India faces looming exacerbation of funding risks as capital deficit increases

Indian Rupee now depreciated by 22.9% since the peak on Aug 1,2011 also a key concern.

Morgan Stanley says that over the last week, INR has depreciated by 2.9% vs. USD. It further added that since the peak on August 1, 2011, it has depreciated by 22.9%.

This high current account deficit made India the most vulnerable to global funding risks, according to Morgan Stanley..

There is also a looming exacerbation of funding risks as the slowdown in capital inflows persists, it said.

“It is estimated that during the 12 months ending June 2012, India’s current account deficit has increased to US$72 billion even as capital inflows slowed to US$57 billion. With the balance of payments (BoP) already in deficit, any sign of risk aversion in the global financial markets revives funding risks and currency depreciation pressures.”

Morgan Stanley believes that India’s policy makers have few options to manage exchange
rate volatility if risk aversion in global financial markets continues.

On the flip side, a suggested sustainable solution would need a reduction of the current account deficit to around 2-2.25% of GDP with tighter fiscal policy, acceptance of slower consumption growth, and implementation of reforms that improve the business climate to encourage FDI inflows.