External Sector

The external sector is the portion of a country's economy that interacts with the economies of
other countries. In the goods market, the external sector involves exports and imports. In the financial
market it involves capital flows.
(7.1) Interaction with other economies creates linkages in three ways-
• Consumers and firms have the opportunity to choose between domestic and foreign goods. This is the
product market linkage which occurs through international trade.
• Investors have the opportunity to choose between domestic and foreign assets. This constitutes the
financial market linkage.
• Firms can choose where to locate production and workers to choose where to work. This is the factor
market linkage.

(7.2) Foreign Trade and Domestic GDP

• An open economy is one that trades with other nations in goods and services and, most often, also
in financial assets.
• First, when Indians buy foreign goods, this spending escapes as a leakage from the circular flow of
income decreasing aggregate demand.
• Second, our exports to foreigners enter as an injection into the circular flow, increasing aggregate
demand for domestically produced goods.
• Total foreign trade (exports + imports) as a proportion of GDP is a common measure of the degree
of openness of an economy.

(7.3) Balance of Payment

The balance of payments (BoP) record the transactions in goods, services and assets between
residents of a country with the rest of the world for a specified time period typically a year. It is
prepared on the principles of Double Entry System.

According to the RBI, balance of payment is a statistical statement that shows

1. The transaction in goods, services and income between an economy and the rest of the world,
2. Changes of ownership and other changes in that economy’s monetary gold, special drawing rights
(SDRs), and financial claims on and liabilities to the rest of the world, and
3. Unrequited transfers.
i. Current Account-It deals with current, ongoing, short term transactions like trade in goods,
services (invisible) etc. It reflects the nation’s net income. For instance, if you a buy a laptop
from US, it will be a current account transaction and it will be debit on current account as you
have to pay to US.
Components of Current Account:

• Trade in goods-This account records imports and exports of physical goods. The balance of visible
exports and visible imports is called balance of visible trade or balance of merchan-dise trade

• Services (invisible) – Trade in services denoted as invisible trade (because they are not seen to cross
national borders). Invisibles include both factor income (net income from compensation of
employees and net investment income, the latter equals, the interest, profits and dividends on our
assets abroad minus the income foreigners earn on assets they own in India) and net non-factor
income (shipping, banking, insurance, tourism, software services, etc.).
• Unilateral Transfers- The account includes gifts, grants, remittances received from foreign countries
and paid to foreign countries. Unilateral transfers are of two types: Private Transfer and
Government Transfer. Unilateral receipts and payments are also called ‘Unrequited Transfers’. They
are called so because the flow of transfer is unidirectional or in one direction.
 ii. Capital Account-The capital account records the net change in ownership of foreign assets.
Purchase of assets is a debit on the capital account and sale of assets is a credit on the
capital account.
It deals with capital transactions i.e. those transactions which create assets or liabilities. For instance, if you
buy a stocks or property in US, it will be a capital account transaction and it will be debit on capital account
as you have to pay to US to buy the asset.

Components of Capital Account

1) Foreign Direct Investment (FDI)- FDI is an investment made by a company or individual in the
business of another country in the form of either establishing a new business or acquiring the
existing business. FDIs are made for a longer period as the foreign investor’s controls and owns the
companies in which they have invested.
2) Foreign Portfolio Investment (FPI)- FPI is an investment made by a company or an individual in the
stock markets or debt markets of another country. FPI investors merely purchase equities/shares
/bonds / debentures of foreign based countries. FPIs are mainly made with the objective of making
quick profits by buying and selling shares, bonds and debentures.
3) External Borrowings such as ECB- An external commercial borrowing (ECB) is an instrument used in
India to facilitate Indian companies to raise money outside the country in foreign currency. The
government of India permits Indian corporates to raise money via ECB for expansion of existing
capacity as well as for fresh investments.
4) FCNR accounts (NRI accounts) – an FCNR account is a term deposit account maintained by NRIs in
foreign currency. Thus, FCNR are not savings account but fixed deposit accounts, their term
generally ranging from 1 to 5 years.

Note here that foreign investment is under capital account but dividends and income from investment
comes under current account in the category income from abroad as dividend is transferred periodically,
does not result in creation of asset or liability.
iii. Errors and omissions-Since BOP always balances in theory, all debits must be offset by all
credits and vice versa. In practice, rarely it happens particularly because statistics are
in-complete as well as imperfect. That is why errors and omissions are considered so that
BOP accounts are kept in balance
iv. Official Reserve Account- The category of official reserve account covers the net amount of
transactions by gov-ernment. This account covers purchases and sales of reserve assets
(such as gold, con-vertible foreign exchange and special draw-ing rights) by the central
monetary authority.

What constitutes our Foreign exchange reserves?

1. Gold reserves
2. Foreign currency assets - these are denominated in US Dollars
3. Special Drawing Rights
4. Reserve tranche position in IMF
• Currently, India wants a higher Forex reserve just like China.
• But the downside is that higher Forex is inflationary in nature, which the RBI has to tackle
through its Sterilization Operations.
• Sterilization - Sterilization is a form of monetary action in which a central bank seeks to
limit the effect of inflows and outflows of foreign capital on the money supply. Sterilization
most frequently involves the purchase or sale of financial assets (G-secs) by a central bank.
 • Chief Economic Advisor of the Finance Ministry, citing the example of China, the Economic
Survey 2014–15 said India could target foreign exchange reserves of US$750 billion to $1
trillion.
Balance of Payment (BoP) = Current Account + Capital Account = 0
Why?
Current Account and Capital Account always balance each other because a country always has to pay for its
imports. It does so by exports or other two components of current account. If it cannot, it runs deficit on
current account and has to pay off by drawing off on its assets i.e. running capital account surplus.
What is Current Account Deficit?
It’s simply deficit on all 4 components of current account.
(Export – Import) + Net income from abroad + Net Transfers
(Export – Import) is trade deficit
CAD = Trade Deficit + Net Income from Abroad + Net transfers
Note that Trade Deficit and CAD are not one and the same. Trade deficit is only a component of CAD.

• Balance on current account and balance on capital account are interrelated.

A. A deficit in the current account must be settled by a surplus on the capital account.
B. A surplus in the current account must be matched by a deficit on the capital account.
What is this twin deficit?
Current Account Deficit and Fiscal Deficit together are known as twin deficits and often both reinforce each
other i.e. High fiscal deficit leads to higher CAD and vice versa.

• International economic transactions are called autonomous when transactions are made
independently of the state of the BoP (for instance due to profit motive). These items are called
 ‘above the line’ items in the BoP. The balance of payments is said to be in surplus (deficit) if
autonomous receipts are greater (less) than autonomous payments.
• Accommodating transactions (termed ‘below the line’ items), on the other hand, are determined
by the net consequences of the autonomous items, that is, whether the BoP is in surplus or deficit.
The official reserve transactions are seen as the accommodating item in the BoP (all others being
autonomous).

(7.4) Foreign exchange market

The marketplace where the international foreign currencies are sold and purchased simultaneously
is known as the foreign exchange market or forex market. It provides the platform for banks,
merchants, corporate firms, individual investors, and governments to buy and sell foreign
currencies.
Types of foreign exchange market operations
a) Spot market operations (current market): the market which handles the spot transactions or
current transactions of foreign currencies are known as spot market. They handle only spot
transactions and transactions are of daily in nature.
b) Forward Market (or derivative market): Forward Market deals with future delivery of foreign
exchange instruments. Forward Market transactions determine the forward exchange rate
at which the forward transactions are honoured. It deals with instruments such as currency
futures, currency swaps, foreign exchange forward, and currency options etc.
c) Exchange settlement and dealings: the settlement and billings of foreign exchange are
facilitated with the help of Nostro accounts and Vostro accounts.
• Nostro account is a foreign currency demand deposit account which is maintained by domestic
banks in India with a bank in abroad. The basic meaning of the Nostro account is that our account is
with you.
• Vostro account refers to the domestic currency denominated demand deposit accounts maintained
by the foreign banks which domestic banks. The basic meaning of the Vostro account is that your
account is with us.
(7.4.1) Exchange rates
Exchange rate refers to the price of any currency in terms of another currency. It has two components, the
national currency, and the foreign currency. It can be quoted directly in which the value of the unit foreign
currency is expressed in terms of the national currency. It can also be quoted indirectly in which the value
of the domestic currency is expressed in terms of US dollar or any other foreign currency. The exchange
rate of any two currency is determined by their relative purchasing powers as per the purchasing power
parity theory.

Categories of exchange rate regimes

1. Fixed exchange rate- Under the fixed exchange rate regime, the government or the central bank
has complete intervention in the determination of the currency s exchange rate. This is achieved by
linking the domestic currency to the value of gold or with other major currencies such as US dollar
etc. The government has the responsibility to intervene and maintain the exchange rate equilibrium
in case of any fluctuations due to any reason. The benefit of the fixed exchange rate regime is that
it ensures stability in the exchange rate of the domestic currency. It ensures that the domestic
currency does not appreciate or depreciate beyond the predetermined level. Fixed exchange rate
regime has the disadvantage that it puts a massive burden on the government for maintenance of
 the exchange rate and the government may have to infuse a large amount of money for the
maintenance of the exchange rates. The foreign investment can reduce under the fixed exchange
rate regime as investors may lose their confidence as they believe that the exchange rate of the
domestic currency does not represent the real value of the economy.
2. Floating exchange rate
Under the floating exchange rate regime, the market forces determine the value of domestic currency on
the basis of the forces of demand and supply of the domestic currency. In this system, neither the
government nor the central bank intervenes and the market functions freely to determine the real value of
domestic currency. The floating exchange rate regime establishes trust among the foreign investors which
can help in the increase in foreign investment in the domestic economy. This system ensures that a
country can get easy access to loans from the IMF and other international financial Institutions.
3. Managed floating exchange rate
Managed floating exchange rate regime lies between the fixed exchange rate regime and the floating
exchange rate regime. In the system, the exchange rate of domestic currency is allowed to move freely
based on the market forces of demand and supply. However, during difficult circumstances, the central
banks intervene to stabilize the exchange rate of the domestic currency. It can further be categorised as
following:
a) Adjusted peg system: under this, the central bank tries to hold the exchange rate of domestic
currency until the foreign exchange reserves of that country gets exhausted. After this, the central
bank goes for the devaluation of the domestic currency to move to another equilibrium of the
exchange rate.
b) Crawling peg system: under this, the central bank keeps on adjusting exchange rate based on the
new demand and supply conditions of the exchange rate market. It follows a system of regular
checks and balances and the central bank undertakes small devaluations based on the market
conditions.
c) Clean floating: under this, the exchange rate of domestic currency is based on the market forces of
demand and supply without the government intervention. This system is identical to the floating
exchange rate.
d) Dirty floating: under this, the exchange rate is mainly determined by the market forces of demand
and supply but the central banks occasionally intervened to remove excessive fluctuations from the
foreign exchange markets.
(7.4.2) Exchange rate management in India
The exchange rate system in India has undergone a systematic change since Independence. From the
system of the pegged exchange rate to the present form of market determined exchange rate after
liberalisation in 1993.

• Par value system till 1971: under the system, the external value of rupee was fixed by the
government to the UK pound sterling and gold. In 1966, the Indian Rupee was devalued by 36 %.
• Pegged regime (1971-1992): the value of Indian rupee was pegged to US dollar (1971-1991) and to
the pound sterling (1971-1975). After the breakdown of Bretton woods system and the collapse of
the pound sterling, the value of Indian rupee was pegged on the basis of weighted average of a
basket of currencies of the major trading partners of India. The RBI determined the exchange rate
within a band of plus minus 5 % of this weighted average.
• Partial convertibility after 1991: partial convertibility of Indian rupee was in operation till 1993
under the Liberalised Exchange Rate Management System (LERMS). In this system, 40 % of the
 exchange rate was to be converted on the basis of the official exchange rate, and the remaining 60
% was based on the market determined exchange rate.
• Market based exchange rate Regime since 1993: India adopted the market based exchange rate
since 1993, and the LERMS was removed in the budget 1994. RBI intervenes in the market only to
reduce volatility and sudden appreciation or depreciation of Indian rupee.
(7.4.3) Objectives of exchange rate management in India

• To ensure that the economic fundamentals of the Indian economy are correctly reflected in the
external value of Indian rupee.
• To reduce the volatility in exchange rates for ensuring that changes in the exchange rates take place
in a smooth and orderly manner.
• To maintain a sufficient level of foreign exchange reserves to deal with any external currency
shocks.
• To help in the elimination of market constraints for ensuring the growth of a healthy foreign
exchange market.
• To help in the prevention of the emergence of any destabilizing and speculative activities in the
foreign exchange market.
(7.4.4) Factors affecting the exchange rate of India
The exchange rate of any currency is determined by the supply and demand for the country's currency in
the international foreign exchange market. For example, the value of Indian rupee with respect to the
dollar is determined by the demand of dollar against the Indian rupee. If the demand for dollar increases,
its value increases, and dollar appreciate while Indian rupee depreciates with respect to the dollar. The
exchange rate of Indian rupee is also affected by the following factors:

• Intervention of The Reserve Bank of India: during high volatility in the exchange rate, RBI intervenes
to prevent the exchange rate going out of control. For example, the RBI sells dollars when Indian
rupee depreciates too much, while it purchases dollars when the Indian rupee appreciates beyond
a certain level.
• Inflation rate: the increase in inflation rate can increase the demand for foreign currency which can
negatively impact the exchange rate of the national currency. For example, an increase in the
inflation level of petroleum oil can increase the demand for foreign currency leading to the
depreciation of Indian rupee.
• Interest rate: interest rates on government securities and bonds, corporate securities etc affect the
outflow and inflow of foreign currency. If the interest rates on government bonds are higher
compared to other country forex markets, it can increase the inflow of foreign currency, while
lower interest rates can lead to the outflow of foreign currency. This affects the exchange rate of
Indian rupee.
• Exports and imports: exports and imports affect exchange rate as exports earn of foreign currency
while imports require payments in foreign currency. Thus, if the overall exports increase, the
national currency appreciates, while increases in imports leads to the depreciation of the national
currency.
Apart from these, the Indian foreign exchange market is also affected by factors such as the receipts in the
accounts of exports in invisibles in the current account, inflow in the capital account such as FDI, external
commercial borrowings, foreign institutional investments, NRI deposits, tourism activities etc.

(7.4.5) Exchange Rate Calculation-

• Nominal exchange rate is the price of one currency in terms of number of units of some other
currency. This is determined by fiat in a fixed rate regime and by demand and supply for the two
currencies in the foreign exchange rate market in a floating rate regime. It is ‘nominal’ because it
measures only the numerical exchange value, and does not say anything about other aspects such
as the purchasing power of that currency. In a floating rate regime, an increase in the value of the
domestic currency against other currencies is called an appreciation, while a decrease in value is
called depreciation. In contrast, an increase in the exchange rate in a fixed rate regime is called a
revaluation (for an increase) and a decrease in the exchange value of the domestic currency is
referred to as devaluation.

• Real Exchange Rate- To incorporate the purchasing power and competitiveness aspect and,
therefore, make the measure more meaningful, real exchange rates are used. The real exchange
rates are nothing but the nominal exchange rates multiplied by the price indices of the two
countries. This means the market price level of goods and services, given by indices of inflation. So,
if the price level in the US is higher than the price level in India, then the real exchange rate of the
rupee versus the dollar will be greater than the nominal exchange rate. Suppose the nominal
exchange rate is Rs 50 and US prices are greater than Indian prices, a dollar will buy more in India
than what Rs 50 will buy in the US. So, the real rupee-dollar exchange rate is greater than the
nominal rate. If the real exchange rate is calculated using the price levels of common traded goods,
then it gives a measure of export competitiveness

• Nominal Effective Exchange Rate (NEER) is the weighted average of bilateral nominal exchange
rates of the rupee in terms of foreign currencies. It is simple and direct for example:- one US Dollar
as per NEER will be, say 66 rupees.
• Real Effective Exchange Rate (REER)is the weighted average of nominal exchange rates, adjusted
for inflation. The indices of Nominal Effective Exchange Rate (NEER) and Real Effective Exchange
Rate (REER) are used as indicators of external competitiveness by RBI. A high (low) RER implies that
foreign goods are relatively cheap (expensive) and domestic goods are relatively expensive (cheap).
(7.4.6) Effect of Open economy on National Income
• An increase in demand for our exports is an increase in aggregate demand for domestically produced
output and will increase demand just as would an increase in government spending or an autonomous
increase in investment.
• In contrast, an autonomous rise in import demand is seen to cause a fall in demand for domestic output
and causes equilibrium income to decline.
• The Degree of Openness of an economy = (Exports + Imports)/GDP
• The more open the economy, the smaller the effect of Fiscal stimulus on income and the larger the
adverse effect on the trade balance. For example, suppose a country has a ratio of imports to GDP of
around 70 per cent. This implies that when demand increases, roughly 70 per cent of this increased
demand goes to higher imports and only 30 per cent to an increase in demand for domestic goods. An
increase in Government spending is thus likely to result in a large increase in the country’s trade deficit and
a small increase in output and income, making domestic demand expansion an unattractive policy for the
country.

(7.4.7) Effect of Change in Prices

Rise in prices of domestic goods as compared to foreign goods (assuming exchange rate remains constant)
would make domestic goods uncompetitive leading to fall in exports. Which eventually lead to fall in
domestic output and GDP growth. The opposite occurs when domestic good prices fall comparatively.
(7.4.8) Exchange Rate Changes:
Rise in exchange rate would make domestic products cheaper in International market and thus would
increase exports, whereas fall in exchange rates makes domestic products uncompetitive.

(7.5) Currency Convertibility

For the rapid growth of world trade and capital flows between countries convertibility of a currency is
desirable. Without free and unrestricted convertibility of currencies into foreign ex-change trade and
capital flows between countries cannot take place smoothly. By convertibility of a currency we mean
currency of a country can be freely converted into foreign exchange at market determined rate of
exchange that is, exchange rate as determined by demand for and supply of a currency. For example,
convertibility of rupee means that those who have foreign exchange (e.g. US dollars, Pound Sterling etc.)
can get them converted into rupees and vice-versa at the market deter-mined rate of exchange. Under
convertibility of a currency there are authorised dealers of foreign exchange which constitute foreign
exchange market.
Current account convertibility relates to the removal of restrictions on payments relating to the
international exchange of goals, services and factor incomes, while capital account convertibility refers to a
similar liberalization of a country’s capital transactions such as loans and investment, both short term and
long term.
Current account is today fully convertible (operationalized on August 19, 1994). It means that the full
amount of the foreign exchange required by someone for current purposes will be made available to him
at the official exchange rate and there could be an unprohibited outflow of foreign exchange (earlier it was
partially convertible).
(7.5.1) Current Status of Capital Account Convertibility

(a) Capital account convertibility exists for foreign investors and Non-Resident Indians (NRIs) for
undertaking direct and portfolio investment in India.

(b) Indian investment abroad up to US $ 4 million is eligible for automatic approval by the RBI
subject to certain conditions.

(c) In September 1995, the RBI appointed a special committee to process all applications involving
Indian direct foreign investment abroad beyond US $ 4 million or those not qualifying for fast track
clearance.

The Tarapore Committee recommended that, before adopting capital account convertibility (CAC),
India should fulfil three crucial pre-conditions:

(i) Fiscal deficit should be reduced to 2% per cent of GDP. The Government should also set up a
Consolidated Sinking Fund (CSF) to reduce Government debt.

(ii) The Governments should fix the annual inflation target below 4 per cent. This was called
mandated inflation target — and give foil freedom to RBI to use monetary weapons to achieve the
inflation target.
(iii) The Indian financial sector should be strengthened. For this, interest rates should be folly
deregulated, gross non-paying assets (NPAs) should be reduced to 5 per cent, the average effective
CRR should be reduced to 3 per cent and weak banks should either be liquidated or be merged with
other strong banks.

(7.5.2) Advantages

• Sign of stable and mature markets.

• Increased liquidity in financial markets.

• Improved employment and business opportunities

• Onshore rupee market development. Making the rupee fully convertible would enable
greater trades and global flow of Indian currency, helping national markets with improved
liquidity, better regulatory purview, and reduced dependence and risks from offshore
market participants.
• Easy access to foreign capital. Local businesses can benefit from easy access to foreign loans
at comparatively lower costs—low interest rates. Indian companies currently have to take
the ADR/GDR route to list in foreign exchanges. After full convertibility, they will be able to
directly raise equity capital from overseas markets.

• Better access to a variety of goods and services- Full convertibility will open doors for all
global players to the Indian market, making it more competitive and better for consumers
and the economy alike.

• Progress in multiple industry sectors- Sectors like insurance, fertilizers, retail, etc. have
restrictions on foreign direct investments (FDIs). Full convertibility will open the doors of
many big international players to invest in these sectors, enabling much-needed reforms
and bringing variety to the Indian masses.

(7.5.2) Disadvantages
• High volatility- Amid a lack of suitable regulatory control and rates subject to open markets
with large number of global market participants, high levels of volatility, devaluation, or
inflation in forex rates may happen, challenging the country’s economy.

• Foreign debt burden- Businesses can easily raise foreign debt, but they are prone to the risk
of high repayments if exchange rates become unfavourable. Imagine an Indian business
taking a U.S. dollar loan at a rate of 4%, compared to one available in India at 7%. However,
if the U.S. dollar appreciates against Indian rupee, more rupees will be needed to get same
number of dollars, making the repayment costly.

• Effects on balance of trade and exports- A rising, unregulated rupee makes Indian exports
less competitive in the international markets. Export-oriented economies like India and
China prefer to keep their exchange rates lower to retain the low-cost advantage. Once the
regulations on exchange rates go away, India risks losing its competitiveness in the
international market. (For more, see: The Reasons Why China Buys U.S. Treasury Bonds.)
 • Lack of fundamentals- Full capital account convertibility has worked well in well-regulated
nations that have a robust infrastructure in place. India’s basic challenges—a high
dependence on exports, burgeoning population, corruption, socio-economic complexities,
and challenges of bureaucracy—may lead to economic setbacks post-full rupee
convertibility.

Is India Ready?
India is expected to become a truly global economy in the near future, and it will need fuller
integration into the global economic system. Making the rupee fully convertible is an expected step
in that direction.

How soon India can move on this depends on many conditions being met including low levels of
non-performing assets (NPA), fiscal consolidation, optimum levels of forex reserves, control on
inflation, manageable current account deficit (CAD), robust infrastructure for regulating financial
markets, and efficient monitoring of financial organizations and businesses.

(7.6) Foreign Trade

Top 5 export destinations of India (2018-19)
1. USA- 15.9%
2. UAE- 9.1%
3. China- 5.1%
4. Hongkong- 3.9%
5. Singapore- 3.5%

Top 5 import sourced of India (2018-19)

1. China- 13.7%
2. USA- 6.9%
3. UAE- 5.8%
4. Saudi Arab- 5.5%
5. Iraq- 4.4%

The New foreign trade policy 2015-20 was unveiled on 1st April 2015. It provides a roadmap for the trade
engagement of India in future. The new trade policy focuses on supporting both the manufacturing sector
and the service sector. It puts emphasis on the improvement of India's ease of doing business. The new
policy provides a five-year roadmap for employment generation, and value addition to the Indian economy.

(7.6.1) Objectives of the New foreign trade policy 2015-20

• To increase India's merchandise and services exports from US$ 465. 9 billion in 2013-14 to US$ 900
billion by 2019-20.
• To increase India's share in the world exports to 3.5 percent from the present figure of 2%.
• To ensure stable and sustainable policy environment for promoting merchandise and services trade.
• Linking the rules, procedures, and incentives for the imports and exports with other government
schemes like Make in India, skill India, Digital India etc for the purpose of the export promotion.
• To diversify India's export basket by ensuring the different sectors of Indian economy are able to
achieve Global competitiveness for export promotion.
 • To improve India's Global trade engagement and expand its markets and improve its integration with
major regions which will ultimately increase the demand for India's exports. This would contribute to
the Indian government's flagship schemes such as Make in India initiative etc.
• To provide a regular appraisal mechanism for rationalizing the imports and reducing the trade
imbalances.

(7.6.2)Salient features of the New foreign trade policy 2015-20

Merchandise Exports from India Scheme (MEIS):

• In the New foreign trade policy 2015-20, five different schemes which include the focus product
scheme, market-linked focus product scheme, focus market scheme, agriculture infrastructure
incentive scrip, Vishesh Krishi and Gram Udyog Yojana have been merged to into a single
Merchandise Exports from India Scheme (MEIS) for promoting the Merchandise Exports.
• The government provides incentives in the form of duty scrips as the percent of the Free On Board
(FOB) value of Exports. The government has added 110 new items in the coverage of the MEIS
scheme. For the 2228 items, the incentive rate per country has been increased.
• The notified goods which are exported to the notified market will get incentives on the FOB value of
Exports. The countries have been grouped into the following three categories for providing
incentives.
o Category A: traditional markets
o Category B: emerging and focus markets
o Category C: other markets
Service Exports from India Scheme (SEIS):

• A new scheme the Service Exports from India Scheme (SEIS) has been launched which has replaced
the erstwhile scheme called Served From India Scheme (SFIS).
• The India based service providers ( and not just the Indian service providers ) will get the benefits of
the scheme based on the net foreign exchange earned by them.
• The incentives for the MEIS and SEIS schemes will also be extended to the units located in the special
economic zones.
Transferable duty scrips:

• The literal meaning of scrip refers to a form of credit. Under the New foreign trade policy 2015-20,
the government will provide duty free scrips under various export promotion schemes.
• Exporters will be provided incentives at a certain percentage of their export value. Exporters can use
these incentives for paying the customs duties on the imported inputs.
• These scrips can either be transferable or non-transferable. The transferable scrips can be sold in a
market at a discount. The non-transferable scrips which come with actual user condition can be used
by the holder for importing the input and capital goods duty-free. The New foreign trade policy 2015-
20 has made all the duty free scrips transferable.
Status Holders:

• The business leaders who have performed well in the international trade and have contributed to
India's foreign trade have been recognized as a status holder. They have been given special privileges
for facilitating their trade transactions and reducing the transaction costs and time.
 • The merchants, manufacturer exporters, export-oriented units (EOUs), units located in the special
economic zones, service providers, agriculture export zones (AEZs), Software technology parks,
electronic hardware technology parks, and the biotechnology parks have been recognized as status
holders.
• The status holders get many benefits such as self-declaration for customs clearances, exception from
some documents and other incentives.
Boost to make in India

• The export obligation under the Export Promotion Capital Goods (EPCG) scheme in the case of the
capital goods prepared from domestic manufacturers has been reduced to 75% from 90%. This will
promote the domestic capital goods manufacturing industry.
• The New foreign trade policy 2015-20 has proposed to provide higher rewards to the products with
higher domestic content compared to products with higher import content.
Trade facilitation and the ease of doing business

• Under the new foreign policy, online filing of documents, paperless trade, simplification of
procedures, online inter-ministerial consultations, use of digitally signed documents, digitization and
e-governance etc has been proposed. All these are aimed at improving the trade facilitation and ease
of doing business.
Other initiatives

• The New foreign trade policy 2015-20 encourages the export of defence goods from India to other
countries.
• The New foreign trade policy promotes E-Commerce exports and provides export benefits up to Rs
25000 per consignment.
• It provides export benefits for handloom products, Leather footwear, customized fashion garments,
books, and periodicals etc.

Mid-term review of the New foreign trade policy 2015-20

The mid-term review of to the New foreign trade policy 2015-20 was released in December 2017 by the
minister of commerce and industry, Suresh Prabhu. Important highlights of the mid-term review of the New
foreign trade policy 2015-20 are:

• The export incentives under the MEIS scheme for the labour intensive and MSME sector has been
increased by 2%. The incentives for the readymade garments and made ups in the labour-intensive
textile sector has been increased from 2 % to 4%.
• The validity period of the duty scrips has been increased from 18 months to 24 months. The GST rates
charged on the sale and transfer of scrips is now 0%.
• A new scheme of self-assessment based on duty free procurement of inputs which are required for
export promotion has been introduced. This scheme is based on self-certification which will
ultimately improve the ease of doing business.
• To provide a single window contact point for resolving the foreign trade related issues, the
CONTACT@DGFT service has been launched.
• The Department of Commerce has created a new Logistic division to develop and coordinate the
integrated development of the logistics sector. This has to be achieved by policy changes,
improvement in the procedures and filling up the gaps and bottlenecks etc.
Analysis of the New foreign trade policy 2015-20

• In the New foreign trade policy 2015-20, the government has taken initiative for export promotion
through providing export incentives and making the duty-free scrips transferable as per the Global
Norms. In this policy, the export obligation under the EPCG scheme has been reduced which is
expected to boost the Make in India scheme and make Indian exports more competitive. The New
foreign trade policy 2015-20 aims at doubling the exports from India to $900 billion by 2020 which
requires the exports growth at around 14% per annum. This seems difficult due to the slow recovery
of the global economy. The New foreign trade policy 2015-20 in overall is a good effort by the
government but further efforts are required to promote the manufacturing sector and the export of
manufactured goods from India.

(7.7) Miscellaneous concepts

• Reserve Tranche- is a portion of the required quota of currency each member country must
provide to the International Monetary Fund (IMF) that can be utilized for its own
purposes—without a service fee or economic reform conditions.
Reserve tranche is the component of a member country’s quota with the IMF that is in the
form of gold or foreign currency. For any member country, out of the total quota, 25%
should be paid in the form of foreign currency or gold. Hence this is called as reserve
tranche or gold tranche. The remaining 75% can be in domestic currencies and it is called
credit tranche. The IMF is funded through its members and their quota contributions. The
reserve tranche is basically an emergency account that IMF members can access at any time
without agreeing to conditions or paying a service fee. In other words, a portion of a
member country’s quota can be withdrawn free of charge at its own discretion.

• Liberalized Exchange rate management system (LERMS) - India announced the Liberalized
Exchange Rate Mechanism System (LERMS) in the Union Budget 1992–93 and in March
1993 it was operationalized. India delinked its currency from the fixed currency system and
moved into the era of floating exchange-rate system under it. LERMS was a dual exchange
rate system which was followed till 1994, after which India became fully current account
convertible.

• Dutch disease – Due to the discovery of some novel resource in a country, there is a huge
inflow of foreign currency which causes exchange rates to appreciate which adversely
affects exports and slows down the economy.

• Qualified Foreign Investors(QFIs) - The Qualified Foreign Investor (QFI) is sub-category of

Foreign Portfolio Investor and refers to any foreign individuals, groups or associations, or
resident, however, restricted to those from a country that is a member of Financial Action
Task Force (FATF) or a country that is a member of a group which is a member of FATF and a
country that is a signatory to International Organization of Securities Commission’s (IOSCO)
Multilateral Memorandum of Understanding (MMOU).

• Special Drawing Rights- Special Drawing Rights, often referred to as SDRs, are an interest-
bearing international reserve asset used by the International Monetary Fund (IMF). The SDR
is based on a basket of currencies and comes with the currency code XDR, which it can also
be referred to by. The SDR serves as the unit of account for the IMF for internal accounting
 purposes. Currently, the SDR basket consists of US dollar, Euro, Chinese Renminbi (RMB)
{added in 2016), Japanese Yuan and British Pound. These are arranged in decreasing order
of weights.

• NRE accounts - Non-Resident External Rupee Account (NRE), an Indian rupee-denominated

account in India. This account is available in savings, fixed and recurring deposits. The NRE
account gives account holders high liquidity and the advantage of benefitting from
investments in India. As both the principal amount and the interest earned on NRE
accounts are exempt from tax in India, this account also proves to be a great way to invest
earnings in instruments such as fixed deposits and stocks, and earn returns. Further, the
principal and interest earned can be freely repatriated from India to the country of
residence of the account holder.

• NRO accounts - Like NRE accounts, Non-Resident Ordinary Rupee Accounts (NRO) are also
rupee-denominated accounts. These accounts are designed for those who wish to deposit
the earnings in India arising from rent, dividends, salaries etc. Unlike NRE accounts, interest
 earned on this account is taxed at the rate of 30% (plus surcharge) and other applicable
taxes in India. Apart from different tax treatment, the amount of money that can be
repatriated also varies.

• Foreign currency derivative - A foreign currency derivative is a financial derivative whose

payoff depends on the foreign exchange rates of two (or more) currencies. These
instruments are commonly used for hedging foreign exchange risk or for currency
speculation and arbitrage. Examples are FX future contracts, FX forward contracts etc.
• Hard Currency - A hard currency is a monetary system that is widely accepted around the
world as a form of payment for goods and services. It usually comes from a country that has
a strong economic and political situation. A hard currency is expected to remain relatively
stable through a short period of time, and to be highly liquid in the forex or foreign
exchange (FX) market. For example USD, Euro, Pound, Yen etc.
• Soft Currency - A soft currency is one with a value that fluctuates, predominantly lower, as a
result of the country's political or economic uncertainty. As a result of this currency's
instability, foreign exchange dealers tend to avoid it. In financial markets, participants will
often refer to it as a "weak currency." For example, Indian Rupee.
• Hot Currency - Hot money is currency that moves regularly, and quickly, between financial
markets, so investors ensure they are getting the highest short-term interest rates available.
Hot money continuously shifts from countries with low-interest rates to those with higher
rates; these financial transfers affect the exchange rate if there is a high sum and also
potentially impact a country’s balance of payments.