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Budget: A tightrope walk for the FM

Last updated on: February 24, 2011 10:58 IST

Budget: A tightrope walk for the FM

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While the markets have recovered from their recent lows, they are still down 12 per cent from the start of 2011, mainly due to concerns on the 2G scam outcome, persisting inflation, higher crude oil prices, rising interest rates and slowing FII inflows.

With the December quarter earnings season out of the way and in the absence of any major triggers, the markets will look to the Union Budget for future direction.

Investors would look at steps to boost funding and improve execution in the infrastructure sector, likely roadmap for implementing goods and sales tax (GST), as well as the direct taxes code (DTC), cutting of subsidies and government expenditure and relaxation of FDI norms for insurance and multi-brand retail, believe UBS analysts.

(With contributions from Sheetal Agarwal & Jitendra Kumar Gupta)

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Image: Finance Minister Pranab Mukherjee.

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Budget: A tightrope walk for the FM

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Inflation key worry

The biggest problem for the government against the backdrop of high WPI and food inflation continues to be rising crude oil prices, which have recently crossed $108 (Brent) per barrel, the highest in the last two years.

Not only will these add to the already spiralling inflation, but will also lead to an increase in subsidies to the oil and fertiliser sectors, and hurt the government's fiscal position. On this front, analysts believe the government is likely to tackle the issue by lowering duty and increase subsidies.

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Image: Inflation, biggest problem for govt.
Photographs: Reuters.
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Budget: A tightrope walk for the FM

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Higher social spending

Given the higher growth trajectory of the economy, analysts believe that there needs to be a push for fiscal consolidation.

An Edelweiss report says that in order to carry out meaningful fiscal consolidation, the government will have to boost its revenues by expanding tax base (like introducing GST, cutting on tax evasion) and propelling economic growth and, at the same time, reducing revenue expenditures (like ill-targeted subsidies).

However, given the government's commitment to programmes like NREGS, as well as maintaining subsidies due to political compulsions (Assembly election in four States), there is little room to rein expenditure in. Analysts say, with elections round the corner, higher social spending will take precedence over reform.

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Image: Higher social spending.

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Budget: A tightrope walk for the FM

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Policy measures & reforms

However, given that part of the inflation was due to supply constraints, the government might look at agricultural reforms to improve productivity, enhance cold storage infrastructure, and reduce mandi tax.

Coupled with this, the Street will keep an eye out for any reform and policy measure to encourage FDI and further opening up of sectors like insurance and multi-brand retail.

However, if the lax fiscal policy measures continue, given the current growth rate and capacity constraints, it will lead to higher cost of capital for companies and likely slowdown in corporate investments, which is negative for India Inc, and markets.

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Image: Government might look at agricultural reforms.
Photographs: Reuters.
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Budget: A tightrope walk for the FM

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Markets running low on expectation

While the market may be disappointed if some of the measures on fiscal consolidation, tax and policy reforms are not undertaken, a large part of the same is already in the price, feel analysts at ICICI Securities.

They say significant challenges for the government in increasing revenues on the back of absence of one-off income (3G auctions), uncertainty on the timing of the divestments, and lower tax receipts if earnings fall, are already discounted by the market and expectation from the Budget are low among investors.

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Image: High hopes for markets.

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Budget: A tightrope walk for the FM

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Impact on sectors

As far as impact on specific sectors is concerned, the Budget is likely to bring more services under the tax ambit, remove tax exemptions and increase excise duties, albeit moderately.

The largest impact of discontinuing exemptions according to Edelweiss Research analysts would be the information technology sector, wherein the extension of sunset clause on tax exemptions for STP is unlikely.

A rollback of excise tax sops and additional excise on diesel cars is likely to affect most auto companies.

Higher allocation to infrastructure and spending on social sectors should boost the fortunes of construction and consumption sectors. And, any move toward increasing disposable income should help sustain growth.

For detailed sector-wise impact, see the table



Image: Budget is likely to bring more services under the tax ambit.

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