The Hindu Business Line : Copious forex inflows may impact growth, prices

New Delhi, Dec. 7 The Finance Ministry has expressed concern over the copious forex inflows into the country and the possibility of it ‘endangering’ growth and price stability.

“The economy’s capacity to absorb capital inflows…has not risen as fast as the inflows. Increased capital inflows can impact macroeconomic aggregates through the exchange rate, trade and monetary variables,” the Mid-Year Review 2007-08, tabled by the Finance Minister, Mr P. Chidambaram, in Parliament on Friday, has said.

In the face of sustained inflows and the inability to absorb the same, the foreign exchange market has been characterised by excess supply conditions. As in any other market, this has tended to reduce the rupee price of foreign exchange or an appreciation of the rupee. Between October 2007 and October 2006, the rupee has appreciated by 15.1 per cent against the dollar (the main invoicing currency for trade).

Re appreciation

Rupee appreciation, no doubt, makes imports cheaper, “but at the same time could lead to temporary job losses in the export sectors by moderating their growth”, the Review has stated, while admitting that the main brunt has been borne by low import-intensity exports such as textiles, handicrafts and leather. On the other hand, sectors such as gems & jewellery and petroleum, having high import intensity, have recorded higher export growth.

To moderate rupee appreciation, the Reserve Bank of India has had to buy up dollars, leading to a build-up of its forex reserves. But this, in turn, has led to injection of rupees into the system, necessitating calibrated sterilisation through issue of bonds under the market sterilisation scheme (MSS).

“The fiscal cost of sterilisation, envisaged at Rs 3,700 crore in the Budget Estimates of 2007-08, is now being supplemented with Rs 4,500 crore,” the Review has added.

The other major challenges identified by the Review include mounting subsidies on food, fertilisers and fuel, and the need for growth to become more inclusive. In the case of subsidies, the Centre has partially financed them through issue of bonds to oil companies, fertiliser units and the Food Corporation of India.

“These transactions are considered deficit neutral as there is no immediate cash outgo, but have fiscal implications as these add to liabilities (and therefore entail additional interest outgo),” the Review has added.