Maths of FM worked; but will the economy follow suit?
Fri, 01 Mar 2013 22:40:00 -0700
A more credible strategy would have been to keep non-Plan expenditure under check
TAGS: STOCK MARKET, OUTLOOK, UNION BUDGET, COMMENTARY
As promised, the finance minister has confined the fiscal deficit to 5.2 per cent in FY13 and as expected, this arithmetic achievement is in line with his topmost agenda of averting a country rating downgrade. This transient appeasement of rating agencies, however, is the result of substantial Plan expenditure cuts across ministries in the last few months, a by-product of which is slower GDP growth in H2 FY13. No wonder, the Q3 FY13 GDP growth figure just released stands at a dismal 4.5%.

While many of our expectations were met, one can’t help feel that the Budget has missed out on several counts. For one, it failed to address the problem of the Current Account Deficit, which admittedly was a bigger worry for the FM compared to fiscal deficit.

Secondly, the FM’s steps to encourage financial savings left a lot to be desired. In times of falling savings rate, the need was a substantial increase to Section 80C. This would have also made gold relatively unattractive.

Instead, he’s only offered an additional interest deduction up to Rs1 lac for those first-time home loan takers up to Rs 25 lakh, besides Rs 2,000 tax credit to income brackets up to Rs5 lacs. Not much was done for equity investments either.

Rather than simplifying the Rajiv Gandhi Equity Savings Scheme (RGESS) for the debutante retail investor community, he’s merely increased the investment amount and time under the said scheme. Sure, Securities Transaction Tax was reduced but was accompanied by introduction of Commodity Transaction Tax.

Further, the FM’s blind eye to expenditure cuts has justifiably not gone well with the market. The FM projects total expenditure to rise by 16.4% yoy in FY14 (compared to 9.7% in FY13) which means he’s banking on higher tax revenues and asset sales to achieve the fiscal deficit of 4.8%.

Through this ambitious stance, obviously the result of political pressure from his government ahead of the forthcoming general elections, he’s only risked a slippage in the said fiscal deficit target.

A more credible strategy would have been to keep non-Plan expenditure under check.
It is also interesting to note that the non-Plan expenditure is most likely to balloon on account of under-reported subsidies. The target of a 10.3% yoy fall in subsidies looks far-fetched in a pre-election year.

The assumed drop in petroleum subsidy depends on wishful eventualities – crude oil price levels remain unchanged, INR doesn’t depreciate and gradual diesel prices deregulation continues. Despite the imminent implementation of the food security bill, the government has budgeted for a mere Rs 100 billion increase in food subsidy.

Furthermore, rise in diesel will inflate food costs, procurement will be higher in the election year and minimum support prices can go up as well. Assumption on flat fertiliser subsidy also looks unrealistic and prone to slippage especially in the event of good monsoons.
Revenue projections are overstated in some areas. We could witness a big slippage in non-tax revenues projected to grow at 32.8%.

While the Disinvestment target hinges on stock market sentiment, the high and mighty Rs400bn expectation from Communication Services is likely to be way off-target. On the direct tax front, Income tax and Wealth tax estimates appear reasonable but corporate taxation growth pegged at 16.9% appears a tad on the higher side, given the slackening GDP growth and subdued corporate earnings.

Talking of indirect tax, excise and customs duty figures look achievable, but service tax projections seem heavily overstated at 35.8% yoy growth. Last year, this level of growth was possible only through increase in rates (from 10% to 12%) and inclusion of most services in the net. The same growth in FY14 on a high FY13 base is a difficult proposition.

The fall in the stock market post Budget can be partly blamed on the market’s own irrational expectation from Chidambaram. The proposal to treat Tax Residency Certificate (TRC) as a necessary but not enough proof to benefit from Double Tax Avoidance Agreement (DTAA) impacted market sentiment. The market fears adverse impact on the FDI as also the FII inflows that are routed through tax haven routes offering lucrative tax treaty benefits. May be the market also had a whiff of the shocker quarterly GDP number, released post market hours.

The budget could be termed prudent in that it has not turned out to be outright populist. But the threat of bigger demons, including the year on year unchecked expenditure upsurge, continues to thwart us. The way things seem to be moving, we are likely to miss the 4.8% fiscal target for next year.

Maybe, the finance minister will forcefully resort to Plan expenditure cuts towards the second half of the year, which would again hamper GDP growth. Our calculation of Government finances places a realistic fiscal deficit target for the coming year closer to the 5.2% to 5.3% mark.

Given the constraints of limited resources, the Budget promises to kick-start the investment cycle but the key lies in execution, which is still suspect. All in all, we feel that the FM has made his arithmetic work in the Budget. Whether the economy responds or not, remains to be seen.
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