Budget Reactions: Budget austerity measures to attract FIIs: Nirmal Bang

Nirmal Bang has come out with its report on Union Budget 2013-14.

To satisfy global credit rating agencies and foreign investors, Finance Minister P. Chidambaram met his guidance on fiscal deficit through austerity measures and by sharply reducing Plan expenditure in FY13. As foreign inflows are the life support for the country’s economy and maintaining low fiscal deficit is the key for continuance of capital flows, the finance minister has addressed the concerns of foreign investors. While a lower fiscal deficit should assure future capital inflows, the austerity measures will adversely impact aggregate demand. Nevertheless, the inflows should continue (with some clarity regarding beneficial ownership pertaining to tax residency) to improve stock valuations, triggering corporate investment and thereby stimulating economic growth.

Get full Budget coverage

The finance minister (FM) assured that FY14BE deficit will be met. In a media interview, the FM stated that FY14BE fiscal deficit of 4.8 percent will be met even if there is a revenue shortfall, implying the expenditure could be cut further to meet the fiscal deficit estimate, which appears to have become sacrosanct. Such an assurance provides further comfort to foreign investors to stay invested in Indian stocks.

Disclosing beneficial ownership along with tax residency certificate has come as an unpleasant surprise for foreign funds originating from various Double Taxation Avoidance Agreement (DTAA) countries, as they had so far believed that only providing a residency certificate will provide them exemption from Indian taxes. We expect the government to clarify on this clause as the stock market fell sharply on fears that foreign investors may pull out funds if they have to disclose beneficial ownership. As capital inflows are extremely important for India, which is ready to implement unpopular austerity measures to appease foreign investors, we expect the government to relent on this clause.

Revenue receipts declined 4.0 percent in FY13RE to Rs742bn as against the budgeted amount of Rs771bn. The shortfall in receipts was compensated largely by a rise in non-debt capital receipts at Rs381bn in FY13RE. This was mainly due to the higher proceeds that the government garnered from disinvestment in some public sector undertakings (PSUs), which received a better market response as compared to a year ago, enabling it to garner Rs240bn in FY13RE. It has set a disinvestment target of Rs400bn for FY14BE. Apart from these, the cut in Plan expenditure in the last few months has helped cap the fiscal deficit. While non-Plan spending surged to Rs10,016bn; planned expenditure reduced sharply by Rs918bn to Rs4,292bn in FY13RE against the budgeted amount of Rs5,210bn.

The fiscal deficit as a percentage of GDP was capped at 5.2 percent for FY13, as promised by the FM that he wouldn’t cross the red line, as against 5.7 percent in FY12. The slippage in fiscal deficit by 0.1 percent over the original estimate of 5.1 percent was mainly because of a shortfall in revenue collection and rising share of subsidies in non-Plan expenditure. However, the FM has stated that the ballooning current account deficit (CAD) is more worrying than the fiscal deficit. Rising imports due to inelastic demand for crude oil, passion for gold and inadequate domestic production of coal led to a higher import bill; making it difficult to finance the CAD when exports are shrinking due to slowing global demand. The FM highlighted that India needs US$75bn in the next two years to meet such a high level of CAD.

Therefore, he announced a number of measures to attract foreign investors to India. Foreign institutional investor inflows for the period April 2012-February 2013 increased to US$24bn due to monetary easing in the West. Total expenditure as a percentage of GDP declined marginally to 14.3 percent compared to over 15 percent of the previous years when the government followed an expansionary fiscal policy to tide over the financial crisis of FY08. It is envisaged to grow 14.6 percent in FY14. Expenditure on the Mahatma Gandhi National Rural Employment Guarantee Act (NREGA) scheme is budgeted at Rs330bn for FY14 as against Rs 293bn in FY13RE (lower than FY13BE). An absolute decline in expenditure on NREGA should allay fears that the expenditure will spiral upwards.

Subsidies in FY13 rose marginally to 2.0 percent of GDP. The petroleum subsidy touched an all- time high of 1.0 percent as per FY13RE and is budgeted to come down to 0.6 percent of GDP in FY14. Food subsidy remained muted at 0.8 percent of GDP. However, the pass-through of the Food Security Bill is likely to shoot up food subsidy to over Rs1,000bn in FY14 as against the envisaged amount of Rs900bn and Rs850bn in FY13RE.

Disclaimer: The views and investment tips expressed by investment experts/broking houses/rating agencies on moneycontrol.com are their own, and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.

To read the full report click on the attachment

Read More