Q1 2007 (April-June) is the old, undistorted environment. By Q2, capital controls against ECB were in place. In most of Q3, controls against portfolio flows were also in place. The evidence shows that these did not work. In Q2 and Q3, net capital inflow was roughly twice that seen in Q1. It rose from an average inflow of about USD 3 billion per month in the quarters preceding July 2007, to USD 10 billion per month after July.

The restriction on Participatory Notes (PNs) imposed in October 2007 does not appeared to have reduced portfolio flows into India. Portfolio flows grew from USD 10.89 billion in the second quarter to USD 14.56 billion in the third quarter.

Despite various restrictions on External Commercial Borrowings (ECBs) inflows on account of ECB went up from USD 4.7 billion in the second quarter to USD 5.26 billion in the third quarter. Short-term loans remained high. They were USD 4.79 billion in the second quarter, and USD 4.25 billion in the third quarter.

In the past it has been seen that private transfers to India have responded to interest differentials with the rest of the world. When interest rates in India are higher, people prefer to bring their money into India. Since the interest rate on NRI deposits is linked to global interest rates, when global rates fall, it becomes more profitable to withdraw from NRI deposits and bring money into India as remittances. Among invisible receipts, one the items that saw a sharp increase was remittances. Private transfers grew from USD 7.6 billion in the first quarter, to USD 9.3 billion in the second quarter, and to USD 10.9 billion in the third quarter of 2007-08. About half the private transfers this year have been on account of local withdrawals of NRI deposits. The RBI notes that the higher growth inflows through local withdrawal by the overseas Indians may be attributed to higher returns domestically vis-a-vis holding such deposits in NRI accounts.

... contd.