Budget promises to again go unfulfilled?

May 2, 2011

In this issue:
» Silver price in a bubble?
» Domestic banks say no to working for free for PSUs
» Is Indian IT capitalizing this opportunity?
» Infosys has a new chief
» ...and more!

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The Finance Minister's Union Budget-2011 was received with gaiety. The budget promised several things which would all lead to better economic growth for the country. A big promise that was made was to bring down the country's fiscal deficit to 4.6% of GDP from the 2010 level of 5.1%. And another was to provide all support so that the economic growth continues at the higher trajectory.

However, as time has progressed, the key promises of the Union Budget 2011 appear to be getting challenged. The reason- higher crude oil prices. Since the budget was announced in February this year, crude oil prices have increased substantially. In fact, crude oil has touched US$ 125 per barrel. This is way higher than the Budget estimate of US$ 95 per barrel. This has put substantial pressure on the Government's fuel subsidy bill particularly with respect to diesel which forms nearly 60% of the total fuel subsidy.

As a result, the government has come under pressure to increase the prices of diesel. If it decides to follow this path, then it adds to the risk of higher inflation. The inflation would be compounded in the event of a failure in monsoons or any other global turmoil that leads to higher commodity prices. In addition, diesel pricing is a sensitive issue for electoral votes.

Therefore, the government now stands on crossroads. If it decides to take the path of increasing diesel prices, it risks higher inflation. This would lead to further pressures in the economy in the form of higher interest rates as well as slowing economic growth. If it decides to do nothing and allow diesel prices to remain where they are, then it risks a higher subsidy bill. This would lead to a burgeoning fiscal deficit. In either case, the promises made in the Union Budget appear to be in danger of remaining on paper. However, it is important to remember that reading too much into short-term economic forecasts can be very risky for investment decisions.

Do you think the Government will increase diesel prices soon? Share your comments with us or post your views on our facebook page.

 Chart of the day
A leading indicator of economic growth is the country's Index of Industrial Production or IIP. The IIP gives the number which represents the status of production in the country's industrial sector for a given period of time as compared to a reference. Therefore, IIP shows the level of industrial activity in the economy. A better IIP number is received with much enthusiasm as it implies an improvement in the country's economy. Therefore, it is quite disheartening to see India's IIP numbers trending downwards in recent times. This has been largely on account of a slowdown in the mining as well as in the manufacturing sectors. In fact, the IIP numbers are trending closer towards the lows of early 2009.

Data source: Ministry of Statistics & Programme Implementation (MOSPI)

Commodity prices typically move in cycles. And every cycle has a peak and a trough. Except for some near term aberrations prices generally move within the peak & trough band. However, it seems that silver prices are currently an exception to the law of economic cycles. Prices of silver have been scaling new highs every day. In fact, they have more than doubled within a span of year. One might wonder what can cause such a dramatic consistent rise in silver prices. We know that silver has multiple industrial issues and is a store of value to some extent. But this is something which the mankind knew for ages. Increase in demand could be one of the reasons for rise in prices. But when you compare the overall demand scenario to the price rise that has been witnessed till date the logic of demand led price appreciation goes for a toss. Hence, we believe that the recent spurt in prices is nothing but an aberration resulting from anticipated increase in demand. And during aberration prices typically reflect greed and emotion rather than fundamentals. But over a longer term the law of averages should prevail. Hence, it's not long that the silver prices correct from the bubble territory and move to a more realistic levels in the near future. For investors those who have missed the current bus, may be its time to find the next silver!

Getting bigger business mandates is always a sign of growth. But if that comes at the cost of profits, such growth may not be good after all. This lesson seems to have dawned upon investment bankers in India, albeit a little late. The multi-billion PSU share sale offerings had enticed the merchant bankers with big numbers. So much that they failed to see the futility of zero commissions. Yes, most of the i-bankers bidding to handle the PSU divestment issues in the past year charged near zero commissions. This was to ensure that they feature on the top of the league tables. A high ranking would ensure that they get selected for larger offerings in future and earn more. But on the contrary, they ended up spending money from their pockets for the PSU issues. And to top that had to also forego private sector issuances that coincided with the PSU offerings. Thus eventually the i-bankers realized that the zero commission offering was hurting them badly on the bottom line. And they have now decided to boycott PSU issues that are low on commissions. Thus what is certain is that the government will have to keep the targets for PSU divestment very grounded. Not only the valuations need to be attractive but the merchant bankers need to be adequately paid to ensure that the deals do not fall through.

Indian IT majors have for long dominated the finance space, with various solutions for banks and insurance companies. Now, healthcare service has emerged as a new growth segment. But, Indian IT companies are losing out to players like Dell, CSC, Cognizant, etc. In 2010, healthcare contributed a very small proportion of revenues for Infosys, TCS, and Wipro. Revenues ranged between US$ 200-500 m, compared to Cognizant's US$ 1 bn.

But, this may be set for a change. Wipro is currently appointing experts to tap into the space. TCS is looking for related acquisitions in Japan and Germany. The healthcare services market is highly underpenetrated, less affected by recession, and is more open to IT spends. It thus presents itself as a very lucrative market opportunity. We just need to now see which software major can grab a slice of the pie before the others catch up

Infosys. The firm that could easily be called as the poster boy of the Indian IT revolution. Besides winning accolades for its rapid growth in the past few years, the firm was also hailed for its top notch managerial team, led by the indomitable Mr NR Narayana Murthy. However, if the very recent history is any indication, Infosys seemed to be losing some of its halo. Its growth rate has been faltering and rivals are fast catching up. While this is partly because of the recession, its own conservative approach is also to blame we believe. What more, cracks have also begun to appear at the management level with a rather controversial exit of its outspoken Chief of HR and administration, Mohandas Pai. Thus, the company seems to be going through what can be considered as one of its most testing times.

And it is with the intention of getting out of this period with its reputation intact that the company has appointed KV Kamath, the former head of ICICI bank, as the Chairman of the Board of Directors of the company. Now Kamath is a past master at managing change. One need not look any further than the succession planning he so deftly managed at ICICI Bank. Thus, all of Infosys and Mr Murthy would be hoping that he works similar magic at Infosys and helps groom new leaders for the future. What remains to be seen though is whether the company gets the same stakeholder respect as in the past or it has lost some of that reputation for good now.

The Indian stock markets have been trading in the negative territory today since opening. At the time of writing, the benchmark BSE Sensex was trading lower by 115 points (0.6%). Banking and PSU stocks were witnessing maximum selling pressure while realty and healthcare stocks were in favour. However, Asian stock markets were among the gainers barring the exceptions of Singapore, Taiwan and Hong Kong.

 Today's investing mantra
"The stock market is the story of cycles and of the human behavior that is responsible for overreactions in both directions." - Seth Klarman

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9 Responses to "Budget promises to again go unfulfilled?"

Ganesh K

May 4, 2011

Indians oly crib about petrol price rise. Even with petrol price hike I see newer and bigger models of SUVs,MUVs launched by all car companies ( including MNCs)in india. Roads are blocked, no parking space in cities even in smaller towns!! Who says Indians have no money? It is faulty government policy of promoting auto sector and neglect public transport system. This must change.


Anupam Garg

May 2, 2011

how come freeing diesel price is a short term decision...maintaining status quo is obviously gonna lead nowhere...the govt. obviously brought out an illogical but please-all budget whose heartbreaking consequences will surely be felt sooner or later



May 2, 2011

Insted of increase diesel price,Government need to seriously think about how we can reduse the use of petrol and diesel. please reade the book Natural Capitalism,Chapter 2 Reinventing the Wheels



May 2, 2011

The fact is, there is hardly any need to increase diesel prices/subsidy.I have visited five refineries of our country.The amt of corruption prevailing in all refineries is beyond imagination.Plus,wastage of various resources is very painful.If refineries(& ONGC)are compelled to work efficiently,substantial amt of so called diesel/fuel subsidy will be vanished.Fuel subsidy is an intentional misunderstanding spreaded by higher govt.authorities & big conrtactors.


Vineet Kumar Gputa

May 2, 2011

I have attended a webinar on future investment prospects in Gold, Silver and Stock market (sometime ago) arranged by you. It was mentioned in that webinar that one should either invest in either Gold or copper. Gold for historic reasons (hedge against currency) and copper prices determines economic activities. There should not be any investment in silver, as its prices are more sentiment driven. Now, in this articles, you have mentioned that silver has industrial usage, which is contradictory to webinar.


Vineet Kumar Gupta

May 2, 2011

Our Govt. does not bother about finances and is more concerned about retaining their seats in parliament. Kepping this tradition intact, it is highly unlikely that Diesel prices will be raised.



May 2, 2011

There are two certainities.
a) Hike in Petrol prices - Almost Rs.3/ per litre
b) Hike in Diesel Prices- Atleast Re.1/per litre
All the above timed to be soon after announcement of ongoing State Election Results.



May 2, 2011

Certainly, yes. Govt is waiting for election results to be out.



May 2, 2011

Yes, as soon as state elections are over, or latest by the time results are out.

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