Can the end justify the means for fiscal deficit target?

Jan 15, 2014

In this issue:
» Outlook for India's trade deficit
» India ranked second among the emerging markets on external risks
» Bad loans make India's banking system vulnerable
» FDI in retail : AAP seems to have got this one wrong

In 2013, the Finance Minister came up with a magical number of 4.8% to restore faith in Indian economy. However, the year had something else in store for the country. The slowdown in the economy, high subsidy burden and poor revenue collections made it really difficult for the Government to meet the fiscal deficit target. Even the disinvestment plans proved to be of little help due to slowdown, opposition from the other stakeholders and non conducive market conditions. The Government so far has been able to mop up just Rs 30 bn of the targeted Rs 400 bn. However, it seems that a desperate and cash strained Government has come up with yet another short cut to save its image, at least for the short term. The new tool that it has resorted to is special dividends from the PSU companies.

The first one to bear the burden of Government's profligacy is the world's largest coal producer, Coal India Ltd. The company is in news for announcing a record special dividend payout, amounting to a record Rs 183 bn. The Government being a 90% stakeholder in the company will be the biggest beneficiary from the special dividend. As such, it will enjoy windfall gains of Rs 196 bn including the dividend tax. The announcement follows a meeting between finance Minister Mr. P Chidambaram and the Chairman of top PSUs including the likes of Oil and Natural Gas Corporation (ONGC) and Indian Oil Ltd etc. Hence, this could just be the beginning with other PSUs to follow the lead to fill Government's coffers. To bridge the shortfall further and ensure the fiscal deficit numbers don't breach the red line of 4.8% of GDP, the other PSU companies are likely to be arm twisted to announce interim dividends for FY14 now even as actual annual results are months away. The development not just shows poor planning and financial management on the part of the Government, but also raises serious question on the operational autonomy of PSU firms. It hardly gives any consideration to the issues in raising such high dividends in times of slowdown in the economy.

In such times, we suggest investors not to base their investing decisions in PSUs lured by high dividend yields in such stocks. Instead, they should focus purely on the fundamentals and risks associated with such companies. Afterall, the dividends thus announced can hardly be counted upon. In any case, they will benefit the Government more than the investors.

As far as the Government is concerned, it may manage to show fiscal deficit at 4.8% by resorting to such tactics. However, we believe its ways suggest more of financial jugglery than serious effort to stem the problems with Indian economy. While it is important to reduce fiscal deficit, we can not ignore the methods used to reach the target. It's time that the Government seriously reviews its revenue raising and spending ways.

Do you think arranging for funds via special dividends from PSUs to meet fiscal deficit target can sort out out the mess in the economy? Let us know your comments or share your views in the Equitymaster Club.

By the way, we have now started accepting registrations for The Equitymaster Conference 2014. With Mr Ajit Dayal being the keynote speaker and the theme being 'Beyond Uncertainty' we are looking forward to an engaging session on 1st February 2014.

The Aam Investor Asks... And Answers!

Equitymaster Club - The Aam Investor Community, is already buzzing with activity...Hundreds have registered, and many of them have already started to interact with fellow Aam Investors...

What are the Aam Investors discussing? Well, here are the most popular questions...

» Best way to stay Long term
» Safest Stocks
» A Day With Ajit Dayal....
» How important is management quality while investing in stocks?

Go ahead, and join in these discussions! Or see what's the latest in the Equitymaster Club!

 Chart of the day
Trade deficit is simply the excess of imports over exports. Muted exports and increasing gold & oil imports had widened the trade deficit of India in recent times. However, the situation has improved during the first nine months of FY14. Weaker non-oil imports and ban on gold imports has led to contraction in trade deficit by 24% YoY to US$110 bn in 9MFY14. This is certainly good news on the currency front. Until now, widening trade deficit was putting pressure on the rupee. However, with deficit narrowing, rupee is likely to gain some ground compared to other emerging market currencies.

However, it should be noted that ban on gold imports and stability in oil prices were the primary reason for improvement in deficit figures. Export demand continues to remain muted due to slowdown in the western world. If India is eyeing trade surplus going ahead, exports will have to register strong momentum. However, this appears to be a remote possibility as of now.

Current account deficit : Will FY14 be better?

Twin deficit basically refers to a situation where the country runs relatively large current account (CAD) and fiscal deficits. Even if one of these deficits remains persistent, it is seen as a serious problem for an economy. Indian economy is one of the few economies in the world to have both fiscal and current account deficits. As a result global private equity major KKR has ranked India second among the emerging markets on external risks, citing the twin deficit problem. According to them, India will struggle to meet the fiscal deficit target while CAD will be lower than last fiscal. The Fed's decision to reduce the money-printing that has fuelled demand for risky assets is expected to drag on growth in emerging markets next year, with India seen as vulnerable to a sudden withdrawal of foreign cash. Therefore, for India, addressing the issue of twin deficit will possibly be the biggest policy challenge in 2014, and the way the issue is approached will decide numerous outcomes such as business confidence, investments and economic growth.

Rs 330 bn in non performing loans! The estimate of bad loans that Indian banks may have to write off in the future seems to be increasing each passing day. Sluggish economic growth, static projects and drying up of cash flows is leaving banks with little hope. As per Economic Times, this latest estimate comes on the back of debt recast packages of companies like KS Oils, Hotel Leela Ventures and Bharti Shipyard failing. The packages were drafted in anticipation of a pick up in economic activity. And the estimates have clearly gone wrong. The result being that banks have to take the losses on their books sooner or later. Moreover, the regulator, RBI has also tightened the rules for debt restructuring. Hence banks have very little leeway to keep their mistakes under wraps. The debt restructuring schemes have certainly left Indian banks vulnerable to economic cyclicality.

The Aam Aadmi Party (AAP) that stormed to power in Delhi seems to be living up to the promises made before elections. First, it fulfilled its water promise. Then came the electricity promise. And now, there has been a definitive action on the FDI in retail front. As per reports, the Delhi Government has implemented a total ban on global chains wanting to set up super stores in the national capital region. Foreign retailers are not good for the country, Arvind Kejriwal had once mentioned. If they enter the retail sector then millions of small-scale Indian businessmen will lose their livelihood, Kejriwal had alleged. So, will this move impact the investment climate in the country? To be frank, it wasn't as if the foreign retailers have been making a beeline to enter the country's retail sector. Ever since FDI in retail was announced, just one global player Tesco has shown interest in investing in India. Therefore, the short term repercussions aren't likely to be much. We don't however support the decision of the Delhi Government. It's true that foreign retailers could put some small enterprises out of business. But will it not create many more jobs in the economy? Besides, foreign retailers' expertise could very well be used to augment our supply chain distribution and remove many of the infrastructural bottlenecks. This could be a big positive for India in the long run as it could bring down inflation levels and improve everyone's purchasing power. Therefore, the AAP seems to have got this one wrong we believe.

The RBI in recent times has come under fire for not being able to bring inflation levels down despite raising interest rates. However, is inflation targeting the only approach that needs to be adopted? Not really, say two former RBI chiefs notably Mr Jalan and Mr Reddy. The relationship between the government and the RBI had come under strain in recent times. During Mr Subbarao's tenure, the RBI was blamed for not lowering rates at a time when growth was slowing. And the RBI in turn pointed fingers at the government for not doing its bit in addressing supply side bottlenecks. Mr Jalan still believes in a collaborative approach between the RBI and government. This is as opposed to giving the central bank autonomy. However, just targeting inflation should not be the aim in a country where food articles form significant chunk of the consumer price index. When inflation is high, who is to be blamed - the government or the RBI? Prices in India are a sensitive issue and can determine the outcome of key elections. So even if the central bank has delivered on its mandate, it could still be accused of not performing its duty when prices remain at elevated levels. This does not make sense according to the former governors. Ultimately, both the government and the RBI have to find a common ground and work together towards fostering the growth of the country.

In the meanwhile Indian stock markets have closed on a firm note. The benchmark BSE-Sensex has closed up by 240 points (1.14%). All the sectoral indices barring consumer durables closed the day in the green. capital goods and banking stocks were the big gainers today. All Asian stock markets closed the day higher led by Japan and Hong Kong. The European markets opened on a positive note.

 Today's investing mantra
"The real key to making money in stocks is not to get scared out of them." - Peter Lynch

Today's Premium Edition.

Gati Ltd: Is the 'Gati' in its share price justified?

Gati Ltd is creating new highs every day. Is the buoyancy in its stock price justified?
Read On...Get Access

Recent Articles

All Good Things Come to an End... April 8, 2020
Why your favourite e-letter won't reach you every week day.
A Safe Stock to Lockdown Now April 2, 2020
The market crashc has made strong, established brands attractive. Here's a stock to make the most of this opportunity...
One Stock that is All Charged Up for the Post Coronavirus Rebound April 1, 2020
A stock with strong moat is currently trading near 5-year lows.
Sorry Warren Buffett, I'm Following This Man Instead of You in 2020 March 30, 2020
This man warned of an impending market correction while everyone else was celebrating the renewed optimism in early 2020...

Equitymaster requests your view! Post a comment on "Can the end justify the means for fiscal deficit target?". Click here!

6 Responses to "Can the end justify the means for fiscal deficit target?"

Anant Joshi

Jan 16, 2014

This is a sort of window dressing ordered by our Finance Minister.
Such things must be avoided in the interest of the said PSU and the investors,


B K Nandi

Jan 16, 2014

The government has lost financial ethics. They are supposed to save the financial system of the country. Instead stock market manipulation, financial jugglery, playing with PSU, making and financial scams one after another are very common activities of the congress government under Sonia Gandhi. selling shares of one PSU to another PSU like LIC or SBI or commanding PSU to declare high dividend will not only damage these PSU, it will destroy stock market These way showing the decline of fiscal deficit is not only fooling people, it is destroying the possibility of economy coming up. This is very irresponsible job and only enemy or foreigner can do these against a country.



Jan 15, 2014

Forcing the PSUs to pay Special Dividends, more than their net profit, is a wrong approach. It may lead some PSUs to become bankrupt. Govt. may not find any takers when it come up for Public Issues of PSUs in future. To meet cash requirements, Govt. should issue FDRs/Bonds to the PSUs having duration of 3/4 years.



Jan 15, 2014

It is possible to wake a person who is asleep; it is not possible to wake up a person who is not asleep but feigns to do so- it is said. You do not need a microscope to spot a white elephant- but our rulers do not follow the "canons of financial propriety"
Which is the biggest drain on Foreign Exchange? - The answer - Crude and its products should be known to any one who reads the data. Yet if the graph of crude and its imports are seen it would be an ever raising one.Reports have been prepared 40 years back, on reducing dependence on oil; that crude prices would touch $100/ a barrel was predicted. Prescriptions given were very simple
i. Use indigenous coal and not imported petroleum
iii. Expand Rail network and have Rail and roads, perpendicular to each other and not parallel to each other.(complement and not compete with each other)
Every one of these prescriptions has been violated b our rulers bringing us to this pass
Compare this with China, which was no where near us in these in 1980s, is miles ahead of us in these today. (You may make a detailed study of it)
Who is going to bell the cat?


virendra bapna

Jan 15, 2014



Ajay Gupta

Jan 15, 2014

Rather clearing the mess it will make more mess.

Equitymaster requests your view! Post a comment on "Can the end justify the means for fiscal deficit target?". Click here!