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Budget 2012: Enough focus on fiscal cons. & reforms?
Mar 20, 2012


In the fiscal year 2011-12, the Indian economy has encountered an interrupted economic recovery led by the following macro-economic factors:

Gloomy global economy and disturbing political scenario

The Indian economy has experienced turbulence, steered by global factors such as debt crisis in the Euro zone, political turmoil in the MENA region, natural calamity like an earthquake in Japan and ascending Brent crude oil prices (on account of worries of supply contraction occurring from Iran and North Sea (marginal sea of Atlantic Ocean). Thus while the last budget (i.e. Union Budget 2011) did indicate a glimmer of hope, the reality turned to be far different due to the global macro-economic scenario. Quarter-on-quarter (Q-o-Q) GDP growth rate in India dwindled in the last three quarters of the fiscal year 2011-12, and thus now the GDP growth estimate for the present fiscal year (i.e. 2011-12) has been pegged at 6.9% (after having grown at 8.4% in preceding two years).

Sticky WPI inflation and high interest rate regime

Since managing the WPI inflation bug was a major challenge for the Government as well as Reserve Bank of India (RBI), the monetary policy action did cause a slowdown in economic growth; in fact this was clearly indicated by the core sector growth, Index of Industrial Production (IIP), and to some extend theconsumption story as well. But now since monetary policy actions have produced result in taming the inflation bug, it is expected that inflation would further moderate in the next few months and remain stable thereafter. Evidence suggests that prolonged periods of high food inflation tend to get generalised; but since steps have been taken to bridge gaps in distribution, storage and marketing systems have helped in more effective management of inflation.

Widening Current Account Deficit

Developments in India's external trade in the first half of current year have been encouraging. During April-January 2011-12, exports grew by 23% to reach U.S. $ 243 billion, while imports at U.S. $391 billion recorded a growth of over 29%. Moreover, it was heartening to see diversification in export and import market being achieved. But a noteworthy point is that with Current Account Deficit (CAD) at 3.6% of GDP for 2011-12, and reduction in net capital inflow in the 2nd and 3rd quarters are putting pressure on exchange rate. Nonetheless, the Government expects CAD to be smaller, aided by improvement in domestic financial savings.

Deterioration in fiscal deficit

As far as fiscal consolidation is concerned, the Government has acknowledged the fact of deterioration in fiscal balance in the present fiscal year, due to slippage in direct tax revenue and increased subsidies. The profit margins came under pressure due to higher interest rates and material costs, which in turn impacted growth in corporate taxes. Furthermore, against the assumption of Brent crude oil being U.S. $ 90 per barrel, in reality accelerated at a far greater pace (and thus now as per Government's estimates for the fiscal year 2011-12 it is likely to exceed U.S. $115), thereby leading to deviation in fiscal consolidation. In fact fiscal deficit has been estimated to be 5.9% for the present fiscal year.

Realisation dawns upon...

But realising the fact that we are now at a juncture where it is necessary to take hard decisions in an attempt to improve our macroeconomic environment and strengthen domestic growth drivers (to sustain high growth in the medium term), the Budget 2012 pronounced for acceleration in pace of reforms and improvement in supply side management of the economy. Finance Minister, Mr Pranab Mukherjee said in his speech, "We are about to enter the first year of the Twelfth Five Year Plan which aims at faster, sustainable and more inclusive growth.' The Plan will be launched with the Budget proposals for 2012-13. In keeping with the stated priorities, I have identified five objectives that we must address effectively in the ensuing fiscal year. These are:

  • Focus on domestic demand driven growth recovery;

  • Create conditions for rapid revival of high growth in private investment;

  • Address supply bottlenecks in agriculture, energy and transport sectors, particularly in coal, power, national highways, railways and civil aviation;

  • Intervene decisively to address the problem of malnutrition especially in the 200 high-burden districts; and

  • Expedite coordinated implementation of decisions being taken to improve delivery systems, governance, and transparency; and address the problem of black money and corruption in public life."
Hence taking a bird's eye view of the entire economy and keeping in mind the difficult global environment, the growth rate of our country in the fiscal year 2012-13 has been pegged at 7.6% with a variation of +/- 0.25%.



Moreover, to address to the issue of fiscal consolidation the budget 2012 has proposed introduction of amendments to Fiscal Responsibility and Budget Management Act, 2003 (FRBM Act), whereby the concept of Effective Revenue Deficit"and "Medium Term Expenditure Framework"statement would be the two important features of amendment to FRBM Act in the direction of expenditure reforms.

Effective Revenue Deficit is the difference between revenue deficit and grants for creation of capital assets. This will help in reducing consumptive component of revenue deficit and create space for increased capital spending. Medium-term Expenditure Framework"statement will set forth a three-year rolling target for expenditure indicators.


The budget recognises the fact that some subsidies, while being inevitable, may become undesirable if they compromise the macroeconomic fundamentals of economy. Thus the Government has decided that from 2012-13 subsidies related to food and for administering the Food Security Act will be fully provided for, while other subsidies would be funded to the extent that they can be borne by the economy without any adverse implications. It is an Endeavour to keep central subsidies under 2% of GDP in 2012-13 and over next 3 year, to be further brought down to 1.75%of GDP.

Tax reforms

While the Direct Tax Code (DTC) was intended to be introduced from April 2012, it deferred on-going work on the same done by the Parliamentary Standing Committee on Finance. Similarly, since drafting of the model legislation for the Centre and State Goods & Services tax (GST) in concert with States is under progress, the same too has been delayed. However, it is expected that the GST network would be set up as a National Information Utility and to become operational by August 2012.

Disinvestment policy

As far as the disinvestment targets are concerned, as against a target of Rs 40,000 crore, the Government will raise about Rs 14,000 crore from disinvestment in the present fiscal year. For the fiscal year 2012-13 the budget 2012 has proposed to raise Rs 30,000 crore through disinvestment, but has decided to retain at least 51% ownership and management control with the Government.Thus after setting the aforementioned guidance to fiscal consolidation, the budget estimated for the fiscal deficit for the year 2012-13 has been set at 5.1%.


Since the domestic economic scenario has suffered multiple jolts in the past year, the Government recognises that it is time to fast track policy decisions and ensure on-time implementation of major projects.

Foreign Direct Investment

While in the recent past there has been uproar (caused by the oppositions) over increase in multi-brand retail, the budget 2012 proposes for an increase in multi-brand to 51% retail after making efforts to arrive at a broad-based consensus with the state Governments.

We believe that while this proposal is intended to fuel economic growth, by striding consumption story of India, we think that it may face strong opposition from state Governments where the Congress isn't in power. Moreover, as a flip side to increase to in multi-brand retail is a detrimental impact on the unorganised retail sector, there may be uproar from traders in the unorganised segment as well.

Financial Sector Reform

Recognising that reforms in the financial sector is vital for more efficient market intermediation between savers and investors, and to add depth to the capital markets; budget 2012 has proposed to introduce a new scheme named - "Rajiv Gandhi Equity Saving Scheme"(having a 3 year lock-in) , which will allow income tax deduction of 50% to new retail investors, who invest upto Rs 50,000 directly in equities and whose annual income is below Rs 10 lakh. The details of this scheme will be announced by the Government in due course.

We believe that if the aforesaid scheme is well drafted, it will encourage retail investors to participate in the Indian capital market and will add depth to the market. Moreover, tax saving incentive will be a source of encouragement to participate in the said scheme.

Further as a step to deepen the capital markets and to encourage investment in infrastructure sector, the budget 2012 has proposed for:

  • Simplification in the process of Initial Public Offerings (IPOs)

  • Making mandatory for companies to issue IPOs of Rs 10 crore and above in electronic form through nationwide broker network of stock exchanges

  • Providing opportunities for wider shareholder participation in important decisions of the companies through electronic voting facilities

  • Allowing Qualified Foreign Investors (QFIs) to access Indian Bond Market

  • Permitting two-way fungibility in Indian Depository Receipts subject to a ceiling
Thus we believe the steps are very encouraging and intended to deepen the participation in the Indian equity markets, both by foreign investors as well as Indian investors.

Capitalisation of Banks and Financial Holding Companies

In order to protect the financial health Public Sector Banks (PSBs) and financial institutions, the Government has also proposed to provide a sum of Rs 15,888 crore for capitalisation of PSBs, Regional Rural Banks (RRBs) and other financial institutions including NABARD. Moreover, the Government is also considering a possibility of a creating a financial holding company to raise resources to meet the capital requirements of PSBs s under examination.

Also in order to make the banking payment structure at par with global standards, a comprehensive action plan has been prepared for implementation in 2012-13. A central Know Your Customer (KYC) depository will be developed in 2012-13 to avoid multiplicity of registration and data upkeep.

Financial Inclusion

The Government has moved towards the right path for financial inclusion, as against the 73,000 identified habitations that were to be covered under "Swabhimaan"campaign by March, 2012, about 70,000 habitations have been covered already; and the likely to be covered by March-end. Moreover, as a next step the Government has also set up Ultra Small Branches (USBs) at these habitations. As far as RRBs are concerned the budget 2012 pronounces that out of 82 RRBs in India, 81 have successfully migrated to Core Banking Solutions and have also joined the National Electronic Fund Transfer system. Moreover, it has been proposed to extend the scheme of capitalisation of weak RRBs by another 2 years to enable States to contribute their share.


The Government has also focused on some of the key areas which can contribute to our country's economic progress, which are:

  • Infrastructure and industrial development - Recognising the fact that adequate infrastructure is a major constraint on our growth; the Government has followed a strategy to increase investment in infrastructure through Public Private Partnerships (PPPs). During the 12th Five Year Plan investment in infrastructure is expected to go up to Rs 50 lakh crore with half of this, expected to be from private sector. Since Viability Gap Funding (VGF) is important instrument to attract PPP, this year budget 2012 has proposed to make irrigation (including dams, channels and embankments), terminal markets, common infrastructure in agriculture markets, soil testing laboratories and capital investment in fertiliser sector eligible for VGF under this scheme. Oil and Gas/LNG storage facilities and oil and gas pipelines, fixed network for telecommunication and telecommunication towers will also be made eligible sectors for VGF.

    For the present year tax-free bonds worth Rs 30,000 crore were announced for financing infrastructure projects. This limit is now proposed to be doubled in Budget 2012 to Rs 60,000 crore in the fiscal year 2012-13 (by including Rs10, 000 crore for NHAI, Rs 10,000 crore for IRFC, Rs 10,000 crore for IIFCL, Rs 5,000 crore for HUDCO, Rs 5,000 crore for National Housing Bank, Rs 5,000 crore for SIDBI, Rs 5,000 crore for ports and Rs 10,000 crore for power sector). Similarly, for rural infrastructure development a proposal has also been made for enhancing the allocation under Rural Infrastructure Development Fund (RIDF) from Rs 5,000 at present to to Rs 20,000 crore.

    We believe that with the doubling the financing limit for financing infrastructure projects, the markets would witness a host of tax-free bond issues to be launched in the next fiscal year. However, one will carefully have to watch the coupon rates which these bonds would offer as interest rates are likely to fall from the next fiscal year as signalled by the RBI (in its 4 tb quarter mid-review of monetary policy 2011-12).

    For the power and coal sector, the Government has proposed External Commercial Borrowing (ECB) to part finance rupee debt of existing power projects.

  • Transportation: Roads and civil aviation - Similarly in order to encourage PPP in road construction projects, the budget 2012 has propose to allow ECB for capital expenditure on the maintenance and operations of toll systems for roads and highways so long as they are a part of the original project.

    Also attempting to provide aid to the airline industry (which is facing financial crisis), the Government has already permitted direct import of Aviation Turbine Fuel (ATF) by Indian Carriers. Addressing to immediate financing concerns of the civil aviation sector, the budget 2012 has proposed to permit ECB for working capital requirements of the airline industry for a period of one year, subject to a total ceiling of U.S. $1 billion. Moreover, proposal to allow foreign airlines to participate upto 49% in the equity of an air transport undertaking is under active consideration of the government.

    We think that the especially direct import of ATF by the civil airlines industry will help to aid the paining industry. Moreover, since most ECB route has been kept open for working capital financing, it will be of immense help the Indian carriers as most of them are facing working capital management problem.

  • Micro, Small and Medium Enterprise (MSME) - In order to enhance availability of equity to MSME sector, the budget has proposed to set up a Rs 5,000 crore India Opportunities Venture Fund (IOVF) with SIDBI.

    We believe this proposal will go a long way in helping MSMEs as they construe to be integral to our country's economic progress. They rely primarily on loans from banks and informal sources to raise capital, and the recent launch of two SMEs in Mumbai can help them to access finance.

  • Agriculture - The Government has clearly pronounced that Agriculture will continue to be a priority. Thus the plan layout plan outlay for the Department of Agriculture and Cooperation is being increased by 18% from Rs 17,123 crore in 2011-12 to Rs 20,208 crore for the fiscal year 2012-13. Similarly, the outlay for Rashtriya Krishi Vikas Yojana (RKVY) is being increased from Rs 7,860 crore in 2011-12 to Rs 9,217 crore in 2012-13. Initiative of Bringing Green Revolution to Eastern India (BGREI) has resulted in increased production and productivity of paddy. Allocation for the scheme increased to Rs 1,000 crore in 2012-13 (from Rs 400 crore in 2011-12) The budget 2012 has also proposed to allocate Rs 300 crore to Vidarbha Intensified Irrigation Development Programme, which seeks to bring more farming areas under protective irrigation.

    As far as the agriculture credit is concerned, the target has been raised by Rs 1,00,000 crore to Rs 5,75,000 crore in 2012-13. Interest subvention scheme for providing short term crop loans to farmers at 7% interest per annum to be continued in 2012-13. Additional subvention of 3% will available for prompt paying farmers. Moreover, in order to enhance the capacity of RRBs to disburse short term crop loans to small and marginal farmers short-term RRB credit refinance fund is set up, and allocation of Rs 10,000 crore to NABARD for refinancing the RRBs through this fund is proposed.

    Since Kisan Credit Card (KCC) is an effective instrument for making agricultural credit available to the farmers, KCC scheme is proposed to be modified to make KCC a smart card which could be used at ATMs.

    For encouraging agriculture research a sum of Rs 200 crore, is set aside for incentivizing research with rewards.

    To maximise flow of benefit from investments in irrigation projects, Structural changes in Accelerated Irrigation Benefit Programme (AIBP) are being made. Also Allocation for AIBP in 2012-13 stepped up by 13% to Rs 14,242 crore.Since the food processing sector has been growing at an average rate of over 8% over the past 5 years, In order to have a better outreach and to provide more flexibility to suit local needs, it has been decided that a new centrally sponsored scheme titled "National Mission on Food Processing"would be started, in cooperation with the State Governments in 2012-13.

  • Education - Assessing the fact that education is pivotal to mould India's future, and every child has a right to education in the year 2012-13 Rs 25,555 crore provided for Sarva Shiksha Abhiyan (SSA) representing an increase of 21.7% 2011-12. Similarly for Rashtriya Madhyamik Shiksha Abhiyan (RMSA) - which was started to launched in March, 2009 to enhance access to quality secondary education, Rs 3,124 crore is provided, thereby representing an increase of 29% over 2011-12. Similarly, ensure better flow of credit to students, a Credit Guarantee Fund is proposed to be set up.

    ParticularsRs in Crore
    Gross tax receipts10,77,612
    Net Tax to the Centre7,71,071
    Non-tax Revenue Receipts1,64,614
    Non-debt Capital Receipts41,650
    Total budget expenditure14,90,925
    Plan expenditure5,21,025
    Non-plan expenditure9,69,900
    Fiscal deficit target (as a % of GDP)5.1
    Net market borrowing required to finance the deficit4.79 lakh
    Central Government debt (as a % of GDP)45.5
    Effective Revenue Deficit (as a % of GDP)1.8


Thus taking a holistic view, we think that the Finance Minister has attempted to give his midas touch to various sectors which are pivotal for economic reforms in our country. But table above exhibits a worrisome picture on the fiscal deficit front - especially when looked at fiscal deficit target (of 5.1%) and net market borrowing (of Rs 4.79 lakh crore) required to finance the deficit. In fact the Indian debt markets too are wary about these important factors, and therefore on March 16, 2012 (i.e. on the budget day) 10-Yr G-Sec yields shot up by 10 basis points, and even now there's a soft upward bias in yields of long-term debt papers which remains a cause of concern. Thus broadly we can say there is focus on reforms but fiscal imbalance is evident.

PersonalFN is a Mumbai based personal finance firm offering Financial Planning and Mutual Fund Research services.

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PersonalFN is a Mumbai based personal finance firm offering Financial Planning and Mutual Fund Research services.


The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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