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IDFC Mutual Fund

Union Budget (Interim) – 2014-15
 
The focus of the interim budget like last year was the “fiscal deficit target” and all other fiscal adjustments were made to achieve the same. It was a somber event and lacked big bang announcement either on the social or infrastructure framework of India. The only form of demand booster was the cut in excise duties (applicable till June 2014) on capital goods and consumer durables sectors from 12% to 10%, for auto sector from 12% to 8% and for SUVs from 30% to 24%. The budget provided nothing incremental to tweak our assumption of the operating matrix of the corporate sector in India. …. With elections around the corner and uncertainly around the political mandate this is the best the current political establishment could deliver
 
Annexure -1- Fiscal Aggregates
 

  2013-2014 2014-2015 Change over RE
  BE RE BE  
Revenue Receipts 1,056,330 1,029,252 1,167,131 13.4%
Tax Revenue 884078 836026 986417 18.0%
Non-Tax Revenue 172252 193226 180714 -6.5%
Capital Receipts 608,967 561,182 596,083 6.2%
Recoveries of Loans 10654 10802 10527 -2.5%
Other Receipts 55814 25841 56925 120.3%
Borrowing and other liabilities 542499 524539 528631 0.8%
Total Receipts 1,665,297 1,590,434 1,763,214 10.9%
Total revenue 1,122,798 1,065,895 1,234,583 15.8%
         
Non-Plan Expenditure 1,109,975 1,114,903 1,207,892 8.3%
On Revenue Account 992908 1027689 1107781 7.8%
Interest Payments 370684 380066 427011 12.4%
On Capital Account 117067 87214 100111 14.8%
Plan Expenditure 555,322 475,532 555,322 16.8%
On Revenue Account 443260 371851 442273 18.9%
On Capital Account 112062 103681 113049 9.0%
         
Total Expenditure 1,665,297 1,590,435 1,763,214 10.9%
Revenue Expenditure 1,436,168 1,399,540 1,550,054 10.8%
Capital Expenditure 229,129 190,895 213,160 11.7%
Revenue Deficit 379,838 370,288 382,923  
Fiscal Deficit 542,499 524,540 528,631  
Primary Deficit 171,815 144,473 101,620  
         
GDP 11,371,886 11,320,463 12,839,952  
Increase 13.40%   13.42%  
Revenue Deficit 3.34% 3.27% 2.98%  
Fiscal Deficit 4.77% 4.63% 4.12%  
Primary Deficit 1.51% 1.28% 0.79%  
Revenue deficit/ Fiscal deficit 70.02% 70.59% 72.44%  
Tax / GDP (%) 7.77% 7.39% 7.68%  

 
 
Explanation to Annexure – I
 
The government estimated the fiscal deficit to narrow to 4.1% of GDP in FY15 and the FY14 fiscal deficit will be much lower at 4.6% of GDP (vs. budget estimate (BE) of 4.8% of GDP). The current as well as future target of fiscal deficit is predicated on optimistic assumption both around the revenue and the expenditure front.
 
A) Revenue assumptions –
a. The overall “Tax revenue” growth is assumed at 18% for the coming year. Income tax is expected to growth 27% and Service tax at 31%. There is an assumption that contribution from service tax to the overall tax kitty will go up
i. Our take is that In a environment where all is not well with the macro assuming tax buoyancy seems to be a stretch
ii. Larger contribution from services once again looks challenging as discretionary spends take a hit in this environment and in light of the fact that no changes were made either to the tax rate or the service tax net.
 
b. Other Capital Receipts growth at 120% includes revenue from divestment (government stake in PSU and Non PSU)
i. Asset market recovery to be able to consummate the divestment target looks challenging.
 
B) Expenditure assumptions –
a. Planned expenditure – Expected to grow 17% on a revised low base
b. Non Plan expenditure – Expected to grow 8%. The characteristics of this set of line items remain the same – under provision for various heads of subsidies and a modest increase despite the additional burden of nearly 1% of subsidies which get rolled over from FY 14 to FY 15.
 
Summary
 
In conclusion a short span interim budget made the right noises around fiscal consolidation provided some temporary sops by way of excise duty cuts, enhanced limits for agriculture credit and maintained status quo on all other schemes. The Budget in no way did anything to facilitate either a pick up in the investment cycle or meaningfully alter the consumer spending pattern and it was not supposed to do so too. With elections just a few months away, in all likelihood, this statement of revenue and expenditure may get meaningfully altered and hence the key to watch is the forthcoming election which will provide the roadmap for growth and investment trend going forward….
 
Disclaimer:
 
MUTUAL FUND INVESTMENTS ARE SUBJECT TO MARKET RISKS, READ ALL SCHEME RELATED DOCUMENTS CAREFULLY.
 
The Disclosures of opinions/in house views/strategy incorporated herein is provided solely to enhance the transparency and should not be treated as endorsement of the views or as an investment advice. The information/recommendation provided is for informative purpose only and may have ceased to be current by the time it may reach the recipient, which should be taken into account before interpreting this document. The decision of the Investment Manager may not always be profitable; as such decisions are based on the prevailing market conditions and the understanding of the Investment Manager. Actual market movements may vary from the anticipated trends. This information is subject to change without any prior notice. The Company reserves the right to make modifications and alterations to this statement as may be required from time to time. This update has been prepared on the basis of information, which is already available in publicly accessible media or developed through analysis of IDFC Mutual Fund. Neither IDFC Mutual Fund / IDFC AMC Trustee Co. Ltd. / IDFC Asset Management Co. Ltd nor IDFC, its Directors or representatives shall be liable for any damages whether direct or indirect, incidental, punitive special or consequential including lost revenue or lost profits that may arise from or in connection with the use of the information.

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Suyash Choudhary

As is by now almost expected of him, the finance minister delighted on headline numbers of the budget both for the current year as well as for the next. Thus fiscal deficit for FY 14 has been pegged at 4.6% of GDP; lower than the 4.8% target which too, it may be remembered, was at some point being perceived as under threat of getting breached. Not only this, he has pegged the next year’s target at 4.1%, again better than the 4.2% expected of him under the restated trajectory. Gross market borrowing has been pegged at INR 5,97,000 crores which is at the lower end of the market’s forecasts.
 
However, and this debate has also plagued the minister’s previous budgets, analysts may be less than impressed by some of the assumptions accompanying the budget. Some of these are discussed above:
 
1. Gross tax revenues are expected to grow at 19%. This is very similar to the assumption last year and was criticized then as well. Indeed, the actual outturn last year was 12%, proving the critics right. While some growth rebound is expected by officials in the next year, the growth assumed again seems a bit of a stretch.
 
2. Non-plan expenditure growth is pegged at 8% growth. This is versus 12% growth achieved last year. As we have mentioned before (please refer “Some things that don’t add up”) it is very difficult to control expenditure heads like subsidies under an entitlement based philosophy. Thus it may be argued that subsidies are again under-provisioned especially when roll-overs from current financial year are considered as well. Additionally, the provision for bank capitalization remains at approximately INR 11,000 crores which may turn out to be too little if, as is likely, the current trend on asset quality does not stabilize going ahead.
 
Overall, the budget throws up no surprises both in terms of what it answers and what remains open. Should there by continuity in the finance ministry, the numbers here can be ultimately defended but with a similar sequencing of events: Spending would be ‘front heavy’ leading to alarming deficit ratios towards late calendar year. Course correction would kick in over the last few months on plan expenditure savings, back-ended ‘other income’ items (like dividends, disinvestment etc), and subsidy roll-overs. Analysts would lament the quality of consolidation but the numbers would broadly be met. The only question would be, pending changes to the entitlement based philosophy, what would need to get cut the next financial year for a continued progressive compression in fiscal deficit targets year after year.
 
However, with national elections due this year there is a reasonable possibility that a new finance minister with a different underlying philosophy takes over. If that is the case, the usual sequencing of attaining the current fiscal deficit target may not play out. Instead, the new government may choose to restate the budget and its assumptions to reflect its own economic philosophy. This is broadly what market seems to be pricing in as well since participants haven’t been unduly enthused despite the impressive headline numbers.
 
Disclaimer:
 
MUTUAL FUND INVESTMENTS ARE SUBJECT TO MARKET RISKS, READ ALL SCHEME RELATED DOCUMENTS CAREFULLY.
 
The Disclosures of opinions/in house views/strategy incorporated herein is provided solely to enhance the transparency and should not be treated as endorsement of the views or as an investment advice. The information/recommendation provided is for informative purpose only and may have ceased to be current by the time it may reach the recipient, which should be taken into account before interpreting this document. The decision of the Investment Manager may not always be profitable, as such decisions are based on the prevailing market conditions and the understanding of the Investment Manager. Actual market movements may vary from the anticipated trends. This information is subject to change without any prior notice. The Company reserves the right to make modifications and alterations to this statement as may be required from time to time. This update has been prepared on the basis of information, which is already available in publicly accessible media or developed through analysis of IDFC Mutual Fund. Neither the IDFC Mutual Fund / IDFC AMC Trustee Co. Ltd./ IDFC Asset Management Co. Ltd nor IDFC, its Directors or representatives shall be liable for any damages whether direct or indirect, incidental, punitive special or consequential including lost revenue or lost profits that may arise from or in connection with the use of the information.

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Suyash Choudhary

CPI inflation finally dipped below 9% for the month of January on an anticipated fall in vegetable prices. The trend is likely to continue into the next reading as well where it is quite likely that CPI dips further towards 8 – 8.5%; again on continued fall in vegetable prices over February as well. The other significant event lined up is the interim budget or vote on account that is scheduled for early next week where Chidambram is expected to continue on the path of fiscal consolidation. Thus, the finance minister is most likely to present a fiscal deficit target of 4.2% (or maybe even a shade lower) for FY 15. Also, if recent media reports are to be believed, the current year’s actual outcome is likely to be lower than the 4.8% target by around 0.1%.
 
These are all prima facie very positive triggers and ideally should augur well for India’s macro-economy going forward. And yet in our view there are some things that don’t add up still for the country and need to be kept track of. Two of the main ones are as follows:
 
1. Interest rates in context of ability to fund growth: This has been one of the main themes of our underlying view over the past few years. One of the hallmarks of the current cycle since 2009 has been that even though growth has slowed, banks’ credit to deposit ratio has remained elevated at around 75%. This is very different from the last cycle where this ratio rose from 55% at beginning of the cycle towards 75% by 2008 as economic growth peaked. Thus banks (along with foreign money) were in a position to comfortably fund the credit expansion that accompanied the rise in growth. The current situation is very different since savings to GDP, and more particularly financial savings to GDP, has been steadily declining. If indeed growth is to pick up from next year as many in the market predict, the question arises as to how it will get funded. If banks have to do it (and we are not questioning here the propensity or ability from a asset quality and capitalization perspective), they need to shore up their deposit base. And for that they need to offer higher rates to depositors. Indeed, this is a theme we have heard from leading bankers over the past few days. Thus while the question whether RBI can target a CPI which is predominantly food and fuel is relevant, what is more relevant to us is the question: can the RBI set an interest rate policy consistent with the funding needs of the economy? This question has practical relevance and is one that has been lost for long periods between 2009 and 2013. Hence, deposit rates have moved in line with credit funding requirements irrespective where the repo rate has been. However, the question seems very much top of mind for the new governor when he speaks of providing real rates of returns to savers. The same argument holds when one looks at the external sector. If investments are to pick up for growth to rebound, then savings need to keep pace as well if the current account deficit is to be kept under check. Given these, the clamor that RBI needs to lower rates to support growth seems entirely misplaced since if indeed growth picks it needs funding to sustain. And funding will only come if interest rates are pegged appropriately to demand versus supply of funds. This dilemma may only now begin to get resolved if RBI maintains more rule based discipline on rates and the banking system gets the right triggers to improve the flow of savings into the economy. Only then can sustainable growth be funded without creating new macro-economic imbalances.
 
2. Fiscal deficit targets under an entitlement based approach: At some point over the past few years, our fiscal deficit was clearly threatening to spiral out of control. In that context, the iron resolve with which it has been brought under control is truly remarkable. The fact that this has been done in an environment of weak growth makes the determination even more laudable. However, the point cannot be overstretched since the sustainability of this kind of consolidation becomes a huge question mark going forward. For one, the consolidation today relies very heavily on a ‘going concern’ bias. This means that a large part of subsidies due this year get paid in the next year and so on. To put numbers here, a recent media article concluded that INR 1,23,000 crores of subsidy payment due this year will get rolled over to next year. This is because INR 1,09,000 crores of budgeted provision for subsidies this year have been used to extinguish roll over from last year. Thus even though there has been a significant optical compression in fiscal deficit, more than 1% of this has been achieved under the ‘going concern’ assumption. For the year ahead while there may be some savings on the oil subsidy bill if the diesel price hikes continue, these may get taken into the enhanced food subsidy requirement from the food subsidy bill. Furthermore, and again drawing from recent comments from prominent bankers, over the next few years government may need to provide much more for PSU bank recapitalization in the budget. Also, plan expenditure cannot be the port of call for fixing the fiscal deficit year after year. This is because in absence of private sector investments, public sector has to shoulder capital creation if future growth needs to be purchased. Whereas the current trend is to save capital expenditure in favour of revenue spending. All told, how the finance ministry will adhere to future fiscal deficit targets doesn’t add up for us. In that context, if the vote on account paints an aggressive deficit target for the year ahead, we would look at it suspiciously and wouldn’t be surprised if it gets restated in the full budget.
 
Conclusions
 
While the ‘additive discrepancies’ described above sustain, it is very difficult to take a structural call on interest rates. Indeed this has been the case over the past 5 years as well. This is the reason why we keep insisting that actively playing ‘seasonal triggers’ is much more important for bond fund returns than taking structural views on whether or not RBI will cut interest rates. This is likely to remain the case till some or all of the above discrepancies begin to add up again. We think that monetary policy and the conditions to fund growth are likely to fall in place faster while constructive and sustained fiscal deficit compression may take a firmer resolve from the government of the day. Whatever the sequencing, given the global pressures in a Brave New World of diminishing incremental liquidity, we think the adjustment process has begun for India.
 
Disclaimer:
 
MUTUAL FUND INVESTMENTS ARE SUBJECT TO MARKET RISKS, READ ALL SCHEME RELATED DOCUMENTS CAREFULLY.
 
The Disclosures of opinions/in house views/strategy incorporated herein is provided solely to enhance the transparency and should not be treated as endorsement of the views or as an investment advice. The information/recommendation provided is for informative purpose only and may have ceased to be current by the time it may reach the recipient, which should be taken into account before interpreting this document. The decision of the Investment Manager may not always be profitable, as such decisions are based on the prevailing market conditions and the understanding of the Investment Manager. Actual market movements may vary from the anticipated trends. This information is subject to change without any prior notice. The Company reserves the right to make modifications and alterations to this statement as may be required from time to time. This update has been prepared on the basis of information, which is already available in publicly accessible media or developed through analysis of IDFC Mutual Fund. Neither the IDFC Mutual Fund / IDFC AMC Trustee Co. Ltd./ IDFC Asset Management Co. Ltd nor IDFC, its Directors or representatives shall be liable for any damages whether direct or indirect, incidental, punitive special or consequential including lost revenue or lost profits that may arise from or in connection with the use of the information.

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