India’s Union Budget 2018-19 will be presented on 1st February 2018. Expectations and excitement run high as it will be the first post-GST and last full-year budget before the General Elections in 2019.
* We note that the 2018-19 Budget will be presented against the backdrop of uncertainty over tax collections post implementation of the Goods & Services Tax (GST). We expect the government to revise its deficit target to 3.4% of GDP for FY18 (higher than the budgeted estimate of 3.2%) and to 3.2% of GDP for FY19 (higher than the target of 3% set last year). It means that the plan to meet the 3% deficit target will be postponed by one year (to 2019-20) for the third time.
* As the current government will present its last full-year budget before the 2019 General Elections, many in the market expect a heavier dose of populism. However, we believe that the government has limited financial resources to propose any targeted scheme for the poor. We also do not expect much relief on the tax front, except some reduction in the corporate tax rate for medium-sized companies.
* From an equity market perspective, it is important to see how the Budget is able to make a difference to the rural sector, how the government is able to carry the burden of expectations, and whether the Budget strikes a right balance between good economics and good politics, especially with the General Elections around the corner next year. Also, as GST-related dust is still settling down, the markets will be keenly watching fiscal deficit projections and whether the long-term fiscal consolidation path is adhered to. We do expect the government to focus on rural and capex spending to boost sentiment and revive growth further. However, given the hard-achieved gains on fiscal consolidation, flexibility to go overboard on spending is limited, in our view. Consumption pick-up (especially rural and discretionary), cyclical recovery in corporate facing banks and gradual pick-up in private capex are our key themes to play in CY18. TITAN, EMAMI, UNSP, ICICI BANK, RBL, HDFC, SHTF, PETRONET, HPCL, TATA MOTORS, M&M, L&T, JSP, BHARTI are among our top ideas.
In its previous budget, the center had budgeted 12-year slowest growth of 6.6% in total spending, making it clear that fiscal policy is reaching its limits. Not surprisingly then, economic activity weakened considerably in FY18, further pressurizing the government. Following the fiscal consolidation path amid growing demand to support economic recovery is the biggest challenge for the government. An anemic rural economy and a weak investment cycle add to the concerns. It would, thus, be interesting to see how the Center handles the fires that are already raging.
* We will discuss four key themes in this note. First, we provide our projections of FY18 revised estimates (RE) and budget estimates (BE) for FY19. We believe that the deficit target of 3% of GDP will be postponed by one year for the third time to 2019-20. We expect the government to revise the deficit target to 3.4% of GDP for FY18 (higher than the budgeted estimate of 3.2%) and to 3.2% of GDP for FY19 (higher than the target of 3% set last year).
* Second, we believe that capital spending of the government will be budgeted to grow ~10% in FY19, following ~7% growth in FY18.
* Third, we believe that rural spending may be revised upward for FY18; however, limited financial resources will make it difficult for the government to announce a targeted scheme for the poor.
* Fourth, we expect the government to continue on its commitment to reduce the corporate tax rate by lowering tax for companies with turnover of up to INR25b. Such a measure could cost the government ~INR100b. Apart from this, we do not expect the government to provide further direct/indirect tax relief.
Expect FY19 fiscal deficit to be budgeted at 3.2% of GDP
In its first Union Budget on 10th July 2014, the current government’s roadmap for fiscal consolidation proposed to reduce fiscal deficit to 3% of GDP by 2016-17. In the following two budgets, the 3% target was postponed to 2017-18 first and then to 2018-19. However, in the 2017-18 Budget, while the target was maintained for 2018-19, it appears highly susceptible once again. Considering that the government is almost certain to miss its 2017-18 budget estimates (BE) of fiscal deficit of 3.2% of GDP, we believe that the 3% deficit target will be postponed for the third time to 2019-20. According to our calculations, fiscal deficit for FY18 could be revised higher by up to 20 basis points (bp) to 3.4% of GDP, and it could be pegged at 3.2% of GDP for FY19.
In line with our deficit estimates, we believe that gross market borrowings could rise from the revised estimate of INR6.3t in FY18 to INR7t in FY19. Scheduled repayments of about INR2.1t imply net market borrowings of ~INR4.9t in FY19 – up from INR3.9t in FY18.
It, however, is also important to note that net market borrowings will be 2.6% of GDP in FY19, higher than 2.4% in FY18, but lower than the levels seen in the previous years. It also implies that market borrowings will finance ~84% of fiscal deficit in FY19, higher than in the past two years, but lower levels than in the previous years. It is obvious that one-off events such as demonetization helped the government garner more resources from non-market sources and, thus, the share of market borrowings in FY17 and FY18 was much lower.
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