What not to expect in the Union Budget

Jan 25, 2012

In this issue:
» Should investors make a beeline for US stocks in 2012?
» Is the worst of the Euro crisis over?
» Obama calls for taxing the wealthy
» Japan reports trade deficit after 30 years
» ...and more!

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Come February and the feverish pace of activities at the North Block suggests the onset of the Budget season. Investors, corporate and tax payers have expectations galore from the Finance Ministry's annual planning of fiscal outlays. On the pretext of being a developing economy, year after year India's budget proposals have focused on subsidizing the needs of the poor. Consecutive governments have won support from voters by subsidizing utilities and favouring sectors like agriculture. But it seems like the coming Budget can ill afford to tread on the beaten path. If so, then it may risk putting India's economic future into grave risk.

Whether it is cost of electricity, farm subsidies, subsidized pricing of diesel or direct taxes for individuals and corporate, the coming Union Budget is unlikely to dole out any generous aid. Both the RBI and the Planning Commission have confirmed that de-controlling diesel prices is a matter of time. The tight fiscal situation and inability to raise funds through disinvestment have made the government rethink its subsidy policies. Further raising the cost of power is a necessity given the dire state that India's power generation companies are in. Also, as pointed out by Reserve Bank Of India (RBI) deputy governor Subir Gokarn, it is time the government focuses on investment rather than consumption for growth. The desired capital formation will fructify only if the government offers sufficient support to private sector investments and complements the same with its own planned outlay. Needless to say that reforms in the financial sector can help the Union Budget address India's investment deficit. But what can be an informed guess is that large scale subsidies are certainly not likely to be an eventuality in the coming Budget.

We hope that the Finance Ministry picks up the cues from the (RBI's) Monetary Policy review and the Planning Commission's foreword for the 12th 5-year Plan to decide what best suits the Indian economy in trying times. Only then will it be able to check the decline in GDP growth rate and bring back investor confidence from a long term perspective.

Do you think the upcoming Union Budget will continue to dole out subsidies? Let us know your comments or post them on our Facebook page / Google+ page.

 Chart of the day
Even though the International Monetary Fund (IMF) reduced the expected world GDP growth in 2012 by 0.7%, what was clear is that China and India together have a very important role to play in the economic recovery. As seen in today's chart, the two Asian giants are expected to contribute nearly half of the world GDP growth in 2012. While China will corner a third of the growth prospect, even Indian economy despite being just one-seventh the size of the US economy will contribute more than the latter's share.

Data source: The Economist

It is believed that while predicting the future, the past is our best guide. But relying too much on it or expecting the past to completely replicate the future, moment by moment, can perhaps set us up for a disaster. A well known research firm in the US seems to be falling in the same trap. It has compared current valuation levels in US equities with those prevailing in the 1990s and hence come to the conclusion that stocks are at their cheapest levels in well over two decades.

Investors should thus make a beeline for equities in 2012 as per the firm. Well, we believe that there could be a couple of fundamental flaws in what the firm has tried to assess. For starters, it is next to impossible to make a prediction for a period as short as one year. Secondly, the economic background and the financial health that the US economy currently possesses are vastly different from the one prevailing in the 1990s. Thus, calling for a revival in equities just on the basis of historical valuations could be a dangerous thing to do as per us. As Warren Buffett once famously said, 'If past history was all there was to the game, the richest people would be librarians'.

With food inflation in the negative zone and a bumper wheat crop staring us in the face, India seems to have fewer worries on this front as of now. This is a sharp contrast to last year, where food inflation was in high double digits and almost every new RBI policy review came with a rate hike. India's wheat output this crop year is likely to cross last year's record of 85.9 m metric tons. A prolonged spell of cold winter weather in the northern states and higher sowing helped contribute to this record. Fungal crop disease has also been stemmed. According to Farm Minister, Sharad Pawar, the bumper output may be a sign for the government to roll out its food security program which aims to provide cheap grain to the poor. However, without sufficient investments in warehousing and food distribution systems, the bumper harvest may go in vain.

The Europe debt crisis has dominated the headlines for quite some time now. What has emerged from it is that the debt across countries has ballooned, some of the economies are on the verge of default, the European Central Bank is trying to solve the problem by injecting more liquidity and the governments of these countries have been constantly bickering. Not just that, there are talks doing the rounds that the Euro might break up and if not that, then some countries will be forced to exit. So, all in all things look bleak indeed. Therefore, we were surprised to see a Reuters article mention that the worst of the Europe crisis might be over although it acknowledges the issues confronting the European nations.

One of the reasons for this is that the yields on 10-year bonds have reduced drastically than November 2011 levels. Not that these are not very high, but the possibility of the governments being able to fund themselves looks more likely. The other arguments put forth are that the purchasing managers' sentiments has been the highest in 4 months and that the new Italian and Spanish governments seem committed to bringing durable fiscal and economic improvement. We are not so sure. What seems certain is that it will take a long time for these countries to get back on their feet given the scale of the problems. Whether the scenario will get worse from now on remains highly debatable though.

The way politicians behave before and after elections may stir the interest of statisticians. For the sheer accuracy with which they change behaviour is amazing. Before elections, politicians tend to promise the moon to woo the voters. Once elections are over, all the romance comes to an abrupt end and reality starts kicking in. Yesterday's State of the Union address by US President Barrack Obama is a perfect testimony of that.

Given that the 2012 general elections are some months away, Mr Obama made a speech that was a clear attempt to secure the chance of getting re-elected as president. Predictably populist and hardly any different from last year, the focus of his speech was on economic fairness. Among other things, he held up legendary investor Warren Buffett's suggestion that the wealthy should be taxed more. There is little chance that most of the promises that he made yesterday will see the light of day. But will Mr Obama see another term as US President? That is the only question that he seems to be interested in.

Natural disasters have hurt Japan in the worst possible manner. Last year's earthquake combined with the subsequent run up in the country's currency has severely hurt the economy. So much so that the country that has been well known for running a trade surplus has reported its first trade deficit in over 30 years. The surge in import of oil after the quake raised the import costs for Japan. To add to this, strengthening in the Japanese Yen hurt its exports. While this is a one off figure, however, with loss of nuclear power, the country has started to increasingly rely on oil imports. At the same time its exports have lost the competitive edge that they enjoyed earlier. As a result, it is possible that the country may see trade deficits in the years to come. As long as Japan continues to see positive flow of income from its investments abroad, this trade deficit would not hurt the country's current deficit. But if the growth in trade deficit outpaces the flow of income, then Japan is looking at bad times to come.

Taking off from where they left yesterday, the indices in Indian stock market continued with the buoyant mood today as the RBI's 0.5% cut in the cash reserve ratio (CRR) aided investor sentiments. Banking, commodity, auto and power stocks led the pack of gainers. At the time of writing, the BSE Sensex was trading 90 points (0.5%) higher. Indices across other key Asian markets also closed higher while those in Europe have started on a positive note.

 Today's Investing Mantra
"In a bull market, one must avoid the error of the preening duck that quacks boastfully after a torrential rainstorm, thinking that its paddling skills have caused it to rise in the world. A right-thinking duck would instead compare its position after the downpour to that of the other ducks on the pond." - Warren Buffett

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5 Responses to "What not to expect in the Union Budget"

Ajay Kaul

Jan 26, 2012

Balanced Policies would mean unleashing higher outputs and gains thru sectors which are highly productive and cross-subsidise other wanting sectors only with an aim of increasing their productivity quickly so that subsidy burden on Govt. reduces year after year. It would also mean widening of Tax Base in the Country.


Piyush Singh

Jan 26, 2012

Subsidies are instrument to compass monetary equity in a developing nation like India. Over the time, subsidies have earned a status of a norm - especially in agriculture, power, & Oil-and-Gas. Subsidies, apart from all the assistance it provides to the needy section, has also become a impetus of vote-banks. A segment of the society which could not be expected to understand the economics, has to take some hardships - but for the good in a long run.

The government also must be proactive a pick cues from what's happening in the West. It might not like to be remembered as a government which piled deficits, & disrupted 'India's Growth Story'.

Like (1)

sarvotham yerdoor

Jan 25, 2012

The business model of political parties particularly that of Congress party is based on doling out more and more subsidies to the vote banks. Having got used to free this and that the vote banks also expect more and more of boondoggles. Controlling this tendency and expectations will be very difficult as any efforts in this direction will be exploited by the opposition to discredit the ruling party.

Like (1)


Jan 25, 2012

Cancel ALL subsidies and social programs because its quite evident from the various measures like literacy, health, etc. that they are simply not working. Instead of benefiting the poor, our taxes are lining the pockets of the wrong people. Run all government enterprises and PSU's like a proper business by laying off the moochers who keep feeding off them like parasites. Put a hiring freeze in place and trim the flab from all local, state and central government departments. Improve logistics and storage facilities for agri products to reduce inflation. That should fix the deficit in no time.

Like (1)

Ajay Kaul.

Jan 25, 2012

1. Budget will aim at reducing deficits.
2. It will launch speedy reforms but ensure fine control on inflation thru balanced Policies.
3. Technology and manufacturing should get impetus.

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