Though the growth has fallen short of projected 6.5%, it is still better than last year’s growth. The interesting fact is that India’s economy has grown in a healthy manner even with global slowdown. We expect more market-oriented reforms in the current budget. Along with global recovery, these fundamental reforms will place India on a better growth trajectory in the coming years.
Fiscal Deficit
The fiscal deficit has overshot to 5.7% against the estimated 4.7%. The main culprits are lower tax collections due to poor corporate growth and lower divestment revenues.
Though planned expenditure has gone up, the non-plan expenditure has come down Rs. 10000 cr from the estimated amount showing Government’s willingness to cut unnecessary expenses.
The successful divestments from VSNL and IBP have set the right tone for privatization of PSUs. The Government is sticking to its divestment target this year. Though defence expenditure may go up, tougher mechanism for tax collection (PAN number requirement for deposits over 50, 000) and the expected increase in tax from service sector should help contain the deficit.
Government Borrowing
Though Government borrowing is a continuing concern, lower interest rates are allowing the Government to borrow at cheaper rates. Net borrowings are not expected to exceed the budgeted amount by a large figure.
The good thing is that even with the heavy borrowing programme, the liquidity situation is fairly comfortable.
We think that borrowing itself is not necessarily bad as long as the funds are used to create productive assets.
Interest Rates
The long-term interest rate outlook is very benign. The willingness of the Government to realign administered rates to market rates is a welcome sign that the Government is keen on keeping the cost of borrowing low.
We expect the interest rates to remain at a lower level throughout the year.
Exchange Rate
With the interest rate low, oil prices stable and foreign exchange reserves healthy, we do not expect dramatic pressure on the rupee. The recent depreciation was mainly due to RBI’s willingness to let the rupee correct itself against regional currencies on REER terms to maintain export competitiveness. As can be seen from the Economic Survey, exports have been very poor when compared to last fiscal. There will be occasional event driven shocks which may cause the rupee to depreciate sharply. Otherwise, we expect the rupee to follow the trend of 5-7% annual depreciation.
Direct and Indirect Taxes
Excise and Customs duties on many items have been reduced. The CENVAT is proposed to be reduced to a single rate of 16% in 2 years.
A structured custom duty structure will make it easier for importers to import machinery without much hassle and help in the revival of the domestic manufacturing firms. With the WTO agreements in the backdrop, the Government is doing its best in this front.
The budget has removed 2% surcharge for Gujarat Earthquake. But, it has added 5% surcharge for increased defence putting more burden on income.
Investments
Small savings rates have been reduced by 50 basis points. Rate on RBI relief bonds is also lowered to 8% with an investment cap of Rs. 2 Lakhs. With the removal of dividend distribution tax of 10% by companies and MFs and passing it onto the hands of the investor, short-term capital gains becomes unattractive as investors (specifically, Corporates) will be taxed at their tax brackets. Reduction of section 88 benefits from 20% to 10% for investors with incomes between 1.5 lakhs and 5 lakhs will make it harder for middle and upper middle class investors to invest in ELSS and other infrastructure schemes.Just keep fingers crossed for the regular yashwant Roll Back.
Not a great budget for middle class investors. However, the lower rebate still gives reasonable returns. For example, investment in tax-free RBI relief bonds at 8% still gives a pre-tax yield of 11.68% at 30% tax bracket (with 5% surcharge). Investors should go for growth schemes of mutual funds to take advantage of long-term capital gains of 10%. The important thing is that only long-term money should be invested in mutual funds, which is a welcome sign for stability of mutual funds.
Budget and the Stock Markets
Past data (1990-2001) of Sensex does not give a clear picture on market trends after and before the budget. In fact, Sensex has gone down in 8 of the 12 years in the month following budget presentations. Though Sensex went up before the budget in 8 of the 12 years in the month preceding the budget presentations, it is hard to predict a clear trend.