Feb 23, 2016 07:55 AM IST | Source: CNBC-TV18

Why Budget doesn't matter, except for fiscal deficit: Pros

If you're an investor, you need not worry too much about whether a lacklustre Union Budget could impact your investments. For the broader economy, though, things like where the fiscal deficit is projected will be important, say experts.

If you're an investor, you need not worry too much about whether a lacklustre Union Budget could impact your investments. For the broader economy, though, things like where the fiscal deficit is projected will be important.

Those were the most important takeaways from a panel discussion titled What Market Want that CNBC-TV18 held with a number of experts.

"The Union Budget has more of a sentimental impact on the market. I would rather look at various state budgets that are being presented," Neelkanth Mishra of Credit Suisse said.

He did, however, say that he would look forward to seeing how the government approaches its spending and borrowing path.

Neelkanth Mishra
Neelkanth Mishra
Head of Equity Strategy India|Credit Suisse

"The rollout of the 7th Pay Commission would be a big stimulus for the economy. At the same time, I hope the government does not raise too many taxes to meet expenditure and instead opts for ways such as laying out a realistic divestment target," he said.

The one important metric to watch out would be the fiscal deficit, said Gautam Chhaochharia of UBS Securities. "Both the quality and the quantity of the fiscal consolidation roadmap would be important for the bond and the currency markets," he said.

Nilesh Shah of Envision Capital agreed, saying that while a small relaxation in FY17 from the current 3.5 percent target would be acceptable, widening to say 3.8 percent would amount to "crossing the Lakshman Rekha".

From the tax standpoint, Dinesh Kanabar, CEO of Dhruva Advisors said the government should not consider tweaking the definition of long term for imposing capital gains tax on equities -- (from one year currently to three years, as is being widely speculated in the market -- though he said tax-change expectations and reality have rarely matched during previous Budgets.

Below is the verbatim transcript of the interview..

Anuj: How important is the Budget for the market and what is that one thing that market would be watching out for?

Mishra: The budget have held for several year. I would agree with Sonia, it doesn't matter much. If you see Uttar Pradesh has presented a Budget which is Rs 350,000 crore which is almost 25 percent of what the central government is going to present. We haven't seen even the detail documents yet and no one is even discussing them. We have seen Jharkhand present 15-16 percent increase in their expenditure for FY17. We haven't seen any discussion of that. Economically those are things that matter a lot more. As we have been saying repeatedly more than half of BSE 100 revenues come from the world, not from India. So, it doesn't matter but yes, from the perspective that all of us are discussing there is a sentimental value to it.

From a fundamental perspective what matters are just three things, the first is whether the government sticks to the 3.5 percent target or not because that will affect the bond markets what the global investors think, it can affect the currency, it can be a cascading effect. Second is how the government goes about doing that. If they do that by raising taxes it will be counterproductive. If they do that by giving an aggressive and achievable target on disinvestment, that will be good. Thirdly, the pay commission. I don't think this is a burden. It can be a much needed stimulus, because it can stimulate very wide regions of the Indian economy and it can be very growth simulative.

Sonia: Gautam Chhaochharia has completely different view. He doesn't believe that the pay commission can stimulate the economy, a certain parts of it maybe but not the entire economy. Firstly, if the fiscal deficit target is relaxed will it be seen as denting credibility and secondly that pay commission point what is your view?

Chhaochharia: At the margin small relaxation here and there won't matter because in the macro context 0.1-0.2 percent of Gross Domestic Product (GDP) not a big deal but yes, credibility wise government has laid out a roadmap, it kind of diluted last year. So, purely from a credibility perspective a sub 3.5 percent number is relevant, specifically for bond markets and currency. Specifically the pay commission, the pay commission the bigger issue is with the states, not central government. Central government is 0.4-0.5 percent of GDP. State governments are 1.2 percent of GDP and they are already running near the fiscal limits as per Fiscal Responsibility and Budget Management (FRBM). So, where is the money they fund that. Central government has money from oil bounty. State governments can fund that by cutting Capex, cutting healthcare, education or increasing taxes or increasing fiscal limits. So, the point we will like to make is quality and quantity of fiscal consolidation is both important. So, while 3.5 percent number will satisfy a large part of the market as far as stability is concerned but in most various quality of fiscal spending will get hurt because you are moving away from capex to spending more on revenue side specifically pay commission and more so for the states.

Anuj: Are we giving too much importance for this fiscal deficit number of 3.5 percent. Does it matter whether it is 3.5 or 3.7 - 3.8? Would the market care much and secondly what would be the most important number that you will be watching out for from Budget?

Shah: I probably think this time around the fiscal deficit number is going to be very important. Maybe 3.5 - 3.7 may not make too much of a difference. I would probably say 3.8-3.9 would kind of be the 'Laxman Rekha'. That is a line which should not be crossed because what really is making India very different this time around is basically the macros. The fact that India's macros haven't been very good in the last 3 or 4 years that is one thing which really makes India stand out versus some of the other emerging market peers and therefore this budget has to be about sustained credibility that we stick to the path of fiscal consolidation, that is something where the government should not kind of let go on that path. So, it is going to be very important, perhaps that is going to be the most important factor.

Sonia: I am sure you are hearing a lot of rumours about the possibility of that long term capital gains tax, that extension, is that just fear mongering or is there some possible truth to it?

Kanabar: So, I say this ever so often that if you just step back and take a stock of all the rumours that go around on what is going to happen on the taxation front and actually compare with both what happens on the day of the Budget, the two are really uncomparable. It is purely coincidental if there are certain things going right there.

This time if I look at I have heard number of rumours go about where people are talking about imposition of estate duties, people are talking about taxing of dividends to say that beyond the tax that is paid by the company if a recipient gets more than a certain amount there could be an additional tax and a number of other things which are spoken about. Of course there has been this rumours going around about increasing one year to three years for qualifying for long term. The way I would look at it from a concept perspective I would think this is a right thing. One year does not make anything long term, three years is a reasonable period. The question is, is this a right time to do it and is this the point of time when the government is falling behind on the disinvestment targets, people are not really making gains in the market.

So, what really is the gain that one is looking, or what is the tax one is looking at, if shares are held for a period of two years and being taxed on a short term base, incremental two years and I don't think those numbers are very high compared to what the government may need to give up on Securities Transaction Tax (STT) as a result of that. So, really this is all rumour mongering and I really don't have any view as to whether this will happen or not happen. But this may not be the right time to make it happen is what I can certainly tell you.

Anuj: Nilesh in stock markets you have to be prepared for all eventualities. This might be just fear mongering but this is a possibility that has been discussed. What if the long term capital gains tenure is extended from one year to 3 years, let us begin with that, do you think markets will react negatively to that? If yes based on that how much could be the downside?

Shah: Increasing the timeframe from one year to three years is not something which is going to terribly disrupt the entire markets. You could have a kneejerk reaction, may be just a temporary 4-5 percent correction but that is about it. I don't think that is something which is going to be kind of a deal breaker on the negative side.

The worry is that if you have long term capital gains tax getting introduced, I think that is something which could really impact the markets and may be the impact out there could be even more than 4-5 percent temporary cut. So, that is the thing to watch out for. If it goes from one year to three years, you would probably see one small cut in the market but that is about it. I think then the market will go back to all the other proposals which are there in the Budget and say everything else is pretty good, so let us move on.

Sonia: Neelkanth what about you, on the taxation front not just long term capital gains but other things like removal of exemption, service tax could be hiked in order to make that smooth transition to GST. What would disappoint  the market this time around?

Mishra: I think all the negatives that have been discussed in the market, I think there is one element which perhaps can be further negative surprise could be the universal healthcare insurance scheme that is being talked about. If you see for example what happened in Turkey which is the inspiration for that scheme, there was an additional surcharge applied on all taxes on top of that to fund that scheme.

Given where India is in terms of out of pocket expenditure, it is 85 percent of all healthcare expenditure which is completely undesirable. The government needs to play a bigger role. So, the government role in the healthcare has to improve but if such taxes start getting imposed, the perception in the market could be negative. Other than that I think most of it has been discussed. I think excise on petrol and diesel itself if current rates are continued will get an additional Rs 73000 crore next year. Service tax going up to 16 percent is expected. I don't think anyone will be surprised by that, other than that I have not heard of or I don't expect anything big negative coming out.

Anuj: Gautam would you expect this excise duty hikes to continue. If we have another round of crude price fall do you think that would be the other source of revenue and in that sense we should be starting to budget more from excise revenues for next financial year?    

Chhaochharia: Looks like that is what the government has been doing. Even if you annualise the rate hikes this year there is a lot of room for higher excise revenues next year.

Kanabar: I think Nilesh made a point about introduction of a long term capital gains if there isn’t any. First on the immediate impact - given the fact that much of the investment which happens particularly from overseas, the foreign institutional investment (FII) still comes through Mauritius- a very significant portion of it. Whether it is one year or three years it may not really impact those people at all. That is one thing we need to be factoring in.

Second is if at all there was to be a tax imposed on long term capital gains, I would presume that in line with what was originally recommended in Direct Taxes Code (DTC) bill which got scrapped the date of cost would move to March 31 that year. So, your cost base goes up. So, assuming that you are going to pay tax, you are going to pay only on the gains thereafter and not on the gains which you have already made, I think that would be very logical to do.

(Interview transcribed by Swapnil Deshpande and Binu Panicker)

Follow us on
Available On