India’s merchandise trade deficit narrowed further to a 5-month low of USD 19.8 bn in Dec-23 from USD 20.6 bn in Nov-23. The sequential correction was entirely on account of exports, which posted a faster increase vis-à-vis imports. 

Merchandise exports

Merchandise exports delivered a better performance and stood at USD 38.5 bn (13.5% MoM and 1.0% YoY) in Dec-23. 

1. Of the 14 key export sub-categories, 9 registered an annualised expansion. The highest growth was clocked by Ores & Minerals (+82.1%), Electronic Items (+14.4%) and Gems & Jewellery (14.1%). 
2. Core exports (i.e., Exports excluding Petroleum and Gems & Jewellery exports) rose to a 4-month high of USD 28.7 bn in Dec-23 from USD 23.6 bn in Nov-23 driven by prominent increase in case engineering goods (+USD 2.2 bn), Chemical products (+USD 0.8 bn) and agri commodities (+USD 0.5 bn).
3. Drag on exports in annualised terms was led by Petroleum Products (-17.6%), Leather (-10.8%), Marine Products (-10.6%), and Textiles (-4.6%). This marked the 11th consecutive month of contraction in petroleum exports, the second worst performer to Leather exports – which on annualised basis remained in contraction for 13 months straight. 

Merchandise Imports

Merchandise imports stood at USD 58.3 bn (6.9% MoM and -4.9% YoY) in Dec-23. 

1. At a granular level, 8 of the 15 sub-categories registered an annualised expansion within imports. Electronic items, clocking a growth of 48.5%YoY emerged as the best performer, followed by Gems & jewellery (39.7%).
2. Core imports rose to USD 38.0 bn from USD 34.6 bn in Nov-23, led by sequential increase predominantly in electronic goods imports (+USD 2.9 bn) 
3. Drag on imports was led by Transport Equipment (-55.1%YoY), Project Goods    (-30.8%), Agriculture & Allied Products (-24.4%), Petroleum Products (-22.8%), and Chemicals (-21.6%). 

Trade Balance

The entire sequential correction in monthly merchandise trade deficit was on account of Core, as Non-core deficit widened marginally (to USD 10.5 bn from USD 9.6 bn in Nov-23). Within core -

Services Trade

Outlook

After the record high trade deficit in Oct-23, normalisation has continued to transpire over the months of Nov-Dec-23. This has been largely enabled by a moderation in global commodity prices, despite escalation of geopolitical risks. Brent crude price has steadily come off from a peak of close to USD 94 pb in Sep-23, to USD 77-78 levels in Dec-23/Jan-24 so far (on average monthly basis). 

From an outlook perspective, we continue to believe that merchandise trade deficit in H2 FY24 would be wider in comparison to H1 FY24, owing to sluggish growth in global trade volumes, domestic export restrictions on select agricultural commodities and India’s strategic advantage of importing relatively cheaper Russian oil dissipating. 

However, the recent downside on commodity prices has offered incremental comfort to our past CAD view. As such, we revise our FY24 current account deficit forecast lower to USD 47 bn (from USD 67 bn earlier), at 1.3% of GDP. Having said so, tensions in the Red Sea region remain a developing story on watch. Persistence or escalation of tensions could manifest more materially over the coming months on India’s trade performance via increase in shipping costs. 

Rupee outlook

The Indian rupee closed CY23 at 83.21, registering a modest weakness of 0.6% against the US dollar. This marks the sixth consecutive year (on CY basis) of loss for the INR. However, recent price action suggests some attempt to show a bias for mild appreciation, with INR currently trading close to 83.0-83.1 levels. 

Such effort to consolidate with a bias for mild appreciation is in line with our near-term view (USDINR trading close to 82.5 levels by Mar-24). The normalization of the size of monthly merchandise trade deficit after a spike in Oct-23 now seems to be complete, aided by a moderation in most commodity prices (the generic Bloomberg Commodity Index has fallen in each of the last 4-months).

The moderation in trade deficit pressures has coincided with a strong pick-up in portfolio inflows (USD 14.4 bn since Nov-23) on account of build-up of expectations with respect to the beginning of interest rate cut cycle in the US (the fed funds futures market is attaching 71% probability of a rate cut in Mar-24) and market positioning ahead of India’s inclusion in EM Bond Index by JP Morgan, starting Jun-24.  

Having said so, we would we watchful of the development of two risks:

• Signs of moderation in services trade surplus after a strong run for last 2-years; gross services receipts have dropped by 10.3% in Dec-23. 
• Recent geopolitical disturbances in the Red Sea region have started to impact global maritime trade activity with daily transit trade volume registering ~42% decline (as of Jan 8th) since the terrorist attacks in mid Dec-23. As a result, maritime trade activity is getting diverted to Cape of Good Hope, that has seen a ~48% increase in daily transit volume in the corresponding period. The longer trade route will have adverse impact with time and cost overruns.

Table 1: Highlights of India’s trade balance*

*Note: Numbers may not add up due to rounding off and revision in headline exports and imports

Chart 1: Exports in Dec-23 posted a healthy sequential and mild annualised growth