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| The rupee’s decline in 2025 is driven primarily by weakening capital inflows, not current account pressures.(Representing ai image) |
Why the Rupee Has a Capital Account Problem: The Real Reason Behind Its Recent Slide
- Dr.Sanjaykumar pawar
Table of Contents
- Introduction: The Rupee’s Sudden Weakness—Why Now?
- The Basics: Current Account vs Capital Account (Simple Explanation)
- India’s Current Account: A Long-Term Deficit, But Not the Culprit
- The Invisible Engine: How Remittances & Services Keep India Afloat
- The Real Shock: India’s Capital Account Crisis
- Where Has the Foreign Investment Gone?
- Foreign Direct Investment (FDI)
- Foreign Portfolio Investment (FPI)
- Other Capital Flows
- Why Foreign Capital Is Drying Up Despite High GDP Growth
- What the Data Suggests: Visuals & Interpretation
- Implications for the Rupee and the Indian Economy
- What Could Turn the Tide? Policy Options Ahead
- Conclusion: A Weak Rupee Is a Capital Story, Not a Current Account Story
- FAQs
1. Introduction: The Rupee’s Sudden Weakness—Why Now?
Over the last year, the Indian rupee has sharply depreciated against major global currencies.
- USD: 84.73 → 89.92
- Euro: 89.20 → 104.82
- Pound: 107.76 → 120
- Yuan: 11.66 → 12.72
For a country whose economy has been growing at over 8%, this sharp decline seems counterintuitive.
Many assume that a weakening rupee is automatically tied to a widening trade deficit or a deteriorating current account deficit (CAD). However, the current scenario in India tells a different story. In fact, India’s current account deficit has been narrowing, falling from $25.3 billion during April–September 2024 to $15.1 billion in the same period of 2025. Clearly, the rupee’s slide is not driven by traditional trade imbalances.
So, what’s really causing this sudden vulnerability? The answer lies in India’s capital account. Specifically, the slowdown is a result of foreign capital inflows drying up. Investments from global investors, which typically help stabilize the rupee, have slowed down due to global economic uncertainties, rising US interest rates, and changing risk sentiments. As a result, even with strong economic growth and a narrowing CAD, the rupee faces pressure.
Understanding the rupee’s weakness requires looking beyond trade balances and examining capital flows, investor sentiment, and global economic trends. In this blog, we break down the factors behind the rupee’s depreciation, supported by real data, clear visualizations, and fresh economic insights. By unpacking these dynamics, readers can gain a nuanced understanding of why India’s currency is under pressure—even in times of robust growth.
2. The Basics: Current Account vs Capital Account (Simple Explanation)
Let’s simplify the complex world of international finance. Understanding the current account vs capital account is key to knowing why the Indian rupee is falling.
Current Account = Everyday Trade + Services + Remittances
The current account tracks how much India earns and spends on day-to-day international transactions:
- Goods: Exports vs imports
- Services: IT, finance, and business services
- Transfers: Money sent home by NRIs
- Income flows: Interest, dividends, and other earnings
Think of it like a household’s monthly salary and spending—it shows if India is earning more than it’s spending abroad.
Capital Account = Investments + Loans + Foreign Money Coming In
The capital account tracks foreign money flowing into India for investments and loans:
- Foreign Direct Investment (FDI): Factories, infrastructure
- Portfolio Investment: Stocks, bonds
- External loans and NRI deposits
This is like a household receiving long-term investments or cash injections—it can help cover shortfalls from regular spending.
Why Does the Rupee Fall?
When more dollars leave than enter, India dips into its forex reserves, putting pressure on the rupee. Currently, India’s current account is healthy, but the capital account is weak—foreign investment is slowing, causing the rupee’s recent depreciation.
3. India’s Current Account: A Long-Term Deficit, But Not the Culprit
India has historically run a current account deficit (CAD), with only four years in the last 25 showing a surplus: 2001–02 ($3.4 bn), 2002–03 ($6.3 bn), 2003–04 ($14.1 bn), and 2020–21 ($23.9 bn). These surpluses are rare exceptions, not the norm, reflecting structural aspects of India’s trade and capital flows.
But the CAD Today Is Not Exploding
Contrary to popular belief, the current account deficit is not driving the rupee’s weakness in 2025. Despite a rising trade deficit, the CAD has been stable or even declining, thanks largely to strong service sector earnings and remittances from overseas Indians. For instance, the CAD fell from $25.3 billion in April–September 2024 to $15.1 billion in the same period of 2025.
This highlights a crucial point: the rupee’s depreciation is not a reflection of worsening trade or current account fundamentals. Instead, it points to factors in the capital account, such as slowing foreign investments and global risk sentiments. Understanding this distinction is key to analyzing why the Indian rupee is falling despite solid economic growth and robust CAD management.
4. The Invisible Engine: How Remittances & Services Keep India Afloat
India’s goods trade deficit has been a persistent challenge, hitting a massive $286.9 billion in 2024–25. On the surface, this might suggest a worrying strain on the country’s current account deficit (CAD). However, the real story lies in the invisible economy—the earnings from services and remittances that help balance the books.
Invisibles Surplus: India’s Unsung Hero
India’s invisibles surplus refers to income from sectors that don’t involve physical goods but contribute significantly to the economy. These include:
- IT services and software exports
- Global capability centers (GCCs) of multinational corporations
- Healthcare exports, including doctors and nurses working overseas
- Remittances from the Indian diaspora, which consistently remain among the world’s highest
- Financial and business services, ranging from consulting to fintech solutions
The impact is visible in the numbers:
- 2007–08: $75.7 billion
- 2021–22: $150.7 billion
- 2024–25: $263.9 billion
This invisible income has kept the CAD in check, despite India’s enormous merchandise trade gap. It acts as a cushion, preventing the deficit from spiraling into a critical problem.
Analogy: Factory vs. Office
Think of India’s merchandise trade as a low-performing factory: expensive to maintain, with output lagging behind global peers. In contrast, invisibles are like an ultra-efficient office building, consistently earning high-value income with minimal overhead. IT services, global capability centers, and remittances generate steady inflows, providing a financial buffer that keeps the economy stable.
Why This Matters
The strength of India’s services and remittances sector underscores a key lesson: a strong economy does not rely solely on goods exports. By diversifying income sources and leveraging human capital globally, India manages to sustain growth, maintain a manageable CAD, and support the rupee, even when merchandise trade is under pressure.
In summary, while headlines often focus on India’s growing trade deficit, the real story lies in the invisible engine of services and remittances. These sectors not only stabilize the economy but also highlight India’s unique advantage in the global knowledge and services economy—a factor that will continue to be crucial in navigating currency volatility and maintaining long-term economic resilience.
5. The Real Shock: India’s Capital Account Crisis
While most discussions about the rupee focus on the current account deficit (CAD), the real driver of the recent depreciation lies elsewhere.
The Rupee Is Falling Not Because of the CAD
India’s CAD has actually narrowed in 2025, falling from $25.3 billion in April–September 2024 to $15.1 billion in the same period of 2025. At first glance, this should be positive for the rupee. But the currency is still under pressure—and the reason is clear: foreign capital inflows are collapsing.
Foreign Capital Inflows Are Drying Up
Between April–September 2025:
- Net capital inflows = $8.6 billion
- CAD = $15.1 billion
This means India is not receiving enough foreign money to finance its deficit. Essentially, the country is running a gap between what it earns from abroad and what it spends or imports—something that foreign investment usually covers. When these inflows slow, the rupee has to adjust, leading to depreciation.
Why Capital Inflows Matter
A country can safely run a CAD if capital inflows finance it. Foreign investment—through portfolio flows, foreign direct investment (FDI), and external borrowing—provides the liquidity needed to balance imports, debt repayments, and other obligations. Without sufficient inflows, even a modest CAD can put significant pressure on the local currency, as is happening with the rupee today.
Broader Implications
The drying up of foreign funds is not just a short-term problem:
- It limits India’s ability to stabilize the rupee without raising interest rates.
- It makes external borrowing costlier for Indian companies.
- It constrains liquidity in financial markets, affecting investments and credit availability.
In essence, the rupee’s weakness is a capital account problem, not a trade problem. While India continues to earn from exports, remittances, and services, the lack of robust foreign investment inflows is creating a structural vulnerability.
For investors, businesses, and policymakers, the capital account crisis is the real shock—one that explains why the rupee is falling despite stable CAD numbers and a growing economy.
6. Where Has the Foreign Investment Gone?
A. Foreign Direct Investment (FDI)
FDI is the most stable capital inflow—factories, infrastructure, real assets.
FDI into India has collapsed:
- 2019–20: $43 bn
- 2020–21: $44 bn
- 2021–22: $38.6 bn
- 2022–23: $28 bn
- 2023–24: $10.2 bn
- 2024–25: $0.96 bn
- Apr–Sep 2025: $7.7 bn (“partial recovery”)
This is stunning.
FDI fell 95% in just three years.
B. Foreign Portfolio Investment (FPI)
FPIs are volatile—but their exit has been dramatic.
Net FPI flows:
- 2021–22: –$18.5 bn
- 2022–23: –$5.1 bn
- 2023–24: +$25.3 bn (only one positive year)
- 2024–25: –$14.6 bn
- 2025–26 (till Dec 5): –$4.3 bn
The message:
Foreign investors have been steadily pulling out of Indian markets.
C. Total Foreign Capital Inflows
All-time high:
2007–08 → $107.9 bn
Recent collapse:
2024–25 → $18 bn (16-year low)
India isn’t attracting enough foreign capital to finance even a modest CAD.
7. Why Foreign Capital Is Drying Up Despite High GDP Growth
India’s 8%+ GDP growth is a remarkable achievement and would normally make the country a magnet for global investors. Robust economic expansion, a young workforce, and rising consumption usually translate into strong foreign inflows. Yet, despite these positive indicators, foreign capital into India has slowed, contributing significantly to the rupee’s recent weakness. Understanding this paradox requires looking beyond GDP numbers to the real-world challenges that investors perceive.
1. Policy Uncertainty
Frequent regulatory changes, tariff revisions, and investment restrictions create an environment of unpredictability. Even a growing economy struggles to attract consistent foreign investment if policies are perceived as volatile. Investors prefer markets where long-term plans are secure, and sudden policy shifts can discourage capital inflows.
2. Global Risk Aversion
High U.S. interest rates have drawn global capital away from emerging markets like India. Investors often chase safety and returns, so when developed economies offer better yields, emerging markets lose out, even if their growth rates are strong.
3. China and ASEAN Competition
India is competing with countries like Vietnam, Indonesia, and China, which continue to offer well-established supply-chain ecosystems. These alternatives often provide lower costs, easier logistics, and smoother business operations, making them attractive destinations for foreign investors.
4. Domestic Bottlenecks
India still faces structural challenges that affect investment. Land acquisition issues, judicial delays, infrastructure bottlenecks, and complex taxation can increase project costs and timelines. Even with a high GDP growth rate, these domestic hurdles make foreign investors cautious.
5. Corporate Governance Concerns
High-profile governance or compliance controversies can erode investor confidence. Global funds tend to favor companies with transparent practices and strong accountability. Any perception of mismanagement or weak corporate governance can delay or reduce investment.
6. Overvaluation Concerns
Finally, some investors see Indian equities as expensive relative to earnings. Despite the country’s economic strength, valuations in certain sectors are considered high, which can deter cautious capital flows.
The Combined Effect
While India’s GDP growth is impressive, these policy, global, and structural factors collectively explain the slowdown in foreign capital inflows. The rupee’s depreciation is less about trade deficits or current account pressures and more about investor sentiment and capital account dynamics. Understanding these reasons is crucial for policymakers, businesses, and analysts to address investor concerns and stabilize the currency.
8. What the Data Suggests: Visuals & Interpretation to clearify
Open this link 🔗 for visuals 👇
https://bizinsighthubiq.blogspot.com/2025/12/indias-rupee-capital-account-analysis.html
Visual 1: India’s CAD vs Capital Inflows (2007–2025)
Interpretation:
For most years, capital inflows exceeded the CAD → rupee remained stable.
But from 2024 onward, capital inflows dipped below CAD, leading to rupee pressure.
Visual 2: FDI Trendline (2019–2025)
Shows a clear collapse from $44 bn → < $1 bn.
Interpretation:
This indicates structural issues rather than cyclical fluctuations.
Visual 3: FPI Net Flows (2021–2025)
Alternating but mostly negative, with a one-year positive spike.
Interpretation:
Portfolio investors are increasingly net sellers, not buyers.
Visual 4: Rupee Depreciation vs Capital Flows
Interpretation:
Sharp rupee depreciation aligns almost perfectly with capital flow slowdown—not CAD trends.
9. Implications for the Rupee and the Indian Economy
The recent rupee depreciation has raised alarms among policymakers, businesses, and investors alike. While India’s current account deficit (CAD) is not the main culprit, the capital account squeeze is creating significant ripple effects across the economy. Understanding these implications is crucial for businesses, investors, and everyday consumers.
A. Rupee Depreciation Will Continue if Capital Flows Don’t Recover
The primary reason for the rupee’s weakness is insufficient foreign capital inflows. Even with strong economic growth and a stable CAD, India is facing pressure from a lack of foreign investment. Until global investors regain confidence in Indian assets, the rupee is likely to remain under pressure, making it difficult to stabilize against the US dollar and other major currencies.
B. Higher Import Costs → Inflationary Pressures
India relies heavily on imports for oil, electronics, machinery, edible oils, and chemicals. A weaker rupee increases the cost of these essential goods, which translates into higher prices for consumers and businesses. This can lead to broader inflationary pressures, affecting everything from fuel prices to manufacturing costs, and potentially reducing household purchasing power.
C. Higher Interest Rates May Be Required
To attract foreign capital and stabilize the currency, the Reserve Bank of India (RBI) may need to tighten liquidity or raise interest rates. Higher rates can draw in foreign investors seeking better returns but can also slow domestic credit growth, affecting loans for businesses and consumers alike.
D. Corporate Fundraising Becomes More Expensive
A weaker rupee also impacts corporate financing. Companies that rely on external borrowing or dollar-denominated debt face higher repayment costs, increasing overall financing expenses. This can lead to postponed expansion plans, reduced capital expenditure, and tighter profit margins, particularly for exporters and manufacturing firms.
E. Exports May Benefit Slightly—but Not Enough
In theory, a weaker rupee makes Indian exports more competitive globally, offering a potential boost to sectors like textiles, IT services, and chemicals. However, India’s export elasticity is limited due to supply-side constraints and capacity bottlenecks. As a result, export gains may not fully offset the higher import costs, leaving the overall economy exposed to currency volatility.
In conclusion, the rupee’s depreciation has multi-dimensional implications for India’s economy. While the CAD remains under control, the lack of foreign capital inflows, combined with rising import costs and potential interest rate hikes, creates challenges for policymakers and businesses alike. For investors and consumers, staying informed about currency trends, inflation expectations, and RBI policy moves is essential in navigating this period of volatility.
10. What Could Turn the Tide? Policy Options Ahead
The Indian rupee’s recent weakness is largely driven by a slowdown in foreign capital inflows, rather than trade deficits or current account imbalances. While economic growth remains robust, reversing the rupee’s slide requires targeted policy measures that attract stable, long-term investment. Here’s a closer look at what could help.
1. Stable, Predictable Policy Environment
Foreign investors prioritize consistency and predictability over short-term incentives. Sudden regulatory changes or ambiguous policies can trigger capital flight. By ensuring a transparent and stable policy framework, India can boost investor confidence, making the rupee less vulnerable to global volatility.
2. Accelerated Ease-of-Doing-Business Reforms
Simplifying processes related to land acquisition, logistics, and contract enforcement can significantly enhance India’s investment appeal. Streamlined procedures reduce transaction costs and uncertainty, encouraging foreign businesses to commit long-term capital.
3. Improve Supply-Chain Competitiveness
India faces stiff competition from Vietnam and China in manufacturing ecosystems. By upgrading supply chains, improving infrastructure, and fostering industrial clusters, India can attract high-value manufacturing investments, which provide sustained inflows and strengthen the rupee.
4. Strengthen Bilateral Trade & Investment Treaties
Clear, long-term agreements with major economies can offer predictability and legal certainty, encouraging multinationals to make committed, long-term investments rather than short-term portfolio bets.
5. Attract Global Pension & Sovereign Wealth Funds
These investors seek stable, long-term returns, unlike volatile portfolio investors. Targeting pension and sovereign wealth funds can bring steady foreign capital, cushioning the rupee against speculative pressures.
6. Capital Market Reforms
Simplifying Foreign Portfolio Investment (FPI) and Foreign Direct Investment (FDI) compliance, reducing procedural bottlenecks, and enhancing transparency can make India’s capital markets more accessible to global investors. This would improve both inflows and market confidence.
7. Ensure Macroeconomic Stability
A credible and transparent fiscal path, stable inflation, and consistent monetary policy are essential to maintaining investor trust. Stable macroeconomic conditions reduce risk perceptions, attracting both short-term and long-term capital.
Implementing these steps could significantly revive capital flows by 2026–27, supporting a stronger rupee and a more resilient economy. By focusing on policy consistency, investor-friendly reforms, supply chain competitiveness, and long-term capital attraction, India can create an environment where the rupee stabilizes naturally, even amid global uncertainties.
11. Conclusion: A Weak Rupee Is a Capital Story, Not a Current Account Story
The popular narrative blames India’s trade deficit for the rupee’s weakness.
But the data tells a different story:
- CAD is stable or improving
- Invisibles surplus is at record highs
- Merchandise deficit is offset by services revenues
- The real problem is collapsing foreign investment
- Capital inflows are insufficient to fund the CAD
- Therefore, the rupee is under pressure
The rupee today has a capital account problem, not a current account problem.
Unless India restores its attractiveness to global investors, the rupee may remain vulnerable despite strong GDP growth.
12. FAQs
1. Why is the rupee falling even though India is growing at 8%?
Because foreign investors are pulling money out. Growth alone does not guarantee capital inflows.
2. Is India’s current account deficit the reason for the rupee’s decline?
No. The CAD has actually narrowed. The issue is on the capital account side.
3. What is the capital account? (Simple explanation)
It tracks foreign investments, loans, and other inflows. When these drop, the rupee weakens.
4. Why did FDI collapse so sharply?
A combination of global uncertainty, domestic regulatory concerns, and rising competition from other Asian economies.
5. Will the rupee recover soon?
It depends on whether capital inflows pick up. Structural reforms could help reverse the trend.
6. Does a weak rupee help exports?
A little—but India’s export responsiveness is limited due to supply-chain bottlenecks.
7. Who benefits from a falling rupee?
- Exporters
- IT service companies
- NRI families remitting money to India
But the broader economy faces higher import costs.
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