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Indian Union Budget 2013-14 review and analysis
Prudence over populism
The Finance Minister has delivered on one of the most important aspects in this Budget - fiscal consolidation. The budgeted fiscal deficit for FY2014 at 4.8% of GDP is in line with our and market expectations. In terms of the fiscal deficit for FY2013, the Finance Minister has exceeded expectations and reined it at 5.2% and it is slightly lower than the governmentRs.s own estimate of 5.3% of GDP. In addition, the actual FY2012 headline deficit has also narrowed to 5.7% of GDP from 5.9% of GDP
Overall, we believe that the FY2014 Budget is responsible and more credible since it seeks to narrow the fiscal deficit by increasing revenues as well as reprioritizing expenditure. Although the Finance Minister has refrained from announcing any big bang reformist measures (as expected by the market) in the Budget, he has also abstained from Rs.playing to the galleriesRs. and resorting to major populist policies ahead of the election year and we view that as a positive.
Balancing revenues and expenditure
We believe that the Finance Minister has calibrated fiscal policy towards a good growth mix. Non plan expenditure is expected to moderate to 9.8% of GDP in FY2014BE from the revised estimate of 10.0% of GDP in FY2013RE. Plan expenditure, on the other hand is expected to inch upwards to 4.9% of GDP in FY2014BE as compared to 4.3% of GDP in FY2013RE.
On the expenditure front, the government has clearly bitten the bullet. The total expenditure in FY2013RE is 4.0% lower than the FY2013BE and this has been achieved by squeezing plan expenditure during the period by 17.6%. However, for FY2014BE the Finance Minister has increased the allocation to plan expenditure by 29.4% (to Rs.5.55lakh cr) over FY2013RE.
On the revenue side, we believe that overall the budgeted estimates look optimistic particularly since buoyancy in revenues is linked to revival of economic activity. The Budget estimates a 21.2% rise in revenue receipts to Rs.10.5lakh cr over the revised estimates of FY2013 with a 35.8% rise in service tax in FY2014BE over FY2013RE as it has limited the services exempt from taxes. The Budget also estimates a steep 74.6% rise in non debt capital receipts to Rs.66,468cr over the revised estimates of FY2013. This can be mainly attributed to upping of the disinvestment target to Rs.40,000cr in FY2014BE from Rs.30,000cr BE and Rs.24,000cr RE in the previous fiscal year. In addition, the Budget also seeks to divest governmentRs.s stake in non-PSUs to garner Rs.14,000cr.
Overall, despite the over-estimation in receipts we believe that the fiscal deficit number looks credible. We believe that the government would stick to its fiscal deficit target of 4.8% of GDP in FY2014 and akin to the previous fiscal year, any shortfall in revenues is likely to be offset by similar compression on the plan expenditure side. We believe that it spells positively for the economy to avert a sovereign ratings downgrade by credit ratings agencies. The narrowing of the fiscal deficit is also a positive for the interest rate environment in the economy as monetary policy is expected to adopt a more accommodative stance to support growth in the wake of fiscal consolidation by the government.
The budgeted subsidy burden for FY2014 is expected to decelerate to 2% of GDP as compared to FY2013RE of 2.6% of GDP and suggests a decline of 10.3% yoy. Food subsidy, a major component of the total subsidy, is estimated to rise by 5.9% in FY2014BE as against FY2013RE. The Finance Minister has set aside a moderate quantum of the subsidy ( Rs.10,000cr) for implementing the National Food Security Bill in the run-up to the elections. The rise in food subsidy bill is expected to be offset by holding a tight leash over fuel and petroleum subsidies. The 32.9% decline estimated in the petroleum subsidy for FY2014 over FY2013RE is not unrealistic since the government had set in place the momentum for reducing the petroleum subsidy since September 2012.
Market borrowings in line with expectations
As far as market borrowings are concerned, the government lower gross market borrowing of Rs.5.58lakh cr as against the has successfully kept gross as well as net market borrowings in budgeted estimated of Rs.5.69lakh cr. Even the FY2014 budgeted check for FY2013. The revised estimates for FY2013 indicate estimate for market borrowings is in line with expectations and we expect it to be positive for bond yields.
The Finance Minister did not give any noteworthy relief to the tax payer except a nominal tax credit of Rs.2,000 to persons with total income up to Rs.5 lakh and additional deduction of Rs.1lakh on home loans below Rs.25lakhs. On the contrary, the surcharge on corporate tax, taking the effective tax rate to 34%, is expected to be negative for earnings estimates of companies. The increase in surcharge (from 5% to 10%) on dividend distribution tax taking it effectively to 17% from 16.25% is also a negative for the corporate sector. In addition, the surcharge of 10% on persons whose taxable income exceeds Rs.1cr per year is also sentimentally negative. The Finance Minister also proposed to increase the rate of tax on technical services to non-residents from 10% to 25%. While the reduction in STT is positive for the markets, the levy of CTT on non-agricultural commodities futures contracts is a dampener.
The Finance Minister expressed hope on bringing the DTC Bill in the parliament before end of the Budget session but there is clarity on the roadmap for its implementation. As regards the GST Rs.9,000cr has been allocated for shortfall in Central Service Tax compensation for the States, indicating that the government is closer to attaining a consensus on the bill which is expected to broaden the tax base and add to GDP growth.
One of the major reasons for the negative reaction in the markets after the budget was on account of the amendment to the requirements for claiming the benefit of DTAA (double taxation avoidance agreement). Furnishing of TRC (tax residency certificate) was made a necessary but not sufficient condition to qualify for the benefits. Moreover, this was made applicable retrospectively from FY2013. The finance minister post budget explained that the substance of the amendment was that not only residency but also beneficial ownership was necessary to claim the benefit under DTAA, which unnerved the market regarding transactions routed through tax haven Mauritius. However, the government in our view has done everything to attract dollars into the country in order to plug the precarious current account gap. So, it needs to be seen whether in the coming days, sooner rather than later, there may be clarifications to calm the investorsRs. nerves on this issue.
And now, the misses...
Exports: In addition to the rise in imports, weak export performance is also leading to a surge in the trade deficit of the
economy and it widened to 10.8% of GDP during the first half of FY2013. In light of this, we were expecting a boost for the export-oriented sectors in the Budget. However in this regard, the Finance Minister refrained from providing sops to export related sectors and merely expressed optimism in the foreign trade policy to be announced next month.
Incentivizing investment: To encourage investments, the Budget has proposed a 15% investment allowance for new high value investments (Rs.100cr or more) in plant and machinery and the Finance Minister also laid stress on Rs.improving communication policyRs. to ensure certainty to investors. While these measures are sentimentally positive for the corporate sector, we believe that they are considerably lacking to revival of the capex cycle in the economy as the gross fixed capital formation rate has decelerated to 2.4% in FY2013 from 16.2% in FY2008.
Savings: The savings rate in the economy plummeted to 30.8% of GDP in FY2012 from its peak of 36.8% in FY2008. The Budget increased the income eligibility limit for RGESS to Rs.12lakh from Rs.10 lakh, and provided an additional deduction of Rs.1lakh on home loans below Rs.25lakh. Further, it suggested introduction of inflation-indexed bonds to augment the savings rate and attract householdsRs. savings in financial assets as against nonproductive assets like physical gold. We however believe that no big bang measures have been announced to increase savings.
We believe that the Finance Minister has delivered a budget that suggests economic stability supersedes political considerations. We regard it as a prudent but non-reformist budget. Despite the many misses, delivering on the fiscal deficit target is a key positive. We believe that it is crucial for averting a sovereign rating downgrade and thereby ensuring stability of capital flows to finance the current account deficit. Credibly lower fiscal deficit target for FY2014 is also expected to provide monetary policy with more headroom to ease policy rates and crowd in private sector investment.
Going forward, we believe that maintaining the momentum on reforms beyond the Budget is pertinent to tackle structural supply side constraints in the economy, particularly in the mining and power sector, for revival of growth in the economy.
1) Budget Fine-print: Treatment of NPA deductions
Earlier, the interpretation of Section 36(1)(viia) and 36(1)(vii), taken together was as follows: Taking a hypothetical example, if a bank had Rs.1,000 worth of rural advances, it would get a deduction for provision made u/s 36(1)(viia) at 10% of advances or 7.5% of gross total income, whichever is lower (assuming an amount of Rs.100 is allowable under that section). Further, if it had made actual write-offs of Rs.120 (divided into Rs.60 each for urban and rural advances), then the total amount of deduction for the bank would be Rs.100 u/s 36(1)(viia) and Rs.20 u/s 36(1)(vii) ie the benefit u/s 36(1)(vii) was restricted to the amount of total write-offs including towards rural and urban advances, to the extent they exceeded the benefit u/s 36(1)(viia) availed by the bank.
However, in a judgment announced in case of Catholic Syrian Bank, the Supreme Court adjudged that Rs.60 write-offs for urban advances will be allowed apart from the Rs.100 deduction for provision made for rural advances; and in case of Rs.60 write-offs for rural advances, since it is lower than the provision made, it was disallowed. Thus a total of Rs.160 was allowed on account of this judgment. Taking advantage of this provision and as well as due to other reasons, many mid-PSU banks like Syndicate Bank, Oriental Bank of Commerce, Uco Bank and Corporation Bank reported significantly lower effective tax rates during 9MFY2013.
Now, the finance bill introduced today has reverted back to earlier understanding of tax authorities and clarified that only Rs.120 would be allowed as deduction for tax purpose and not Rs.160, as adjudged by SC. The clarification is prospective in nature and would take effect from FY2014. So, at the very least, effective tax rates for these banks in FY2014 are likely to be higher. Further, clarity would be needed to see if the benefit taken inFY2013 would also have to be reversed, though at this point it appears that the clarification is only prospective.
2) Further, there was a wide expectation going into the budget, that some measures to encourage savings into financial instruments would be introduced, but the budget disappointed on these fronts with no announcements. From the fiscal deficit point of view, despite being a pre-election budget, the government refrained from having any significant populist measures and the market borrowings number came largely on the expected lines and would be a sigh of relief for the banking sector.
To ease access of credit for infrastructure projects, India Infrastructure Finance Company Ltd (IIFCL), in partnership with the Asian Development Bank, has been put in place a structure for credit enhancement and takeout finance. All these measures are positive for infrastructure development; however, the implementation remains the key as infrastructure companies continue to face persistent headwinds such as slower-than-anticipated revival in industrial capex, high interest rate environment clearances and land acquisition issues.
Union Budget 2013-14 was broadly a non-event for the Metals and Mining sector. The announcement to allow PPP to boost coal production is positive for Coal India as it will help it to raise production at a faster pace. Also, faster clearances for stuck-up projects (via CCI) is expected to expedite environmental and forest clearances for various mining projects which have faced significant delays.
The Budget is positive for the Oil & Gas sector. Three things have been announced for the Oil & Gas sector, all of which are positive for the companies in the sector a) The government aims to provide clarity on natural gas pricing which intends to align domestic natural gas prices with international prices. b) A move to a revenue sharing model for gas projects is aimed by the government which could potentially speed up new exploration projects. c) The government plans to issue a policy on shale gas exploration and production. All these measures are positive for oil explorers and producers such as RIL, ONGC, Cairn India and Oil India over the medium to long term.
The Budget pegged the government's share of petroleum subsidy at Rs.96,880cr (in line with our expectations) for FY2013, although overshooting its target by Rs.28,396cr. For FY2014, the governmentRs.s share of petroleum subsidy is budgeted at Rs.65,000cr. We expect the government to raise diesel prices by at least Rs.0.40-0.50/litre per month over the coming year in order to avoid overshooting of its petroleum subsidy over Rs.65,000cr for FY2014.
In other announcements, Government will provide low interest bearing funds from the National Clean Energy Fund (NCEF) to IREDA to lend to viable renewable energy projects. The scheme will have a life span of five years. The objective of the scheme is to provide cheaper funds to encourage investments in renewable energy.
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