimates, helped by broadening of services sector exports and better-than-expected trade deficits. For FY24E, Emkay maintains its view that CAD/GDP will moderate further to 1.4 per cent, led by incrementally improving trade deficit amid receding commodity prices, especially oil. Additionally, solid, albeit, moderating services trade surplus will continue to offset the goods trade deficit. CAD-funding could turn tricky in 2HFY24, and BoP surplus is likely to be under $ 10 billion in FY24 versus (-) $ nine billion in FY23.

INR will have a non-linear movement ahead, with a mild depreciating bias, ranging over 80.50-84 in CY23.The CAD fell further sequentially to $ 1.4 billion versus the revised Q3FY23 deficit of $ 16.8 billion and the year-ago deficit of $ 13.4 billion. The sequential improvement was once again led by a decline in trade deficit, from $ 71.3 billion to $ 52.6 billion, with imports declining and non-oil exports rising. Net invisibles declined, with muted growth in software exports, while non-software exports fell marginally after a stellar growth in the three previous quarters. Net remittances declined to $ 24.8 billion, while net investment income at (-) $ 12.6 billion — continued to be a drag amid higher global rates. The capital account surplus moderated to $ 6.5 billion from the revised surplus of $ 28.9 billion in the previous quarter.

Overall, while 4Q BoP stayed positive, it saw a fall, while the basic balance— which reflects durable funding — turned positive for the first time in four quarters. The improvement in CAD could sustain, led by incrementally improving trade deficit amid receding commodity prices, especially oil, along with easing domestic/global demand. The solid, albeit moderating services, trade surplus will continue to partly offset merchandise trade deficit. For FY24E, analysts maintain that CAD/GDP will moderate to 1.4 per cent versus 2.0 per cent for FY23. The goods trade deficit is likely to narrow down to 6.7 per cent of GDP in FY24E, after widening to 7.8 per cent in FY23, while services exports growth will also see sharp moderation amid slowing growth in USA/Europe. Even if we assume stable net FDI flows and improving capital flows, BoP surplus is still likely to clock at (-)$10bn in FY24E versus (-) $9 billion in FY23.